Is free trade the best economic policy that countries can adopt or is
protectionism ever justified? Discuss.
Zichao Wu 2013
Through the historical study of the generation and development of international trade, foreign trade policy can be summarized as two types, free trade policy and trade protection policy. As Economic Glossary (2008) explained, the so-called free trade policy means countries to relax or to cancel the restrictions on the import and export trade, and not to give privileges or concessions on domestic goods, so that commodities can import and export freely, and contend in the domestic and overseas markets freely. According to Baldwin (1989), protective trade policy refers to countries take measures to restrict imports in order to protect their own goods in the domestic market to compete with foreign goods, and give incentives and subsidies to their own export commodities to encourage the export.
Both the two trade policies have their advantages and disadvantages respectively. Which one a country will adopt depends on the level of economic development of this country and its position in the international economy. Different trade policies will be implemented by different countries in a same historical period, and a trade policy that a country adopted in different periods of its development will not be the same (Brander, 1995). This essay will discuss these two policies.
Free Trade Policy
International Division of Labor and Exchange
In free trade, commodities can import and export freely since these countries opened their domestic markets to each other without any restrictions. As Unger (2007) written in his book, free trade play an important role in international division of labor and exchange. That is because free trade can promote the development of international economy and trade and help the world market continues to expand. After that, the
active global market will fuel the development of international division of labor and exchange.
As a part of the influence of free trade, international division of labor and exchange will produce many benefits to the countries which have adopted the free trade policy. Based on the free trade, the progress of international division of labor and exchange will help countries make their domestic resources to get optimum allocation, according to their natural conditions, comparative advantages and factors abundant lack status (Ricardo, 1817). As a result, this will leads countries tend to producing products that have larger advantages or smaller disadvantages. Indeed, as Mcgee (2013) stated, through the international division of labor and exchange, firstly, the market scale expanded, that will promote the growth of employment; secondly, the competition of products is more fierce which will motivate technological innovation and industrial upgrading; the last but not the least, the allocation and utilization of the factors of production are more reasonable, this will save social resources and create more national wealth.
Negative Effects
Although free trade has benefits, it does not perfect. There are a number of arguments put forward by experts.
As Edge (2013) said, a fully open market is not very good to the infant industries or infant economies (developing economies). Because they need to face more competition from large foreign TNCs, some native slow developed industries and infant industries may be eliminated. As a result, structural unemployment may occur in the short term. This can impact upon large numbers of workers, their families and local economies.
At the same time, free trade made the countries more close to each other that means
their domestic markets are very dependent on the others. So, it can be said that free trade increases the risk of interdependence between countries (Gray, 1985). This means that businesses, employees and consumers are more vulnerable influenced by our trading partners. For instance, recession in United States led their native consumption decreased then their import went down. As the second largest trading partner with American, the export income of China followed falling (Commerce Ministry of China, 2009). Next, the production of related industries in China declined. Falling incomes of these companies will cause lower demand and rising unemployment.
In addition, according to Antweiler and Copeland (1998) free trade can lead to pollution and other environmental problems since companies fail to include environmental costs in the price of goods when compete with companies operating under weaker environmental legislation in some countries.
Protective Trade Policy
Work as a Defensive Measure
When countries feel that their industries are getting damaged from unfair global competition they may adopt the protective trade policy. As Jager and Jepma (1996) introduced in their book, this policy is used as a defensive measure, it includes increasing tariffs (import taxes), Quotas, Embargoes (a complete ban on imported goods), import licensing, subsidies, exchange controls etc. The ultimate purpose is to increase the prices of imported products to make them expensive and less attractive (Krugman, 1987).
According to Amadeo (2012), protective trade policy can protect domestic infant industries in the strong market competition from the foreign enterprises. This gives enough time to the companies which in the new industries to learn how to produce the goods efficiently, and to develop their own competitive advantages.
Meanwhile, in a short term, the protective trade policy can also help in reducing the ratio of unemployment in a country (Ready Ratios, 2013). It is because companies are restricted by tariffs, quotas and other methods which compel them to hire the local workers.
Bring Many Problems
In the long term, the protective trade policy will bring many problems. There are some points summarized by Amadeo (2012) state that the lack of competition market environment will weaken the innovation and improvement of companies. Eventually, consumers will pay more for a lower quality product than they would get from foreign competitors. At the same time, protectionism restricts the development of native industries, their staff will become lazier. And this will lead more layoffs, so that the ratio of unemployment will be bigger.
It is certainly that there are many other countries cannot stand the trade protection measures, in order to protect their own profits they will take some measures to counter (Travis, 1964). All of this will cause a trade war. Retaliatory actions mean an increase in cost of importing of new technologies, that is very harmful to the economy.
Free Trade Policy or Protective Trade Policy?
Small and Developing Countries
No matter which policies to choose, the most important core is benefits. Krugman and Obstfeld (2009) gave some analysis of the free trade and efficiency, please see the Figure 1 below.
Figure 1 Production World price distortion plus tariff World price D Quantity, Q Consumption distortion Price, P S
The Figure 1 shows a trade restriction, such as a tariff, leads to production and consumption distortions. The basic point is that a small country cannot influence foreign export prices. A net loss caused by a tariff can be measured by the two triangles area. So, adopt free trade policy can help small countries eliminate these distortions and increase national welfare.
Table 1
Benefits of a Move to Worldwide Free Trade (Percent of GDP) United States
European Union Japan
Developing Countries
World
Based on the statistics given by Cline (2004), look at the Table 1 above, it is clearly indicates that the gains from free trade are smaller for developed countries, but larger for developing countries.
After the discussion, maybe people can say the free trade policy is more suitable for small and developing countries. However, when they implement the free trade policy 0.57 0.61 0.85 1.4 0.93
they cannot forget to help the infant industries and protect their environment.
Large and Developed Countries
Krugman and Obstfeld (2009) also give the Figure 2, which shows the marginal benefit from production that is not taken account of by the producer surplus measure. The marginal social benefit in this graph can serve as a justification for tariffs or other trade policies. Thus the area C under the marginal social benefit curve from S1 to S2, can measure a social benefit caused by the increase in production yields. Compared with the area of two triangles in Figure 1, the area C must always bigger than total of them if the tariff is small enough. That means there is some welfare-maximizing tariff that yields a level of social welfare higher than that of free trade.
S1 S2 Figure 2 C Marginal benefit social Dollars Quantity, Q
After the analysis, with regard to large and developed countries, maybe people can say the protective trade policy is more suitable for them. This is not only because of there is more welfare but also because they have already have the higher production efficiency. However, countries should pay attention to the development of innovation ability and technical level of their products when they adopt the protective trade policy.
Conclusion
Both of these two polices have their strengths and weaknesses. It is difficult to say which trade policy is more justified for a country. Because the choice is depends on
many factors including the level of economic development of this country and its position in the international economy. This essay only found that maybe the free trade policy is more suitable for small and developing countries, and the protective trade policy is more suitable for large and developed countries. The other deep discussion about this topic maybe need more research.
Reference:
Amadeo, K., 2012. Trade Protectionism, [online] Available at:
[Accessed 19th February 2013].
Antweiler, W. and Copeland, B. R., 1998. Is Free Trade Good for the Environment.
[pdf] Available at: [Accessed 18th February 2013].
Baldwin, R. E., 1989. The Political Economy of Trade Policy. The Journal of Economic Perspectives, Vol. 3, No. 4, Autumn, pp.119-135.
Brander, J. A., 1995. Strategic Trade Policy, Canada: University of British Columbia. Chapter 27, pp.1397-1444.
Cline, W., 2004. Trade Policy and Global Poverty, Washington, D.C.: Institute for International Economics. pp.180.
Commerce Ministry of China, 2009. Regional Trade Statistics, [online] Available at: [Accessed 18th February 2013].
Edge, K., 2013. Free Trade and Protection: advantages and disadvantages of free trade , [online] Available at:
[Accessed 16th February 2013].
Economic Glossary, 2008. Economic Definition of Free Trade, [online] Available at: [Accessed 9th February 2013].
Gray, H. P., 1985. Free trade or protection? : a pragmatic analysis, London: The Macmillan Press Ltd.
Jager, H. and Jepma, C., 1996. Introduction to International Economics, UK: Palgrave Macmillan. Chapter 8, pp.145-166.
Krugman P., 1987, Is Free Trade Passé?, The Journal of Economic Perspectives, Vol. 1, No. 2, Autumn, pp. 131-144.
Krugman, P. R. and Obstfeld, M., 2009. International Economics Theory& Policy, London: Pearson Addison Wesley. Chapter 9, pp.190-220.
Mcgee, J., 2013. Advantages of Free Trade, [online] Available at:
[Accessed 15th February 2013].
Ready Ratios, 2013. Protectionism , [online] Available at:
[Accessed 19th February 2013].
Ricardo, D., 1817. Principles of Political Economy and Taxation, UK: Cambridge University Press. 133–34.
Travis, W. P., 1964. The Theory of Trade and Protection, Massachusetts: Harvard University Press. Chapter 4, pp.133-187.
Unger, R. M., 2007. Free Trade Reimagined, New Jersey: Princeton University Press. Chapter 1, pp. 7-20.