Government Policy and

International Trade
What Is The Political Reality
Of International Trade?

Free trade occurs when governments do not

attempt to restrict what citizens can buy from
another country or what they can sell to another
country
While many nations are nominally committed to
free trade, they tend to intervene in international
trade to protect the interests of politically
important groups
Rationale and Goals of Trade and
Investment Policies

Government policies are designed to regulate,

direct, and protect national activities. The exercise
of these policies results from national sovereignty,
which provides a government with the right to
shape the country’s environment and its citizens.
The domestic policy actions of most governments
aim to increase citizens' standard of living,
improve the quality of life, and achieve full
employment.
These policies’ goals and international trade relate
In more direct ways, a country may also pursue
technology transfer from abroad or the exclusion of
foreign industries to the benefit of domestic infant firms.
Government offi cials can also develop regulations on
imports to protect citizens.
Each country develops its own domestic policy, which
varies, may cause conflict.
Nations institute foreign policy measures designed with
domestic concerns but explicitly aimed to influence
abroad.
How Do Governments Intervene In
Markets?
Governments use various methods to intervene in
markets, including
1. Tariff - taxes levied on imports that effectively
raise the cost of imported products relative to
domestic products
Specifi c tariff s - levied as a fixed charge for each unit of a
good imported
Ad valorem tariff s - levied as a proportion of the value of
the imported good
Tariff s
– increase government revenues
– force consumers to pay more for certain imports
– are pro-producer and anti-consumer
– reduce the overall effi ciency of the world economy
How Do Governments Intervene In
Markets?
2. Subsidies - government payments to domestic
producers
Subsidies help domestic producers
• compete against low-cost imports
• gain export markets
• Exploitation of Producers
3. Import Quotas - restrict the quantity of some
goods that may be imported into a country
Tariff rate quotas - a hybrid of a quota and a
tariff where a lower tariff is applied to imports
within the quota than to those over the quota
A quota rent - the extra profit that producers
make when an import quota artificially limits
How Do Governments Intervene In
Markets?

4. Voluntary Export Restraints - quotas on

trade imposed by the exporting country,
typically at the request of the importing
country’s government
Import quotas and voluntary export restraints
• benefit domestic producers
• raise the prices of imported goods
Example: US Textiles Industry, The Multi-Fiber
Arrangement (MFA)
Another reason
Export Tariff s and Bans: An export tariff is a tax
placed on the export of a good, in order to ensure that
there is suffi cient supply of a good within a country. 6-8
How Do Governments Intervene In
Markets?

5. Local Content Requirements - are

regulations that require a certain proportion of
a product to be sourced locally or produced
domestically. These requirements are often
imposed by governments to promote domestic
industries, create jobs, and stimulate economic
development.
• benefit domestic producers
• consumers face higher prices
Example: Automobile Industry in Brazil

6-9
How Do Governments Intervene In
Markets?

6. Administrative Policies - referred to as

administrative barriers or non-tariff barriers, are
indeed bureaucratic rules and procedures
imposed by governments that can make it diffi cult
for imports to enter a country. These policies are
not directly related to tariffs but rather involve
regulations, standards, and administrative
procedures that can hinder trade.
examples: customs procedures, product standards
and regulations, customs valuation, import licensing
etc.
• policies hurt consumers by limiting choice
How Do Governments Intervene In
Markets?

7. Antidumping Policies – designed to punish

foreign firms that engage in dumping and protect
domestic producers from “unfair” foreign
competition
dumping - selling goods in a foreign market below their
costs of production, or selling goods in a foreign
market below their “fair” market value
• enables firms to unload excess production in foreign
markets
• may be predatory behavior - producers use profits
from their home markets to subsidize prices in a
foreign market to drive competitors out of that
market, and later raise prices
Why Do Governments Intervene In
Markets?

There are two main arguments for government

intervention in the market
1. Political argument - concerned with
protecting the interests of specific groups
within a nation (typically producers), often at
the expense of other groups (typically
consumers)
2. Economic argument - concerned with boosting
the overall wealth of a nation – benefits both
producers and consumers
What Are The Political Arguments
For Government Intervention?

1. Protecting job - the most common political

reason for trade restrictions
results from political pressures by unions or industries
that are "threatened" by more effi cient foreign
producers and have more political influence than
consumers
2. Protecting industries deemed important
for national security - industries like
aerospace or electronics are often protected
because they are deemed important for
national security
3. Protecting consumers from “dangerous”
products – limit “unsafe” products
6-13
What Are The Political Arguments
For Government Intervention?

4. Furthering the goals of foreign policy -

preferential trade terms can be granted to
countries that a government wants to build
strong relations with
trade policy can also be used to punish rogue states

5. Protecting the human rights of

individuals in exporting countries – through
trade policy actions
What Are The Economic Arguments
For Government Intervention?

1. The infant industry argument - an industry

should be protected until it can develop and be
viable and competitive internationally
• accepted as a justification for temporary
trade restrictions under the WTO
Question: When is an industry “grown-up”?
Critics argue that if a country has the potential to
develop a viable competitive position, its firms
should be capable of raising necessary funds
without additional support from the
What Are The Economic Arguments
For Government Intervention?

2. Strategic trade policy - in cases where there

may be important first-mover advantages,
governments can help firms from their
countries attain these advantages
governments can help firms overcome barriers
to entry into industries where foreign firms
have an initial advantage
Effects of Import Restriction

Import control may mean that the most effi cient

sources of supply are not available, resulting in
second-best products or higher costs for restricted
supplies.
Import control may result in the downstream change
in the composition of imports. i.e., if copper ore is
restricted firm can shift to copper wire.
Firms change the entry mode. i.e., the Japanese
Automobile industry in the US
Due to ineffi ciency, import controls may cause a lag
When Should Governments Avoid
Using Trade Barriers?

Paul Krugman argues that strategic trade

policies aimed at establishing domestic
firms in a dominant position in a global
industry are beggar-thy-neighbor policies
that boost national income at the expense
of other countries.
Krugman argues that since special interest
groups can influence governments, strategic
trade policy is almost certain to be captured
by such groups who will distort it to their
own ends.
 Class Activity
Marks 10
Only two members are Allowed.

Question

US company is considering exporting its products to Pakistan. Yet,

management's current knowledge about Pakistan's trade policies and barriers is
limited. However, before company's management decides to export, a more
detailed analysis of the political and economic conditions in Pakistan is
required.

Begin your search and identify Pakistan's current import policies with respect to
fundamental issues such as tariffs and restrictions. Prepare an executive
summary of your findings.