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Trade Protection: Reasons, Types, Advantages and

Disadvantages
Updated on September 22, 2020 · By Ahmad Nasrudin
Tag: Trade Protection (https://penpoin.com/tag/trade-protection/), Trade Restriction
(https://penpoin.com/tag/trade-restriction/)

What’s it: Trade protection is a government policy to limit the flow of exports and imports of
goods and services. Protection takes various forms, such as import tariffs
(https://penpoin.com/import-tariff/), subsidies, quotas, labeling, product safety, and health
requirements. The aim is to protect the domestic economy’s interests, such as protecting
local producers from import competition.
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Protectionism is the enemy of free trade. Critics say such a policy would only result in an
inefficient allocation of resources at the global level. It may benefit one party, but costs to the
other. Instead of supporting domestic economic development
(https://penpoin.com/economic-development/), protection resulted in a less competitive
industry because it depended on government support.

Trade protection reasons

—
Even though many oppose it, countries in the world still practice it. Their motives range from
protecting the domestic economy to retaliating for similar practices in other countries.

Next, I will try to detail the reasons why a country imposes trade protection.

Prevent unfair competition

Trade protection can be a form of retaliation against partner countries. Producers in partner
countries may adopt anti-competitive practices such as dumping.
Dumping is a practice whereby their producers export at a lower price than their domestic
market price. Because they are cheaper than they should be, domestic companies have to
face unfair competition from imported goods. To prevent harmful effects, the government
implements protection by imposing anti-dumping rates.

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In this case, protection is a form of self-defense rather than attacking partner countries.

Save domestic jobs

Increased imports reduce opportunities for domestic job creation. The import increases
supply and raises pressure on domestic producers.

Domestic buyers may prefer imported products to local products. Imported products are
cheaper because of the economies of scale (https://penpoin.com/economies-of-scale/) of the
producers. Also, they may offer more exciting features.

As a result, domestic companies are unable to compete, and their position is threatened.
Some may be closed, while others are still operating but under pressure. That, in turn,
reduces labor absorption.
Conversely, low imports should create more jobs for domestic workers. When imports are
low, domestic producers increase their output to meet increasing demand from consumers.
They invest in capital goods and recruit new workers.

Save the environment and consumers.

Imported products may fail to meet product safety requirements. It poses serious harm to
both the environment and the health of consumers. In this case, protection helps to limit the
damage caused by high imports.

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Domestic producers may demand fair treatment between domestic products and imported
products. If they have to follow these standards, then foreign producers must meet them too.
They then lobbied the government to apply the same standards.

Protect emerging industries

This is what we often call the infant industry argument (https://penpoin.com/infant-industry-
argument/). The infant industry is an industry that is just growing and requires a friendly
environment to thrive.
The government protects the industry for several reasons. They are strategic for national
interest because they create many jobs and contribute significantly to national security, such
as the technology industry. Or, they have a long production chain, so growing them will grow
other industries.

The infant industry is vulnerable to competitive pressures for imported products. For this
reason, the government tries to support it through protection. Governments may reduce
protection when the industry becomes globally competitive.

Protect mature and strategic industries

Protection is not only for new industries but also for those that have reached a mature stage.
They are strategic because they absorb a lot of labor and have a long production chain.

The United States has implemented such protection. In the 1980s, it imposed import
restrictions (https://scholarworks.umass.edu/cgi/viewcontent.cgi?
article=1052&context=econ_workingpaper) on Japanese auto products to protect its
domestic industry.

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The government may impose strict protections. I mean, the goal is to make sure the industry
stays alive. The government may also impose loose protection, which allows the industry to
decline slowly to avoid a shock effect on the unemployment rate.

Types of trade protection

—
Trade protection takes many forms. The following is the list:

Import tariffs

Quota

Subsidy

Currency devaluation

License

Voluntary export restraints

Import tariffs
Import tariffs are taxes on imported goods’ prices. The government may impose a tariff as a
percentage (ad-valorem tariff) or a fixed nominal (specific tariff), for example, $ 100 per
tonne.

Tariffs directly increase the price of imported goods when they enter the domestic market. As
prices go up, it is less attractive to domestic buyers. The government expects they will switch
to domestic products.

Import quota
Import quotas limit the quantity of imported products entering the domestic market. A
decrease in import quotas directly reduces supply on the domestic market. As a result,
domestic prices tend to rise.
The effect of the price increase would have been minimal if domestic producers could
increase output by the quantity lost by quotas.

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The reduced supply of imports reduces competitive pressures on the domestic market.
Domestic producers should take the opportunity to increase production and sales.

Subsidy
Subsidies help reduce production costs and selling prices. Thus, when they sell products
abroad, the price will be more competitive.

Subsidies can take forms such as tax breaks, soft loans, selling price subsidies, or direct
payments.

Subsidies are essential for countries that rely on exports. The most common example is
agricultural subsidies.

Subsidies work better than tariffs because of reducing production costs. Producers can
increase their exports and production. That will ultimately create more jobs and income for
the domestic economy.
During the implementation of policies, the government should encourage producers to
increase efficiency through economies of scale or automation. That way, unit costs slowly
fall. When they are more competitive, the government then reduces subsidies.

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However, unlike tariffs, subsidies increase government spending. Since most of the
government’s revenue comes from taxes, the taxpayers actually contribute to the subsidies,
not the government.

Currency devaluation
Devaluation is a deliberate attempt by a country to reduce its currency exchange rate
against other currencies. In other words, it is a purposeful depreciation.

Typically, this policy is adopted by countries with a system of fixed exchange rates. If the
exchange rate floats freely, devaluation is futile because the exchange rate moves according
to supply and demand in the market.

Devaluation is a powerful way to boost exports as well as reduce imports. Currency

devaluation makes imported goods more expensive for domestic buyers.
On the contrary, it makes the prices of domestic goods cheaper when they enter the
international market. Therefore, they are becoming more competitive, driving demand by
overseas buyers. As a result, exports increase.

However, devaluations are susceptible to retaliation from aggrieved countries. If the

retaliation gets more intense, it leads to a currency war.

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License
To send goods from abroad, the government issues an import license. To reduce imports,
the government can tighten licensing.

Furthermore, the license also applies to exports. When tightening the granting of export
licenses, the government tries to limit the outflow of domestic goods. The aim is to avoid
shortage and price hikes in the domestic market.
Voluntary Export Restraints
Voluntary export restraints (VERs) work in reverse with import quotas. Under conventional
quotas, the importing country issues the policy. In contrast, under VERs, the exporting
country takes the policy.

Exporting countries are willing to restrict goods, leaving their country for several reasons.
They may avoid retaliation from partner countries. Or, it is a deal for another lucrative trade
agreement. For example, a partner country reduces its tariff if the exporting country is willing
to impose VERs.

Trade protection pros and cons

—
In general, the advantages of trade protection are reflected in the motives I have discussed
above. When a country tries to grow strong in a new industry, protection will reduce
competition pressure. It provides opportunities for companies in new industries to build a
competitive advantage.

Trade protection offers more growth, employment (https://penpoin.com/employment/), and

income opportunities for the domestic economy. Imports reduce such benefits because
production is outside the country. When import pressure is lower, domestic producers should
increase their production and competitiveness. That will ultimately create more jobs and
income for domestic households. An increase in income encourages consumption and
encourages higher economic growth.

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But critics argue that trade protection will only benefit one party but harm the other. That
leads to inefficiency in resource allocation

Protection is detrimental to domestic consumers. They have to bear a higher price. Also,
they have fewer choices. Some imported products may offer features that they cannot get
from domestic products.

Also, protection makes domestic producers lazy. They become very dependent on
government policies to support their competitiveness in the international market.

A decrease in the intensity of competition also has the potential to weaken the domestic
industry. Without competition, there is no incentive to be more innovative and more efficient.

Finally, protectionism triggers strong retaliation from partner countries. That can lead to a
trade war, which can damage the economy. Not only the countries involved, but it also
harms other countries. The most recent example is the trade war between China and the
United States, driving the global economy into uncertainty.

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