1307ps02answers - IS and Econ 13 Winter 2007 Answers to...

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IS and Econ 13 Winter 2007 Answers to Problem Set #2 1. Whereas free trade can in principle make everyone better off, in practice trade restrictions abound throughout the world. State and briefly discuss some of the reasons for the existence of so many trade restrictions. Below are several sets of reasons that help explain the prevalence of trade restrictions. A. Strategic trade policy. Under certain circumstances (for example, when a country is large enough and can influence international prices), it may pay one country to impose restrictions on trade so that it can increase its income and welfare. However, other countries might pursue the same policies so that the overall effect, though possibly worse than free trade for all countries, would be adopted by every country. Such an outcome can be "stable" in the sense that no country could do better by unilaterally remove its trade restrictions. B. Security externality of trade. When there are disputes between countries that necessitate arming to better each country's negotiating position or even to prepare for the eventuality of war, the gains from trade can increase the adversary's ability to arm. That, in turn, would necessitate greater levels of defense expenditures and thus lead to an arms race. Taking into account, then, the greater expenditures of arming and the increased chance of war may make countries keep high level of trade restriction with potential adversaries. C. The infant Industry argument. Though an industry might be inefficient at its inception, with time (through "learning by doing") it could become more efficient, provided it can survive foreign competition. Protecting such an industry from foreign competition could then allow the time to eventually become more efficient and internationally comeptitive. All A to C above imply that a country would be better off as a whole by pursuing some restrictive policies. Below are two reasons for which trade restrictions can be pursued even though the county as a whole would lose in terms of total income. D. Differential distributional effects. Though freer trade can increase the total income of a country, some groups and individuals may be hurt. For example, reduction in the duties of textiles imports tend to hurt U.S. textile workers and textile firms. In the absence of compensation to those groups who are hurt by freer trade, there could not be enough political support for the reduction in trade restrictions. E. Lobbying. Different groups and industries typically lobby for tariffs, quotas, and administrative restrictions on the imports of competing goods. For example, the U.S. automobile industry lobbied in the later 80s for such measures that eventually led to "voluntary export restraints" ("voluntary" quota) on the part of Japanese automobile manufacturers that lasted for a few years. Industries and groups can also lobby for export subsidies or favorable credit to finance exports and for numerable other creative ways of trade protection. 2
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This note was uploaded on 02/20/2009 for the course ECON 62020 taught by Professor Skaperdas during the Winter '09 term at UC Irvine.

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1307ps02answers - IS and Econ 13 Winter 2007 Answers to...

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