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Chapter 07 – Government Policy and International Trade

Government Policy and International Trade

Learning Objectives

• LO7-1: Identify the policy

instruments used by governments

to influence international trade

flows.

• LO7-2: Understand why

governments sometimes

intervene in international trade.

• LO7-3: Summarize and explain

the arguments against strategic

trade policy.

This chapter focuses on the political systems and

tools of trade policy. The major objective of this

chapter is to describe how political realities shape

the international trading system.

With an introduction to tariffs, subsidies, and the

development of the world trading system, the

chapter describes the evolution of the World Trade

Organization and its impact on the global business

environment.

While in theory many countries adhere to the free

trade ideal outlined in Chapter 5, in practice most

have been reluctant to engage in unrestricted free

trade.

Chapter 07 – Government Policy and International Trade

OUTLINE OF CHAPTER 7: GOVERNMENT POLICY AND

INTERNATIONAL TRADE

Opening Case: American Steel Tariffs

Introduction

Instruments of Trade Policy

Tariffs

Subsidies

Country Focus: Are the Chinese Illegally Subsidizing Auto Exports?

Import Quotas and Voluntary Export Restraints

Export Tariffs and Bans

Local Content Requirements

Administrative Policies

Antidumping Policies

Management Focus: Protecting U.S. Magnesium

Development of the World Trading System

From Smith to the Great Depression

1947–1979: GATT, Trade Liberalization, and Economic Growth

1980–1993: Protectionist Trends

The Uruguay Round and the World Trade Organization

WTO: Experience to Date

The Future of the WTO: Unresolved Issues and the Doha Round

Country Focus: Estimating the Gains from Trade for America

Multilateral and Bilateral Trade Agreements

The World Trading System under Threat

Chapter 07 – Government Policy and International Trade

CLASSROOM DISCUSSION POINT

Ask students whether the United States promotes free trade. Jot their responses on the

board.

Then try to dig a little deeper by asking why, if the United States promotes free trade, it

still maintains some trade barriers. (Have in mind some current trade barriers, such as the

$20 billion in farm subsidies currently provided by the U.S. Department of Agriculture).

Write student responses on the board using the basic arguments for intervention

framework presented in the text.

OPENING CASE: American Steel Tariffs

Summary

The opening case explores the tariffs on American steel imports imposed by Donald

Trump in 2018 with claims that protecting the U.S. steel industry was important to U.S.

national security. Critics worry that these tariffs will result in higher prices for consumers

and higher prices and job losses for companies using steel in their products. Steel

producers have celebrated their newfound profits earned as a result of the tariffs by

expanding capacity. Discussion of the case can begin with the following questions:

QUESTION 1: Donald Trump claims the new tariffs imposed on imported steel are vital

to the United States’ national security. Explain his argument. Do you agree?

ANSWER 1: Donald Trump’s hefty tariffs on imported steel have generated significant

QUESTION 2: Who are the winners and who are the losers from the tariffs imposed in

2018 by Donald Trump on imported steel?

ANSWER 2: Pushback against Donald Trump’s tariffs on imported steel has come from

all sides. One of the biggest critics has been General Motors which has complained that

the tariffs are costing it more than $1 billion a year. Students should recognize that these

QUESTION 3: Consider the long-term implications of policies like the one imposed by

Donald Trump on imported steel. What does it mean for the future competitiveness of

companies that rely on imported steel? What does it mean for employees in those

companies and for consumers?

ANSWER 3: Companies that rely on imported steel have seen their cost of inputs rise 25

percent virtually overnight. For these companies, the tariffs have been devastating.

Students should recognize that some of these companies will eventually go out of

business taking their jobs with them. Other companies may look for alternative strategies

such as moving production to another country, again having a negative effect on jobs in

this country. Some companies may try to wait the situation out, possibly laying off some

employees. These outcomes could be magnified based on the behavior of consumers

Chapter 07 – Government Policy and International Trade

LECTURE OUTLINE

This lecture outline follows the Power Point Presentation (PPT) provided along with this

instructor’s manual. The following provides a brief overview of each Power Point slide

along with teaching tips and additional perspectives.

Slide 7-3 What Is the Political Reality of Free Trade?

Free trade refers to a situation in which a government does not attempt to restrict what

its citizens can buy from another country or what they can sell to another country.

Slides 7-4 ‒ 7-9 Instruments of Trade Policy

The main instruments of trade policy are:

• tariffs

• subsidies

Tariffs

Tariffs are the oldest form of trade policy. The principal objective of most tariffs is to

protect domestic producers and employees against foreign competition. Tariffs also raise

revenue for the government. Domestic producers gain, because tariffs afford them some

protection against foreign competitors by increasing the cost of imported foreign goods.

Consumers lose because they must pay more for certain imports. Tariffs reduce the

overall efficiency of the world economy.

There are two main categories of tariffs: Specific tariffs are levied as a fixed charge for

each unit of a good imported (e.g., $3 per barrel of oil), while ad valorem tariffs are

levied as a proportion of the value of the imported good.

Chapter 07 – Government Policy and International Trade

Import Quotas and Voluntary Export Restraints

Import quotas and voluntary export restraints (VER) are direct restrictions on the

quantity of some good that may be imported into a country. The quota restriction is

usually enforced by issuing import licenses to a group of individuals or firms. A VER is a

quota on trade imposed by the exporting country, typically at the request of the importing

country’s government. A common hybrid of a quota and a tariff is known as a tariff rate

quota. Under a tariff rate quota, a lower tariff rate is applied to imports within the quota

than those over the quota.

From the point of view of a domestic producer of parts going into a final product, local

content regulations provide protection in the same way an import quota does: by limiting

foreign competition. The aggregate economic effects are also the same; domestic

producers benefit, but the restrictions on imports raise the prices of imported components.

Administrative Policies

Governments sometimes use informal or administrative policies to restrict imports and

boost exports. Administrative trade policies are bureaucratic rules that are designed to

make it difficult for imports to enter a country.

Antidumping Policies

Dumping is defined as selling goods in a foreign market at below cost of production or at

below “fair” market value. Antidumping policies are designed to punish foreign firms

that engage in dumping and protect domestic producers from unfair competition. The

Commerce Department may impose an antidumping duty on the offending foreign

imports (called countervailing duties).

Chapter 07 – Government Policy and International Trade

CONNECT

Click and Drag

The Arsenal of Trade Weaponry

Summary

This activity focuses on the various instruments of trade policy used by governments to intervene

in the free flow of goods and services across borders.

Slides 7-10 ‒ 7-14 The Case for Government Intervention

There are two types of arguments for government intervention—political and economic.

Political Arguments for Intervention

Political arguments for government intervention include:

• protecting jobs

• protecting industries deemed important for national security

• retaliating for unfair foreign competition

Government intervention in trade can be used as part of a “get tough” policy to open

foreign markets.

Consumer protection can also be an argument for restricting imports. Since different

countries do have different health and safety standards, what may be acceptable in one

country may be unacceptable in others.

Sometimes, governments use trade policy to support their foreign policy objectives.

Chapter 07 – Government Policy and International Trade

7-8

Governments sometimes use trade policy to create pressure for improving the human

rights policies of trading partners. For years the most obvious example of this was the

annual debate in the United States over whether to grant most favored nation (MFN)

status to China. MFN status allows countries to export goods to the United Status under

favorable terms. Under MFN rules, the average tariff on Chinese goods imported into the

United States is 8 percent. If China’s MFN status were rescinded, tariffs would probably

rise to about 40 percent.

The infant industry argument has been considered a legitimate reason for

protectionism, especially in developing countries. Many economists criticize this

argument: protection of manufacturing from foreign competition does no good unless the

protection helps make the industry efficient. Brazil built up the world’s 10th largest auto

industry behind tariff barriers and quotas. Once those barriers were removed in the late

1980s, however, foreign imports soared and the industry was forced to face up to the fact

that after 30 years of protection, the Brazilian industry was one of the most inefficient in

the world.

CONNECT

Video Case

Did You Know That One of the First Arguments for Protectionist Trade Policies Was Proposed

by Alexander Hamilton In 1792?

Summary

This activity focuses Alexander Hamilton’s argument that tariffs are an effective means of

protecting infant industries until they are better able to compete.

Chapter 07 – Government Policy and International Trade

7-9

Strategic trade policy suggests that government intervention may be justified in an

industry when the world market will profitably support only a few firms because of the

existence of substantial scale economies. Such intervention reduces the competitive effect

of existing first-mover advantages held by foreign companies.

Slides 7-15 – 7-16 The Revised Case for Free Trade

While strategic trade policy identifies conditions where restrictions on trade may provide

economic benefits, there are two problems that may make restrictions inappropriate:

retaliation and politics.

CONNECT

Video Case

Free Trade and Instruments of Trade Policy

Summary

This activity focuses free trade and the gains for America from free trade. Reducing trade barriers

under both the GATT and WTO agreements has benefited the U.S. economy. While there has

been some loss of low-skilled jobs, as a result of lower trade barriers, the economy as a whole is

better off.

Chapter 07 – Government Policy and International Trade

CONNECT

Click and Drag

Why Governments Intervene

Summary

This activity focuses on the rationale for government intervention in trade. Governments

intervene in trade for both political and economic reasons and support the intervention using

various rationale including protecting national security, protecting infant industries, protecting

consumers, protecting the environment, protecting jobs, and protecting the wealth of the nation.

Activity

Students are asked identify arguments for government intervention in trade as being economic or

political in nature.

Slides 7-17 – 7-32 Development of the World Trading System

How has today’s world trade system evolved?

From Smith to the Great Depression

Up until the Great Depression of the 1930s, most countries had some degree of

protectionism. Great Britain, a major trading nation, was one of the strongest supporters

of free trade.

Although the world was already in a depression, in 1930 the United States enacted the

Smoot–Hawley Act, which created significant import tariffs on foreign goods. As other

nations took similar steps and the depression deepened, world trade fell further.

Chapter 07 – Government Policy and International Trade

1980–1993: Protectionist Trends

Calls for protectionism were motivated by three factors:

1. Japan’s success in such industries as automobiles and semiconductors coupled

with the sense that Japanese markets were closed to imports and foreign

investment by administrative trade barriers.

The Uruguay Round and the World Trade Organization

The Uruguay Round wrote the rules governing:

• the protection of intellectual property rights

• the reduction of agricultural subsidies

• the strengthening of GATT’s monitoring and enforcement mechanisms

WTO: Experience to Date

WTO members collectively account for 98 percent of world trade. Since its formation,

the WTO has remained at the forefront of efforts to promote global free trade.

The Doha Round had several initiatives:

Market Access for Nonagricultural Goods and Services. Most developed nations have

brought their tariffs on industrial products to an average of 3.8 percent of value, but much

remains to be done. The WTO goal is to eventually reduce tariffs to zero.

Protectionism in Agriculture. Subsidies introduce significant distortions into the

production of agricultural products. The net effect is to raise prices to consumers, reduce

the volume of agricultural trade, and encourage the overproduction of products that are

heavily subsidized (with the government typically buying up the surplus).

Antidumping Actions. WTO rules allow countries to impose antidumping duties on

foreign goods that are being sold cheaper than at home, or below their cost of production,

when domestic producers can show that they are being harmed.

Chapter 07 – Government Policy and International Trade

McGraw-Hill Education.

Poor countries, in which such protection generally was much weaker, have five years’

grace, and the very poorest have ten years.

CONNECT

Click and Drag

Milestones in Trade

Summary

This activity focuses on the development of the international trading framework. Following

World War II, a small number of countries committed to an agreement supporting free trade.

Today, some 150 countries follow the basic rules outlined in the initial agreement.

Activity

Students are asked to put various trade milestones into chronological order showing the

development of the world trading system.

Multilateral and Bilateral Trade Agreements

Frustrated with the progress of the Doha Round to move forward, many countries have

established their own multilateral or bilateral trade agreements. Donald Trump

withdrew the United States from one such agreement, the Trans Pacific Partnership or

TPP, although the remaining 11 nations went forward with a revised agreement.

The World Trading System Under Threat

Many see the 70-year-long global movement toward free trade and low trade barriers

under threat. The decision by Great Britain to withdraw from the European Union

together with the election of isolationist-minded Donald Trump suggest a new hostility

toward expanded global trade.

Chapter 07 – Government Policy and International Trade

CONNECT

Case Analysis

Is China Dumping Excess Steel Production?

Summary

This activity focuses on China’s steel exports to the United States and the European Union. Both

the United States and the European Union claim that China is dumping steel and have imposed

retaliatory tariffs in response.

Activity

Students are asked to read a case on China’s steel trade and then respond to a series of questions

related to the case.

CRITICAL THINKING AND DISCUSSION QUESTIONS

QUESTION 1: Do you think that governments should consider human rights when

granting preferential trading rights to countries? What are the arguments for and against

taking such a position?

ANSWER 1: Responses to this question will vary by students. Many though, will agree

that taking a stand on human rights can, and perhaps should be, on the table when

negotiating with foreign nations. Students may caution, though, that it is important to

consider the implications of taking a stand on human rights for the individuals in

question. So for example, students may argue that taking a stand against the use of child

QUESTION 2: Whose interests should be the paramount concern of government trade

policy: the interests of producers (businesses and their employees) or those of

consumers?

ANSWER 2: The long-run interests of consumers should be the primary concern of

Chapter 07 – Government Policy and International Trade

QUESTION 3: Given the arguments relating to the new trade theory and strategic trade

policy, what kind of trade policy should business be pressuring government to adopt?

ANSWER 3: According to the textbook, businesses should urge governments to target

technologies that may be important in the future and use subsidies to support

QUESTION 4: You are an employee of an U.S. firm that produces personal computers

in Thailand and then exports them to the United States and other countries for sale. The

personal computers were originally produced in Thailand to take advantage of relatively

low labor costs and a skilled workforce. Other possible locations considered at that time

were Malaysia and Hong Kong. The U.S. government decides to impose punitive 100

percent ad valorem tariffs on imports of computers from Thailand to punish the country

for administrative trade barriers that restrict U.S. exports to Thailand. How should your

firm respond? What does this tell you about the use of targeted trade barriers?

ANSWER 4: As long as the manufacturing requirements have not changed significantly,

looking at Malaysia or Hong Kong again for production would appear obvious. When the

U.S. government introduces a specific ad valorem tariff on Thai computer imports, it

QUESTION 5: Reread the Management Focus “Protecting U.S. Magnesium.” Who

gains most from the antidumping duties levied by the United States on imports of

magnesium from China and Russia? Who are the losers? Are these duties in the best

national interests of the United States?

ANSWER 5: Many students will probably argue that the only clear winners from the

antidumping duties imposed by the United States on magnesium imports from China and

Chapter 07 – Government Policy and International Trade

Russia are the employees and investors of U.S. Magnesium. Some students may suggest

that the duties will also open the door to magnesium producers in other countries that

CLOSING CASE: The United States and South Korea Strike a Revised

Trade Deal

Summary

The closing case explores the new trade agreement between the United States and South

Korea. The agreement replaces a prior agreement between the two countries that went

into effect in 2012. Under the new trade deal, the United States will end its tariffs on

imported steel, tariffs that violated World Trade Organization (WTO) rules, and South

Korea will limit its steel exports to the United States to about 70 percent of what they had

been. In addition, South Korea will open its markets to more imports of American cars, a

largely symbolic move, and extend existing tariffs on light truck exports for 20 years. The

two countries also agreed to avoid competitive devaluations of their currencies.

Discussion of this case can begin with the following questions:

QUESTION 1: Why do you think the Obama Administration pursued a trade deal with

Korea in 2012? What were the potential economic and political benefits? What were the

potential costs?

ANSWER 1: Responses to this question will vary by student; however, many will likely

agree that the Obama Administration’s efforts to sign a trade deal with South Korea in

QUESTION 2: Is there any evidence that the 2012 free trade deal between the United

States and South Korea was a “job killer” as claimed by President Trump?

ANSWER 2: President Trump’s claim that the free trade agreement signed by the United

States and South Korea under the Obama Administration appears to have been largely

Chapter 07 – Government Policy and International Trade

unsupported. Trump was especially concerned about the threat that South Korea’s auto

exports had on U.S. jobs in the auto industry. The United States currently imports some

$16 billion in vehicles from South Korea but exports only a fraction of that. Yet, many of

QUESTION 3: What were the motivations of the Trump Administration in renegotiating

the 2012 deal?

ANSWER 3: Responses to this question will vary by student and may fall along political

lines. Students who support Trump will likely share his negative view of globalization

and free trade and suggest that U.S. steelworkers and U.S. autoworkers were being

QUESTION 4: Who benefits from the revised (2018) deal? Who might lose? Does the

2018 deal represent an improvement over that ratified in 2012?

ANSWER 4: Under the new trade agreement between South Korea and the United States,

U.S. auto producers benefit from the extension of tariffs on exports of South Korean light

trucks to the United States. However, with quotas limiting exports of South Korean steel

to just 70 percent of 2017 levels, U.S. automakers will have to pay more for steel imports,

MHE INTERNATIONAL BUSINESS VIDEO LIBRARY

Please click here to visit our International Business Video Library, which provides an

ongoing stream of updated video suggestions correlated by key concept and major topic.

Every new clip posted is supported by teaching notes and discussion questions. Please

Chapter 07 – Government Policy and International Trade

7-17

feel free to leave comments in the library that you feel might be helpful to your

colleagues.

CONNECT

Geography

Summary

This activity is designed to test the student’s knowledge of geography. Questions related to

chapter material are asked, requiring students to understand the topics and the locations of the

countries involved.

INCORPORATING globalEDGE™ EXERCISES

Exercise 1

You work for a pharmaceuticals company that hopes to provide products and services in

New Zealand. Yet management’s current knowledge of this country’s trade policies and

Exercise 2

The number of member nations of the World Trade Organization (WTO) has increased

considerably in recent years. In addition, some nonmember countries have observer status

in the WTO. Such status requires accession negotiations to begin within five years of

Chapter 07 – Government Policy and International Trade

Answers to Exercises

Exercise 1 Answer

Additional Info:

Compiled annually by the Office of the U.S. Trade representative, each country’s report

features information on tariff and non-tariff trade barriers that U.S. exporters face in

exporting products and services to the country of choice.

Exercise 2 Answer

Additional Info:

The information about member countries and those countries with observer status is

found under the “About WTO” section of the website.

globalEDGE™ Category: “Research: Organizations”