Reasons for Government Intervention in Trade - Assignment Example

Running Head: GOVERNMENT INTERVENTION IN TRADE Government Intervention in Trade (Name) (Course) (University) Date of presentation: Lecturer: Reasons for Government Intervention in Trade Introduction Economic systems in many countries have been shaped y government attempts to enhance profitability through a variety of programs and policies. Depending on the specific commodities involved in trade, the history of government intervention in trade can be traced through trade protection, regulation, promotion and price and income support programs. Essentially, government intervention in trade has been in existence for decades since the era of Industrial Revolution. The intervention has not only affected the commodities that can be produced but also the volume of commodities that can be imported and exported. Essentially, the need to intervene in international trade practices has become part of standard economic practices. This has in turn impacted on the manner in which countries interact with each other and has led to formation of trade agreements and regulatory bodies such as the World Trade Organization. The pattern of exports and imports that occur in the absence of trade barriers is called free trade. Despite the numerous advantages and benefits associated with free trade, governments often find it necessary to intervene in free trade (Helpman & Krugman, 2001). Governments intervene in trade and impose restriction on trade for various reasons. These reasons can be classified as political, economic and cultural. Countries often intervene in trade practices by supporting their domestic industries’ exporting activities. However, the most emotionally charged government intervention in trade occurs when a country’s economy seems to be underperforming. During tough economic ties, workers and firms alike lobby their governments to protect them from imports that may reduce work and eliminate jobs in the domestic market place. a) Political Motives for Government Intervention in Trade Political arguments for government intervention in trade are concerned with the need to protect interests groups within a country (often producers of certain commodities and workers).Some of the political motives that can lead to government intervention in trade include: i. Protection of Jobs Government restriction of trade helps domestic firms compete effectively with large and well established foreign firms. This helps domestic firms create employment for the local people. For instance, China’s state owned photographic film company, China Lucky Film found it difficulty to compete with the dominant Kodak Company for photographic film market in China. China Lucky Film’s market share had deteriorated to less than seven percent and the company was at the verge of closure. Fearing the likely annihilation of Lucky Film, the government of China offered Lucky Film millions of dollars in cash and access to low interest loans and initiated total ban on joint ventures in the film industry. This initiative led to rapid growth of China Luck Film and today, it is the dominant photographic film company in China and a leading employer in the industry. Reimer and Stiegert (2006) have noted in his book that high unemployment rate can easily oust a government regardless of whether it is legitimately elected or not. For this reason, governments become involved when trade practices threaten jobs for the citizens. Similarly, governments intervene when foreign firms threaten to flood local markets. ii. Preservation Of National Security Certain industries are sensitive to national security. Some of these industries include those producing sensitive war materials and equipment. These industries will often get assistance from the government for both imports and exports. For instance, governments all over the world have reigned on the nuclear war fare industry for fear that if the technology gets to terrorist groups or is used by some governments clandestinely, its consequences can be unbearable and annihilating. Nations may also have other national security motives for intervening in free trade (Helpman & Krugman, 2001). Governments, especially in developed countries ban the exportation of certain defense-related goods to other countries. Majority of industrialized countries have agencies which review requests to export certain goods and technologies which are perceived to have industrial and military applications. Such products require strict government approval before thy can be exported. Ban on exportation of dual-use products was strictly enforced during the Cold War era when both parties to the tension feared if the enemy could get access to the other’s technological advantages. Enforcements of these bans have, however, been relaxed since early 1990s following the fall of the Soviet Union. However, the continued threats of terrorism have renewed efforts of such concerns. Governments must have access to undisrupted supply of sensitive items such as fuel, air, land and sea transportation facilities in the event of a war or other conflicts. It is for this reason that many nations, particularly Russia, China and the United States continue to search for oil within their territories in case war disrupts flow of oil from exporting countries. Sometimes, countries have to protect their agricultural sectors for national security reasons. For instance, a country that relies to a great extent on food imports can face severe starvation in case of a war. The government of France is fond of protecting its agricultural sector by offering subsidies to farmers. This has made France to be self-sufficient in production of a wide range of food products, much to the detriment of her trade partners (Reimer and Stiegert, 2006). iii. Response to Other Nations’ Unfair Trade Policies Countries often compete for economic and political advantages. Some countries may use unfair or outlawed trade practices such as instituting unreasonable tariffs. This compels other countries to retaliate to protect their economies. For instance, Brazil has in the past accused the United States of subsidizing cotton farmers against World Trade Organization agreement. The result of this was that cotton products produced in the United States could sell at lower prices than those produce in Brazil. Brazil reacted to the United States unfair trade practices by threatening to offer massive subsidies to its own cotton farmers. This forced the two countries to reach agreement on how to best mange the production and marketing of cotton products. Trade observes argue that it does not make any sense for one country to allow free trade with another country if the other country protects its industries against foreign competition. Many countries have in the past threatened to close their entry ports to ships from countries that are alleged to engage in unfair trade practices (Fairchild, 2006). Occasionally, governments can intervene in free trade as a bargaining tool to help open foreign markets and force trading partners to stick to the rules of the game. The government of the United States has for instance threatened to use punitive sanctions to force China to enforce the United States intellectual property laws. Without the enforcement of the intellectual property laws, United States companies such as Microsoft would incur millions of dollars in lost sales per year. To get the Chinese onboard, the US government threatened to impose 100% tariffs on a wide range of Chinese products. This forced China to give in to the US demand of enforcing intellectual property rights. iv. Gaining Influence Over Other Countries and to Monopolize Some Industries Governments of larger and developed nations often develop trade agreements and relations with governments of less developed nations to gain influence over the latter’s resources. For instanced, the government of the United States has in the past century gained strong influence over the governments of Latin American and Caribbean countries. This has made these countries to be too dependent on trade with the US. Consequently, the United States is often concerned with developments in these countries’ political systems for fear that political disruptions can inadvertently decrease the level of political engagements between these countries and the United States. The potential to exert influence over the internal politics of some countries is one of the arsons the United States maintains a total ban on all investments and trade with Cuba. Russia has gained strong influence over some countries that wee formerly member states of the Soviet Union and has become their chief trading partner. Similarly, Japan has gained a good deal of influence over several countries throughout South East Asia. In fact, Japan accounts for a large portion of imports and exports to countries such as Malaysia, Singapore, Thailand, Philippines, Taiwan and Indonesia and South Korea. Additionally, the Japanese government has been generous to lend these countries large sums of money to help them recover from economic crises (Fairchild, 2006). Countries sometimes use trade policy to support enactment of their foreign policy objectives. As an example, a government can grant preferential trade terms to a country with which it wants to build strong relations with. Trade sanctions have been used severally to pressure or punish countries which do not abide by international norms. For instance, the United States and the European Union have imposed several rounds of economic sanctions against Iran to stop it from pursuing nuclear energy programs for fear that such a program can be diverted to produce nuclear warfare materials. Similarly, Western countries have in the past imposed economic sanctions against the Libyan government for its alleged role in sponsoring terrorism (Haberler, 2005). v. Protection of human rights The need to protect and promote human rights in other countries is an important aspect of foreign trade policies. Governments often use trade policies to try to improve the human rights policies of their trading partners. The United States has in several occasions threatened to impose import bans on Russia and China over their unimpressive human rights records and lack of democratic governance. These threats have compelled the Russian and Chinese governments to reconsider their human rights records and governance policies (Newman, Fulton & Glaser, 2003). b) Economic Motives for Government Intervention in Trade Economic arguments for government intervention in trade are often concerned with the need to boost the overall wealth of a country and raise living standards. The most common economic motives for government intervention in trade are protection of infant industries and the need to pursue strategic economic policies. i. Protection of Infant Industries Governments especially in developing economies often intervene in trade to protect their domestic and infant industries against competition from foreign industries. These governments often impose restrictions in terms of import quotas or total ban on imports of certain commodities and technologies. Dhar (2006) has explained in his article that it is important for governments to protect their infant industries during the developmental phases until they become globally competitive. This helps the industries to acquire the required knowledge to become innovative and efficient and hence contribute to national development through creation of jobs and production of essential commodities. The infant industry argument holds on the view that it is always not easy for small but promising industries to obtain enough funding in the domestic capital markets. Protection of infant industries can, however, do more harm than good if the initiative is not aligned with compelling needs. Domestic consumers often end up paying more for products and services because of lack of competition, which creates fewer incentives to cut production costs or improve quality of products. As an example, the protection of domestic industries in Japan has resulted into the emergence of a two-tier economy. One tier is characterised by highly competitive multinational corporations while the other tier is characterised by noncompetitive, protected local industries. In the domestic industries of banking, construction, retailing and property sectors, high costs of goods and services are consequences of protecting markets. In contrast, multinational corporations operating in Japan enjoy low-cost advantages because of their efficient production facilities in other parts of the world (Dong, Marsh & Stiegert, 2006). ii. To Pursue Strategic Trade and Economic Policies Strategic trade and economic policies can lead to increased national income. It is for this reason that governments encourage domestic industries to make fist-time moves in certain investments. This helps the local industries solidify their government’s positions in the global markets globally. In the 1930s and 40s, the British government encouraged its oil mining and exploration companies to invest in exploration projects in several countries. Today, British oil firms such as British petroleum have gained commanding shares in global exploration and production of oil, despite the fact that Britain lacks significant oil reserves (Hamilton & Stiegert, 2002). iii. Revenue Collection Governments reign in the affairs of international business enterprises with the aim of raising revenues from taxes and duties. From the government’s view, the point of entry of goods into a country is the best place to collect revenue. The importer cannot evade the imposition of custom duties at this stage. Most governments have rules that goods must be physically bought into the country at particular locations such as airport or seaport. This makes it easy for the government to refuse entry of goods until appropriate import revenues have been paid on the goods. This offers a good opportunity for governments to replenish their national treasuries (Brander & Spencer, 2001). iv. Protecting Consumers Governments intervene in free trade to protect local consumer from unhealthy or unrealistically expensive products. The indirect impact on such regulations is to ban or limit the importation of the harmful or expensive products. In 2003, the governments of South Korea and Japan as well as several other countries in Europe decided to ban imports of beef from the United States in response to a case of mad cow disease which was reported in Washington. This ban was motivated by the need to protect consumers in the Asian countries from unsafe beef products. The import ban had serious effects on the United States beef consumers since South Korea and Japan accounted for over $2 billion of United States beef sales (Dhar, 2006). In a similar manner, the European Union imposed total ban on the importation or sale of hormone treated beef. This ban was motivated by the desire to protect European consumers from the potential healthy consequences of eating meat from animals treated with growth hormones. Certain artificial hormones have been found to be related to cause cancerous tumors. v. Free shares to all In the case of corporation and income taxes, governments are anxious to collect the amount of tax correctly due under specified laws and may not want to see other countries get the revenue. This gives rise to the possibility that international businesses can be taxed more than once on the same income. Government intervention therefore, ensures that appropriate tax relief is given where necessary (Krugman, 1990). To solve the problem of more countries fighting over tax on the same income, a network of bilateral tax treaties and international agreements has risen to allocate taxation rights to countries and to provide dispute procedures in case of disagreements. Efforts have been done by the Organizations for Economic Cooperation and Development to ensure that an international framework is in place to ensure that governments reach bilateral and multilateral agreements and that double taxation does not occur. c) Cultural Motives Nations restrict trade on certain goods and services to reach cultural objectives. One of these objectives is the protection of cultural identity. Unwanted cultural influence in a country can cause concern for the people, resulting in government having to ban imports of certain imports deemed as culturally offensive. For instance, the Canadian government has a policy that 35% of the music played on the local radio stations must be produced by Canadian artists. To a greater extent, culture and trade are intertwined and greatly influence one another. Cultures of some countries are being altered gradually because of exposure to products and people from other countries (Brander & Spencer, 2001). More than any other nation, the United States is seen as the greatest threat to the cultures of other countries across the world. This is because of the country’s strong economic, political and military influence in the global scale. The United States has a strong influence in the global media and entertainment industry (magazines, movies and music) and consumer goods. Over the years, the French government has tried to keep its language free of English words such as ‘hamburger’ and ‘jeans’. French laws have banned all foreign language words from business and government communications, public announcements, TV and radio broadcasts, at least whenever appropriate French alternatives are available. The only problem with such restrictions is that they limit the selection and range of products available to consumers. Methods Governments Use to Promote Development of Local Industries Governments offer subsidies to domestic industries in the form of cash payments, low interest loans, product price supports and tax breaks and other forms. These subsidies are intended to assist domestic companies fend off foreign competitors. Governments also offer export financing to domestic firms. Due to the sustained effects of globalization, most governments allow trade with other nations by establishing foreign trade zones. These are specially designated geographic regions where merchandise is allowed to pass through with low or no custom duties and procedures. Other countries have custom agencies responsible for promoting domestic exports. These agencies are responsible for organizing foreign trips for local trade officials and for opening offices in foreign countries to promote domestic exports (Brander, 2005). Governments impose restrictions on the amount of certain goods that can enter or leave the domestic market during a certain period of time. These restrictions, called quotas help maintain adequate supplies in the domestic market or increase supply of a given product on the world market. Some governments discourage importation of certain products by causing administrative delays and bureaucratic rules to impair imported products. Governments also use currency controls (restrictions on the convertibility of currencies) as a way of restricting imports (Hamilton & Stiegert, 2002). In conclusion, countries are happy to encourage exports by companies producing in their territories, as this helps bring in foreign currency, which boosts economic development. A government cannot be happy when its domestic market is flooded with cheap imports to the detriment of domestically manufactured commodities. For this reason, governments readily reach for protectionists measures in the belief that these measures can help domestic industries compete effectively in the international market. Some of these protectionist measures are imposed in the form of quotas and tariffs aimed at restricting imports of certain categories of goods. The measures can also help raise the cost of importing some goods, to make them less favorable in the domestic market. References Brander J.A. and B.J. Spencer, (2001). “Tariffs and the extraction of foreign monopoly rent under potential entry” Canadian Journal of Economics 14, pp. 371-89. Brander J.A., (2005). “Strategic trade policy”, National Bureau of Economic Research Working Paper No. 5020. Dhar, B., (2006). “Modelling the Doha Round outcome: A critical view, ARTNeT Working Paper Series, No. 6. Dong, F., T. Marsh, and K. Stiegert, (2006). “State trading enterprises in a differentiated environment: The case of global malting barley markets”, American Journal of Agricultural Economics, 88, No. 1, pp. 90-103. Fairchild, G. F. (2006). International Trade: Free Trade or Protection, Food and Resource Economics Extension Notes, EN-30, Food and Resource Economics Department, University of Florida. Hamilton, S.F. and K. Stiegert, (2002). “An empirical test of the rent-shifting hypothesis: The case of state trading enterprises”, Journal of International Economics, vol. 58, issue 1, pp. 135-157. Helpman and Krugman, (2001). Trade Policy and Market Structure, The MIT Press, Cambridge, MA. Haberler, G., (2005). “Some problems in the pure theory of international trade”, in Economic Journal, June 1950, reproduced in Readings in the Theory of International Trade, 1961, American Economic Association. Kreinin, M. E. 1995. International Economics: A Policy Approach. Harcourt Brace Jovanovich, Inc., New York, N.Y., seventh edition. Krugman, P.R., (1990). Rethinking International Trade, The MIT Press, Cambridge, MA. Newman, M., T. Fulton, and L. Glaser. (2003). A Comparison of Agriculture in the United States and the European Community. Economic Research Service, United States Department of Agriculture, Washington, D.C. Reimer, J.J. and K. Stiegert, (2006). “Imperfect competition and strategic trade theory: Evidence for international food and agricultural markets”, in Journal of Agricultural and Food Industrial Organization, vol. 4, article 6. Read More