Impact of Government Intervention in International Trade - Essay Example

Impact of government intervention in international trade Table of Contents Introduction 3 Reasons for Government’s intervention in international trade 3 Government interventions in international trade 5 Tariff Barriers 5 Non tariff barriers 6 Benefits of trade barriers 8 Conclusion 8 References 10 Appendix 11 Introduction International trade refers to the sharing of goods and services between countries. Companies engage in international trade to benefit from low cost advantage and greater market access. International trade also fosters better technological access to countries. Governments across various economies take part in the trade process owing to factors concerning the economy. The factors include improving the trade deficit, protecting local industries from foreign players, protection against dumping, protecting local jobs and also to supplement government revenue. Government intervention is required depending on the status of the economy. Economies which are highly dependent on imports and exports are subject to high risk exposure. Import dependent country would require more foreign exchange to pay for its imports. Excess demand for imports will lead to demand for foreign exchange that will lead to exchange rate fluctuations which will increase the import bill leading to inflationary pressure. Government intervention is observed when such externalities affect the economy as a whole. Reasons for Government’s intervention in international trade Government intervenes in international trade to remove the macro economic imbalances that affect a country. Lack of government intervention or complete de regulation would result in monopoly and increased level of prices of goods and services that are traded across the national boundaries (Goldstein, 2009). The following are the significant factors that justify government’s intervention in international trade: Protecting domestic jobs – Availability of cheap labour will incentivise companies to move out and shift their production facilities to such countries. This will lead to job cuts and unemployment. The employment rate drops as well as the per capita income of the economy. This will lead to lack of demand for goods and services as the income level of the local country has dropped. The GDP growth rate also falls. Since 2009, US exports have supported more than 1.6 million jobs in the private sector. Marginal increase in exports by billion dollar results in approximately 5600 US jobs on an average. Trade deficit – When imports are more than the exports it leads to trade deficit. It means that a country pays more than what it receives. Government intervention is required to improve the deficit level by making imports dearer. This will result in high import bill and will result in decreased demand. Only targeting the imports will not help as exports of that country should also be promoted so as to earn more foreign exchange that will help to reduce the import bill. Exports on the other hand are also incumbent on the demand for the goods and services in the global market. Protecting local industries – Cheap foreign goods and services would result in increased competition that will lead to the exit of local or infant industries. The foreign companies have better technology and access to resources which the local companies do not have. Thus governments intervene to remove such imbalances and create a market for the local made goods. This will not only remove high level of competitiveness but will also create employment opportunities. US export of goods and services have increased close to 50% from 2009. 2014 data shows that close to 300,000 American companies are exporter of goods to the global market out of which 98% comprises small and medium enterprises. This shows how such export trends have led to domestic job creation (Tamer, 2009) National security – Government creates barrier to safeguard certain sectors that are critical to national security. Industries which are for the benefit of the state are protected by the government like defence industry. Anti dumping measures – Countries and companies in order to artificially boost its exports sell their goods at a price which is below the price in the foreign market. This impacts the employment level of the importing country as the local companies will be affected by increased global competition. Over time such dumping affects the local economy which if not intervened by the government will lead to macroeconomic adversities. Example of China dumping cheap shrimp in the US market to improve the exports for this industry (Molyneux, 2001). Government interventions in international trade Government plays a role in trade by imposing restrictions on the movement of goods and services between countries. It imposes trade barriers that remove the macro economical imbalances as discussed above. Trade barriers are not only imposed on imports but also on exports. Trade barriers are of two types i.e. tariff and non tariff barriers (Bissa, 2009) Tariff Barriers Tariff barriers refer to imposition of taxes and duties by government on the movement of goods and services across national borders. Though there are various tariff trade barriers but the two main barriers are as follows (Reuvid, and Sherlock, 2011): Special duty – It refers to the import price fixation of goods based on physical characteristics and weight of the goods imported. For example a country can have fixed tariff for imported mobile phones at $60, but might have different tariff for imported computers i.e. $280. A country importing oil may fix a particular import duty on every barrel of import irrespective of the weight and quality of each barrel. Certain item cannot have specific tariffs like artistic work like paintings and portraits, where the value for each might be different. Ad valorem tariffs – Ad valorem duty is imposed as a percentage of the value of the good imported irrespective of weight, size and volume. US imposed 35% tariff rate on imported tyres from China. For example UK countries importing US cars has ad valorem duty of 10%. Scotland imports a car from US which is priced at $10000. After the imposition of the ad valorem duty of 10% the imported price of the car would increase by $1000. This will result in protecting the domestic producers of Scotland (Appendix 1 and 2). Anti dumping tariff – Such tariffs are imposed by the importing government when exporters sell its goods at a price which is lower than the fair market price. US anti dumping duties exceed 100% of the value of exports. Although such tariff imposition leads to increased price and less competition, it also saves domestic jobs. Non tariff barriers Non tariff barrier imposes restrictions on the movement of goods across the border of countries by way of restricting the quantity of imports. Thus, governments use it to restrict the quantity and not the price of the imported good (Sally, 2008). The common non tariff barriers are as follows: Import quotas – These are quantitative restrictions that are imposed on the volume of imports. It defines how much of goods can be imported. Governments use non tariff barriers to protect the interest of the domestic industry. Import quotas are further classified as customs quota, unilateral quota, bilateral quota and multi lateral quota. Unilateral quota refers to the fixation of the import quantity without consulting with the exporting nation. Bilateral quota system considers the export and import quantities after mutual negotiation of the restricted quantities with the importing and the exporting country. Customs quota is a combination of tariff and non tariff barriers to trade where imports up to specified amount are allowed at low rates or duty free. Any imports made beyond the specified rate will be allowed at high duty rates. Licensing – Governments in order to restrict the use or to increase the price of a commodity give licenses to specific importers who are allowed to import specific goods. This results in reducing the degree of competition in the importing country. Governments give licenses to select importers as giving it out on large scale will result in increased imports that will lead to currency depreciation. The rationale is to control the price movements of the commodities imported which affects the exchange rate system. Voluntary export restraint – VER refers to the self imposed restriction on exports of the exporting country on requests from the importing country. VER’s act as protection to the producers of the importing country from global competition. In 1980 Japan imposed VER on its auto exports to US after continuous pressure from America. This led to the revival of the US auto industry that was facing high degree of global competition. Companies and countries can avoid the impact of VER. VER affects the exporting country, thus setting up alternative manufacturing plants in the importing country will help the exporting economy by avoiding voluntary restraints on exports. Domestic content requirement – Governments instead of imposing restrictions on import quantity, it imposes barriers by making certain domestic contents mandatory in the production process. Imposition can be either a percentage of the good or the value of the good. Governments across nations impose domestic content requirement to boost domestic production. After US government bailed out General Motors it introduced the ‘Buy American Clause’ that implied that all the companies which received bailout packages had to buy component parts from local producers which restricted the import of intermediate components and also boosted the domestic market for value added items. Subsidies - Export subsidies are given by government to boost the specific sectors of an economy. Usually these sectors are the most dominant in an economy like agriculture, oil and gas, energy, etc. Governments give subsidies in the form of cash payments or giving tax grants to these sectors (Holroyd, 2002). Benefits of trade barriers Benefits of barriers to trade have two implications. There are positive implications for producers whereas as there are negative implications for consumers. Levying duties and taxes add to the government revenue which restricts the import and makes it dearer which benefits the domestic producers. Domestic producers enjoy less competition. Consumers on the other hand i.e. retail and wholesale consumers are hit by such high prices of imports. Businesses that use metals for production purpose will be badly affected from import restrictions imposed by the government. Such tradeoffs can be explained by using the time horizon i.e. short run and long run. In the short run governments and producers will benefit from duties and taxes, but in the long run this will lead to decreasing efficiencies, owing to less competition (Tamer, 2009). Conclusion The trade off increasing production efficiencies and reducing unemployment leads to government’s intervention in international trade. Import tariffs increase the prices which are leveraged by the local producers owing to increased prices and less competition. Though producers are willing to produce at a high price, but consumers on the other hand are not willing to pay such high price for their purchase. This leads to a balanced intervention i.e. tariff and non tariff barriers to trade (Grath, 2011). References Bissa, A.M.E., 2009. Governmental Intervention in Foreign Trade in Archaic and Classical Greece. Netherlands: BRILL. Goldstein, N., 2009. Globalization and Free Trade. USA: Infobase Publishing. Grath, A., 2011. The Handbook of International Trade and Finance: The Complete Guide to Risk Management, International Payments and Currency Management, Bonds and Guarantees, Credit Insurance and Trade Finance. Great Britain: Kogan Page Publishers. Holroyd, C., 2002. Government, International Trade, and Laissez-Faire Capitalism. Canada: McGill-Queens Press. Molyneux, G.T.C., 2001. Domestic Structures and International Trade: The Unfair Trade Instruments of the United States and the European Union. USA: Hart Publishing. Reuvid, J. and Sherlock, J., 2011. International Trade: An Essential Guide to the Principles and Practice of Export. USA: Kogan Page Publishers. Sally, R., 2008. New Frontiers in Free Trade: Globalizations Future and Asias Rising Role. USA: Cato Institute. Tamer, C., 2009. International Business: Strategy, Management, and the New Realities. New Delhi: Pearson Education India. Appendix Appendix 1: Impact of tariff on import price (economicshelp.org) It shows how import tariffs have led to increased government revenue through increased price. Increased price have led to fall in import quantity which is substituted by increased willingness of domestic producers to produce goods at price P1. Q1-Q2 shows the increased domestic production. Q4-Q3 shows the fall in import quantity and 3 represents the tax revenue of the government from increased tariff. Appendix 2: Free trade and import price (economicshelp.org) The above figure shows the effect of world price on the quantity. Pw denotes the world price and PE denotes the home price. At Pw domestic country will consume Q2 of goods while the domestic producers can produce only Q1 level of output. Thus the excess demand will be met by importing goods Q1-Q2. This increases the domestic competition and pushes the local producers out of business. Under the following situation government intervention as shown in appendix 1 will lead to a rise in the import price, which will in turn incentivise the domestic producers to increase their output at a price higher than the global market price. Read More