Global Economics Eco 6367 Dr. Vera Adamchik

1. Global EconomicsEco 6367Dr. Vera Adamchik Nontariff Trade Barriers

2. A nontariff barrier (NTB) to imports is any policy used by the government to reduce imports, other than a simple tariff on imports. • Economists have noted that as tariffs have been reduced through multilateral tariff negotiations during the past 40 years, the impact of this reduction may have been importantly offset by the proliferation of NTBs.

3. An NTB reduces imports by operating through one or more of the following channels: • limiting the quantity of imports; • increasing the costs of getting imports into the market; • creating uncertainty about the conditions under which imports will be permitted.

4. NTB can take many forms (see the “Major Types of NTBs” slide). • Although antidumping duties and countervailing duties are not listed in the table, they are also often considered NTBs. Governments claim that they impose these kinds of duties in response to unfair practices by foreign exporters.

5. Major types of NTBs

6. IMPORT QUOTA

7. An import quota • The best-known nontariff barrier is the import quota, a limit on the total quantity of imports of a product allowed into the country during a period of time (usually, a year). • The government gives out a limited number of licenses to import the quota legally and prohibits importing without a license.

8. Global quota – limit on the total number of units of a good from all other countries. • Selective quota – limit on the number of units of a good from a specific country or countries.

9. Welfare Effects of an Import Quota, Small Country. Illustration 1

10. Domestic supply Equilibrium without trade World price free trade Domestic demand S D Q Q Imports free trade Welfare under free trade Price of Steel Quantity 0 of Steel

11. Welfare under free trade Consumer surplus under free trade Domestic supply Producer surplus under free trade Equilibrium without trade World price free trade Domestic demand S D Q Q Imports free trade Price of Steel Quantity 0 of Steel

12. Welfare effects of an import quota Domestic supply Equilibrium without trade Domestic supply + Import supply Price with Equilibrium quota with quota World price free trade Imports Domestic with quota demand S S D D Q Q Q Q Imports free trade Price of Steel Quota Quantity 0 of Steel

13. Consumer surplus with quota Domestic supply Equilibrium without trade Producer surplus with quota Domestic supply Quota rent + Import supply Price with Equilibrium quota with quota a c b d World price free trade Imports Domestic with quota demand S S D D Q Q Q Q Imports free trade Welfare effects of an import quota Price of Steel Quota Quantity 0 of Steel

14. Welfare Effects of an Import Quota, Small Country. Illustration 2 An example from the textbook

15. An example from the textbook Import quota welfare effects With Free Trade: U.S. consumer surplus U.S. producer surplus

16. Import quota welfare effects An example from the textbook With Import Quota U.S. consumer surplus U.S. producer surplus

17. An example from the textbook Import quota welfare effects With Import Quota: a = redistributive effect b + d = deadweight loss b = protective effect d = consumption effect c = revenue effect “windfall profit” “quota rent”

18. Welfare Effects of an Import Quota, Small Country. Illustration 3 (Handout)

19. The U.S. market for bicycles with a quota

20. Conclusions (compared to free trade) • For a competitive market, the effects of a quota on price, quantities and well-being are the same as those of an equivalent tariff, with one possible exception. • The “possible exception” is area c. With a tariff, area c is government tariff revenue. With a quota, what is it? Who gets it?

21. Ways to allocate import licenses • The quota license to import is a license to buy the product from foreign suppliers at the world price and resell these units at the domestic price. The quota results in a price markup (or economic rent). For all units imported with the quota, the markup totals to rectangular area c. • Who gets this price markup? That depends on how the licenses to import the quota quantity are distributed.

22. The main ways to allocate import licenses • The government allocates the licenses for free to importers using a rule or process that involves (almost) no resource costs. • The government auctions off the licenses to the highest bidders. • The government allocates the licenses to importers through application and selection procedures that require the use of substantial resources.

23. Fixed favoritism • Import licenses can be allocated for free on the basis of fixed favoritism, in which the government simply assigns the licenses to firms (and/or individuals) without competition, application, or negotiation. • In this case the importers lucky enough to receive the import licenses will get area c.

24. Auction • The government can run an import license auction, selling import licenses on a competitive basis to the highest bidders. • How much would some individuals be willing to pay in a competitive auction? – An amount very close to the price difference. • If the winning bids are very close to the price difference, the government gets almost all of area c.

25. Public auctions of import licenses are rare. They were used in Australia, New Zealand, and Colombia in the 1980s. • There is informal variant of a quota auction, when corrupt government officials sell import licenses “under the table” to whoever pays them the highest bribes.

26. Resource-using procedures • The government can insist that firms (and/or individuals) that want to acquire licenses must compete for them in some way other than simple bidding or bribing. • Resource-using application procedures include allocating quota on a first-come, first-served basis; on the basis of demonstrating need or worthiness; or on the basis of negotiations.

27. First-come… -- Resource wastage because those seeking licenses use resources to try to get to and stay at the front of the line. • Worthiness… -- awarding quota licenses for materials and components based on how much production capacity firms have for producing the products that use these inputs. Resource wastage because it causes firms to overinvesting in production capacity. • Negotiations… -- Resource wastage is the time and money spent on lobbying with government officials to press each firm’s case.

28. Resource-using procedures encourage rent-seeking activities, and some or all of area c is turned into a loss to society by wasting productive resources. Hence, compared to an equivalent tariff, the quota can potentially cause an even larger deadweight loss, if a political mechanism such as lobbying is employed to allocate the import licenses. • In this case quota is worse than the equivalent tariff in its effects on net national well-being.

29. There is a fourth way that the quota licenses might be distributed. The importing country government can allocate the licenses to the exporting firms (or to others in the exporting country). In this case, the exporters will be able to raise their export price and capture area c. Hence, this case is essentially identical to the VER.

30. More on the distribution of the quota’s revenue (area c)… • The distribution of the quota’s revenue may also be determined by the degree of market power that domestic importers and foreign exporters possess. • Cases A and B below consider the two possible outcomes. • For simplicity let’s assume that import licenses are allocated to the importing companies for free.

31. Case A • The exporting companies operate as competitive sellers and sell the product at the prevailing world price ($300 in our example). • The importing companies organize and become a monopoly buyer. They buy the product at the prevailing world price ($300) and resell it to domestic consumers at the domestic market price ($330). • The quota’s revenue effect accrues to the importing companies.

32. Case B • The exporting companies organize and become a monopoly seller. • The importing companies operate as competitive buyers. They will bid against each other to buy the product and drive the world market price up (from $300 to $330). • The quota’s revenue effect accrues to the exporting companies.

33. Quota vs tariff There are several reasons why protectionists and government officials may favor using quota instead of a tariff: 1. A quota ensures that the quantity of imports is strictly limited; a tariff would allow import quantity to increase if foreign producers cut their prices or if our domestic demand increases.

34. Quota vs tariff 2. A quota gives government officials greater power. As discussed above, these officials often have administrative authority over who gets the import licenses under a quota system, and they can use this power to their advantage (for instance, by taking bribes).

35. Quota versus tariff • initially similar - however if demand increases • tariff leads to more imports at the same price • quota leads to a higher price with the same level of imports • Thus an import quota can be more restrictive. imports imports imports imports

36. TARIFF-RATE QUOTA

37. A tariff-rate quota allows imports to enter the country at a zero or low tariff (the within-quotarate) up to a specified quantity ( a quota), and imposes a higher tariff (the over-quota rate) on imports above this quantity. • Hence, a tariff-rate quota is a two-tier tariff. • Licenses are required to import at the within-quota tariff. Common techniques to allocate import licenses are: license on demand; first-come, first-served; historical market share; and auctions.

38. EXPORT QUOTASa.k.a. VOLUNTARY EXPORT RESTRAINTS (VERs)a.k.a. ORDERLY MARKETING AGREEMENTS

39. An export quota is a restriction imposed on own exporters, either voluntarily or on the behest of other countries. This limit is self-imposed by the exporting country.

40. Reasons for its imposition may include: • protection of local industry from shortages of raw materials, • protection of local population from shortages of foodstuffs or other essential goods, • maintenance of international commodity prices (an orderly marketing agreement), • export restraint agreement with the members of a producer’s cartel (such as OPEC), or • export restraint agreements with consumer countries (a voluntary export restraint).

41. VERs • A voluntary export restraint (VER) is an odd-looking trade barrier in which the importing country government coerces the foreign exporting country to agree “voluntarily” to restrict its exports to this country.

42. The VER originates primarily from political considerations. An importing country that has been preaching the virtues of free trade may not want to impose an outright import quota because that implies a legislated move away from free trade. • Instead, the country may choose to negotiate an administrative agreement with a foreign supplier whereby that supplier agrees “voluntarily” to refrain from sending some exports to the importing country.

43. VERs were used by large countries as a rear-guard action to protect their industries that are having trouble competing against a rising tide of imports. • This form of protection became important in the 1990s, especially in the U.S., EU, Canada where the VER was a major form of import restrictions for textiles, clothing, agricultural products, steel, footwear, electronics, and machine tools.

44. An export quota vs an import quota • The graphical analysis of an export quota is very similar to that of an import quota. • The two key differences between an export quota and an import quota are the effect on the export price and who gets area c.

45. Under a negotiated VER agreement, the exporting country government usually distributes licenses to export specified quantities to its producers. • The main foreign exporters form a cartel among themselves, agreeing to cut export quantities and to divide up the market. • In return, they are allowed to charge the full markup on their limited sales to the importing country, where the product has become more expensive.

46. Who gets area c? • The foreign exporters get area c as additional revenue on the quota-limited quantity of exports.

47. Welfare Effects of an Export Quota, Small Country. Illustration 1

48. Domestic supply Equilibrium without trade World price free trade Domestic demand S D Q Q Imports free trade Welfare under free trade Price of Steel Quantity 0 of Steel

49. Welfare under free trade Consumer surplus under free trade Domestic supply Producer surplus under free trade Equilibrium without trade World price free trade Domestic demand S D Q Q Imports free trade Price of Steel Quantity 0 of Steel

50. Welfare effects of an export quota Domestic supply Equilibrium without trade Domestic supply + Import supply Equilibrium with quota World price World price with quota free trade Imports Domestic with quota demand S S D D Q Q Q Q Imports free trade Price of Steel Quota Quantity 0 of Steel