Economics

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Outcomes
Overview
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Outcomes

HSC topic: The Global Economy is covered in the Board of Studies NSW Stage 6 Economics Syllabus (1999) on pages 31-33. The specific outcomes for this tutorial are:

Being up to date and aware of contemporary Issues

Please note - much of this tutorial is based on 2002 information and this needs to be kept in mind as you read it. Students of Economics need to be aware of what is happening in the Global Economy today and should, for instance, keep up to date with changes such as new trade agreements between nations or the imposition of new export restraints or incentives. Students are advised to scroll down to the section MORE at the bottom of this page and to visit the websites such as that of the Australian Government Department of Foreign Affairs and Trade.

After completing this tutorial students may wish to do their own research on the current situation of the global sugar industry and on what access to U.S. markets Australian and New Zealand lamb exporters have currently.

Updated information on the Government's 'Backing Australia's Ability Programme' can be obtained by visiting the website: http://backingaus.innovation.gov.au/default.htm

Overview

Despite the fact that trade liberalisation has produced gains for some countries others have experienced social problems, loss of income and increasing unemployment. Many governments use a variety of methods to protect industry from international competition. Protection can however have a very negative impact on an economy.

The Australian Department of Foreign Affairs and Trade estimated the cost of protection in OECD countries in 2005 to be US$280 billion a year.

In one OECD country the cost to consumers to save a single job was estimated to be about US$600 000 per annum. Protection redirects resources that could be used to retain and support displaced workers, or to develop new products and support exporting businesses.

This tutorial examines the main forms of protection used by governments to protect industry and analyses the impact on the domestic and global economy.

Content

1. Subsidies

   Subsidies are cash payments made to domestic producers by the government. A subsidy enables producers to reduce their costs of production and compete more favourably with foreign competitors.

   The effects of a subsidy:

   

   Cloze Activity     Flash version     HTML version

   Case study
   With subsidies a redistribution of income occurs because the government uses the revenue from taxpayers to subsidise the protected industry. Taxpayers’ income is transferred to the local producers and consumers of the subsidised goods. In effect, valuable resources are being directed into inefficient industries at the expense of more competitive areas of the economy. The global economic impacts of subsidies are illustrated in this case study.

   Open markets and the environment: the global fish market
   
   A major focus of international organisations such as the WTO has been on how subsidies and other barriers to trade cause excessive resources use and waste.

   In the global fish market, trade protection has led to over exploitation of resources and environmental degradation. For example, between 1985 and 1995 the value of the global fish harvest trebled in value to $69.7 billion, and in developing countries, the value of fish harvests quadrupled.
   
   The global fish market continues to grow while the world’s fish resources are undergoing alarming rates of depletion. The World Trade Organization (WTO) continues to work to encourage a reduction in subsidies in order to conserve fish stocks. In June 2006 the WTO negotiatng group on rules met to discuss fisheries subsidies. The debate focused on key questions such as which kinds of protection contribute to overcapacity and overfishing and how to provide special and differential treatment (SDT) for developing countries. (http://agritrade.cta.int/fisheries/wto/index.htm)

   Subsidies to protect domestic fishing industries in many countries around the world have significantly contributed to the loss of fish stocks.

   Subsidies are used to reduce vessel fuel costs enabling long range harvesting and encourage fleet construction to increase productive capacity.

   With trade liberalisation (reduction in trade barriers) in the global market less capital would flow into the sector and fish harvesting levels would fall.

   The removal of subsidies may not ensure the sustainable use of fish resources; however, it removes an economic instrument hampering sustainable fish management.

   Sources:
   
   Australian Department of Foreign Affairs and Trade, Trade Outcomes and Objectives Statement 2001.
   
   Technical Centre for Agricultural and Rural Cooperation ACP-EU. Email: info-agritrade@cta.int
   
   

2. Quotas

   A quota is legally imposed to control the quantity of a good that can be imported into a country over a given period of time.

   The effects of a quota:
   

   From the above diagrams:

   1. i) Figure 2 shows the domestic supply and demand curves (DdDd and SdSd) for hockey sticks with free trade.
      • With free trade the world and domestic price for hockey sticks is OP.
      • At OP consumers demand is OQ, the quantity supplied by domestic producers is OQ₂ and imports are Q₂Q.
        
        
   2. Figure 3 shows the effect of the government imposing a quota to decrease imports from Q₂Q to Q₁Q₃.
      • The domestic price of hockey sticks will rise from OP to OP₁ and will benefit holders of the import licenses and domestic producers.
      • Domestic supply increases from OQ₂ to OQ₁.
      
      
      

   The effects of imposing a quota are similar to that of a tariff, (click here for information on tariffs) however there are a number of important differences.

   • Unlike tariffs the government does not receive any revenue, however the government raises revenue when it sells import licences.
   • The imposition of the quota has decreased supply and increased the price of imports. The domestic producers will benefit as they become more price competitive and increase market share. However, with a tariff overseas, producers can reduce their prices and still effectively compete in the domestic market.
   • Quotas on imports are often more effective in providing protection for domestic producers than tariffs because once the import quota has been filled further imports are prohibited, and producers are guaranteed a share of the domestic market.
   • Quotas are more effective at limiting consumer purchases of imported goods with inelastic demand. With tariffs consumer can choose to pay the higher price. However, with quotas, once all the imported goods are sold consumers are forced to purchase the domestically produced good or go without.
   
   
   Countries may also use a combination of tariffs and quotas. Such combinations are known as tariff-quota systems. Producers of imported goods pay the standard rate of tariff up to the quota amount, and any imports above the quota are paid at a higher rate.
   
   For example the Australian sugar industry has had a 1.94 million tonnes quota with a 20% tariff and the wheat industry has had a 9.6 million tonnes quota with a 9% tariff.
   
   
3. Local content rules
   
   This method of production requires that certain products contain a minimum percentage of domestically produced components. The remaining components can be made up of imports and may attract zero tariffs. Domestic industries that supply the component parts will benefit from increased output and employment under this form of protection.
   Australia has used local content rules in the motor vehicle industry.
   
   
4. Export incentives
   The government can provide domestic producers with specific assistance when competing in foreign markets. Assistance can take the form of tax concessions and export incentives. The Backing Australia’s Ability program of the federal government is an example of the assistance that can be provided to domestic industries.
   
   Tax cuts enable domestic producers to reduce costs and domestic consumers will benefit from reduced prices. In Australia the Trade Commission (Austrade) was formed in 1986 to help export orientated companies compete in overseas markets.
   
   Case study
   
   
   Domestic programs underpin export success
   
   In January 2001, the Prime Minister, Mr. John Howard announced the government’s innovation action plan, Backing Australia’s Ability, which provided additional funding of $2.9 billion over five years to science, technology and information technology based on research and development. It reflects a whole-of-government approach involving industry, government and the community, to enhance the innovation, performance and competitiveness of Australian business.
   
   

   In May 2004 a new package was announced by the Prime Minister – this one to total $5.3 billion over seven years from 2004-05.  This package, announced  on 6 May 2004, builds on the initial 2001investment so that together these packages constitute a ten year, $8.3 billion funding commitment stretching from 2001-02 to 2010-11.
   
   Both reflect a whole-of-government approach involving industry, government and the community, to enhance the innovation, performance and competitiveness of Australian business.
   
   Backing Australia’s Ability represents a commitment to pursue excellence in research, science and technology, through three key themes:

   • the generation of new ideas (research and development) ;
   • the commercial application of ideas ; and
   • developing and retaining skills .
     

   Source: Australian Department of Foreign Affairs and Trade. Backing Australia's Ability - Building Our Future Through Science and Innovation (http://backingaus.innovation.gov.au/default.htm).

   
   
   
5. Voluntary export constraints:
   
   Voluntary export constraints (VERs) involve agreements between national governments and foreign suppliers to restrict the exporting of certain products to an importing country. Foreign producers may enter into such an agreement to avoid the imposition of tariffs and quotas on these products. For example, in 1981 Japan has voluntarily limited the number of car exports to the United States.

Review exercises

Exercise 1

Exercise 2

True and False Quiz     Flash version     HTML version

Exercise 3

1. Use the Internet to gather up-to-date information to respond to this question.
   The Cairns Group (formed in 1986) has played an important role in liberalising world trade in agriculture. Access the Internet site for The Cairns Group and briefly outline their main objectives? Answer
   
   
2. What are the objectives of the Global Alliance for Sugar Trade Reform? Answer
   
   
3. How have subsidies and price support schemes by the USA and the European Community affected the Australian Sugar Industry? Answer

More

The World Trade Organisation web site has a section on current programs and media releases. Complete a review of an article related to protection.

For students who are interested in exploring these issues the Australian Department of Foreign Affairs and Trade home page has a section on media releases and global issues. Select an article and review the main points.

The Institute for International Economics is a good source of materials on international institutions and international economic issues.

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