In economics, protectionism is the economic policy of restraining trade between states (countries) through methods such as tariffs on imported goods, restrictive quotas, and a variety of other government regulations. Protectionist policies protect the producers, businesses and workers of the import-competing sector in a country from foreign competitors. According to the proponents, these policies can counteract unfair trade practices, to allow fair competition between imports and goods and services produced domestically. WTO rules allow countries to use methods of protectionism but in a limited manner and in specific cases.
Most of the time, protectionism stems from a desire to help improve domestic manufacturers by making them more competitive with imported goods. And often times, these desires stem from a weak jobs market that could be improved with more domestic manufacturing jobs.
In other cases, a government may only be seeking to protect a single strategic industry. For example, many countries imposed tariffs on Chinese photovoltaic solar panels after the country began dumping them into the global market following a slowdown in demand and over supply. The goal was to protect their own domestic solar operations and ensure energy security in the future
Types of Protectionism
Protectionism encompasses a number of different economic policies designed to restrict trade and boost domestic manufacturers. From new taxes to import restrictions, these policies are implemented by both emerging markets and developed economies alike, and can have a negative impact on global free trade.
Some of the most popular protectionist policies include:
- Tariffs - A tariff is a tax on imports, which can either be specific (so much per unit of sale) or ad valorem (a percentage of the price of the product). Taxing imported goods increase the cost to importers and raises the price of the imported goods in local markets. This gives domestic equivalents a comparative advantage. As such, tariffs are distorting the market forces and may prevent consumers from gaining the benefit of all the advantages of international specialization and trade.
- Quotas - Limiting the number of goods that can be produced abroad and sold domestically limits foreign competition in domestic markets. Once again, they reduce the amount of imports entering an economy and increase the equilibrium price within the market. The government receives no revenue from a quota, as it does with a tariff, unless it can set up a system of licenses.
- Exchange controls - The government could limit the amount of foreign currency available for paying for imports.
- Export subsidies - Export subsidies allow exporters to supply the market with more product than the natural equilibrium would have allowed. Foreign consumers will enjoy increased economic welfare as the price of their purchases fall. Domestic employees might enjoy more wages and job security. But taxpayers are footing the bill for this. Domestic firms might divert trade into exports and ignore the home market. This could lead to increase in domestic prices.
- Exchange Rates - Intervening in the foreign exchange (forex) market to lower a currency's valuation can raise the cost of imports and lower the cost of exports.
- Import Quotas Domestic Subsidies - Subsidizing costs or providing cheap loans to domestic companies can increase their competitiveness against foreign imports.
- Administrative obstacles - Countries can set administrative hurdles. For example, they may require significant levels of paperwork and then deal with these processes slowly making it difficult for importers to compete on a level playing field with other firms.
- Health and safety standards - Countries may set onerously high health and safety standards for goods that are imported, once again making life difficult for importers.
- Environmental standards - Countries can set high environmental standards that they know only domestic firms are likely to be able to achieve, once again making life difficult for importers.
Costs of Protectionism
If a country is trying to grow strong in a new industry, tariffs will protect it from foreign competitors. That gives the new industry's companies time to develop their own competitive advantages.
Protectionism also temporarily creates jobs for domestic workers. The protection of tariffs, quotas or subsidies allows domestic companies to hire locally.
Proponents for protectionism argue that nearly all developed countries have successfully implemented protectionist programs. For example, the U.S. auto industry has been a consistent beneficiary of protectionism and has flourished for the most part over the past several decades, despite cheaper competition from Japan and Germany.
These arguments seem to hold true in specific situations, but it's difficult to determine cause and effect totally.
However, costs outweigh benefits over the long run.
In the long term, trade protectionism weakens the industry. Without competition, companies within the industry have no need to innovate. Eventually, the domestic product will decline in quality. It will lower quality and more expensive than what foreign competitors produce.
The Indian strategy of import-substitution industrialization (ISI) strategy based on heavy protection to indigenous industries was very effective in deepening and widening India's industrial base and giving the economy a lot of freedom from foreign dependence. However, over time, the excessive protection through import restrictions started leading to inefficiency and technological backwardness in Indian industry.
Protectionism and Deglobalisation
Until the 2007/2008 financial crisis, the global economy enjoyed one of the fastest growth periods and prosperity phases in its history. Trade liberalisation and technological advancement have often been quoted as the main drivers of the golden era of globalisation. While in the pre-crisis period open markets played a pivotal role in triggering growth and job creation on a global scale, the recent global economic downturn has resulted in an enhanced recourse to measures that can be described as "protectionist".
This has given rise to trade-restrictive measures. Anti-dumping actions account for the majority of restrictive measures imposed, with most of the investigations concentrated in sectors such as metals (particularly steel) and chemicals. G20 members also imposed more distortive measures in the form of government support for sectors such as infrastructure, agriculture and export-specific activities. This is also leading to rise of trade disputes.
Protectionist stance of West
A new WTO report indicates a worrying rise in economic protectionism. Countries are imposing new protectionist trade barriers at the fastest rate since the onset of the recession in 2008.
The anti-trade sentiment fuelling this growing protectionism is evident in the rhetoric of various politicians and their constituents, particularly in the US and Europe. The recent BREXIT referendum delivered yet another blow to the free market rules that have been enforced for decades in the West.
There appears to be a growing hostility to international trade of any kind, and many of the trade barriers being imposed will only hurt the economies they're supposed to help.
If the anti-trade trend persists, the already ailing global economy will only further struggle to improve, and the prosperity of future generations will be compromised.
Unfortunately, the West's growing protectionism goes far beyond reasonable, limited measures to protect domestic industry. There is evidently a growing general hostility to international trade. This can be seen in the strong opposition to a number of major international trade deals currently under negotiation or awaiting ratification.
The Transatlantic Trade and Investment Partnership (TTIP) under negotiation between the US and EU has faced harsh criticism.
Example: China's excess capacity in steel and Aluminium
Protectionist measure has their counter effect. If one country's illegal trade practices are hurting another country's economy, that nation has the right to respond in lawful ways in order to protect their domestic industries. Indeed, many of the trade measures recently adopted have been in response to massive Chinese overproduction of various materials, particularly regarding steel and aluminium products. This overproduction is due to excess capacity. The glut has led to a steep drop in steel prices, with China's industry dumping cheap exports into countries around the world and threatening to put their domestic producers out of business, costing thousands of jobs. In response, countries have imposed high tariffs onto Chinese steel imports to protect their domestic producers. For ex. India has effectively taken counter dumping measures against China's cheap export of Steel.
Protectionism in India
Recently India has imposed Minimum Import price (MIP) as growing imports from steel surplus countries like China, Japan and Korea with predatory prices have been a major concern for the domestic industry since September 2014.
India has also imposed anti-dumping duties on certain steel products to guard domestic players from cheap imports. These measures are called anti dumping measures. In response Japan has dragged India to the World Trade Organisation (WTO) dispute settlement system. The shrinking GDP growth in West has given way to protectionist sentiments which favour domestic production to save jobs.
Role of G20 nations
Against this backdrop, how can the G20 leaders take a further step in order to ensure an open global trading environment?
Firstly, the G20 leaders could reaffirm a commitment to uphold the rule of law in the global economy, with a view to advancing free and fair trade and fighting against any abuse of legitimate trade-restrictive measures. The rule of law should remain the fundamental principle of conducting international business - that is, it should be conducted according to existing contractual laws between contracting governments, without resorting to any illegal measures. Free and fair trade is both the goal and the belief that this is the only way to enjoy balanced trade with economic efficiency and moral equity.
Secondly given the emergence of new economies, technological evolution, alarming risks of the tragedy of the commons, and new electoral and political dynamics, existing rules might need to be further clarified or updated. Nations need to use the WTO and other international for a more actively via consultations and negotiations, and to find solutions by signing new multilateral or plurilateral agreements.
And finally, the G20 leaders can collectively cultivate a review and peer-learning process about domestic solidarity policies that address the pains caused by trade to certain segments of the population. G20 can be a global platform to enhance knowledge sharing and mutual learning. Such social policies can include a wide range of trade adjustment assistance programmes for workers such as wage insurance, subsidies for and portability of medical insurance, reemployment services such as training and assistance with geographic relocation. It may include certain assistance to firms and farmers. Solidarity is something that should be protected.
WTO tries to maintain the scenario of free and fair trade mechanism based on following principles:
- Free trade is the only type of truly fair trade because it offers consumers the most choices and the best opportunities to improve their standard of living.
- Free trade promotes innovation because, along with goods and services, the flow of trade circulates new ideas.
- By supporting the rule of law, free trade also can reduce the opportunities for corruption.