CH 6

International trading system

Key concepts:
-How and why do governments intervene in international trade?
-What types of trade barriers exist?
-How should firms respond to government intervention?
In 2019…the total value of world merchandise exports was $18.9 million, and the total value of
commercial exports was $6.1 trillion.

Importance of international trade

-In a world without trade barriers, trade patterns are determined by the relative
productivity of different factors of production in other countries.
-Countries will specialize in products they can make most efficiently while importing
products they can produce less efficiently

Free trade: governments do not attempt to interfere I international trade by restricting what
imports or exports can move between a country’s borders.
- the political reality is that while many nations are committed to free trade, they tend to
intervene in international trade to protect the agendas of important political groups

When governments intervene, they often restrict imports of goods and services while adopting
policies that promote exports of goods and services from their nation.
Usually, their motives are to protect domestic producers and jobs from foreign competition
while increasing market for the products of domestic producers.

Instruments of trade policy:

Þ tariffs
o specific tariffs, fixed charge of $/unit
§ ex. Tarif=$3/oil
o valorem tariffs, proportion of the value of imported goods (%)
§ ex. Tariff= 35% of cars imported from Japan
o export tariffs, a tariff placed on the export of a good
 § ex. Exporting DRAMs has a 30% tariff.
Þ subsidies
o a government payment to a domestic producer lower production cost and
allowing domestic firms to compete against imports and gain export
markets.
§ cash grant
§ low-interest loans
§ tax breaks
§ government equity participation
· agriculture is one of the economic sectors where subsidies are
most extensively used.
o allowing inefficient farmers to stay in business.
o encourage overproduction.
o encourage the production of products that could be
grown more efficiently elsewhere.
o reduce international trade in agriculture products.
Þ import quotas.
o a direct restriction on the number of goods imported into a country.
§ tariff rate quota, a hybrid of a quota and a tariff,
· ex. For the first 1 million tons of rice imported into south
Korea, there is a tariff rate of 10%. If imports of 1 million tons
are exceeded, the tariff rate rises to 80%
§ voluntary export restraints, a restriction of the number of imports,
usually imposed by the exporting country at the request of the
importing country.
· ex. If Japan agrees to limit car exports to Canada to 1 million
cars per year, Japan may avoid Canada alternatively imposing
a high tariff on each Japanese car model imported into
Canada.
Þ local content requirements
o demands that a specific proportion of the goods be produced domestically.
§ physical terms, ex. 75% of parts must be produced locally.
 § value terms, ex, 40% of the value of the final product must be
produced locally.
· ex. Buy America Act: specific that government agencies must
give preference for American products when enacting
contracts for equipment.
Þ administrate policies.
o may limit imports through inefficient or purposefully complex bureaucratic
rules, known as ‘red tape.’
§ ex. importing tulip bulbs from the Netherlands into Japan. Japanese
customs inspectors checked every tulip bulb by cutting it in half,
rendering it useless.
Þ antidumping policies
o dumping: the selling of goods in a foreign market below the cost of domestic
production or ‘fair’ market value
§ In Canada, if a domestic producer believes that a foreign firm is
dumping production in a local market, it can file a petition with the
Canada Border Services Agency (CBSA), and they may investigate it.
If appropriate, the CBSA will initiate a tax on the imported item.
· Ex. For instance, there was a suspicion that women's leather
boots were being shipped into Canada from China at very
low prices, creating an unfair competitive situation for
Canadian boot manufacturers. The CBSA investigated
Chinese manufacturers who did not cooperate, leading to a
72% tariff on imported boots from China.
Non-tariff barrier to trade
1. Technical barriers:
a. Size
i. Ex. Container sizes in
Canada must be specific to the
food in the Safe Food for Canadian Regulations.
b. Packaging
 i. Ex. Packing requirements in
Canada must follow the
Consumer Packaging and Labelling Act.
c. Performance
i. Ex. Performance grades for
windows, doors, and
skylights are selected according to the CSA
A440S1 in
the Ontario Building Code.
d. Labelling
i. Ex. In Canada, the labelling
must be in English and
French according to the Safe Food for Canadian
Regulations.
2. Sanitary standards:
a. Food safety
i. Ex. In Canada, the Canadian Food Inspection
Agency enforces food safety and nutritional quality
standards imposed by Health Canada. health of
animals and plants
ii. Ex. In 1989, the European Union banned the
imports of beef containing artificial growth hormones,
commonly used in the United States of America.
Economic Arguments for Intervention
1. Infant industry argument:
New manufacturing industries cannot initially compete with well-established industries
in developed countries.
To allow domestic firms first to get a foothold, the argument is that governments
should temporarily protect and support them with trade instruments like tariffs,
import quotas and subsidies.
When domestic firms have grown strong enough to compete internationally, the trade
barriers will be removed for foreign competition.
2. Strategic trade policy argument:
 Governments may intervene to raise national income.
-Ex. Governments may support domestic firms in gaining first-mover
advantages abroad.
Governments may also intervene in an industry if it helps domestic firms overcome first
mover advantages already reaped by foreign firms.
-Ex. In 1996, Airbus had less than 5% of the global market share. However, by 2007, it
increased its market share to 45% thanks to Great Britain, France, Germany, and Spain
subsidies.

Political Arguments for Intervention

1. Protecting domestic jobs and industries.

a. ➢Ex. Providing subsidies to Ontario dairy producers.
2. National security.
a. ➢ Ex. Restricting imports of military equipment or key infrastructure
components from non-ally countries.
3. Retaliation against other countries.
a. ➢ Ex. Placing a tariff on an import from a foreign country in response to
a tariff initially placed by that foreign country.
4. Protecting consumers.
a. ➢ Ex. Safety regulations or a ban on products deemed unsafe by federal
agencies.
5. Furthering foreign policy objectives.
a. ➢ Ex. A trade sanction on North Korea and Russia to promote
Canadian foreign policy objectives.
6. Protecting human rights.
a. ➢ Ex. Limiting trade with a country with a government committing
crimes against humanity, such as genocide
How Should Firms Respond to Government Intervention?
1. Research to gather knowledge and intelligence:
a. ➢Understand trade and investment barriers abroad. Firms must
investigate the business environment to identify the nature of
government intervention before conducting business abroad.
 2. Lobby for free trade and investment:
a. ➢Increasingly, nations are liberalizing markets to create jobs and
increase tax
revenues. Firms may choose to lobby to decrease trade barriers.
3. Seek favourable customs classifications for exported products:
a. ➢Reduce exposure to trade barriers by ensuring that products
are correctly
classified.
4. Choose the most appropriate entry strategies:
a. ➢Most firms choose to export as their initial strategy. However,
if high tariffs are present, other strategies, such as licensing, foreign direct
investment (FDI) or joint ventures (JVs), should be considered. These
strategies may allow domestic firms to produce directly in foreign
markets.
5. Take advantage of investment incentives and other government support
programs:
a. ➢There are diverse international incentive programs that allow
firms to
enter a foreign country for various reasons. For example, the United
States may allow Japanese automakers to construct a plant in America
with reduced corporate tax rates in exchange for employing Americans.
6. Take advantage of foreign trade zones (FTZ):
a. ➢FTZs are areas where imports receive preferential tariffs to
stimulate
local economic development
Factor Endowments

Factor endowments/ Factor conditions

Basic factor endowments:
➢ natural resources, climate, location, unskilled labour, demographics and the size of
the local population.
Advanced factor endowments:
 ➢ skilled labour, infrastructure, a strong technology and knowledge base, specialized
and/or highly developed industries, government support.

A nation’s position in factors of production necessary to compete in each industry.

✓ Can lead to a competitive advantage.
✓ Can either be basic or advanced.