Quotas and Tariffs - Research Paper Example

Quotas and Tariffs Definitions: A tariff is simply a tax levied on imported commodities by the domestic government, where as quotas is quantitative restriction of imports. Factors to consider when choosing an import tariff or a quota: These factors are: government revenue effect, administration cost, protective effects, and market flexibility. Impact of tariffs in an economy: A tariff affects the economies of both countries, that is, the tariff imposing country and the foreign country. The tariff imposing country can be either affected negatively of positively. The foreign country is negatively affected when a tariff is imposed on its export. Protective effects of a quota or a tariff under different market changes: In our case we consider three market changes. These include: increase in domestic supply, increase in domestic demand, and a decrease in the world price. The purpose of this is to determine which policy instrument under the three market changes has more protective effects to the domestic producers. Area for further research: There is need to do further research so as to determine the effective tariffs and tariff rates which will have minimal effects to an economy. The fact that tariffs have effects on both economies of the involved countries in trade, the big question remains that, why should governments advocate for use of tariffs? Abstract: In this paper tariff and quota are defines and examined in depth. Factors that should be considered before choosing one of these policy instruments are explored. The paper further discusses the impact of tariffs on both economies of tariff imposing country and the foreign country. Also some reasons as to why a tariff is more preferred than a quota are examined. The protective effects of the two policy instruments are analyzed under different market changes to determine which policy is more protective to the domestic producers. Finally, the paper suggests an area that requires further research for the purpose of establishing efficient and effective tariffs for different economies. QUOTAS AND TARIFFS A tariff is simply a tax levied on imported commodities by the domestic government, where as quotas is quantitative restriction of imports (Adams, 180). The two are used to control the amount of imports penetrating the domestic market of a country (Adams, 180). A government can either use tariff or quotas to restrict imports. Sometimes both tariff and quota are applied to restrict importation of goods. The combination of the two policy instruments to protect products produced domestically from competition is referred to as tariff rate quota (Adams, 181). In this mix of the policy instruments, the components of quota work together with a given level of tariff so as to provide the preferred degree of import restriction (Adams, 181). However, in most cases governments chose to apply one policy instrument at a time (Adams, 184). The choice by a government to apply either of the policy instruments depend on different factors of choice. First, the government may consider the effects on revenue (Viner, 27). The immediate effect of a tariff is generation of revenue to the government if the imposed tariff is not applied to prohibit consumption of a particular commodity (Viner, 27). On the other hand, depending how they are administered, a quotas may generate or may not generate revenue for the government (Viner, 27). Quotas sold as tickets that grand importing rights to particular individuals normally generate revenue to the government. However, if the quotas are given on the basis of first-come, first served, no government revenue will be generated (Viner, 29). Second, the preference of the policy instrument to be used can be based on their administration cost. Quotas and tariffs have different cost of administration (Viner, 29). Collection of tariffs involves commodity identification, and processing and collection fees (Viner, 29). Administration of quotas also involves commodity identification fee and some procedures to keep track of products as they enter the domestic markets (Viner, 30). Also other costs under quotas may be incurred in the process of auctioning of the quota tickets (Viner, 30). To use ether of the policy will depend on which one is less costly. However, the most significant distinction between quota and tariff is the effect of protection the policy has on domestic producers producing the imported goods under restriction (Cline, 133). Quotas in this case can be said to be more protective compared to tariff as they limit the amount of goods entering into the domestic markets (Cline, 135). On the other side, tariffs normally increase the products price, but do not restrict the amount to be imported and the competition level (Cline, 135). Tariffs were first accepted as the best policy for import restriction during the original GATT (Cline, 130). They were also thought to bring market flexibility and would be less restrictive over time (Cline, 132). Tariffs ensure transparency in the trade market as it is easy to discern the protected market unlike quota policy (Cline, 132). It is also easy to measure the degree of protection when using tariff especially advalorem tariff is used (Cline, 134). Also during the trade liberalization GATT rounds, tariffs were found to be easier when negotiating the extent to which a tariff should be reduced (Steven, 201). Agreements based on trade liberation normally aim at a set percentage for tariff cut down. This principle would be viewed as being equal reciprocation as the countries involved would liberalize to the same level (Steven, 201). This allows fair judgment in the process of making agreement. However, the application of a quota will be faced with complexities as it will be hard to apply the principle of fairness (Steven, 202). Therefore, the member countries of World Trade Organization decided to phase out the application of quotas which were mostly used in agriculture industries (Steven, 202). They decided to use tariffs that have the same effects as the previous used quotas. Despite the fact that quotas and tariffs may have the same welfare effects and static price, their equivalence may not be true in the changes of the market face (Adams, 187). Although tariffs are most preferred protective policy on domestic markets they may have positive or negative impact on the economy (Adams, 187). In most cases a tariff may result to a net loss in both economies of the countries engaged in trade (Adams, 187). Foreign tariff hurts economy of a country as it increases the costs to the producers. The producers also sell fewer products in the foreign countries or markets (Adams, 189). Foreign tariffs combined with other market restrictions lead to a nation’s economic decline (Adams, 189). Tariffs also affect the economy of the country imposing the tariff. The tariff costs have been found in most cases to be more than the expected benefits (Adams, 189). Tariffs benefit the domestic producers as they experience less competition in their domestics market (Adams, 189). The reduced competition results to increase in prices. The domestic producers’ sales also increase in this matter. The increase in product prices and production, motivate the domestic producers to employ more workers which result to an increased consumer spending (Adams, 190). In addition, tariffs on the imposing country increase the government revenue which is a benefit to its economy (Adams, 190). When a tariff is imposed on particular goods, especially goods with elastic demand, the rate of consumption on those goods goes down (Adams, 190). In this case the consumers are forced to buy less of those goods. The reason to this could be due to reduction of consumers’ purchasing power. As a result of low purchasing ability by the consumers, the domestic producers selling production raw materials to the other producers producing goods that have tariff tend to sell less (Adams, 192). This results to general effect to the whole economy. However, in most cases the benefits resulting from increased production by domestic industries and increased revenue does not outweigh the increased prices of goods sold to consumers, the tariff collection costs, and the tariff imposing costs (Steven, 206). If the foreign country retaliates by imposing a tariff on goods from the domestic country, it will be costly for the two countries to trade. Even if the foreign country does not retaliate, the tariff will still be costly to the economy of the tariff imposing country (Steven, 206). If the tariff changes the consumer behavior, this will make the economy not to be more efficient. International trade without tariffs enables the engaged countries to increase wealth creation among the economies of these countries (Steven, 206). Therefore, any mechanism that has been put in place to impede international trade reduces the growth of the economy. The major concern in choosing between quotas and tariffs is the policy’s protective effects. To illustrate protective effect of a tariff we will consider three market changes which include: increase in domestic supply, increase in domestic demand, and a decrease in the world prices (Steven, 203). Increase in Domestic Demand Rise in domestic demand may result from the increasing country’s income or change of consumers preference in favor of the product taxed. If there was imposed tariff initially, the rising demand will not affect the domestic price (Steven, 204). To meet this demand there will be increase in import. However, in case of a quota, the rising domestic demand will result to an increased price (Steven, 204). To satisfy the consumers, there will be increase in domestic production. Since the product prices increases more when quotas are used as compared to tariff, then quotas are said to provide more protection to the domestic producers (Steven, 204). Rise in domestic supply Increase in supply may be experienced as a result of falling cost of production or because of enhanced productivity (Steven, 204). If a tariff was initially imposed, the rise in domestic supply will not affect the domestic price (Steven, 205). In this case imports will be reduced even to zero. If a quota was initially imposed, the rise in the domestic supply will result to decrease of domestic price as that was during free trade (Steven, 205). This has the implication that tariff is more protective than quotas. Decline in the market price The decline in the world prices could be due to improved productivity in the foreign countries or decrease in world costs of production (Steven, 206). If a tariff was initially imposed, the decline in world price will result to a decline on the domestic price (Steven, 206). If there was a quota imposed initially, the decline in the world prices will not affect the domestic price. The quotas in this case will be more protective than tariff when there is decline in world prices as the domestic prices will go up if a quota is imposed (Steven, 207). From all the above we can conclude that tariffs are harmful to the tariff imposing country (Steven, 207). The big question here remains that if tariffs are harmful to the imposing country, then why should a government have interest to do so. Therefore, this is an area that requires further research to determine under what circumstances, will a tariff or a quota be desirable for an economy. As mentioned earlier, tariffs do not harm everyone, but have distributive effects in an economy (Steven, 207). In any country imposing a tariff on imported goods some industries and individuals tend to benefit from the tariff while others become losers (Steven, 207). The manner in which losses and gains emerging from tariffs are distributed is very significant in understanding the reasons as to why tariffs and other trade restrictive policies are enacted. It is thus important for the policy makers to come up with a simple way in which a country can apply a tariff without expecting any losses in future. They should also find out simple procedure that can be used to determine the net losses and benefits of a tariff to an economy. With the current system of evaluating cost of a tariff in an economy considers the cost to all citizens in a country (Steven, 207). When this cost is distributed to all citizens in a country tends to be very negligible. However, the cost to some individuals is very great. The tax policy may be of benefit to the domestic producers who may enjoy increased sales and less competition (Steven, 207). For this reason, there is need for a thorough research under this area, so as to determine tariffs and tariff rates that are efficient to an economy. REFERENCES: Adams, Walter. Tariffs, quotas, and Trade: The Politics of Protectionism. Westport: Quorum Books, 1997, p. 180-184, 187, 189, 190, 192 Chen, Xianguan. Competition and the Equivalence of Tariffs and Quotas. American Economist, 38, 56-72, 1994 Cline R. William, Trade Negotiations in the Tokyo Round: A Quantitative assessment. Westport: Quorum Books, 1978, p. 130-135 Steven, Suranovic. International Trade Theory and Policy: The Choice between Import Tariffs and Quotas, New York: Greenwood, 2009, p. 201-207 Viner, Jacob. Trade Relations between Free-Market and Controlled Economies. Oxford: Oxford University Press, 1994, p. 27, 29, 30 Read More