Import Protection: Shooting Oneself in the Foot
Of the many instruments of import protection that have existed over the years, the most widely used is the tariff, or import duty. It is a tax levied on a commodity when it enters a country. The U.S. does not use an export duty, although some other countries do. The duty can be a percent of price, called “advalorem,” or a given dollar amount per unit of the commodity, called “specific,” or a combination of the two. There are advantages and disadvantages to each system, and the U.S. uses both, depending on the product.
Either way, the tariff raises the price of import, and induces buyers to switch some purchases from imports to domestic substitutes, thereby providing protection to the domestic industry. For most commodities, the U.S. tariff is low, under five percent, after 60 years of trade liberalization (including tariff reduction) in the industrial countries. But there are industries, especially labor intensive, where the U.S. lacks comparative advantage, in which tariff protection is high. One such industry is textiles.
Who pays the tariff? To the extent that the rise in import prices is shifted over to the buyers, the consumer pays all or most of it, and as the prices of domestic substitutes increase, the consumer pays that too. Finally, to the extent that the protected good is used as material that enters the production of other goods, such as textiles that enter the manufacture of clothing, their prices rise and the buyer pays for that as well. All in all, the burden of protection, or most of it, falls on consumers in the importing country. In addition, the protection results in production inefficiency as resources are shifted to the protected industries, in which the country lacks comparative advantage, from more efficient industries that compete in the international arena without protection. If foreign countries retaliate by levying duty on some American export (which is often the case) the country loses there as well. Remember that millions of American workers are employed in export industries and these were shown to be the most efficient in the economy, paying the highest wages.
Against these losses are the beneficiaries from protection: the protected industry that can raise domestic prices, its suppliers, and the workers in the industry, whether unionized or not. But all studies, both in the U.S. and abroad, show that the costs to the economy far exceed these benefits. By levying a tariff, the country imposes a burden on itself, hence this action is sometimes referred to as, “shooting yourself in the foot.”
So why do countries do that? Why is there an almost constant, often successful, political pressure for protection? The answer lies in comparing the winners and losers. The losses from the tariff are spread over 300 million consumers; each has to pay slightly higher prices often measured in nickels and dimes, and more often than not they are not even aware of the source of the price rise. By comparison, the gains are concentrated in the profit of a few firms that make up the protected industries and the employee’s union that works for them each experiencing significant benefits. It therefore pays the winners to hire professional lobbyists to tilt legislation in their favor. Although they are few in number relative to the losers, their gains are substantial, visible and large enough to influence government policy.
Precisely the reverse situation arises in a period of trade liberalization that characterized the post-war era. There, the gains are spread over 300 million consumers and the losses are concentrated in a few companies and labor unions. This makes it difficult to liberalize trade, especially in the labor intensive industries, in which the U.S. lacks comparative advantage. It is a tribute to the U.S. to have been a leader in a global 60-year movement of trade liberalization in the post-war period.
But the question of winners and losers still needs to be addressed. The same question comes up in conjunction with technological advances; just think of the effect of computer development on the job market of secretary typists. In many cases of public policy measures, the gains to society at large exceed the losses of a minority. In these cases, it is necessary to compensate to losers, and advanced economics usually tries to do just that. In the case of U.S. trade policy, that compensation takes the form of “trade adjustment assistance” legislation. It is a fund set aside to help workers, companies and communities that are adversely impacted by trade liberalization. It includes the retraining and re-education of workers for “jobs of the future,” helping companies divert production to areas of upcoming demand at home and abroad, and helping communities adjust by economic development. Unfortunately, the funding available for this endeavor is not always adequate. In closing, we might note that harmful as it is, there are trade measures with greater negative impact on the economy, to be discussed in next month’s column.