Settlement of Interlocking in International Commerce - Report Example

Professional Report for Workplace Student’s Name Course Instructor Date Executive Summary There are a number of key issues related to international trade that have been discussed in this report. The report is about the trading relationship between Australia and US. It specifically relates to two main goods, the motorcycle and the sugar. The US has a market for the Australian sugar while Australia has a market for the US motorcycle. The challenge being addressed in this report is the tariff charged on the two products on the respective markets. On whether to abolish the tariffs on the two goods is the main issue of concern that has been presented in this report. All the relevant data has been processed in order to access information necessary for the appropriate decision to be arrived at. This information includes the change in the level of imports and the consumption rate as a result of removing the tariffs. All the information has been made available for the minister to make sound and appropriate decision in relation to the tariffs. This is because the decision to be undertaken by the minister is to determine the economic development of the entire country. At the same time, the Australian government is keen to maintain the good relationship it has had with the US government. This explains the significance of the minister’s decision as he attends that meeting. Introduction International trade and relations is a subject that is at the heart of every nation. One thing that every nation must realize is the fact that we live in an interconnected world. There is no nation in the whole world that survives by its own completely. At one point, a country is expected to export some products while at the same time import other products for domestic consumption. This is based on the fact that each country’s natural predisposition is unique in one way or another. Due to this, some countries are better placed to produce certain products while others may not (Dixit & Norman 1980, p.85). Regarding the international trade, the issue that comes next is the international relations. Countries must build ties with others in order to facilitate trade whenever there is an opportunity. These ties determine the level of roadblocks that can be lifted in order to allow two or more countries to trade. These roadblocks can be in form of tariffs. Tariffs are meant to discourage a country from selling their products in a certain country (Rivera & Oliva 2004, p. 37). This is because tariffs tend to increase the aggregate price of the commodity of trade to make it a bit unsustainable in the new market. In order for two countries to effectively engage in international trade, the principle of comparative or absolute advantage must exist. This refers to conditions of whichever nature that makes a country to be in a better position producing a certain product as compared to the other product (Freestra & Taylor 2009, 181). The principle of comparative advantage was propagated by Adam Smith. Adam came up with this principle as tool to disapprove those who viewed international trade as a zero sum game. According to him, countries differ in their ability to produce goods and services. This can be due to a set of favourable factors like climate, expertise, good soils, etc. Such a country can be said to be having an absolute advantage over another country in relation to production of an agricultural product. This is because this country may afford to produce a product more efficiently and less costly. Based on this, the output of the product may be quite high. Therefore, the element of trade can now be factored in this production process. This country may opt to produce more than it can consume in order to sell the extra to a country that is a bit disadvantaged in relation to the same. Similarly, there is the principle of comparative advantage. This was developed by David Ricardo. He did not agree absolutely with the argument by Adam Smith. He was of the idea that even countries who do not have an absolute advantage over their rivals can engage into profitable trade. One particular point why David Ricardo was against the absolute advantage is the fact that the theory implied that if a country did not have an absolute advantage in the production of a certain good, it cannot sell its products to other countries. According to Ricardo, even in a scenario where a country has an absolute disadvantage, it can afford to specialize in one product and export it (Rugman & Collinson 2012, p. 112). For instance, a country with an absolute disadvantage will have to specialize in that product whole absolute disadvantage is lower. The focus of this principle is to establish mutually profitable trade even when a country has a cost disadvantage in the production of specific goods. This is a very accommodative principle. It ensures that regardless of the differences in production capability, countries have the capacity to have profitable trading ties. In relation to the situation involving Australia and US, the issue of comparative and absolute advantage is real. The US Market P + w=520 P = 440 Australian Motorcycle Market Calculations Consumers’ gain: US Sugar Market In the US sugar market, the removal of the tariff will constitute consumer surplus. As a result of the removal of the tariff, the domestic price of sugar will drop from 520/t to 440/t. Therefore, the local consumer benefits 520-440=80. This can be explained logically. When a country scrubs trade tariff, the supply of the commodity in the country will definitely increase. When the supply goes up, the price of the commodity reduces. When this happens, the consumers benefit at the expense of the producers. This is because the price at which the commodity is sold at in the new market is determined by world price which in most cases is lower than the local prices. Australian Motorcycle Market: In the scenario where the tariff on motorcycles is removed, the consumer will also benefit. The basic explanation in relation to this is that the price at which the imported and locally produced products will be sold is determined by world price. In this case, the world price is higher than the original price before the scrubbing of the tariff. Therefore, after the tariff has been scrubbed the commodity will sell at the world price. In our scenario, the price will reduce from 8800 to 8000. Therefore, the consumer will have to benefit through a reduction in price by 800. Just like in the case of US, these trends are determined by demand and supply forces. When the government opts to remove the tariff, it exposes the country to many suppliers leading to an overall drop in price of the good. Producer Losses: US Market The gains enjoyed by consumers are paid off by producers. The determination of the value of the losses suffered by producers follows the same procedure like that of calculating the consumer gain. In the US market, when the tariff is removed, there will be an influx of goods into the country. Since the world price is lower than the domestic price, the sugar product will have to sell at a lower price. Since there is no reduction in the cost of production to counter the drop in prices, the loss is borne by the producer. In this case, the amount of money is equivalent to the gain enjoyed by the customers. Therefore, the producers’ loss shall be 80/t. Australian Motorcycle Market The situation is not any different from that of the US sugar market. One has to realize that this is more of a zero sum game. That implies that an individual’s benefit is equivalent to another’s loss. In our case, we are focusing on the benefit enjoyed by the consumer and the cost paid by the producer. Therefore, in the case of the Australian market the producer will lose since the world market price of motorcycle is lower than the domestic price. The basic explanation to this remains the fact in the situation of free trade the price of a commodity is greatly influenced by the world price. In relation to this, the producer loss in this case will be 800/t. This is as a result of change in domestic price from 8800/t to 8000/t. Government Revenue Losses When the government choses to abolish the tariffs, it does so at a cost. This is because tariffs are paid directly to the government. They are like taxes that are levied on products on the market. Therefore, the government will lose to the extent of the rates forgone in relation to the quantity imported. For instance, the US government will lose the following amount as a result of abolishing the tariff: The revenue foregone is 20%x5000x400/t= 400000 The same situation is applicable to the Australian government as a result of doing away with the tariff on motorcycles. The revenue foregone by the Australian government is 10%x60000x8000= 48000000. In this case, we realize that the Australian government will lose more than the US will lose. This therefore makes the government to be a bit cautious when adjusting the tariffs with the US government. Exporting Countries In the above analysis, we have narrowed our scope to the situation where a country has allowed free trade into its market. Therefore, our discussion has been focused on how the import affects and influences the consumer. We can also look at it from the perspective of exporting the product. For instance, the US will be exporting motorcycle into the Australian market while the Australia will be exporting sugar into the US market. We can look at it from the perspective of how the consumer in the two countries is affected by the choice of their various countries to increase their exports into the other country. When we look at it from this perspective, the consumer will be a loser while the producer will be the beneficiary. This is because when a country is allowed to export its products into a certain country due to the reduction in the tariff, the demand of the product in the local market will increase. This is because venturing into foreign market means domestic consumers will be left with just a percentage of the production. The reduced supply will surely exert pressure on the price of the local product. This is to imply, as a result of removing tariffs by these two countries, the price of sugar in Australian market will increase. Similarly, the price of motorcycle in the US market will also increase. This is because when the two countries opened themselves for exporting, the local supply reduced. The same application is also true when we talk about the producers. Since this is more of a zero sum game, the loss of the consumers is equivalent to the benefit of the producers. In this scenario, when a country abolishes the tariff on the mentioned goods, the price of the local product will rise. This is because the producers will be motivated to export as opposed to selling locally since the world price is higher than the local price (Rivera & Oliva 2004, p. 40). In order to deal with the overwhelming demand, the producer will have to adjust the price upwards in order to meet the demand. Therefore, whenever a country removes a tariff on a particular product, the consumers of the exporting country losses while the producer gains. Effect on Economic Welfare Welfare is the overall state of being of an individual. Economists define welfare as a state of the mind that reflects human satisfaction. There is no doubt whatsoever that the removal of the tariff will improve the welfare of the consumers in respective countries. Economic welfare of citizens is determined by basic satisfaction of their needs. The abolishment of tariffs in the situation of the two countries works for the good of individual citizens. As a result of removing the tariff, the consumption rate increased tremendously. Citizens can now afford to acquire more consumable for themselves. Therefore, in assessing the effect of the tariff removal on consumer welfare, the price is very critical. There are very many approaches to calculating the economic welfare of citizens caused by the removal of tariff. One of the methods used is to assess the economic welfare is the use of real gross product. At the same time, the gross national product is also of great significance. In the case of the US and the Australian citizens, the welfare improvement has been manifested through increase in the size of national income. The change in the size of national income has been portrayed through increase in the level of consumption. In any given country, one of the approaches used to measure the wellbeing of citizens is consumption level. Consumption is seen as what one can afford. We will therefore evaluate the change in economic welfare with regard to changes in the level of consumption. US: Change in consumption 11500-9500=2000 = 21.05% Australia: Change in consumption 120000-100000= 20000 In relation to the above percentages, it shows that the welfare of the citizens will improve by about 20% in both cases. This provides significant information for decision making in relation on whether to approve the abolition of tariffs or not. Costs & Benefits of Free Trade between Australia and US The decision of removing or retaining the tariffs on sugar and motorcycle goods between the two countries must be well analysed. This is a decision that impacts on the whole nation and therefore technical scrutiny is a necessity. It is good to appreciate the ensuing demands from both the sides of this debate. Every side wants the best for itself. At the end of it, the truth is that the needs of all the people cannot be met. The minister is charged with that responsibility of carrying out the required critical assessment and come up with the appropriate decision. The choice on whether to endorse free trade or not must be based on the overall needs of the people. The nation at large is more important than the political aspiration. Therefore, the minister must make decisions that best fit the country before considering some other personal interests. Economic Implication The economic implications brought by this decision are quite diverse. We will focus on how this decision affects the majority of people in the economy. First, there is an issue of the revenue foregone. This is one of the major costs that the government must be keen to address. The decision to scrub the tariff on motorcycle by the Australian government will cost the country 48 million. When we compare the revenue foregone by the Australian government to revenue foregone by the US government, we realize that Australia will lose a lot. The US government will lose only 400,000 in revenue. Therefore, the Australian government will be the loser when the tariff on its motorcycle is removed. When we look at the revenue foregone in relation to the improvement in the economic welfare of citizens, more facts are discovered. The removal of the tariff means that the citizens’ economic welfare will increase by about 20%. In other words, 48 million is foregone in order to improve the welfare of the citizens by 20%. On the other hand, the US has foregone 400,000 in order to improve the welfare of its people by about 21%. In simple terms, the move to do away with the tariff is completely in favour of the US. In a situation like this, the effect on the economy will be more pronounced on the side of Australia. This is because it will cost it more to sustain this program. Therefore, the government ought to be very careful and better advised. On the side of the price consequences, this move will affect both the local consumer and producer. This move will lead to consumer surplus. The consumers will benefit since the move will increase the supply of the goods into the country. Therefore, the consumer will buy at a lower price. This is what has increased the level of consumption of the product in the country. At the same time, the move discourages local producers. This is based on the fact that the world price of the related product is lower than the prevailing local prices. On whether the government should forego the interests of the producers at the expense of the consumer, it is quite debatable. From a wider spectrum, the priority of the interests of the local consumers is very crucial. The relative improvement in the welfare of consumers is worth it. Therefore, in relation to the principle of comparative advantage, the producers should reconsider what to produce. The producers should opt to produce the products which they can afford at a lower cost. Cane Producers in Australia The Minister is surely under pressure to give in to the demands of local cane farmers in relation to the ad valorem tax charged by the US government. The farmers’ demands may be genuine by all means. If the government goes ahead to endorse the waiver, the implications do not only affect the local farmers, but the entire country. The change in the quantity of exports as compared to the cost of allowing free imports is quite minimal. Our prior calculations indicated that if the Australian government allows free trade, it will lose about 48 million in revenues. On the other hand, this move will only cost the Americans 400,000. This margin is very huge. It is the responsibility of the government to set tax and trade restriction policies that benefit the overall economy. From the nature of this move, it is clear that the US government is the main beneficiary. By all means, the Australian government must be advised against taking a decision whose implication will be devastating to the economy. Therefore, for the sake of the interests of the country, the demands of the cane farmers can be traded in. The government cannot allow to be carried away by the demands of a number of farmers and fail to set right its economic policies. Furthermore, the issues facing the cane farmers and sugar industry at large are not limited to export policies alone. The fact that in the recent past people have resorted to use of artificial sweeteners as a strategy of monitoring their weight is an issue of concern. Whether this trend will be persistent or not is also another issue of focus. Nevertheless, in relation to the dietary trends, this is likely to persist. Most people all over the world are consuming a lot of carbohydrates and fats. This is mostly through consumption of first foods and all sorts of snacks. Therefore, the issue of overweight and related complications is still prevalent. Therefore, the government will make a mistake if they become too aggressive to let go the tariff only to realize the demand has reduced extremely. Motorcycle Industry This is another sensitive issue that the minister is expected to deal with. The minister is quite aware that this is a group with interests that he has to defend. The situation presented in this case is a bit clear. The genuine demands of the automotive industry can be understood not just sympathetically, but because it is a serious area of concern to the economy. If the government accepts to remove the tariff, the consequences are dire. Considering for a fact that the government will lose over 48 million in revenue on the grounds of this decision, the government must be appropriately informed. From the message that is being passed across in relation to the motorcycle industry, it will be devastating to the economy. The issue at hand may not be all about the 1100 employees who work for the motorcycle company, but the effect this move will have to the economy. Therefore, in as much the move will come with some benefits, the related costs are quite high. Some of the consequences include the fact that consumers will be purchasing the motorcycles at a reduced price. This will lead to an increased level of consumption domestically. At the same time, it will lead to growth in national economy. Nevertheless, we have to weigh the benefits in relation to the costs incurred. In this particular scenario, it costs the country more to be able to sustain this relationship with the concerned trade partners. Therefore, this move will have both benefits and costs; the only unfortunate thing is that the costs are much higher than the benefits. Since this is all about opportunity cost, the offer presented is not good enough for the country to allow free trade. Nevertheless, if the government has chosen to implement the proposals then it must be ready to pay for the consequential costs. Political Implication In every situation, the choices one makes have consequences. The decision by the minister bears some consequences on the political career of the minister. One of the concerns of the minister must be the cane farmers from his political backyard. They are pushing for the removal of tariffs in order to access the US market at a lower cost. At the same time, the automotive industry is also lobbying the minister on a related issue. This is not to imply that if the minister meets the demands of all of them will automatically be elected for the political seat. At the same time, failure to meet their demands does not automatically mean it’s an end to the minister’s political career. This is based on the facts that have already been gathered. For instance the group of the automotive dealers lobbying the minister to maintain the tariff on motorcycles is a small group of people. These people do not have a major impact on the political bearing of the minister. On the other hand, the cane farmers also may not have a huge impact on his political career. This is based on the fact that most farmers simply vote in conservatives. According to that information, the level of economic development is unlikely to influence the voting patterns. Recommendations Following the discussion above, it will be in order to make a few recommendations to the minister. First, the country hangs on balance on the issue of removing the 10% tariff on the motorcycles sold in the country. The government of US is expected to respond by removing the tariff on sugar in their market. According to the information gathered, the minister should not allow the idea of free trade with the US in relation to the motorcycles. The Australian government is benefitting a lot from the tariff levies than the US government. Since the Australian government is benefiting more from the levy of tariffs, if it is abolished it will lose more than the US. From the calculations already done, the Australian is going to lose about 48 million as opposed to the US which will lose only 400,000. The country’s economy is of greater importance as compared to all other needs. Putting the needs of the country first in this case will work only if the minister turns down the offer to scrub the tariff. If the minister indeed turns down the offer to remove the tariff, those who will be directly affected will be the cane farmers and the motorcycle dealers. The motorcycle dealers will definitely welcome the idea for the minister to turn down the US demands. Since the above demands were to be conditional, this means the US will also turn down the request to abolish the tariff on sugar. The motorcycle dealers will have the tariff to protect them against foreign influx. This means they will be able to retain their pricing and their profitability. For the cane farmers, they had to be sacrificed at the expense of the economy. There was a need to preserve the overall economy and not just a segment of producers. For the needs of the farmers to be met, it would have cost the country millions of shillings through the removal of the tariff on sugarcane. The minister should not be too worried about the effects of his decision on his political career. The trends that have been identified in connection to voting are not so much linked to the decision the minister makes. It is true that some farmers may opt against voting for him. Nevertheless, I am sure they may not constitute a number required to turn around his political seat and ambitions. Therefore, the minister must go ahead and implement what is right for the country. In this case, what is beneficial to the country is to maintain the tariff on motorcycles not just to protect the automotive industry, but the entire economy. Conclusion Quite a lot has been discussed. Every tool deemed appropriate to assist the minister get the point straight has been used. This was the main agenda of this report; to make the minister see the bigger picture of the proposed removal of tariffs as a means of facilitating bilateral trade across the two countries. The issue that came out strongly is the fact that enhancing bilateral relationship is not just about creating an avenue for free trade. The parties involved must be represented in such deals in relation to what seems to be good for all those involved. In this regard, it was crucial for the minister to put aside his political ambitions and pursue what is good for the entire nation. In this regard, the good for the nation to avoid channels that causes the country to lose a lot of funds. Of these channels, the issue of abolishing tax on the motorcycle would have led to loss of revenue. Therefore, this report provides information of what can be done to enhance bilateral relationships without necessarily disadvantaging one party. It only encourages countries to understand how to apply their absolute and comparative advantages when engaging in international trade. 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