International Trade & Globalisation – Trade Restrictions (Cambridge IGCSE Economics 0455, Topic 6)
1. Specialisation, Comparative Advantage and Free Trade
- Specialisation: Countries concentrate on producing the goods and services for which they have the lowest opportunity cost.
- Comparative advantage: A country has a comparative advantage in a product if it can produce it at a lower opportunity cost than another country.
- Benefits of free trade:
- Higher total output – the world can produce more of every good (illustrated by the PPF‑specialisation diagram).
- Lower prices for consumers.
- Greater variety of goods.
- Limits of free trade:
- Market failures (e.g., externalities, public goods).
- Strategic or security concerns.
- Adjustment costs for workers and firms.
2. The Current Account and Its Deficit
- Current account (CA) records:
- Trade in goods and services (exports X – imports M)
- Net primary income from abroad
- Net current transfers
- Formula:
CA = X – M + Net Income + Net Transfers - A deficit occurs when
M > X. The shortfall must be financed by:- Capital inflows (foreign direct investment, portfolio investment)
- Borrowing (official or private)
- Drawing down foreign‑exchange reserves
3. Types of Trade Restrictions (Cambridge definition)
| Restriction | Definition (Cambridge syllabus) | Typical effect on imports (M) |
|---|
| Tariff | A tax imposed on each unit of a good that is imported. | Raises the price of the imported good → quantity demanded falls. |
| Import quota | A physical limit on the volume of a particular import. | Directly caps the amount that can be imported. |
| Import licensing | Requirement to obtain a licence before importing certain goods. | Can limit quantity or add administrative cost, reducing imports. |
| Non‑tariff barriers (NTBs) | Regulatory measures (e.g., standards, technical regulations, sanitary‑phytosanitary rules) that impede imports without a tax. | Raise the effective cost or difficulty of importing. |
| Export subsidies (indirect restriction) | Payments or tax‑reliefs given to domestic exporters. | Boosts exports (X) and improves the trade balance. |
| Exchange controls | Restrictions on the amount of foreign currency that can be used for imports. | Reduces ability to pay for imports, lowering M. |
4. Syllabus‑Worded Reasons for Trade Restrictions
Cambridge lists eight principal reasons. The table mirrors the exact wording and gives a brief illustration for each.
| Reason (as in the syllabus) | Illustrative example |
|---|
| To protect infant or sunrise industries | Tariff on imported solar panels to give a new domestic manufacturer a chance to develop. |
| To protect declining or sunset industries | Import quota on foreign textiles to sustain a domestic garment sector losing market share. |
| To protect strategic (national‑security) industries | Import licence required for advanced micro‑chips deemed essential for defence. |
| To avoid dumping | Anti‑dumping duty on cheap foreign steel sold below its cost of production. |
| To reduce a current‑account deficit | 10 % tariff on motor‑vehicles to cut import spending and narrow the trade gap. |
| To raise revenue for the government | Import duty on luxury cars that also adds to the treasury. |
| To restrict demerit goods (health, safety, moral concerns) | Import ban on cigarettes or hazardous chemicals. |
| To promote environmental sustainability | Technical standards on imported timber to prevent illegal logging. |
5. Globalisation – Causes and Consequences
| Causes of increased globalisation | Economic, social and environmental consequences |
|---|
- Fall in transport costs (container shipping, air freight)
- Fall in communication costs (Internet, satellite links)
- Growth of multinational companies (MNCs)
- Liberalisation of trade policies (reduction of tariffs, removal of quotas)
- Technological advances in production and logistics
| - Economic: larger markets, economies of scale, increased foreign‑direct investment, but also greater exposure to external shocks.
- Social: cultural exchange, migration, potential widening of income inequality.
- Environmental: spread of greener technologies, but also higher carbon emissions from transport and resource exploitation.
|
6. Role of Multinational Companies (MNCs)
- Definition: A firm that owns or controls production facilities in more than one country.
- Why they matter:
- Bring foreign direct investment (FDI) and technology transfer.
- Create jobs and develop local supply chains.
- Repatriate a portion of profits to the parent country (shown in the profit‑repatriation flow diagram).
- Evaluation:
- Positive: higher productivity, access to new markets, spill‑over effects.
- Negative: profit outflows can worsen the current account, possible crowding‑out of domestic firms, and concerns over labour standards.
7. Using Trade Restrictions to Reduce a Current‑Account Deficit
7.1 Mechanisms
- Price effect – Tariffs raise the domestic price of imported goods; quantity demanded falls (law of demand).
- Quantity effect – Quotas and licences set a hard ceiling on import volumes.
- Currency effect – Exchange controls limit foreign‑exchange outflows, directly curbing import payments.
- Revenue effect – Tariff receipts can be added to foreign‑exchange reserves, providing a buffer for essential imports.
7.2 Numerical illustration
Assume:
- Imports (M) = $200 bn
- Exports (X) = $150 bn
- Current‑account trade balance = –$50 bn (deficit)
Policy: 10 % tariff on all imports. The price elasticity of demand for the imported goods is –0.5, so a 10 % price rise reduces import volume by 5 %.
New imports:
M_new = 200 bn × (1 – 0.05) = 190 bn
New trade balance:
CA_new = 150 bn – 190 bn = –40 bn
The deficit narrows from \$50 bn to \$40 bn – a 20 % improvement.
7.3 Suggested diagrams
- Diagram A – Import‑price effect of a tariff: Domestic supply and demand for an imported good, showing the world supply curve shifting upward by the tariff, the resulting higher price (P₁) and lower quantity (Q₁).
- Diagram B – Current‑account flow: A flow chart of exports, imports, net income and transfers, with arrows indicating where tariffs, quotas, licences or exchange controls intervene to reduce the import flow.
8. Evaluation – Advantages and Disadvantages of Trade Restrictions
8.1 Home‑Country Impacts
| Advantages | Disadvantages |
|---|
- Reduces import volume → helps narrow the current‑account deficit.
- Protects jobs in import‑competing sectors.
- Generates fiscal revenue (tariff receipts).
- Supports infant, strategic or declining industries.
| - Higher prices for consumers → lower real income and possible inflation.
- Domestic firms may become less efficient without foreign competition.
- Risk of retaliation – trading partners may impose their own restrictions.
- Loss of export markets if partners respond with barriers.
- Potential misallocation of resources if protection is prolonged.
|
8.2 Partner‑Country Impacts
| Advantages for the partner | Disadvantages for the partner |
|---|
- May stimulate diversification of export markets.
- Could lead to negotiations for more favourable trade terms.
| - Loss of market access reduces export earnings.
- Possible retaliation harms the home‑country’s export sectors.
- Overall global welfare may fall if trade tensions rise.
|
9. Summary Points (for quick revision)
- A current‑account deficit means imports exceed exports; financing the gap can create external vulnerability.
- Trade restrictions (tariffs, quotas, licences, NTBs, export subsidies, exchange controls) are tools to lower imports (M) or raise exports (X).
- Governments use restrictions for eight syllabus‑listed reasons; reducing a current‑account deficit is only one of them.
- Short‑term gains: narrower deficit, protection of jobs, additional government revenue.
- Long‑term costs: higher consumer prices, reduced efficiency, risk of retaliation, possible welfare loss for both home and partner countries.
- Understanding the role of specialisation, free trade, globalisation drivers, and MNCs provides the wider context for why governments intervene in trade.