The Political Economy of International Trade

© McGraw Hill Companies, Inc., 2000 2007 2008 2009

The Political Economy of International Trade

Chapter 6

Real Outcomes in Trade

• Have looked at representative sample of theories seeking to describe trade and trade patterns.

• In many cases though outcomes are determined or strongly influenced by other factors.

• Illustrate first through examples...


EU-US and Beef 1989 - EU bars growth hormone treated beef. US exports decline from $231mm in ‘88 to

$98mm in ‘94. With other countries, US files complaint to WTO. US wins (1998) - WTO Panel

declares ban to be illegal. EU reluctant to comply and

appeals, but loses the appeal. 1999 - US threatens to raise

tariffs on hundreds of EU products.

5-1

2005: The Beef Case Still...

WTO hearing on EU's US beef ban begins12.09.2005 - 09:54 CET | By Meghan Sapp EUOBSERVER / BRUSSELS - International trade relations are set to make history on Monday (12 September) as the World Trade Organisation (WTO) opens its trade dispute process to the public for the first time.

The EU banned the import of hormone-raised beef during the mid-1980s but in 1996 the US applied for a dispute settlement panel through the WTO. Canada did the same a year later. The US and Canada won both their cases on the grounds that EU scientific data used for the hormone ban were not sufficient and the EU was forced to rescind the ban. Though the EU says it amended its directives in 2003 and notified the WTO it had complied with the ruling, the US and Canada disagreed. In 1999, the WTO ruled the US and Canada could fine the EU (according to a 1997 ruling) for not abiding by world trade rules. The US and Canada have since imposed trade restrictions on the EU as retaliation for the hormone ban. http://euobserver.com/?aid=19844&rk=1 Acc 12/9/5

http://euobserver.com/?aid=19844&rk=1



2008: The Beef Case Still...WTO rejects EU beef hormone ban but also raps US, Canada Mar 31, 2008 GENEVA (AFP) — The World Trade Organisation on Monday ruled that the European Union, United States and Canada all failed to respect global trade rules in a long-running row over beef treated with growth hormones....

The case goes back nearly 10 years to 1998 when the WTO ruled Washington and Ottawa could slap higher tariffs on a list of EU products after it condemned Brussels for banning beef producing with certain growth-promoting hormones ...

Noting that the panel also said it did not consider the new EU hormones directive to be in line with WTO sanitary measures, Brussels said in a statement that it "disagrees with these findings."

Both sides have the option of appealing the ruling, the EU noted.

http://afp.google.com/article/ALeqM5hEqmznwYN5qTPQWtGq27IEPJkwDw 041108

http://afp.google.com/article/ALeqM5hEqmznwYN5qTPQWtGq27IEPJkwDw


US Targets EU

Beef Pork Sausages Corned Beef Roquefort Cheese Chocolate Products Mustards Chewing Gum

Soups and Broths Truffles Mineral Water Cut Flowers Yarn Electric Hair Clippers Motorcycles and

Mopeds

5-2

EU-US and BeefWhat can we draw from this?

Many arguments big country/little country: this one unusual but increasing.

Was EU motivated by protectionism?

What should the role of government be? To whom is it primarily responsible?

Nature of response, nature of confrontation.

2002/3: The converse

2002: EU develops “hit list” of US exports to EU as reprisal for US steel, farm protection measures

List recognises essentially political nature of actions: targets exports from those states which have sought to gain from barriers (orange juice…)

2003: WTO sanctions reprisals by EU for US steel tariffs: US takes off tariffs, must satisfy EU and others.

Another example: Airbus – 2004 to...

Airbus-Boeing Culture WarThe United States has launched a major economic dispute with Europe, taking the biggest trade complaint ever to the World Trade Organization (WTO) for litigation

http://www.csmonitor.com/2004/1021/p08s01-comv.html

On 14 December 2007, the Chairman of the Panel informed the DSB (Dispute Settlement Body) that due to the substantive and procedural complexities involved in this dispute, it now expected to complete its work in 2008. http://www.wto.org/english/tratop_e/dispu_e/cases_e/ds316_e.htm 150708

The dispute between the United States and European Union over subsidies for the European Airbus is so complicated that the World Trade Organisation (WTO) will not be able to rule on it until next year, a WTO document shows. Published: October 23, 2008 13:07h http://www.javno.com/en/economy/clanak.php?id=195449 050209

http://www.csmonitor.com/2004/1021/p08s01-comv.html

http://www.wto.org/english/tratop_e/dispu_e/cases_e/ds316_e.htm

http://www.javno.com/en/economy/clanak.php?id=195449


Trade Policy and PoliticsPressures for government intervention: Protecting jobs and industries:

emerging industries.

Social/political concerns Increasing exports. National security. Retaliation. International product domination:

New trade theory and subsidies.5-3

?How would you rate the relative importance of these factors?

Instruments of Trade Policy

Tariffs Subsidies Quotas and VER’s Local content requirements Anti-dumping actions Administrative policies/procedures

Must understand difference in the nature of instruments – particularly whether price or quantity

5-4


Instruments of Trade PolicyTariffs -> Taxes

Tariffs - oldest form of trade policy Specific ad valorem (in proportion to the value)

Good for government Good for producers

- but reduces efficiency

Bad for consumers

5-4


Hypothetical Tariff Rate Quota

Tariffs and Welfare Loss

The use of tariffs (taxes) to advantage local producers does not come without cost.

Distributional issues arise whereby consumers have to fund the benefits given producers

As well, the mechanism itself involves losses overall to the economy, analogous to the deadweight loss of any tax.

Most easily seen and measured by using surplus as measure of welfare.

Autarchy – No trade

CS

PSpe

qe

The closed economy

Local production=

Local consumption

Local demand

Local supply

Importing at World Price

qqe

pe

S

DL

SWpw

World price becomes both a demand and supply curve.......why?

Note: small country case

Importing at World Price

qqe

pe

S

DL

SWImportspw

Local production

Local consumption

An Importing Country

q

pe

pw

S

DL

SW

qe

The gains from trade

Impact of a Tariff

qqe

pe

S

DL

SWImports before

TariffTariff p

pw

Imports after


Impact of a Tariff – Welfare Loss

pe

pw

S

DL

SW

Total consumer surplus (benefit) lost through tariff

Imports after tariff

Impact of a Tariff – Welfare Loss

pe

pw

S

DL

SW

Surplus gained by producers at the expense of consumers


Tariff revenue to government

Nett Loss of a Tariff

pe

pw

S

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SW


Welfare loss overall

Welfare loss = deadweight loss

SW+ T

Tariffs overall

Tariffs therefore involve

Redistribution• Consumer to producer• Consumer to government

An absolute loss in economic efficiency terms

plus…the intangibles which arise from the manner of allocation of tariff protection and the distortions induced by that process


Instruments of Trade PolicySubsidies

Like tariffs, a price instrument. A payment to a domestic producer.

cash grants (eg US biodiesel) low-interest loans tax breaks government equity participation in the company

• eg Airbus Subsidy payments generated from taxes.


Subsidies

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3

4

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5-6

Must watch definitions – part of critical reading.


Subsidies to EC Manufacturers(Percent of Value Added)

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10121416

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5-7


Instruments of Trade Policy Import Quotas and Voluntary Export Restraints

Both quantity instruments Import Quota:

Restriction on the quantity of some good imported into a country.

Voluntary Export Restraint (VER): Quota on trade imposed by exporting country,

typically at the “request” of the importing country. Reagan 1981. Simply quotas under another name

5-8


Results of Japanese VERs

Benefits producers by limiting import competition

Japan - limited to 1.85 million vehicles/year Cost to consumers - $1B/year between ‘81 - 85. Money went to Japanese producers in the form

of higher prices.

5-9

?So who were the ‘winners’ from VERs?If the gains overall might be negative, why would governments do it?


Annual Cost to American Consumers for Import Protection

Textiles

Automobiles Dairy

Meat Sugar

0

5

10

15

20

25

30

Consumer LossesProducer Gains

$ Millions

5-13

shifted

So why accept the costs?Peanuts: (US, 1982 – 87) Quotas , import restrictions and price supports

transferred $US255M per year from 1982 – 1987 from consumers to producers, with $US34M deadweight loss.

Cost to consumers: $1.23 eachBenefit to peanut growers: $11,100 each

Small group/large group interaction.

Peanuts?(Viscusi, W. Kip, John M. Vernon, and Joseph E. Harrington, Jr. 1995. Economics of

Regulation and Anti-trust. 2nd ed. Cambridge: MIT Press. in Keohane, Revesz & Stavins The Positive Political Economy of Instrument Choice in

Environmental Policy, Resources for the Future 97-25, 1997)

shifted


Instruments of Trade PolicyLocal Content Requirements

Requires some specific fraction of a good to be produced domestically. Percent of component parts. Percent of the value of the good.

Initially used by developing countries to help shift from assembly to production of goods.

Developed countries (US) beginning to implement. For component part manufacturer, LCR acts the

same as an import quota. Benefits producers, not consumers.

5-10


Instruments of Trade Policy Antidumping Policies

Defined variously as: Selling goods in a foreign market below production

costs. Selling goods in a foreign market below fair market

value (but who defines that?). Result of:

Unloading excess production. Predatory behavior.

Remedy: seek imposition of tariffs. But --- often used as a means of protection?

5-11


Instruments of Trade PolicyAdministrative Policies

Bureaucratic rules designed to make it difficult for imports to enter a country.

Examples in imposing rules. Japan - Tulip bulbs. France – videos

Sometimes quarantine or environmental measures argued to be of this type.

5-12


Political Arguments for Intervention

Protecting jobs and industries. VERs.

National security. Defense industries - semiconductors.

Retaliation. Protecting consumers. Furthering foreign policy objectives. No

justification other than can do it. Helms-Burton Act.

Protecting human rights. MFN.

5-14

?

How would you rate the relative importance of these factors for countries other than the US?


0

10

20

30

40

50

60

1974 76 78 80 82 84 86 88

JapanUSA

National Security

World Semiconductor Production

5-15


RetaliationUS Trade Sanctions

0

5

10

15

20

25

1993 95 97

NewSanctions

Afghanistan Italy Burma Libya Canada Nigeria China N. Korea Cuba Pakistan India Saudi Arabia Iran Sudan Iraq Syria Yugoslavia

Partial List

98

5-16


Retaliation - Helms-Burton Act

1996. Allows American to sue foreign firms that use property in Cuba confiscated from them after the 1959 revolution.

Backlash Violates a state’s sovereignty.

Also passed the D’Amato Act - Libya and Iran.

5-17


Economic Arguments for Intervention

Infant industry. Oldest argument - Alexander Hamilton, 1792. Protected under the WTO. Only good if it makes the industry efficient.

• Brazil auto-makers - 10th largest - wilted when protection eliminated.

Requires government financial assistance.• Could argue that if a good investment, global

capital markets would invest.

5-18


Economic Arguments for Intervention

Strategic trade policy. Government helps raise national income if first-

mover advantage successful. Government intervention may help domestic

firms overcome first-mover advantage of foreign firms.

The role of Porter’s ‘diamond’ in forming views?


Revised Case for Free TradePaul Krugman, MIT economist, argues that strategictrade policies can lead to trade wars. The best way to handle disputes is to work to establish rules that minimizetrade-distorting subsidies - a function of the WorldTrade Organization.

He also argues that government intervention usually favorsspecial interest groups that distort the subsidy to their own ends.

Therefore, “a blanket policy of free trade, with exceptionsgranted only under extreme pressure … may be the bestpolicy that the country is likely to get.”http://www.wws.princeton.edu/~pkrugman/http://www.pkarchive.org/

http://www.wws.princeton.edu/~pkrugman/

http://www.pkarchive.org/

Summary: Arguments for Intervention

Political Protecting jobs and industries. National security. Retaliation. Protecting consumers. Furthering foreign policy objectives. Protecting human rights.

Economic Infant Industry Strategic Trade Policy

The implications for business - I

Impact of trade barriers on firms’ strategy, and on achievable production cost:• Tariffs raise cost of exporting products to a country• VER’s may limit ability to service country from

outside• Local content laws may mean location of more

capacity in a country than is economic• Even when barriers do not currently exist firms may

need to retain local capacity as precautionary measure

All tend to reduce flexibility, raise cost

The implications for business - II

These issues may limit firms’ ability to disperse production in economically efficient fashion. Also policy implications for firms: Firms are major policy influence on government Some support for intervention as per new trade

theory but Likelihood of retaliation means protection gained

from government can backfire Firms must have considered policy approach

recognising likely negatives of barriers

Things you should know about..The various forms of barriers to trade, and the principle underlying their operation.Tariffs:

Distributional issues and welfare losses. Who pays?

Political arguments for protectionEconomic arguments for protection Problems for governments –internal and external pressures Implications for business

Cost, location, policy

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The Political Economy of International Trade