The Positives and Negatives of Protectionism
Protectionist trade policies are on the rise, especially in the US and, to a lesser extent, in the EU. Proponents say that protectionism is warranted due to dumping practices by China and national security concerns regarding foreign control of strategically important industries.
Critics contend that many protectionist measures ultimately harm national economies by removing the incentive for companies to become more efficient and by artificially increasing consumer prices.
But before we can debate the benefits and drawbacks of protectionism, we need to know what protectionism is and how it works.
WHAT IS PROTECTIONISM?
Protectionism is the national trade policy of restricting imports in order to protect domestic industries and jobs from foreign competition. Protectionist trade policies can be a response to unfair trade practices by other countries, such as flooding international markets with goods below cost (dumping) and manipulating their currency to make their exports cheaper than competitors.
In other instances, broad protectionist measures may be implemented to shield a nation’s older, less efficient industries from modern competitors from multiple countries. These broad-based policies are commonly aimed at protecting heavy industries such as the automotive and steel-making sectors.
Protectionism vs Sanctions
While protectionism is a defensive economic policy, sanctions are punitive political measures.
Protectionism is meant to protect domestic industries and jobs. Examples include import restrictions the US imposed on Japanese cars in the 1980s and EU trade restrictions on food to protect domestic farming interests.
Sanctions are meant to punish other nations for violating international norms, even if they cause hardship for the domestic economy. Examples of international sanctions include the bans in the US and EU on importing Iranian oil due to its uranium enrichment program and support for terrorist organizations.
COMMON PROTECTIONIST POLICIES
Tariffs
Tariffs and import duties are taxes levied on specific imported goods. This makes them more expensive to import, increasing demand for domestic goods that are now comparatively cheaper. Tariffs do not directly affect the foreign producers of these goods. It only increases expenses for domestic importers, with the government keeping the money from the tariffs.
Import Quotas
Import quotas artificially limit the amount of specific goods allowed into a country, allowing domestic sources to fill unmet demand at profitable prices. A common method of enforcing import quotas is issuing a limited number of licenses to domestic companies that set limits on the amount of foreign goods they are allowed to import.
Subsidies
Subsidies are direct payments or government-issued low-interest rate loans to domestic producers. This allows them to reduce expenses in order to compete with lower-cost imported goods. The purpose of subsidies, from the government’s point of view, is to save domestic jobs.
Administrative Barriers
Protectionist administrative barriers or bureaucratic procedures are often used as economic disincentives aimed at exporting countries. These can range from complex and costly licensing requirements to lengthy customs procedures and regulatory standards designed to favor domestic producers.
Currency Manipulation
In extreme cases, exporting countries' governments will instruct their central bank to intervene in foreign exchange markets to devalue the currency. This will make exports cheaper.
BENEFITS OF PROTECTIONISM
Protectionism aims to eliminate or reduce the effects of unfavorable foreign trade on domestic industries and jobs.
Infant Industry Protection
Countries with developing industries will use various protectionist measures to allow domestic companies the chance to grow and evolve until they can successfully compete with established foreign companies for market share.
Examples are the post-war South Korean automotive industry and post-WWII electronics industry in Japan. Both industries had to start from scratch and were supported by government subsidies until they became major players in the international market.
Anti-Dumping Legislation
Anti-dumping legislation blocks exports sold at artificially low prices that aim to drive domestic competitors out of business, growing the exporting country’s global market share. Anti-dumping measures are often undertaken by multiple countries against the same target.
Examples include US and EU anti-dumping regulations against Chinese solar cell and aluminum exports.
Job protection
Protectionism aimed at preserving domestic jobs is often open-ended measures where the affected domestic industries are not expected to be able to compete with foreign imports over the long term. The most common of these laws are farm subsidies.
An example of limited job protection laws was the protection afforded the US automotive industry in the 1980s until it could modernize to compete with Japanese carmakers.
National Security
Protectionism on national security grounds doesn’t only involve measures to bolster and support domestic defense industries. It includes restricting foreign ownership of strategic industries and guaranteeing access to essential resources and technology. For developed countries, nation security can mean denying the export of high-tech and defense-oriented material to foreign adversaries.
Examples of national security-related protectionism are blocking the sale of US Steel to a Japanese company and banning the sale of advanced microchips and chip fabricating machinery that can be used for military purposes to China.
NEGATIVES OF PROTECTIONISM
Retaliation
The most obvious drawback to protectionist policies is the inevitable retaliation by the affected parties. When one country limits the imports from another country, the second country will promptly pick a product from the first country to block. This tit for tat retaliation can grow into full-blown trade wars.
Industrial Inefficiency
A domestic industry protected from foreign competition will sometimes sit back and reap the economic benefits of a captive consumer base instead of modernizing to compete on the open market. This results in higher-priced and/or inferior goods being offered in the marketplace.
Higher Consumer Prices
Consumers are forced to pay higher prices for domestic goods when tariffs or trade restrictions raise the prices of imported goods. One example is the US support of the sugar industry. Protectionist measures such as subsidies, price guarantees, and import restrictions mean that Americans pay triple the global average for sugar. This extends to all products made with sugar.
Economic Stagnation
Protectionism can create economic stagnation as higher prices suppress consumer demand, leading to job losses. Without foreign competition, inefficient “zombie” companies are allowed to survive, consuming resources that could go toward improving and growing. Protectionism also disincentivizes technological innovation since domestic companies do not face foreign competition.
THERE ARE NO FREE RIDES
Protectionism offers alluring short-term benefits, and often does make sense, at least temporarily. But as a long-term strategy, protectionism does more harm than good, both to consumers and the nation as a whole.
