Archive for the 'Protectionism' Category

Nov 17 2014

Current Account Balance analysis and questions

The table below shows the trade balances for the nations from which my year two IB Economics student come. They are ranked in order from the country whose trade deficit makes up the largest percentage of its GDP  to the country whose trade surplus makes up the largest percentage of its GDP. The blue bars represent the value of the deficit or surplus of each nation. As can be seen, Zimbabwe’s trade deficit is very small in dollar terms, but since its economy is also very small this deficit makes up a large percentage of its total GDP. Click on the image to visit an interactive version of the chart on which you can study the data more closely. Then answer the questions that follow.
chart_2
Discussion Questions:

  1. Identify and define the four components of a nation’s current account balance.
  2. According to the data, which three countries are the most import dependent? Which three countries are the most export dependent? Which country has the most balance trade in goods and services? Which has the most imbalanced trade?
  3. For one of deficit countries above, answer the following two questions:
    1. Assuming its currencies’ exchange rates is floating, explain how persistent current account deficits will affect a country’s exchange rate over time?
    2. Summarize and explain the likely effects of a current account deficit on the following: a) the financial account balance, b) domestic interest rates, and c) national debt.
  4. For one of the surplus countries above, answer the following two questions:
    1. Assuming its currencies’ exchange rates is floating, explain how persistent current account surpluses will affect a country’s exchange rate over time?
    2. Summarize and explain the likely effects of a current account surplus on the following: a) domestic savings rates, b) the financial account balance.
  5. What are the various methods a country can take to reduce a current account deficit? What is the benefit of having a balanced current account as opposed to a large deficit or surplus?

No responses yet

Dec 04 2013

Planet Money’s t-shirt, comparative advantage and protectionism. A lesson in International Trade

A while back the team behind my favorite podcast, Planet Money, decided to make a t-shirt. In the process, they would tell the whole story of how a t-shirt is made in our global economy. They would track the production of the shirt from the fields where the cotton was grown to the plant where it was spun into thread to the factory where the cloth was cut and stitched into a finished t-shirt.

To finance the story, the Planet Money team undertook a Kickstarter crowd-financing campaign, hoping to get 4,000 listeners like myself to contribute $25 each to help pay for the production of the shirt and the reporting of said production. In the end, over 25,000 listeners supported the campaign, raising nearly $600,000 for the team to pursue its dream of making and telling the whole story behind it!

Along the way they’ve told many great stories about the people and resources that have gone into their shirt, and just this week they released an interactive documentary about the whole project, start to finish. On Sunday evening, after experiencing the documentary, I was inspire to create a lesson for my year 2 IB Economics students, who happen to be studying International Trade (section 3 of the IB course), at this very moment. Below is that lesson, which they are working on this week.

Introduction: The purpose of this activity is to reflect on the principle of comparative advantage and better understand how the patterns of global trade are shaped by this fundamental concept. You will watch and read the story of a t-shirt that was manufactured using resources from four separate countries. Next, you will respond to an essay prompt. Your answer will be graded as a minor assessment.

Steps:

  1. Read the page that tells the backstory to the Planet Money t-shirt project.
  2. Watch the five part documentary as a class
  3. Read the stories behind the t-shirt’s different stages of production:

Respond to the essay prompt below. (You may begin working on your response while reading the pages above). Your response is due at the beginning of next class and will be graded as a “minor assessment”.

Essay prompt:

A comparative advantage exists when a particular task can be done or a good can be produced at a lower opportunity cost by one nation than by a potential trading partner. When countries specialize in the goods for which they have a comparative advantage, the allocation of resources (land, labor and capital) between nations is more efficient, allowing for a greater level of overall production and income than what is possible without trade.

Carefully explain how the the story of the production of the Planet Money t-shirt demonstrates the principle of comparative advantage. (450 words maximum)

Bonus readingProtectionism and the Planet Money t-shirt

In the above post on the Planet Money blog (made December 2), we learn about the impact that tariffs had on the production of the Planet Money t-shirt.

As you saw in the documentary, the men’s shirt was made in Bangladesh, while the women’s was made in Columbia. We also learned that the Columbian textile worker earn about 3 times as much as the Bangladeshi workers. Why, you may ask, didn’t the ladies’ shirts get made in Bangladesh too? The answer has to do with two “P’s”: productivity and protectionism.

First productivity: According to this podcast, from a week ago, in the Bangladeshi factory where the men’s t-shirt was made, 32 workers on an assembly line would produce 80 t-shirts per hour. In Columbia, on the other hand, 8 workers could produce 140 t-shirts per hour. A simple calculation reveals that the productivity, measured in t-shirts per hour per worker, in the two countries is:

  • Bangladesh: 80/32 = 2.5 t-shirts per hour per worker
  • Columbia: 140/8 = 17.5 t-shirts per hour per worker

The Columbian workers, despite being paid three times the monthly wage that Bangladeshis are making, are 7 times more productive. What accounts for this productivity? Generally, increased productivity is the result of the integration of better or more technology and better training or education among workers. In a low-skilled manufacturing industry like garments, the greater productivity is almost certainly due to greater access to technology in Columbia than in Bangladesh.

On to the second “P”, protectionism: According to this post, due to Columbia’s free trade agreement with the United States, textiles, and most other goods, can be imported into the US “duty-free”, meaning there are no tariffs (import taxes) imposed on Columbian produced goods. This compares to textiles from Bangladesh, on which a 16% tariff is imposed, adding significantly to the cost of producing goods there.

So, let’s put all this together and weigh the advantages and disadvantages of producing t-shirts in the two countries:

In Bangladesh:

  • Advantages: Low wages
  • Disadvantages: Low productivity and a 16% tariff

In Columbia:

  • Advantages: High productivity and “duty-free” imports
  • Disadvantages: High wages

Ironically, while Columbia enjoys certain advantages as a trade partner with the US with high productivity, it appears that the garment industry is slowly disappearing there, as economic development and growth drives up the wage rate further, leading to the country losing its comparative advantage in textile production. Even duty-free status with the US may not allow Columbia to continue to produce t-shirts in the future, as the lower wages of even less developed countries like Cambodia, Laos and yes, even Bangladesh, are too tempting for the garment industry to resist.

3 responses so far

Apr 30 2013

The winners and losers of protectionism – the US sugar industry

Episode 454: The Lollipop War : Planet Money : NPR

This episode of my favorite podcast, Planet Money provides a great overview of the effects of the US government’s long-time protectiono f the sugar industry on various stakeholders.

When teaching the effects of protectionism, I urge students to evaluate its effects on both consumers and producers. Often, however, students generalize this analysis, and make broad statements like “consumer will pay higher prices for the good”, without clarifying who, exactly, the consumers of the protected good are. In the case of agricultural commodities, the “consumer” is typically not a private individual who buys the product at a store, rather, it’s the producers of process foods that use the commodities as inputs into their products which then are sold to consumers.

This is all to say that there is more than just a loss of “consumer surplus” in the market for a protected agricultural commodity. Rather, the effects can be far more serious, as the producers of hte consumer goods that use the commodity as an input may be forced to shut down their domestic production and move overseas. This is the story told in the podcast, as the maker of the candy dum dums has moved its plants to Mexico to take advantage not of lower wages or less regulation, rather the cheaper sugar that can be acquired there.

Listen to the podcast, and respond to the discussion questions that follow:

Discussion Questions:

  1. What method does the US government use to protect domestic sugar producers?
  2. What are the main economic arguments for continued protection of the US sugar industry?
  3. What are the main arguments for the removal of protection of US sugar producers?

2 responses so far

Feb 21 2013

Obama’s proposed trade deal – Good for America, Good for Europe – so who are the losers?

In his state of the Union address last week, US president Obama shared his plan for a “transatlantic trade and investment partnership”. The proposed agreement would eliminate tariffs and take other steps to promote free trade of goods and services traded between the United States and the 27 European Union nations.

While tariffs on most goods are already very low (rarely higher than 3% according to the Economist)there still exist several non-tariff barriers to trade between world’s two largest economies.  These barriers to trade include policies such as:

  • The “buy American” provision that many US congressmen support for government spending
  • Subsidies to farmers in both the US and the EU
  • Subsidies to the world’s two largest airplane manufacturers, Boeing and Airbuss
  • Protection of “geographically unique brands” such as Champagne and Roquefort cheese (which reduces competition in the US market for these European products)
  • Different standards and regulations in the two economies over health and safety requirements for foreign produced products such as pharmaceuticals and food, vehicles, information flows, and so on.

Truly free trade between nations requires not only the removal of protective tariffs, but also the dismantling of subsidies for domestic producers as well as non-tariff barriers to trade such as strict rules and regulations of imported products.

If the US and Europe succeed in forming a new free trade agreement, the benefits could be substantial for both economies:

Trade in goods and services between the two economic giants amounts to nearly $1 trillion each year, and total bilateral investment between them to nearly $4 trillion. Getting rid of remaining tariffs could raise Europe’s GDP by around 0.4% and America’s by a percentage point. Ditching even half of today’s non-tariff barriers could boost GDP in both places by 3%.

A single TTIP test for new drugs would be a massive boon for pharmaceutical firms. Agreed standards for electric cars would create a vast market, as well as huge demand for accompanying infrastructure. Think how Amazon and Google could gain from looser rules on cross-border flows of information in Europe. And think how Europe’s austerity-blighted economies could gain from more demand from abroad.

The gains from trade are many. However, the arguments against free trade often prevent these benefits for many from being enjoyed to protect the interests of a few. One question to consider when looking at the likely outcome of any new free trade agreement is whether it will lead to trade creation or trade diversion. One nation that may have reason to be concerned about a new trade agreement between the US and the EU is Switzerland, which is not part of the EU. If a new agreement creates new trade and increases the flow of goods and services between the US and the EU, it may be the case that this comes at the cost of of reduced trade between the US, the EU and Switzerland.

The Swiss, not being part of either major economy, would maintain its own rules, regulations tariffs and subsidies that affect trade with the other two economies. It may, therefore, be the victim of increased trade between the other two economies, while trade is diverted away from the Swiss economy as Americans buy more EU-produced goods and Europe buys more American produced goods. If this results, it may put pressure on the Swiss to reduce or remove many of their own trade barriers so as to prevent losing demand from the US and EU.

Discussion Questions:

  1. How do non-tariff barriers to trade such as subsidies and health and safety regulations reduce the flow of goods between nations?
  2. The article mentions that “Europe’s austerity-blighted economies could gain from more demand from abroad.” Interpret this statement. Do you think free trade could provide relief to the debt-ridden countries in the Eurozone?
  3. Why should Switzerland be worried about a new free trade agreement between the US and the Eurozone.

 

No responses yet

Sep 29 2011

Protectionism’s many weaknesses

After our lesson on tariffs and protectionism the other day, one of my year 2 IB Econ students emailed me with a few questions she had not had the chance to ask in class. I thought I’d post my responses here, since they were such good questions!

Question: Hi Mr Welker, I asked this on Monday’s blog about self-sufficiency, but no one answered my question and I have been meaning to ask this in class but I always get distracted and I forget. And perhaps you have already answered this, pardon me if you have.

Since Exports and Investment have a great effect on economic growth, why would a government want to protect its nation by imposing barriers to trade? Because by doing so, foreign firms cannot invest in that nation and potentially create job opportunities and also contribute to that nations GDP since, even though it’s a foreign investment, the revenue is collected by that government.

Answer: Protectionism is not typically aimed at reducing the amount of exports from the nation engaging in it, rather reducing the amount of imports or promoting increased exports. You’re exactly right that exports and investment contribute to aggregate demand (and therefore economic growth and employment) in a nation. But imports are a ‘leakage’ from the nation’s economy, and the greater the level of import spending, the lower a nation’s net exports. A nation with a trade deficit actually experiences negative net exports. The purpose of protectionism is to reduce import spending, or increase export revenues, and thereby increase net exports and aggregate demand and employment in the nation.

As for foreign investment, one of the consequences of a large trade deficit is increased foreign ownership of domestic resources or factors of production. Since a country that imports more than it exports spends more on foreign goods than it earns from the sale of its own goods to foreigners, foreign governments and firms end up with large amounts of that country’s money that is NOT being spent on that country’s goods. Much of this ends up back in the deficit country as foreign investment. Sometimes foreigners will buy government bonds (invest in the deficit country’s debt, in other words), but sometimes the money comes back home as foreigners buying up factories and real estate. Foreign investment may indeed help create jobs at home, but so does domestic investment, and when foreigners invest it means the country’s resources are now owned by interests abroad, which many countries view as a threat to their national and economic security. This can also serve as a justification for protectionism: to prevent foreign ownership of domestic assets.

Question: Also if the country is not exporting, it’s not enjoying the benefits of revenue from exported goods that could boost their economic growth. And anyway, isn’t the point of making money to spend it? Otherwise what is the incentive of being employed and earning an income? Unless of course, one can argue that income earned can then be spent on domestically produced goods.

Again, the purpose of protectionism is not to reduce a country’s exports, rather to reduce its imports and to increase its exports. But you have made a very important observation here that points to a major flaw in the argument for protectionism. The purpose of exporting goods it to make money to spend on imported goods, otherwise, WHY TRADE? A country gains from trade not only because it has a wider market for its own goods, but because the people of the nation have a wider market from which to choose the goods they themselves can consume. When a nation erects barriers to trade, it will ultimately have the effect of reducing not only imports, but possibly the nation’s own exports. Since foreigners earn less money from selling goods to the protected nation, they have less money to spend on that nation’s goods!

All protectionism can hope to do is increase the welfare of particular industries while reducing the welfare of the rest of society. It is rarely justifiable on the grounds that it will increase the total welfare of society as a whole, unless of course the protected industry is one vital to national security, such as the defense sectors or the energy sector (even this one is debatable!)

Question: Or do government spending (through subsidies, and creating job opportunities) and increased consumption due to income gains caused by government intervention overcome these factors and compensate for the lost opportunity of exports and investments.

Increasing government spending to off-set the fall in social welfare resulting from protectionism will only lead to greater inefficiency in society. Government may have to spend more on unemployment benefits for workers whose jobs are lost due to protectionism, which may require higher taxes on those workers whose jobs are being protected. As explained above, one industry’s gain leads to a loss of welfare for society as a whole. This is the problem with protectionism. It favors certain industries but imposes higher prices on consumers and higher costs of production on other industries. It should not be the government’s job to “pick winners and losers” in the global economy. By protecting certain industries, however, government attempts to do just that, but society as a whole loses.

I hope you understand what I am asking for here. Whenever you have time, I would love to hear your perspective.

Maphrida

Great questions, Maphrida!

Discussion Questions:

  1. How might protectionism lead to an increase in aggregate demand and domestic employment?
  2. Why does a large trade deficit lead to a build-up of foreign ownership of domestic factors of production?
  3. Discuss the view that protectionism in the form of tariffs on particular goods helps certain industries but harms the rest of society. Can you imagine an example of a protectionist policy that could increase the welfare of society as a whole?
  4. Explain how a protectionist policy that makes imports more expensive and thus reduces demand for imported goods can ultimately lead to a reduction in demand for the protected country’s exports abroad.

5 responses so far

Next »