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“Protectionism is better than free trade.” Discuss the validity of this statement. [25]

Adapted from an actual H2 'A' Level Economics Examination

Introduction to Protectionism

What is protectionism? Protectionism is the government policy of imposing economic policies aimed at restricting international trade between countries, designed to protect domestic producers and workers from foreign competition brought about by trade. International trade, on the other hand, is the free and competitive exchange of goods and services across international boundaries. 

There are many methods of protectionism, namely, import tariffs, import quotas, subsidies, voluntary export restraints, foreign exchange restrictions, physical barriers such as making it difficult to clear unnecessary and bureaucratic custom checks and technical barriers such as differences in technical and safety standards to justify the prevention of foreign goods from being imported. Import tariffs are either levied as a fixed amount of charge per unit or levied as a fraction of the value of a unit. Thus, tariffs artificially raise import prices and reduce the quantity demanded of imports. 

What Economics diagram should be applied here? Based on the description below, what is the likely diagram here?

By examining the concept of protectionism through import tariffs, assuming that the country is a price taker as it is too small to affect world markets and prices, a small country can import as much as it wants at world price, Pw. Sw is the supply of imports and is infinitely price elastic at Pw. At Pw, domestic production is at Q1 while domestic consumption is at Q4. Thus, there is a shortage, DC, is solved by importing the goods to satisfy consumption. When there is a tariff on imports, the world supply curve shifts upwards from Sw to SW+t, with the area between Sw and SW+t being the tariff. Domestic production has now increased from Q1 to Q2 while domestic consumption has fallen from Q4 to Q3. The volume of imports has shrunk from Q1Q4 to Q2Q3. Before the tariff, consumer surplus was ACPw and producers’ surplus at ODPw.  The presence of the tariff caused the consumers’ surplus to fall from ACPw to ABPw. Therefore there is a welfare loss, a deadweight loss in area (2+4). This shows that protectionism results in a loss in welfare to society. [Tutor's Note: this is a very detailed analysis of a diagram. Always try to give analysis of diagrams that you draw in an examination.]

The Theory of Comparative Advantage

International trade operates on the basis of the theory of comparative advantage, where a country produces a good that it can produce at a lower opportunity cost compared to other countries, given its factor endowments. Here, it is assumed that the factors of production are perfectly immobile between countries and from one sector to another within countries as well as that the transportation costs of goods and services are negligible. Referring to figure 2, we use a hypothetical example between USA and Mexico’s comparative advantage. 

Figure 2 refers to two different economies, both depicting differently shaped PPCs (Production Possibilities Frontiers). How would you draw this Economics diagram?

Thus, international trade, as can be seen from the diagram, specifically by the theory of comparative advantage, enables consumers to enjoy higher consumption possibilities. 

Benefits of International Free Trade

Other benefits of international or free trade include lower prices and better product quality, greater product variety, developing countries being able to enjoy technical transfers, trade being an engine of growth for an economy and providing economic diversification. 

Firstly, countries that trade freely will enable domestic firms to face competition from foreign imports. If it is the case of intra-industry trade, it will pressure domestic firms to become more efficient and innovate new methods of production to increase efficiency, reduce cost of production and ultimately pass down the lower cost to consumers in the form of lower prices as well as better quality products from innovation in a bid to differentiate their products from rival foreign imports. If it is a case of inter-industry trade, it enables consumers to enjoy goods that the country are enable to produce due to the lack of factors of production required to produce the particular product, thus increasing product variety. For example, in Singapore, due to the tropical climate, we are not able to produce apples but owing to free trade, we are able to import apples from other temperate countries like New Zealand and USA and as a result, able to enjoy greater product variety, i.e.: enjoy a wider range of fruits, ranging from not only tropical fruits but also fruits grown in temperate climate.

Free Trade is also an engine of growth for the country. Developed and small economies like Singapore lack sufficient domestic market. Trade then exposes Singapore firms to a larger world market and enable us to fully utilise resources that are otherwise unemployed. This in turn increases output, income and employment, shifting both the AD and AS outwards. 

Limitations of International Trade

However, while free trade and specialisation may seem ideal, there are also some limitations. 

Free trade using comparative advantage may mean that in the event firms in other countries become more efficient at producing the product the first country has as a comparative advantage, the first country will become less competitive and lose its comparative advantage, which may lead to an economic crisis for the country since the country is largely dependent on the trade of this particular good. It makes the situation worse since the country is only adept at producing the particular product at a lower opportunity cost compared to other country, its initial focus on producing this good would mean that most of its workers are only trained in producing this good, leading to a case of structural unemployment when the country loses its comparative advantage. This has a somewhat similar result when the country is faced with supply problems from its sole supplier who specialise in supplying the raw materials.  This not only affect the livelihood of the people, as well as cost-push inflation due to a spike in prices of goods stemming from shortage of raw materials to manufacture the goods.  Trade restrictions due to natural disasters and war could also affect a country that depends on international trade via comparative advantage theory and thus is not independent. 

In this light, protectionism may seem like a better solution despite it causing a welfare loss as explained earlier in the tariff diagram. As countries need to protect its strategic industries and be self-sufficient to prevent the above situation from occurring and thus debilitating the country’s economic progress. Some examples are the agriculture and defence related industries. 

Furthermore, protectionism enables the country to protect domestic infant industry to better develop the economy of the country in future. New domestic industries have the potential to develop a comparative advantage in a certain product. However, due to high start up costs and a lack of economies of scale due to smaller scale of production compared to giant foreign firms, prices of the domestic goods are less price competitive compared to foreign imports. Thus, protection enables infant industries to grow and become internationally competitive in future before the protectionist measures are taken away. Nevertheless, such an argument may not be foolproof because firstly, it is difficult to identify the correct new industries which have potential to develop a comparative advantage and also politically difficult for the government to remove the protectionist measure from an infant industry which have grown up. Also, with protectionist measures, it reduces the domestic firms’ incentive to be efficient and respond to consumers demand or to reduce average costs, thus, these infant industry may never develop and build a comparative advantage in the world market because the firms are assured of being protected by the government if it does not grow.  For example, Malaysia protects its national car firm, Proton. It has been under protection from the Malaysia government and has not improved in technology unlike other Japanese car firms. 

Protection of declining industries can be another reason for protectionism as stated earlier how a country could lose its comparative advantage and be entrapped in serious structural unemployment as workers are only equipped with skills to manufacture to previous product that used to be a comparative advantage to the country. This gives time for workers to learn a new skill and find a new job in a new industry, mitigating structural unemployment. However, critics say that such protection is not perfectly viable because overtime, these declining industries are protected for too long and never change and adjust, creating a burden to the country’s economy as well as adversely affect the standard of living of the consumers as they are denied access to cheaper foreign imports. For example, Singapore used to be labour intensive but owing to the decline of the primary and manufacturing sector in Singapore, it quickly decline, go through training and move into the tertiary industry quickly without protectionist measures. 

Other reasons for protectionism includes protection from unfair foreign competition and raising employment in domestic firms and improving trade position of the country. 

Evaluation/ Conclusion

In conclusion, although both protectionism and free trade and specialisation has both its pros and cons, free trade is ultimately better because protectionism only serves as a temporary measure to problems caused by free trade , with many arguments for protectionism debatable in the long run. Welfare losses stemming from protectionism are also borne by consumers as consumers would have benefited from increased trade and suffer from retaliation if protectionist measures were imposed. Instead, countries should take a pro-trade stance and use macroeconomic policies like supply-side policies, improving education and retraining, better infrastructure to develop infant industries and strategic industries as well as ensure smooth transition out from structural labour rigidity from declining sectors.     

JC ECONOMICS ESSAYS: Economics tutor's comments: A more direct approach to this economics question on protectionsim would be to directly tackle the statement: first, in what cases would protectionism be better than free trade? Then, second, write the anti-thesis: how is free trade better? Finally, conclude with an evaluative statement with a justification for the viewpoint. However, this economics essay does a more exploratory and discussion-based kind of approach, which makes for an interesting reading, but may not be the most time effective or efficient strategy in an Economics examination. How would you rearrange these economics content and materials to make the essay address the question more directly, clearly, and efficiently? As a quick reminder, also remember to draw relevant economics diagrams and also to think of how you could make the essay better. What can you learn from the strengths of this economics paper, in a similar vein? Do think through the essay as you read and reflect on it. Thanks for reading and cheers!

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