Strategic Trade - Assignment Example

Running Head: Strategic Trade Strategic Trade Customer’s name: Institution: Customer’s Course Tutor’s Name 27th April, 2013. Strategic trade is that trade where a certain policy is used by certain countries that affect the interactions between firms in an international setting. The aim behind such a policy is to ensure development in domestic industries where there is a shifting of profits from an international firm to local firms. This policy is in many contexts referred to as a theory and many authors describe this theory to be an activity that the government intervenes in the market to cater for its welfare in terms of free trade (Brander, 1995). The strategic trade policy has been in existence since 1980 where there was deep research on which trading policy would be applicable in an international context. It is through strategic trade that there can be the possibility to bring in monopolistic competition or not. Though there had been models initially used to come up with effective policies, strategic trade as a policy presented interesting methodologies not available in other trade policies and this became subject to different governments on its practicability. Though economists argue differently compared to politicians, both argue that their reasoning targets industries in the determination of if they have the ability to be in a competitive position using low costs. The policy is of importance to governments as this acts as an instrument that has the ability to shift firms that are foreign owned to domestically owned firms. Giving an example, two markets dealing with agriculture may be competing for commercial markets in an international setting. The firm that will succeed is the one that acquires excess returns out of the trading activity meaning that it will enjoy higher incomes than the one that does not have more profits. Using an empirical approach, strategic trade has become a possibility to many countries where markets in the agricultural sector have been characterized in an oligopolistic market but there is a drawback due to small price mark-ups .Government intervention has come in to aid strategic trade and through this, there is evidence that sectors such as agriculture that faces a limitation on trade will be exposed to other markets that will foster positive competition. Taking the example of the agricultural sector that is encompassed in an oligopoly market, the type of trading activities is controlled by a small number of trading enterprises that are usually private. Using the economic theory, such a market being controlled by a small number of individuals are likely to generate a lot of profits in their trading activities (Bagwell and Staiger, 2001). Using strategic trade theory, there are instances where the government can intervene to increase the share that is being gotten out of the profits generated. With such a policy in mind, this has lead to much interest in the government, but then again there is still the need to have knowledge on how world markets operate. Brander and Spencer (1985) in their explanation of what is strategic trade use two examples of exporting countries that involve themselves in giving a particular country a product it does not produce. The authors say if the government of one of the exporters does not respond positively in terms of price, the other exporting country has to come up with strategies on how to reduce the quantity of output but still remain to be the company that has a larger share of profits generated in the country being given the goods (Bagwell, and Staiger, 2001). This explains the rent shifting policy where profits generated from an oligopolistic market can be transferred into the domestic firm. Such a policy works perfect where national resources are to be diverted to local resources such as in an oligopolistic situation. Strategic trade can thus be described to be the assumption or theory that focuses on oligopoly markets and the need for the governments to intervene in profit sharing. Strategic trade takes a different approach among different people. Brander (1995) states the strategic trade is characterized by a setting in which different firms depend on each other but are mutually recognized. This is to mean that profits are related and individual profits from one firm can affect the choice of other similar firms. In such a situation, the government plays a minimal role in characterizing strategic trade. Strategic trade comes up with a component analysis of firms trying to persuade other firms using aggressiveness where there has to be an ingredient of pre -commitment that is used to support domestic firms in a country. Pre commitment takes various forms such as subsidies, quotas and tariffs that act as payoffs from rival firms in the international context. It can thus be presumed that the intervention by the government is a model that is created by pre-commitment. The intervention of the government in strategic trade is based on an interest grouped that possibly has a stake in the industry and strategic trade comes in as a way of maximizing the welfare in the national economy. This policy is possible given that other assumptions or theories are made in the same way. Taking the example of domestic consumption, such an activity is ignored and preference is given to international markets where more returns can be tapped. Contrary to traditional competitive models where there is no role even if there is a gain in the consumption side, the standard model accounts for any gain gotten in consumption. The standard model has two stages of development where initially there is the home government that is vested with powers to make a decision on an export subsidy for the output produced in their local firm. The second stage is where exporting firms in two countries choose the quantity of products or services that they are to sell to another country. It is at this stage that either of the selling firms takes the other firm's output and calculates it towards maximization of profits. This comes as an advantage to the government where their firm can be ranked as a leader between the two exporting markets. In a situation where there is a subsidy, it is likely that costs will be lowered hence a country will prefer exporting more than what the rival competitor can export and since their products are strategic substitutes, the firm that is not supported by a subsidy may reduce its output while the market that has a subsidy increase on its quantity meaning that their profits will rise as opposed to that of the foreign country with no subsidy. This in return means that there is a shift of rent from foreign to home firms. The aim of strategic trade has been clearly explained by Brander and Spencer where it has been found out that here are optimal policy changes as one develops from the situation of three countries that have the freedom of choosing the kind of product quantity to be given in a country. Eaton and Grossman (1986) explain strategic trading to be a situation where instead of them being quantity setters, the firms are price setters where their policy is based on export. This enhances a consistent behaviour between firms and this makes free trade a reality. Brander and Spencer (1985) in their explanation of strategic trade indicate that there is ignorance of partial equilibrium which does not consider competition due to scarcity of resources in different sectors. A competition will be fostered if there is an existence of a subsidy in a favoured sector where there will be a reduction of marginal costs in such a sector while other sector's marginal costs are increased. Supported by Markusen and Horstmann (1986), the assumption of production technology comes to reality where an increase in subsidies and tariffs will lead to increasing returns to scale. This comes as a way in making small industries compete with bigger firms in the market. Strategic trade can thus be aligned to optimal policy where it is sensitive to exporting firms. Digit and Kyle (1985) avow that a standard approach has to be used in determining the strategic behaviour of firms. This approach indicates the interactions between two firms only ignoring any changes that the market structure report of any intervention by the government. This places the government in a position where it has the power to control the market but not the product being sold. Where other critics argue that a country may own stock in two different countries, the differentiation of domestic and foreign firms is not recognized in the international capital market. It can thus be presumed that strategic trade serves as a welfare enhancing policy for any country. A lot of skepticism has been observed on the effectiveness of strategic trade where there is difficult for governments to determine the optimal level at which they can intervene in trading activities. This makes it another duty of the government to carry out a lot of information regarding the industrial structure and the costs attributed to the industry. Though the government has the capacity to analyze and make decisions on its own, it may experience difficulties in making national trading policies. It is therefore a unique government that exhibits the willingness to shift rent that is able to retaliate on other markets. It can thus be said that strategic trading fosters competition as it increases at firms productive strategies and improves a country’s tax collection. This is translated beyond borders and countries that practice both imports and exports. It can be advised that practicing strategic trade requires removal of trade barriers that are available in the domestic market as this will foster more exports. With this, low costs are incurred in production making the firm have a positive playground for competition. Though firms find it difficult to compete, strategic trade presents an opportunity to increase productivity and even to extend into other markets. From the above, strategic trade can be defined to be that kind of trade where a certain policy is used by countries that affect the interactions between firms in an international setting (Brainard and Martimort, 1996). The aim behind such a policy is to ensure development in domestic industries where there is a shifting of profits from an international firm to local firms. This strategic trade policy is in many contexts referred to as a theory and many authors describe this theory to be an activity that the government intervenes in the market to cater for its welfare in terms of free trade. Strategic trade has also been said to support trade as competition is said to be fostered if there is an existence of a subsidy in a favoured sector where there will be a reduction of marginal costs in such a sector while other sector's marginal costs are increased. Supported by Markusen and Horstmann (1986), the assumption of production technology has been seen to come to reality where an increase in subsidies and tariffs has lead to increasing returns to scale. This comes as a way in making small industries compete with bigger firms in the market. Strategic trade can thus be aligned to optimal policy where it is sensitive to exporting firms. A lot of skepticism on the other hand has been observed on the effectiveness of strategic trade where it has been difficult for governments to determine the optimal level at which they can intervene in trading activities. This makes it another duty of the government to carry out a lot of information regarding the industrial structure and the costs attributed to the industry. Though the government has the capacity to analyze and make decisions on its own, it has been found out that it may experience difficulties in making national trading policies. Digit and Kyle (1985) have avowed that a standard approach has to be used in determining the strategic behaviour of firms. This approach has indicated the interactions between two firms only ignoring any changes that the market structure reports of any intervention by the government. This places the government in a position where it has the power to control the market but not the product being sold. References Bagwell, K., and Staiger, R.W. (2001) “Strategic Trade, Competitive Industries and Agricultural Trade Disputes.” Economics and Politics 13:113-128. Brainard, S.L., and Martimort, D. (1996) “Strategic Trade Policy Design with Asymmetric Information and Public Contracts.” Review of Economic Studies 63:81-105. Brander, J. A. (1995) “Strategic Trade Policy.” Handbook of International Economics, vol. III, G. Grossman and K. Rogoff, Eds., pp. 1397-1444. Amsterdam: Elsevier Science B.V. Brander, J.A., and Spencer, B.J. (1985) “Export Subsidies and International Market Share Rivalry.” Journal of International Economics 18 (1985): 83-100. Dixit, A., and Kyle, A.S. (1985) “The Use of Protection and Subsidies for Entry Promotion and Deterrence.” American Economic Review 75:139-152. Eaton, J., and Grossman, G.M. (1986) “Optimal Trade and Industrial Policy Under Oligopoly.” Quarterly Journal of Economics 101:383-406. Horstmann, I.J., and Markusen, J.R. (1986), “Up the Average Cost Curve: Inefficient Entry and the New Protectionism.” Journal of International Economics 20:225-247. Read More