Chapter 7 Reading
Puzzle: Trade is economically beneficial. Why do countries restrict trade, then? Why do trade policies vary?
The U.S. puts import restrictions (and spends a lot of money doing so) on the steel industry, which is relatively small and has low employment
Others are restricted such as cotton, lumber, footwear, cars
If U.S. removed restrictions they would make a crap ton more money than they do now
Trade barriers are super important to economic exchange, where both sellers/buyers abroad and people who face foreign competition care about barriers
Poor companies export raw materials/import manufactured goods, while rich countries import raw materials and export manufactured goods
If a poor company exports manufactured goods its simple, like clothing or furniture while rich companies export jet planes or elaborate machinery
Domestic interests matter in determining policy as people either want to tap into free trade or oppose it
Interstate relations also matter as one nation’s policy affects those they trade or do not trade with
Networks of global/regional trade groups facilitate bargaining: WTO, but also regional like NAFTA and the EU
What’s so Good about Trade?
We do foreign trade b/c of specialization—each country has their own niche and the division of labor permits these different focuses
No one country can ‘produce it all’ because that’s a higher cost than just specializing in a specific thing
Specialization increases productivity which leads to economic growth
Specialization thrives in a large market to spur eco growth
Economic gains based on trade (Bangladesh unskilled labor of footwear, European technical workers making aircraft)
Comparative advantage: the ability of a country or firm to produce a particular good or service more efficiently than it can produce other goods or services, such that its resources are most efficiently employed in this activity. The comparison is to the efficiency of other economic activities that the actor might undertake given all the products it can produce—not to the efficiency of other countries or firms.
A nation gains by specializing so it can earn a lot to pay for imports of goods it doesn’t excel at making
Is what countries can make ‘most cost effectively’
A country does not need an absolute advantage (The ability to produce more of a particular good or service than others with the same amount of effort and resources) in producing to be profitable, they just need a comparative advantage
So, countries gain from producing in their C.A. and exchanging with other countries: trade barriers harm the economy
Barriers harm because then a country has to produce product not in its C.A
Many policy makers argue neo mercantilism (import bad b/c lose jobs, export good b/c create jobs so we should import)
Economic logic says the opposite: imports are the gains, exports are the costs
Why do Countries Trade What They Trade?
Heckscher-Olin Trade Theory
Tries to explain national C.A. and therefore national trading patterns (a farmer’s productivity depends on the characteristics of the land)
Describes the basic economic characteristics of a country in terms of material/human resources it has —> factors of production:
Land (agriculture)
Labor (unskilled, usually)
Capital for investment (refers to machinery and equipment used to make goods and the finances to employ those)
Human capital (skilled labor, enhanced by training/education)
Whichever one a country has most of determines what they produce/export
Cheap land = agriculture (America in 19th century exporting cotton, wheat)
Lots of investment capital = manufactured goods like airplanes (modern N.A./w. European industries)
Labor = manufacturing a lot of something like clothes or toys (China)
Leads to trade patterns (poor agriculture nations import machinery from industrialized nations in order to farm)
Factors of Production relate to socioeconomic actors (lots of land = lots of farmers)
Overall, this theory explains the simple outlines of international trade, changes in trade relations (countries that go poor—>less poor change export patterns)
Trade patterns may also be because of multinational corporations selling goods to their subsidiaries (companies they own/control) in other places
Intrafirm trade may be due to production/distribution networks in companies
Also, modern trade is mostly global supply chains of firms (Apple) buying parts to assemble one product
Intra-industry trade: It also is due to goods attracting consumers due to brand name, reputation: we exchange cars with Europe due to consumer interests in either brand
Sharing of currencies spurs trade—investment in each others economies leads to trading together
Noneconomic factors to trade: geographic closeness (low transport cost), diplomatic/military relations (trade with hostiles is risky/may support an enemy, and trading with friendly allies creates stronger ties), national trade policy (to address domestic actors, such as farmers/workers)
Trade encourages allyship and vice-versa; the U.S. never went to war with a country they had a trade agreement with in WWII
Trade ties are used to reinforce alliance strength (Cold War)
Trade Restrictions are the Rule, Not the Exception
Protectionism: using specific measures to protect domestic producers from imports
Common policy in many countries worldwide
As said, trade barriers (impediments to importation) are common (here are examples)
Tariffs: Taxes on imports paid by importer, makes product more expensive for consumer
Quotas: limit quantity of foreign good imported (reduced quantity —> inc price —> imported goods expensive to consumer)
Nontariff barriers to trade
Regulations targeted at foreign goods, requiring govt. to purchase from domestic producers
Historical timeline of openness to trade
Mercantilism: no foreign goods in markets, reserved colonies for self
1850s: fewer restrictions on trade, Britain free trade, U.S. was protectionist
WWI: hostile trading blocs
post WWII: reduced trade barriers in West due to American leadership, Communist countries protectionist
Globalization: open trade, further liberalization (Duh)
Some goods are more protected than others
Developing countries protect manufactured products while developed countries protect agricultural producers. Why?
Why Do Governments Restrict Trade?: The Domestic Political Economy of Protection
Trade barriers usually reflect domestic concerns of a need to protect domestic producers
Domestic producers say one of two things
“Imported goods cut into my profits and cost jobs for my company”
“Trade barriers keep us out of markets abroad, cut into profits, and cost jobs at home”
Benefits and costs to trade barriers
Tools of trade (tariffs, quotas) allow domestic producers to sell more —> increases profits, raises wages, can hire more workers. What is wrong with this?
Consumers bear the costs still. (imported steel more expensive —> domestic steelmakers also raise prices)
Redistributive effect (income is directed away from domestic consumers to the protected domestic industry)
Creates economic inefficiency (creating goods they suck at making —> consumers don’t buy expensive stuff)
Allocation of domestic resources (labor, capital, land) to less efficient industries
Winners and Losers in International Trade
Domestic industries protected with trade barriers benefit with high returns
Three groups lose from trade protection
Consumers of imported good (can be consuming industries like steelmakers, costs them money when tariffs happen)
Exporters: worry that their country’s barriers create retaliation in foreign markets
American farmers opposing steel tariffs on China because China retaliated with tariffs on American farm products
Citizens punish politicians for the costs of protectionism if the connection is clear and the issue is pertinent
Consumers in developing countries favoring freer trade b/c they know it will reduce prices (increased democracy means freer trade)
Trade is politically controversial
Nationalists, due to belief in country superiority, often like protectionism because they see no point in buying foreign goods
Economic Interests and Trade Policy
The Stolper-Samuelson Approach
Predicts that protection benefits the scarce factor of production in the country that imposes the trade restrictions. (more trade helps the abundant factor: land, labor, or capital)
Example: Bangladesh
Poor with lots of unskilled labor, little capital. Exports clothing (uses unskilled labor) and imports capital products (machinery, chemicals).
Trade barriers make capital goods expensive, some of them must be produced in Bangladesh —> capital is diverted from labor production to capital production (garment factories to chemical plants) —> Raises Bangladeshi capital (profits) and reduces Bangladeshi wages.
Investors support protection here while workers oppose
Explanation: owners of scarce factors of production are protectionist, and owners of abundant factors are free trade.
Rich countries: capitalists/skilled workers like free trade, unskilled workers are protectionist
Poor countries: workers support trade, capitalists are protectionist
Abundant land: farmers support trade / Scarce land: farmers support protection
Farmers are protectionists in land scarce Japan, but free trade in land rich Argentina.
While this model does seem to reflect predictions about broad groups, many of those who create economic policy say that demands for protection come from specific industries
Everyone in an industrial sector works together to ask for trade barriers/support for exports
The Ricardo-Viner (Specific-Factors) Approach
Some factors of production are industry-specific. Relevant actors are industrial sectors—so it is difficult for labor or capital to move from use to use
Capital in steel industry is steel factories. It can’t just become a food processing factory—so steel manufacturers care more about industry profits than country profits
Same is true for farmers or workers to safeguard their current use because they are specific to an industry or crop.
So, because capital mobility is limited, actors associate interests with their sector
Stiff import competition = protectionist, exporting industry = free trade
A Firm-Based Trade Theory
Approach focused on firms (duh)
Most productive/largest firms in exporting benefit from free trade
There is
All Three Approaches
Evidence is apparent for all three approaches
Broad classes mobilize for/against protection, but lobbying is industry based, in within those industries it’s the largest firms that dominate debate
Groups may support trade policies b/c the policies make other favorable outcomes possible
Protectionism makes things scarce —> advantageous to producers but not consumers
Trade barriers also allow govts space as they combat mass unemployment/economic collapse
Domestic Institutions and Trade Policy
Trade policy decisions are made with institutions of national politics, organization and representation of interests, and how policy decisions are made.
Rule of thumb: protection helps narrow and concentrated groups (steel industry, skilled workers) but harms the economy/consumers.
Political institutions that are responsive to concentrated groups = protection
Institutions that respond to broad national pressure = not favorable to protection
The Organization of Interests
Protectionism affects large groups positively and negatively —> free riding
Trade barrier imposed = all beneficiaries of trade protection are helped whether they lobbied or not which causes the collective action problems
Small groups organize easier = producers winning over consumers (small number of steelworkers obtaining a policy rather than American consumers)
Economic interests organize differently in different countries
In W. Europe, there’s usually centralized labor federations of workers that create a common working-class political position = overcome collective action problems
Likely to ignore demands of specific groups/industries
In U.S., industry-specific labor unions make overcoming C.A. problems difficult
Likely to pursue the particular goals of special interests
The Representation of Interests through Political Institutions
Political institutions tied to narrow interests = favor trade protection
Therefore, dictatorships are usually more protectionist than democracies, who value free trade
Apart from broad factors like democracy, societies represent citizen interests differently in partisan, electoral, and legislative institutions
Europeans usually have strong class-based parties (working = socialist, other parties = farmers/business)
American working class voters are less connected to the Democratic Party compared to Europe
Both of these affect parties’ interests and bias toward protection or free trade