Posts tagged protectionism

IA Commentary 3

ECONOMICS COMMENTARY COVERSHEET
Economics Commentary Number: 3
Title of extract: European Union and South Korea Sign Free Trade Agreement
Source of extract: International centre for trade and sustainable development. (2010). 14(35), Retrieved from http://ictsd.org/i/news/bridgesweekly/86983
Date of extract: November 4th, 2010
Word Count: 738
Date the commentary was written: November 8th, 2010
Sections of the syllabus to which the commentary relates: Section 4
Section: 4
Candidate Name: Sang Keun Kim
Candidate Number:

International Centre for Trade and Sustainable Development(ICTSD) reported that the European Union and South Korea signed a free trade agreement (FTA) on October 6th, 2010. Free trade agreement is an agreement to form a type of trade bloc between two or more countries to eliminate protectionism barriers such as tariffs and quotas. Tariff is a taxation imposed on any product when it is imported into a country. Also, quotas are limitation set on the number of imported good allowed in the country. In this commentary, the focus will be on the Korean side of the market, not the European market.

ICTSD reports that the FTA agreement will free almost all of the trade and eliminate 99% of European tariffs and 96% of Korean tariffs on imported goods. This elimination of tariffs will help markets between EU and Korea to eliminate dead weight loss, which is a cost caused by economic inefficiency.

By initiating free trade, EU and Korean markets will be able to get rid of the deadweight loss from the tariffs. Deadweight losses are costs that are caused by inefficient industries spending their resources inefficiently, and these costs are often passed on to the consumers. As EU and Korea initiate FTA, the prices of products will decrease from P(tariff) to P(world). Subsequently, the deadweight losses caused by inefficient industries are eliminated, getting rid of the burden off the consumers’ hands.


As EU and Korea get rid of the tariffs, there will be benefits for the consumers for several reasons. According to ICTSD, the Europeans will gain in chemicals, pharmaceutical, electronics, alcoholic beverages, and agricultural sectors. In other words, this means that the Europeans are efficient in these sectors and they have the ability to supply at the price of P(world), which is way cheaper compared to how Korean industries are supplying at P(domestic). Therefore, the Korean consumers benefit from a fall in price from P(domestic) to P(world) in these sectors. Also, the quantity demanded from the Korean consumers will increase from Q1 to Q2 due to its decreased price. So the consumers who could not buy the products from Q1 to Q2 now benefit from the EU-Korea FTA by the decrease in the price of the products. However, this will be especially bad for the Korean industries in these sectors. As it is illustrated in the diagram, their share of the market decreases from Q(domestic) to Q1 due to the EU-Korea FTA.

The efficient industries compared to other countries’ industries will benefit from gain in the share of other countries’ market by the FTA. These industries are most likely that they will not be badly affected by the FTA and will not lose any of the market shares within the domestic market. In the point of view of European industries in chemicals, pharmaceutical, electronics, alcoholic beverages, and agricultural sectors, these industries will not lose any of the market shares from the Korean industries in these sectors due to their competitiveness and efficiency. To illustrate, the Korean industries in these sectors will not be able to take away the European market due to its high price of P(world) compared to European industries’ price of P(domestic). Therefore, the supply curve will be above the equilibrium point and the Korean products in these sectors will not be appealing to the European consumers.

On the other hand, the Korean industries in automobiles, ships, and mobile communications sectors, they will not lose any of the market share from the European industries because of their cheap price of P(domestic) compared to P(world) of European industries.

In conclusion, the EU-Korea FTA will have a great impact and significance to both economies. There would be a losses and wins from both sides. However, the FTA is worth a try due to the elimination of deadweight losses caused by inefficient industries that are causing great burden on consumers. The elimination of deadweight losses mean the elimination of the inefficiency, and this will bolster the industries to be efficient as possible. Thus, this will benefit not only the consumers but also the industries because it will help them to be competitive in the global market. Increase in the competitiveness and efficiency will help the industries to export their goods and gain profit like how the other efficient foreign industries did. Also, the increase in the trade will greatly contribute to subside the ever-rising unemployment rate, which is troubling both the sides.

Word Count: [738 words]

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Diagrams: AD/AS + Section 4

The increase in the aggregate demand from AD1 to AD2 increases both price level and real output from P1 to P2 and from Q1 to Q2 respectively.

Aggregate demand could be increased by many factors. First of all, reduction in taxation could increase the consumption. Secondly, the reduction in interest rates will most likely shun away consumers to save their money but spend them. Also, due to the low interest rate, there will be less burden to borrow money. Therefore, this would both increase the consumption and the corporate investment. Thirdly, increase in government spending would increase the aggregate demand because it is one of the factors that comprises of the aggregate demand. The governmental spending boosts up the consumption in products and increases the earning/income in the sector. Finally, the improved competitiveness could also increase the aggregate demand as the opportunity cost in production would decrease. In addition, the increase in the competitiveness could also boost up the export, which also increases the aggregate demand.

The decrease in the aggregate demand from AD1 to AD2 decreases both price level and real output from P1 to P2 and from Q1 to Q2 respectively.

Decrease in aggregate demand is caused by many factors. First of all, the increase in the taxation could decrease the consumption. Secondly, the increase in the interest rate could allure consumers not to spend money but to save them. In addition, the high interest rate would attract lots of money in to the bank, draining the money out of the market. Also, the high interest rate decreases the corporate investment. Thirdly, decrease in the governmental spending would also decrease the aggregate demand. Finally, decrease in the competitiveness could also decrease the aggregate demand by increasing the opportunity cost associated with the production. In addition, loss in competitiveness could also lead to decrease in export, which also decreases the aggregate demand.

Increase in the aggregate supply from AS1 to AS2 increases real output from Q1 to Q2 but decrease the price level from P1 to P2. This is desirable as the price level is decrease and the real output has increased.

Increase in the aggregate supply could be caused by many factors. First of all, reduction in indirect taxation could lead to increase in the aggregate supply. As the taxation is reduced from the price of the product, the producer could manufacture products at much lower opportunity cost and gain price advantage. Secondly, the reduction in wages of the employees would lead to cut in the production cost and therefore gain price competitiveness. This way, the manufacturer could sell more products at much cheaper price, increasing the aggregate supply. Thirdly, the reduction in price of raw material also leads to the increase in the aggregate supply due to the cut in the production cost. Finally, favorable weather conditions could help industries that depend on the weather to produce more. Therefore, this would also increase the aggregate supply.

The decrease in aggregate supply from AS1 to AS2 decreases real output from Q1 to Q2 but increases the price level from P1 to P2. This is the worst scenario as the price level increase and the real output decreases.

There are many factors affecting the decrease in the aggregate supply. First of all, the increase in the indirect taxation could lead to increase in the cost of production. Therefore, the producer would only be able to produce less products than he/she used to produce. Secondly, the increase in the wages could also lead to the increase in the opportunity cost and the production cost. This would also increase the aggregate supply. Thirdly, the increase in the price of raw materials also increase the production cost that aggravates the decrease in aggregate supply. Finally, adverse weather conditions could ruin the production of industries that depend on the weather. So, this would also worsen the decrease in the aggregate supply.

Japan and China are in a comparative advantage to each other. Japan produces more automobiles at QA2 than what China’s producing at QA1. However, China produces more break pads at QB2 than what Japan is producing at QB1. In conclusion, Japan has a comparative advantage in automobiles over China, however, China has a comparative advantage in break pad over Japan. In these countries were to initiate FTA, they would both have loss and gains.

In this diagram, India is at absolute advantage over Fiji Island. India produces clothes at QC2 which is way more than what Fiji Island is producing at QC1. Also, India produces more hats at QH2 that is more than what Fiji Island is producing at QH1. In conclusion, as India produces more products in both items, India is in an absolute advantage over Fiji Island.

This economy is in a free trade with the world without any trade barriers. The price dropped from Peq to Pworld.  Also, the quantity demand increased from Qe to Q2. This means that only consumers until Qe were able to buy a product, but now consumers until Q2 are able to buy the product they could buy before. From Q1 to Q2, it indicates the amount of imported goods and services. However, the domestic production decreases from Qe to Q1 to the price-competitive world providers. In conclusion, the consumers benefit the most from this situation.

In this economy, it imposes tariffs on imported goods. The tariff increases the price from Sworld to Stariff. This decreases the quantity demand for the product from Q2 to Q4. This means that consumers from Q4 to Q2 no cannot buy the product because of the increased price. Also, the deadweight loss occurs due to inefficient domestic producers entering the market. The amount of imported goods decreased from (Q2-Q1) to (Q4-Q3). This is a great loss for the world providers because they are losing the market share both ways from left and the right whereas the domestic providers are only gaining by one side from the left. The government also gains revenue from the tariff imposed on the imported goods.

In this economy, quota is imposed on the economy. The quota increase the price from Sworld to Stariff. This decreases the quantity demanded from Q2 to Q4. This decreases the imported good to the market from (Q2-Q1) to (Q4-Q3). Also, the foreign producers that avoided the quota benefits greatly by the windfall gain. However, there will be a deadweight loss caused by the inefficient producers. In addition, the government will gain nothing from this situation because they are not imposing a tariff.

In this diagram, the government is subsidizing the domestic industries to fight off the competitive foreign providers. The subsidy shifts the supply curve for the domestic providers from Sdomestic to Sdomestic+subsidy. This allows the domestic providers from Q1 to Q3 to re-enter the market. In the other hand, the imports decrease greatly by (Q3-Q1), which was taken from the domestic providers that are subsidized. The consumers are not hurt in this situation because there is no decrease in the quantity demanded, which means there was no increase in number of consumers who are not able to buy the product. Also, unlike the tariff and quota situation the importers do not lose by 2 ways but by only 1 way (from the left).

The fixed exchange rate could cause shortage of the quantity of the currency. As the demand for the imported goods increase, people would need more of the currency to buy another currency. This is why the supply curve should move from S1 to S2. However, due to the fixed exchange rate, the shortage in supply of the currency occurs.

Fixed exchange rate could cause the surplus in the supply of the currency in the market. As the demand for the exports increase overseas, the foreigners would demand more of the currency to buy the exports. This is why the demand curve should move from D1 to D2. However, due to the fixation in exchange rate, the surplus of currency occurs.

Floating exchange rate well suits the demand and the supply of the currency. Also, it does not have the problems of surplus/shortage of currency that fixed exchange rate systems have. The currency is demanded at the quantity of Q and the value of the currency in terms of another currency is at P.

Demand for the currency could be increased from the increased demand of exports. If foreigners are attracted to the exports, they would demand more of the currency to buy the exports. Therefore, this would increase the demand for the currency from Q1 to Q2 increasing the value of the currency in terms of another currency from P1 to P2. This is called appreciation of the currency as the value of the currency increased.

Demand for the currency could decrease by the lack of interest in exports. The foreigners would not demand less of the currency, decreasing the demand curve from D1 to D2. This decreases the quantity demanded for the currency from Q1 to Q2 and decrease the value of the currency in terms of another currency from P1 to P2. This is called the depreciation of the currency as the value of the currency has been decreased.

The increase in the supply of the currency could be caused by the increased interest in the imports. The consumers would need more of their currency to buy another currency to buy imports. This would increase the supply curve for the currency from S1 to S2. This increases the quantity demanded for the currency, however, it depreciates the currency from P1 to P2.

The decrease in the supply of the currency could be caused by the decrease in the interest for the imported goods. As consumers would demand less of their currency, the supply curve would shift from S1 to S2 decreasing the quantity demand for the currency but increase the value of the currency in terms of another currency. This causes the currency to appreciate.

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Free Trade vs. Protectionism

Satirical View of Protectionism

There are strong arguments from both opinions. However, I do think that an industry needs a protectionism in order to build up its capability to compete with international industries. There are many real world examples that support this idea of protectionism. Of course, it could be unfair for some of the countries that are trying to get in to the market, however, the country with inefficient, lack of technology on specific area will never get better just by initiating free trade with other countries, completely making the weak industry vulnerable to international siege of cheap… products.

There are many industries in East Asia that have benefited from protectionism. One of the most famous example would be South Korea. The country had set a quota, tariff and all methods of protectionism possible to grow one of the important industries. For example, the electronics industries have heavily benefited from the protectionism. From 1970-1990’s, the electronic companies such as Samsung or LG have had significant growth due to the protectionism. Thus, expanding economic growth within the country and lifting the standards of living of the South Korean people. If Korea did not use any kind of protectionism to bolster its core industries, they might be still suffering from poverty and low standards of living. This also includes Japanese, Taiwanese and other nation’s industries. These countries became wealthy by overcoming the lack of resources by protecting the important, lucrative industries.

It would be completely immoral for developed countries to impose and bully undeveloped countries to sign up for WTO and initiate free trade. These undeveloped countries will never have the chance to grow and develop their own industry and technology. It would be forcing a poor country to stay poor and never giving them a chance to have develop their own industry and raise the standards of living.

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Table of Types of Protectionism

Type of Protectionism Definition Real World Example + Link
Tariff It is the tax on imported goods, which could be imposed on specific products. Japan imposes tariff on imported rice.Article Link: Click Here
Quota It is a limit to the imports set by the government. The trading economy can only export maximum amount of goods to the economy that is imposing quota. European Union imposes quota on Japanese cars.Article Link: Click Here
Subsidy It is the sum of money given to the weak industry in order to maintain the job places that it provides. The Japanese government is giving subsidies to Japanese rice farmers.Article Link: Click Here



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