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Chapter 7
Commercial
Policy
Copyright © 2008 Pearson Addison-Wesley. All rights reserved.
Introduction
• Since the end of WWII, average tariff rates around the
world have fallen substantially
• By 2002, average nominal rates were 3.9% in US, 3.3%
in Japan, 4.4% in EU
• However, all nations have higher levels of protection in
particular industries they deem “sensitive”
• In addition to tariffs and quotas, many countries
provide generous subsidies to some of their agricultural
producers, particularly among developed nations
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Applied Tariffs for Major
World Traders
Why Protect? The Logic of
Collective Action
• Given that the costs of tariffs and quotas are high to consumers,
why do consumers tolerate them?
• Others might say given that the gains from liberalization are
relatively small at this point and the costs of de-regulation so real
then why do consumers tolerate them? Either way:
• Mancur Olson´s Logic of Collective Action
– The costs of tariffs and quotas are borne by a great many
people: everyone pays a little for protection
– The benefits of protection are concentrated in a few
industries: few benefit a lot from protection
– Thus, there is an asymmetry in the incentives to oppose the
policy: those benefiting from protection have much greater
incentives than those hurt by it to lobby for it
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US Steel
• AFLCIO
• CEOs of steel factories
• Consumers
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Main Arguments behind Trade
Barriers 1: JOBS
• Labor: Protection must be used against imports
from countries where wages are much lower
– Problem: Does not consider differences in
productivity between different workforces: as
productivity rises, so will wages
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Direct Costs and Jobs Saved
• Since the phase in of the Uruguay Round tariff cuts, average
tariffs have fallen 40%—but few sectors are average
• For example, agriculture, clothing and textiles experience much
smaller reductions in tariffs and quotas (12%, 14%, 14%
respectively)
• In addition, all of these sectors in the EU, Japan, and US have
significant non-tariff barriers applied to them including large
government subsidies in the case of agriculture
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Jobs Saved through Tariffs and
Quotas
Sums:
a+b+c+d
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The Costs of Protection:
Lessons
• Trade policy is a grossly inefficient mechanism to
create jobs
– It is a non-transparent job-creation program
– It relies on too many intervening variables, and does not go
directly to the heart of the problem
– If job creation is the goal, tariffs and quotas are very
expensive
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Main Arguments behind Trade
Barriers 2: INFANT INDUSTRY
• Infant industry: Developing countries have nascent industries
that must be protected against competition from industrial
countries
• Strategic trade: import protection allows national oligopolies to
get economies of scale in national market and prepare it to
“crack” into global markets
– Assumes: (1) market forces do not allow for the development of a certain
industry and (2) the industry has positive externalities—spillover benefits
(valuable linkages to other industries or technologies)
– Problems: (1) may increase inefficiency and result in negative linkage
effects and (2) technological externalities are difficult to measure—which
industries should be protected?
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Main Arguments behind Trade
Barriers 3: SECURITY
• National security: Certain industries must be
protected in order to guard national security
(military security, cultural values)
– Problems: (1) Vital mineral resources, for example,
can be purchased cheaply abroad during peacetime;
and (2) how to assess the effects of, say, U.S.
television programs on Canadian culture?
• Economics of sanctions:
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US Sanctions Currently in
Place
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Economic Sanctions since World
War I
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When Sanctions Work
• When the target country is small, economically
weak, and relatively unstable
• When the target country is an ally
• When sanctions are imposed quickly and
decisively
• When target country has few options to obtain
goods otherwise
• When the costs to the sending country are small
• When the goal is a relatively small change
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Source: Economic Sanctions Reconsidered, Peterson Institute for International Economics, 2007
Main Arguments behind Trade
Barriers 4: RETALIATE
• Retaliation: Another country´s trade barriers
must be countered with trade barriers
– Problems: Although retaliation can provide an
incentive for trade negotiations, it can also lead to
escalating trade wars
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Main Arguments for Tariffs 5:
Revenue
• Poorer regions (Africa, South Asia,
parts of the Middle East) rely more on
tariffs as a source of government
revenue.
• Tariffs may still be used for other
purposes, but for some countries, the
primary goal is to generate income for
the operation of government services.
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Tariffs as a Share of
Government Revenue, By
Region
The Politics of Protection in the
United States
• Protectionist pressures have increased in the U.S.
– Political reforms: reduced Congress’s past insulation from industry
lobbyists
– The end of the Cold War: reduced U.S. willingness to sacrifice domestic
political considerations for geopolitical alliances
– The rise of China hsincreased competitive pressures on U.S. industries
– The growth of the U.S. trade deficit has spurred fears of the loss of
competitiveness
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The Politics of Protection in the
U.S.: Main Mechanisms
• Protection is obtained through
• (1) direct action by the president (e.g., VERs) or
• (2) four types of legal procedures
– Countervailing duties
– Antidumping duties
– Escape clause relief
– Section 301 retaliation
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The Politics of Protection in the
U.S.: Main Mechanisms (cont.)
• In the case of these four legal procedures, a firm
or industry petitions the federal government to
initiate an investigation into foreign country or
foreign firm practices
• Let´s analyze each of the four procedures in
greater detail…
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Countervailing Duties
• Countervailing duty: a tariff that is granted to a U.S.
industry that has been hurt by a foreign country that is
subsidizing its firms
– Subsidies allow foreign firms to sell their products at lower
prices; countervailing duty seeks to counter the effect of the
subsidy
– Problem: defining subsidy is subjective
– Uruguay Round defined subsidies as (1) a direct loan or
transfer, (2) preferential tax treatment, (3) the supply of goods
or services other than general infrastructure, or (4) income
and price supports
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Antidumping Duties
• Antidumping duty: a tariff levied on an import
that is selling at a price below the product’s fair
value
– Problem: Defining fair value is subjective;
antidumping duties are thus a source of tension
between countries
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Antidumping Duties (cont.)
• WTO: Dumping occurs when an exporter sells a
product as a price below the one it charges in its
home market
– Problem: Comparing domestic and foreign market
prices is difficult due to differences in the price of
transportation, wholesale, and other add-ons
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Antidumping Duties (cont.)
• Three methods to determine whether a good is
being dumped
1. Comparing the price in third-country markets
2. Estimating the cost of production; or
3. Estimating the foreign firm’s production costs
(dumping occurs if the foreign firm is not selling
at a price that provides a normal rate of return on
invested capital)
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Antidumping Duties (cont.)
• In order for antidumping duties to be allowed,
the country claiming dumping must show that
the dumping has caused material injury to its
firms
– If dumping occurs without material injury,
antidumping duty is not allowed
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Antidumping Duties (cont.)
• Problems: Economic theory and legal definitions are
not in agreement
– If a firm is not earning above average profits somewhere, it
cannot maintain a price somewhere else that is below the cost
– Firms often sell below costs
• May sell at below costs in order to penetrate a market
• May go for extended periods selling at prices that do not cover fixed
costs as long as the costs of variable inputs (labor and materials) are
covered
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Antidumping Investigation
• U.S. firms can initiate antidumping actions by filing a petition
with the International Trade Administration (ITA) in the
Department of Commerce
• If ITA finds dumping (or subsidization in the case of
countervailing duty) occurred, the U.S. International Trade
Commission (USITC) conducts an additional investigation to
determine whether the dumping has posed substantial harm to
the domestic industry
• The relative success of U.S. firms in proving foreign dumping
has induced a growing number of firms to file petitions with ITA
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Escape Clause Relief
• Escape clause relief: temporary tariff on imports to
allow a domestic industry to escape the pressure of
imports and thus obtain a period of adjustment
– Refers to a clause in the U.S. and GATT trade rules
– Initiated when a firm or industry petitions the USTIC directly
for relief from a surge of imports
– The petitioning firm or industry must show that it has been
harmed by imports and not some other factor (e.g., poor
management)
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Section 301 Retaliation
• Section 301: section of the U.S. 1974 Trade Act
that requires the U.S. Trade Representative
(USTR) to take action against any nation that
persistently engages in unfair trade practices
– U.S. defines the meaning of unreasonable and unfair
trade practices
– Action is launched by a request for negotiations with
the country in question
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Special 301
• Special 301: requires the
USTR to monitor
property rights
enforcement around the
world
– In 2005 the USTR
surveyed 90 countries and
identified 52 as lacking
adequate enforce or
denying market access.
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