ACTIVITY 1

Trade Restrictions and Their Effects

When nations specialize and trade, total world output is increased. Companies produce for foreign markets as well as domestic markets (markets in the home country). Exports are the goods and services sold in foreign markets. Imports are goods or services bought from foreign producers.

In spite of the benefits of international trade, many nations put limits on trade for various reasons. The main types of trade restrictions are tariffs, quotas, embargoes, licensing requirements, standards, and subsidies.

A tariff is a tax put on goods imported from abroad. The effect of a tariff is to raise the price of the imported product. It helps domestic producers of similar products to sell them at higher prices. The money received from the tariff is collected by the domestic government.

A quota is a limit on the amount of goods that can be imported. Putting a quota on a good creates a shortage, which causes the price of the good to rise and allows domestic producers to raise their prices and to expand their production. A quota on shoes, for example, might limit foreign-made shoes to 10,000,000 pairs a year. If Americans buy 200,000,000 pairs of shoes each year, this would leave most of the market to American producers.

An embargo stops exports or imports of a product or group of products to or from another country. Sometimes all trade with a country is stopped, usually for political reasons.

Some countries require import or export licenses. When domestic importers of foreign goods are required to get licenses, imports can be restricted by not issuing many licenses. Export licenses have been used to restrict trade with certain countries or to keep domestic prices on agricultural products from rising.

Standards are laws or regulations that nations use to restrict imports. Sometimes nations establish health and safety standards for imported goods that are higher than those for goods produced domestically. These have become a major form of trade restriction and are used in different amounts by many countries.

Subsidies can be thought of as tariffs in reverse. Instead of taxing the foreign import, the government gives grants of money to domestic producers to encourage exports. Those who receive such subsidies can use them to pay production costs and can charge less for their goods than foreign producers. A tariff is paid for by the buyers of the foreign goods and the buyers of domestic goods who pay higher prices. But subsidies are paid for by taxpayers who may or may not use the good. What are the effects of these trade restrictions?

They all limit world trade, which means a reduction in the total number of goods and services produced. They shift production from more effective exporting producers to less effective domestic producers.

When production is lowered, there are fewer workers earning income. Trade restrictions also raise prices, which is usually their main purpose.

Trade limits in one country, moreover, usually lead to limits being imposed in other countries. If the United States places a high tariff on cars made in Japan, for example, Japan may then put tariffs on American goods sold in Japan.

In spite of these disadvantages, countries are tempted to use trade restrictions to protect their own industries. Countries that are just getting started use tariffs, quota, and subsidies to protect their industries until they can compete without government help. The difficulty with this infant industry argument in support of trade restrictions is that it is not always possible to predict which industries will succeed. Protection frequently lasts long after the industry has matured.

Governments are eager to protect what are called strategic industries. These have included industries, such as steel, cars, chemicals, and munitions, that are imported during a war. Today, they are more often the high tech, high wage industries like commercial aircraft production. One way of insuring that they remain strong is to protect them from foreign competition. Agriculture is another area that many governments try to protect. Tariffs and subsidies help make sure that domestic farmers can earn enough profits to continue farming.

The decision to use trade restrictions like tariffs is an important one. Tariffs help some domestic industries, but they mean higher prices for buyers. They help the owners and workers in the protected industries. They hurt the people who have to pay higher prices for the goods those industries make. Reducing imports reduces the income of foreigners. They will reduce their foreign purchases, hurting exporting industries and workers in the nation that put the tariff on the imports. Without much competition, companies may also use less efficient production methods. This can lead to poorer quality as well.

It is in the best interest of the world economy for each nation to trade freely with all other nations. However, this practice does not always benefit every nation. For example, exporters who control a large part of the world's supply of a product can use trade restrictions to change the terms of trade, reducing the amount of their goods and services they must give up to obtain imports. This was done by the Organizations of Petroleum Exporting Countries (OPEC) when they restricted their output of oil in the 1970s. By driving up the price of oil they were able to get more imports for less oil.

Most arguments for trade restriction benefit protected industries and their workers. They also create much greater losses for a nation's economy. In the long run, a nation must import to export.

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