Trade protection occurs when a country’s government intervenes in international trade, imposing trade restrictions to prevent the free flow of imports into the country and protect the domestic economy from foreign competition
There are 4 main types of protectionist methods:
- production subsidies
- administrative barriers
Although their methods vary, they all share the same effect of decreasing the number of imports, and increasing the quantity of goods and services domestically produced. However, one must consider the arguments for and against trade protection, to evaluate whether these measures can really be justified. To start, we will look at the arguments for trade protection.
Infant industry argument
An infant industry is a new domestic industry that has only just established itself, not having the time to grow larger, and achieve economies of scale. Thus, the firms will have relatively low efficiencies, and be unable to compete with ‘efficient’ foreign firms. Without any type of production, the new infant industries would probably shut down, unable to compete and grow amongst much more efficient firms. Arguably, trade protection should be utilised until the firm is large enough to achieve economies of scale. After first being introduced as an argument in 1791, the argument is primarily used now by developing countries trying to expand production. Economists consider this theory to be one of the strongest justifications for trade protection, possibly because it obeys the theory of comparative advantage,
The theory of comparative advantage states that along as opportunity costs in two (or more) countries differ, it is possible for all countries to gain from specialization and trade according to their comparative advantage; this results in an improvement in the global allocation of resources, resulting in greater global output and consumption.
The country in question may have a comparative advantage compared to another country, but first must receive protection. This can only be justified if the production is limited to a temporary period. As soon as the infant industry can compete, the protection should be eliminated. However, this theory can also be misused and wrongly implemented. Governments can misjudge different firms; wrongly deciding which firms could become low-cost producers. This also presents the opportunity for corruption and possible favouritism from governments. Furthermore, once a firm is protected, it may not see the need to become efficient, forever existing as an ‘infant industry’. Similarly, a firm could protect an ‘infant industry’ long after it has achieved economies of scale. The infant industry argument here has been purely reduced to a subsidy.
Strategic trade policy
This is similar to the infant industry argument, but the firms protected are slightly different. High-technology firms are protected, as their presence is deemed important to the future growth of an economy. There growth is assisted until they are large enough to compete for themselves. This argument also applies to more developed countries, who may also aspire to increase their high technology industries. Here though the trade protection is not only limited to the traditional methods, but can also take the form of various supply-side policies, such as lower taxes, low-interest loans, and even government financing of research and developing. However, along with the infant industry argument, there are also difficulties about who to protect, and also selecting appropriate protectionist measures. Also, if many firms use this kind of protection at the same time, the idea of comparative advantage is made redundant. The protection could also last much longer than necessary, the government, continuing their protection for too long.
Some industries, such as aircraft, weaponry, chemical substances and ores and minerals are believed to be beneficial for national defence, and thus are deemed necessary for protection, in the event of an attack. In war, a country may have to rely on its own industries for defence, and thus industries which benefit national security should be protected. Furthermore, in this sector, specialisation is discouraged. For example, if a volatile or dangerous country specialises in weaponry, or a country is relied upon for aircraft, but then ends ties with other countries, the situation could be become dangerous. However, of course this theory for trade protection is subjective to each country. Governments will differ in what they deem to be important to national security, however countries could also use this argument a façade, purely to subsidise products and employ trade protection. For example, the United States protects goods such as candles, gloves and umbrellas, all in the name of national defence.
Health, safety and environmental standards
Countries have health, safety and environmental standards, that imported goods and services must meet before they can enter a country. Although each country can set its own standards, sometimes these standards can be used as a type of ‘hidden protection’, to keep some goods out, so they cannot compete with locally-produced goods.
Efforts of a developing country to diversify
Countries may employ trade protection on certain goods in order to diversify
Diversification: Generally refers to change involving greater variety, and is used to refer to increasing the variety of goods and services produced and/or exported by a country; it is the opposite of specialization.
In the past, the world has seen developing countries specialise in particular products, for example, Cuba in sugar and Ecuador in bananas. However, although this can yield both high quality and quantity of a good, arguments exist in favour of diversification. Listed below are some of the arguments for diversification.
- These goods which we have seen developing countries specialize in are generally primary sector goods. However, as countries grow, manufacturing and services become progressively more important. In developing countries, this is made possible by diversifying its range of goods and services into other sectors.
- Another reason for diversifying into manufacturing industry is that each step in production adds value to the good. For example, in the extraction of metal ores, we see processes such as refining add value to the good, if developing countries not only manufacture but also extract, they can sell their products for higher prices and receive more revenue, resulting in economic growth.
- Primary goods also have much higher price volatilities than manufactured goods, and services, due the low price elasticities of demand and supply of such goods. This can result in fluctuating wages for farmers, due to the low price stability of such goods. This is another factor supporting the diversification of goods.