Impact Of Government And Political Involvement In International Trade

Running Head: PROBLEMS OF POLITICAL ECONOMY 1

Impact of Government Involvement in International Trade

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PROBLEMS OF POLITICAL ECONOMY 2

Impact of Government Involvement in International Trade

International trade can be described as the exchange of services and goods between

countries, which gives rise to a world economy where prices are affected by global occurrences

(Ajami & Goddard, 2013). As indicated by (Wild & Wild, 2013, p. 123), international trade has

the benefit of offering people in different countries a more expansive selection of goods and

services at competitive prices. Given that the idea of international trade has dominated business

scholarship for some time, differing opinions exist on whether the international trade should

adopt a free trade approach or opt for a protectionist approach. Free trade, in this regard, implies

the application of a laissez-faire style of commerce, without market restrictions. The central

concept in the international free trade is that demand and supply factors, applied on a global

level, ensure efficient production, requiring nothing to be done to either promote or protect

business growth. In contrast, the philosophy of protectionism insists on the importance regulating

trade to ensure proper functioning of markets. Proponents of protectionism hold that certain

market inefficiencies can impede the benefits of international trade, thereby requiring the

application of mechanisms to guide the market accordingly. This paper explores the primary

motives of government interventions and critically analyzes the consequences of the methods of

intervention.

Government intervention in international trade has had a significant impact on trade

patterns. Unfair government intervention practices thus have had lasting negative lasing impacts

on global economics. This paper looks at the global political economy, reasons for governments

to intervene in international trade, consequences of government involvement and ways to prompt

the global economy despite the political influence.

The Motives for Government Trade Intervention

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Though free trade implies the pattern of exports and imports without any barriers, most

governments impose controls on trade for cultural, economic and political reasons. While

political motivations include protection of jobs, preservation of national security, response to

apparently unfair trade practices of other nations and the quest for influence over other countries,

the economic motives include the protection of infant industries and pursuance of strategic trade

policy.

Political Motivation: One category of reasons offered for government intervention is

political. Most of the political motivations for government interventions are connected to the

need for the government to remain popular among its citizens. As indicated by Ajami and

Goddard (2013), the political motivations may have little or nothing to do with the economic

performance of the country (p. 21).

One such political motive is to protect jobs and, therefore, prevent an increase in

unemployment levels. The idea informs the motive for restricting trade to protect jobs that

international trade lowers the number of jobs available locally for the citizens of a country (Wild

& Wild, 2013, p. 132). Though this may be true for certain industries, studies have established

that trade does not necessarily reduce jobs, since business offers consumers a chance to purchase

products at competitive prices, which, subsequently enables them to buy more goods and

services. Given that most of the products are locally produced, the enhanced purchasing power of

the consumer is likely to stimulate the creation of jobs internationally and locally. Moreover, the

protection of certain jobs may not be entirely beneficial, and has been shown to lower economic

efficiency. According to Silva, Afonso and Africano (2010), an economy can function at

maximum efficiency only when its labor force is mobile, and people are willing to alternate jobs

need arises (p. 369). Governments must acknowledge that the nature of the economy and,

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consequently, jobs are constantly metamorphosing, meaning that even their labor force must be

flexible and ready to change.

Another political reason often offered for government restriction of trade is national

security interests. According to Ajami and Goddard (2013), the argument of national security is

often a legitimate argument, especially when it concerns the production of weapons and printing

of domestic currency (p. 34). Consequently, industries that are pivotal to national security are

offered protection by governments for both imports and exports. Governments can, for instance,

place restrictions on imports to guarantee domestic supply which preserves national security. It is

important to note that national security as it is used here is not exclusive to issues of war and

armed security. Rather, the concept of national security implies those goods and services that are

critical for the wellbeing of the citizens of the country, including currency, agricultural products,

oil, and weaponry. For instance, many countries actively protect their agricultural sectors since

countries that depend on agricultural imports to feed their citizens risk starvation in the event of

war. Governments also place restrictions on the export of defense-related goods, especially if

such exports pose threats to international security.

The government can also restrict trade in response to apparent unfair trade practices by

other nations. In situations where there is a feeling that their governments give certain industries

an unfair advantage through subsidies or reduced restrictions, unilateral reduction in restrictions

can be applied. For instance, Fertö and Hubbard (2003) show that, compared to industrialized

countries, developing countries have significantly relaxed environmental laws, reducing the costs

of operation (p. 245). Governments are often inclined to introduce trade restrictions especially in

the face of restrictions by other countries.

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States can also use trade restrictions to gain influence over other nations, especially the

economically less developed. For instance, the China Uses trade interventions to increase its

influence in Africa. The idea here is for an economically stronger country to use its position to

influence less developed countries, which ultimately offer a market for its products.

Economic Motives: Besides the political reasons for governments’ intervention in trade,

arguments are often fronted on the economic foundations for intervention. Some of the

arguments from the economic perspective include the protection of infant industries and

pursuance of strategic trade policy. The case for the protection of infant industries is often made

so that young industries are protected by the government until they become self-sustaining

(Silva, Afonso & Africano, 2010, p. 369). However, it is not only infant industries that seek

protection. According to Melitz (2003), some mature industries insist that they are protected to

enable them to adapt to new business environments and conditions (p.1696). Nevertheless, the

idea of protecting companies seems to go against the spirit of healthy competition that allows

only the most successful businesses to be sustained. This presents problems to the government

seeking to intervene on trade based on the argument of the infant industry. The first challenge

would concern how to pick winners and reject losers. The idea also leaves room for people

within the echelons of power to use that power to initiate protection for their companies. Besides,

protection has the potential of encouraging complacency by domestic companies towards

innovation and can limit company competitiveness.

Regarding the pursuance of strategic trade policy, government intervention can enable a

company to enjoy the first-mover advantages and the subsequent economies of scale. The

concept of first-mover advantage can be described as a type of competitive advantage that

accompany attains by being the first entrant into an industry or a market (Fertö & Hubbard,

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2003, p. 251). The understanding here is that, by being the first competitor in a new market, the

firm can gain an advantage over its actual and future rivals. This idea applies whether a company

is seeking to develop new demographic markets or sections of existent markets, or whether it is

looking to introduce new products into its already existent market segments. When a business is

the first to enter a market, it can form a defensible ground, allowing it to capture the large

sections of the market share quickly without being concerns about rivals competing for the same

market. Also, by the time the competitors arrive, the first-mover is likely to have advantages in

the competition because its products will have gained familiarity, besides other factors like brand

loyalty established distribution systems. For instance, being a first-mover in soda production,

Coca-Cola was able to develop its brand and build a reputable force in the beverage industry.

The biggest problem with the strategic trade policy is that government support is often subject to

political manipulation, and certain interest groups can usurp gains with no benefit to the

consumer.

Cultural Motives: Cultures are created and modified through interactions. Consequently,

the exposure of citizens of a country to other people and products from other nations can

gradually alter the culture of a country. In this line of thought, the undesirable cultural influence

caused by interaction with certain products can cause the government to block imports. The

United State, for instance, is often perceived as a threat to national cultures due to its influential

entertainment, consumer goods, and media.

Methods of Promoting Trade

Other than specialization and increased business potential, international trade has been

linked to greater efficiency and greater opportunity for foreign direct investment. As described

by Wang et al. (2012), foreign direct investment implies the amount of money invested by

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individuals and corporations in business as well as in research and development (p. 627). By

attracting foreign direct investment, economies can grow in their level of competitiveness and

production efficiency. For the receiving government, foreign direct investment is a way through

which expertise and foreign exchange can enter the country, further stimulating economic

growth. Given the importance of international trade to governments as well as consumers,

various states adopt steps such as subsidies, export financing, foreign trade zones, and individual

government agencies to encourage international trade.

Subsidies: For our purposes, a grant can be defined as financial assistance to domestic

companies in the form of low-interest loans, cash payments, product price supports, or tax

breaks. The primary intention of applying subsidies is to increase the advantage of the local

companies and compete favorably with international firms. According to the World Trade Report

(2006), export subsidies generate incentives for producers to supply products for export rather

than for domestic use within a country (p. 56). This can be a drawback since the withdrawal of

supply from the local market can lead to increases in the local price of the products.

Simultaneously, due to increase in supply to the world market world prices of the product is

likely to fall. If the re-importation of products from the world market into the domestic market is

prevented, the result is a wedge between the world price and the local price. All the same, the

impact of export subsidies on the domestic country is contrary, with local consumers having to

pay higher for a product that they are prevented from sourcing from the world market as a lower

price.

Export Financing: In export financing governments promote exports by assisting

companies to finance their trade activities through loans as well as loan guarantees. Since

funding is crucial, especially for entrants into the export business, the philosophy informing

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export financing is that by offering loans that would have otherwise been accessible of loans at

reduced rates, the government can encourage export business, and enhance the competitive edge

of the company. In the United States, for instance, export financing is offered by Export-Import

Bank.

Foreign Trade Zones: A foreign trade zone is an area where goods can be landed,

handled, reconfigured or manufactured, and even re-exported without going through customs

authorities. The goods only become subject to the prevailing customs duties when they are

moved to consumers in the country within which the zone is located. Organized in areas with

various geographical advantages for international trade such as Singapore, Stockholm, Hong

Kong, and Gdańsk, the primary purpose of the foreign trade zone is to eliminate seaport, border,

and airport barriers to trade, often associated with complex customs regulations and high tariffs.

Lowering customs facilitates international trade since customs duties elevate the cost of

production as well as the time it takes for the products to reach the market. In the United States,

for instance, the lowered customs duties are balanced by the created jobs.

Special Government Agencies: As a way of encouraging international trade, various

governments create agencies charged with the promotion of exports. The agencies organize trips

for business persons and trade officials to visit other nations and institute trade offices in other

countries. These organizations, such as the Japan External Trade Organization not only promote

exports but also occasionally encourage imports.

Trade Unions: Trade unions today play a critical part in moulding the lives of workers,

though their influence has considerably diminished over the recent past. The union is often

mandated to negotiate conditions and contracts with employers on behalf of the employee.

Though the roles of trade unions are numerous, some being more prominent than others, the

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trade unions core functions can be summarized as social, militant, regulative, and fraternal. In

this regards, the militant function implies the struggle that is likely to occur as the union tries to

get employers to increase worker remuneration or to address the grievances presented by

employees. The main issue addressed here is whether the perceptible incompatibility between

industrial relations and employees can be resolved. Resolution of the conflict between trade

unions and employers is only possible given the assumption that both parties share the objectives

of employee development, fairness, and equity.

Unions need to acknowledge that collective bargaining may require some redesigning to

include a lesser component increasing pay than in the past, and should push for involvement in

skill-based and flexible elements of pay. Industrial relations remain the principal way of

maintaining industrial order and should focus on approaches to avoiding and resolving disputes

and conflicts.

Methods of Restricting Trade

Most governments restrict international trade to protect domestic companies from

external competition, mostly from multinationals. One such method of restriction is through

tariffs. Tariffs are taxes levied on imported products as they enter or leave the country. Tariffs

can be categorized as import, transit and export. Import duties are further subcategorized into ad

valorem, specific, and compound. An ad valorem tax is levied as a percentage of the cost of the

imported good while specific tariff is levied according to each unit (by weight or number). On

the other hand, the compound tax is levied as a percentage of the stated price of the imported

product, and partly as a specific fee for each unit. According to Wild and Wild (2013), besides

protecting local producers and employees from foreign competition, tariffs perform the function

of raising revenue for the government (p. 232). Though domestic producers gain from import

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duties as they are shielded from foreign competition, this protection comes at a cost to the

consumer. The consumers often have to pay more for some imported goods. Also, though the

producers benefit from the lowered foreign competition, the lack of competitiveness may lead to

laxity and reduced overall efficiency.

Quotas and Voluntary Export Restraints (VER): Quotas and Voluntary Export

Restraints (VER) are restrictions directed towards the quantity of certain goods that can be

imported into a country (Wild & Wild, 2013, p. 143). The quota limitation is usually imposed by

allotting import licenses to a group of firms or individuals. The reason for issuance of allowances

is to protect domestic producers by limiting the entry of certain goods into the country. This

limitation enables local producers to maintain a considerable market share in to offer decent

prices for their products within the country. Like in tariffs, the gain by producers comes at a cost

to consumers, who have to contend with high prices caused by impeded competition. A VER, on

the other hand, is a unique type of quota imposed by the exporting country upon the request of

the government of the importing country. If the domestic producers do not limit production,

consumers gain because of lowered prices from the increased supply. Other measures that can be

applied by governments to restrict trade include embargoes, content requirements, administrative

delays and even currency controls. Ultimately, the reasoning behind restrictions is to protect

local companies from foreign competition and to ensure that the economic interests of the

country are not ignored during the international trade.

Conclusion

Despite the theoretical benefits associated with international trade, governments are not

always eager to openly welcome free trade at the expense of domestic businesses. This paper

examined the reasons behind the government interventions to protect some of their local

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industries and the methods they use to offer such protection. Though it is evident from the

analysis that many of the strategies like tariffs, the quota system, and subsidies appear to support

domestic producers, this support often comes at a cost to the consumer, who often has to pay

more for goods. Measures must be put in place to ensure that even in protecting the domestic

companies, healthy competition that is important for production efficiency and reasonable

pricing of products is not compromised.

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References

Chaney, T. (2008). Distorted gravity: the intensive and extensive margins of international trade.

American Economic Review, 98(4), 1707-21.

Girma, S., Görg, H., & Wagner, J. (2009). Subsidies and exports in Germany, evidence from

enterprise panel data. Applied Economics Quarterly, 55 (3), 175-195.

Martincus, C. & Carballo, J., (2008). Is export promotion effective in developing countries?

Firm-level evidence on the intensive and the extensive margins of exports. Journal of

International Economics, 76, 89-106.

Wang, C., Hong, J., Kafouros, M., & Wright, M. (2012). Exploring the role of government

involvement in outward FDI from emerging economies. Journal of International

Business Studies, 43(2012), 655-676.

Wild, J., & Wild, K. (2013). International business: The challenges of globalization. Upper

Saddle River, NJ: Pearson Education, Limited.

World Trade Report. (2006). Exploring the links between subsidies, trade and the WTO. World

Trade Organization

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