Reasons for trade restrictions: protect strategic industries

IGCSE Economics 0455 – International Trade & Globalisation

6.1 Specialisation & Free Trade

Key Concepts

• Specialisation: Producing the goods and services in which a country has a comparative advantage (i.e. the lowest opportunity cost).
• Comparative advantage: A country can produce a good at a lower relative (opportunity‑cost) price than another country.
• Absolute advantage: A country can produce a good using fewer resources (or at a lower absolute cost) than another country. It is possible to have an absolute advantage without a comparative advantage.

Advantages of Free Trade (5 points)

1. Higher overall efficiency – resources are allocated to their most productive (comparative‑advantage) uses.
2. Lower prices for consumers – real incomes rise because imported goods are cheaper.
3. Greater variety of goods and services – consumers have more choice.
4. Economies of scale – firms can produce larger volumes for a larger market, reducing average costs.
5. Stimulates economic growth and innovation – competition encourages firms to improve products and processes.

Disadvantages of Free Trade (4 points)

1. Domestic industries that are less competitive may shrink or disappear, leading to job losses.
2. Increased dependence on imports for essential goods, creating vulnerability.
3. Terms‑of‑trade problems if a country mainly exports low‑value goods.
4. Adjustment costs – retraining workers, relocating resources, and providing social support.

6.2 Globalisation

Definition

Globalisation is the increasing integration of world economies through the growth of international trade, investment, migration and the rapid spread of ideas and technology.

Causes of Globalisation (syllabus order)

• Advances in transport (container shipping, low‑cost airlines).
• Advances in communications (Internet, satellite, mobile technology).
• Trade liberalisation – removal of tariffs, quotas and other barriers.
• Growth of multinational companies (MNCs) that locate production abroad.
• Deregulation and privatisation of previously state‑run sectors.
• Regional and global trade agreements (e.g., WTO, EU, NAFTA).

Consequences of Globalisation (economic, social, environmental)

• Economic: higher growth, more competition, spread of technology, greater exposure to external economic shocks (e.g., financial crises, commodity‑price volatility).
• Social: cultural exchange and migration, but also widening income inequalities.
• Environmental: increased resource use and pollution; also potential for shared environmental standards.

Multinational Companies (MNCs)

Definition: MNCs are firms that own or control production facilities in more than one country.

Trade‑Restriction Instruments (ordered as in the syllabus)

• Tariffs – ad‑valorem (percentage of value) or specific (fixed amount per unit).
• Quotas – absolute limits, tariff‑rate quotas, or voluntary export restraints.
• Subsidies – production subsidies, export subsidies, tax breaks.
• Embargoes / bans – total prohibition of trade in a particular good.
• Licences & permits – import/export licences, dual‑use controls.
• Technical standards & regulations – safety, health, environmental standards that favour domestic producers.
• Currency controls – restrictions on foreign‑exchange transactions.

Reasons for Trade Restrictions (with typical instrument and illustrative example)

Strategic‑Industry Protection in Detail

What Are Strategic Industries?

Industries deemed essential for national security, economic stability or long‑term development. Typical examples include:

• Defence & aerospace
• Energy (oil, gas, nuclear, renewable grids)
• Telecommunications & internet infrastructure
• Food & agriculture (staple crops)
• Semiconductors & micro‑electronics

Why Governments Intervene

• National security – ensure self‑sufficiency in defence‑related goods.
• Economic resilience – protect large‑scale employment and export earnings.
• Technological leadership – retain domestic R&D capability.
• Balance of payments – reduce imports of essential inputs.
• Strategic autonomy – limit foreign control over critical infrastructure.

Typical Instruments Used

• High import tariffs on critical components.
• Import quotas or outright bans on finished strategic goods.
• Export licences for sensitive technology.
• Production subsidies and tax incentives.
• Foreign‑ownership caps and mandatory joint‑venture requirements.

Arguments For Protection

1. Ensures supply during geopolitical tension or crises.
2. Preserves jobs and stabilises regions dependent on the sector.
3. Encourages domestic innovation and prevents technology leakage.
4. Improves the current account by limiting essential imports.

Arguments Against Protection

1. Higher prices for consumers and downstream industries.
2. Risk of inefficiency and reduced innovation without competitive pressure.
3. Possibility of retaliation → trade wars.
4. Resources may be diverted from sectors where the country has a comparative advantage.

Evaluation

Effective policy usually combines limited protection with measures that boost competitiveness, such as targeted R&D subsidies, skills training and export‑promotion programmes. Over‑protection can lead to long‑run welfare losses.

Suggested Diagram

Consequences of Trade Restrictions

• Home country: higher domestic prices, possible inefficiency, protected jobs, risk of retaliation, short‑term improvement in the balance of payments.
• Partner (export‑receiving) country: loss of export revenue, lower employment in affected sectors, possible shift to other markets, diplomatic tension.

6.3 Foreign‑Exchange Rates

Key Definitions

• Foreign exchange (FX) market: The market where currencies are bought and sold.
• Exchange rate: The price of one currency expressed in terms of another (e.g., £1 = $1.30).

Why Currencies Are Bought and Sold

• International trade – importers need foreign currency to pay for goods.
• Foreign investment – investors convert home currency to buy assets abroad.
• Speculation – traders aim to profit from expected movements.
• Tourism and remittances.

Determination of Exchange Rates

• Floating (market‑determined) rates: Supply and demand for currencies set the price.
• Fixed (pegged) rates: Government or central bank commits to a set rate and intervenes as needed.
• Key influences: relative interest rates, inflation differentials, economic growth, political stability, expectations of future movements.

Effects of Exchange‑Rate Movements

Suggested Diagram

6.4 Current Account of the Balance of Payments

Definition & Components

The current account records a country’s transactions in:

• Goods – exports and imports of physical products.
• Services – tourism, transport, financial services, etc.
• Primary income – profits, interest and dividends earned abroad.
• Secondary income – remittances, foreign aid and gifts.

Calculation

Current Account = (Exports of goods + exports of services) – (Imports of goods + imports of services) + Net primary income + Net secondary income

Causes of Surpluses & Deficits

• Surplus: High export competitiveness, low domestic consumption, strong savings rate, depreciated exchange rate.
• Deficit: High import demand, weak export sector, high domestic investment financed by foreign capital, over‑valued currency.

Consequences

• Surplus → accumulation of foreign reserves, upward pressure on the currency, risk of “currency appreciation” that may hurt exports.
• Deficit → need for foreign capital inflows, possible depletion of reserves, depreciation pressure, risk of external‑debt buildup.

Policy Options to Address Imbalances

• Exchange‑rate adjustment (devaluation to boost exports, appreciation to curb deficits).
• Fiscal policy – reduce government spending or increase taxes to lower import‑driven consumption.
• Monetary policy – raise interest rates to attract capital inflows (helps a deficit) or lower rates to stimulate export‑oriented growth.
• Trade policies – temporary tariffs or quotas, export promotion schemes, import‑substitution programmes.
• Capital‑account controls – limits on short‑term foreign borrowing.

Suggested Diagram

Key Take‑aways

• Specialisation based on comparative advantage leads to higher efficiency; absolute advantage is a separate concept.
• Free trade brings efficiency, lower prices and growth, but can cause job losses and adjustment costs.
• Globalisation is driven by transport, communication, liberalisation, MNCs, deregulation and trade agreements; it yields growth, competition, technology spread, and greater exposure to external shocks.
• MNCs are firms operating in multiple countries; they bring investment, jobs and technology but can also create dependence.
• All seven trade‑restriction instruments required by the syllabus must be understood and linked to the specific reasons for protection.
• Strategic‑industry protection is justified on security, resilience and technological grounds, yet over‑protection can cause inefficiency and retaliation.
• Exchange‑rate movements affect imports, exports, inflation and the current account; policymakers can intervene via floating/fixed regimes and macro‑policy.
• The current account records trade in goods, services, primary and secondary income; surpluses and deficits have distinct causes, consequences and policy responses.