Protectionism vs Free Trade - Brazil

Protectionism vs. Free Trade - Arjun Goyal

Q: Analyze and evaluate the impact of any major protectionist measure undertaken by the country allocated to you (Brazil).

            In a complex interconnected world, where globalization induced trade clashes with domestic production policies, protectionism has become a policy whose benefits have become debatable. Protectionism can be defined as an activity designed to protect domestic industry from the competition of foreign producers, and it can be implemented using protectionist measures. Protectionist measures are those measures that limit competition from foreign producers in the domestic market by either limiting their market share, or helping domestic producers. Protectionist measures can be implemented and undertaken in 3 principle ways: tariffs, quotas and subsidies. Tariffs are taxes imposed on imported goods, which limits their supply by increasing their price with respect to domestic goods. Quotas are legal limits of the quantity of goods that can be imported into the country. Subsidies are non-commercial grants given to domestic producers so that their goods can compete with the cheaper imported goods. Brazil has employed many of these protectionist measures in its economic policies, primarily because it is still a developing country with a huge potential of domestic growth. Natural resources and labor have acted as catalysts in promoting domestic production and growth. President Dilma Rousseff has accelerated protectionist policies in the country, in the attempt to put domestic production into overdrive, develop new technologies in the country and protect local and infant industries from foreign goods. While these measures may seem foolproof, they have led to positive and negative consequences for other stakeholders involved.

            For a explanation into this claim, we can take the example of tariffs imposed on imported goods in Brazil. Out of all the protectionist measures, tariffs imposed on imported goods are probably the most substantial of the protectionist measures. Recently, Brazil upped its protectionism, leading to an imposition of a tariff on more than a hundred different goods. Much to the dismay of other international producers of goods, existing tariffs have also increased on most goods, worsening the state of foreign exporters to Brazil. The effect of a tariff is shown in Diagram 1 below:

Diagram 1: The effect of the imposition of a tariff on the quantity traded and price.

As shown by diagram 1, the tariff causes a rise in world prices from P_w to P_w+t. The initial domestic production is Q₁, but after the imposition of the tariff, it rises to Q₂ and also occupies the production between Q₃ and Q₄. The imports reduce from the previous Q₄-Q₂ to the new Q₃-Q₂. This means that the tariff imposed transferred some part of the imported supply to the domestic supply, thus protecting the domestic firms from foreign competition. The increased prices also mean that the domestic firms get larger revenue without paying for the tariffs. The effect of tariffs has an effect on not only the producers, but also all stakeholders involved in the process.

The domestic producers are obviously better off, since the whole point of the imposition of the tariff is to benefit the domestic producers. The domestic producers have an increased quantity supplied as well as a higher price, leading to much higher revenues for the domestic producers. This higher revenue not only increases their future supply, but can also provide for funds required in research of new technology and more efficient methods of production.

As the enforcer, the government benefits greatly by the imposition of the tariffs. Not only do they succeed at their goal of protecting domestic firms, but also receive revenue through the tariffs. The diagram shows the revenue of the government in shaded green. This revenue can be invested into production of other merit goods, which can ultimately help the society.

Contrastingly, the imposition of the tariff makes Brazilian consumers worse off since the consumers have to pay for a higher price than the world price. The increase in prices translates to increased consumer expenditure, which is not good for the consumers. This is a direct effect of the imposition of the tariff.

The foreign producers are the worst affected. The foreign producers might have higher prices, but also have to pay the tariff on the goods. Furthermore, they lose quantity supplied to the domestic producers due to the imposition of the tariff. This causes a large loss of revenue for the foreign producers. This is the reason why most countries are rebelling against Brazilian protectionism.

            The society is affected in both positively and negatively. While the society may benefit from the possible gains of the increased government revenue, it also gains by the increased domestic employment due to the increased domestic production. However, the regressive nature of the tax makes the income distribution status of the country worse, acting negatively for the society. This means that the tariffs cause a larger disparity between the rich and poor, resulting in formation dual economies. The protection to the domestic firms also prevents weeding out of inefficient domestic firms from the market, protecting them and inhibiting more efficient production overseas. Consequently, this leads to global misallocation of resources, resulting in a welfare loss. The welfare loss can be seen in green in diagram 2 below:

Diagram 2: The welfare loss shown in green due to the imposition of the tariff.\

            While the imposition of Rousseff’s tariff policy may seem to benefit the country, Brazil is undergoing losses in various other sectors due to the imposition of this tariff. The pros of the operation may be that domestic production, employment and government revenue increases, but the numerous cons like higher prices for consumers, disparity in income distribution, and general inefficiency in production elicit concern. Apart from this, the imposition of tariffs may also lead to trade wars, where other countries employ protectionist measures against Brazil as a sign of rebellion against Brazilian protectionist measures, destroying economic stability and affecting Brazil’s exports and balance of payments. In this way, the aim of increased domestic production and growth is riddled with problems in the spheres of the other stakeholders. Rousseff’s government may plead with infant industry argument or the diversification of developing country argument, but the negative consequences of the imposition of the tariffs are sufficiently glaring to say that other stakeholders are paying a price.

            The imposition of tariffs as a protectionist measure in Brazil is helping the country build up its domestic production capabilities, and might allow them to be major exporters in the near future. However, the heavy tariffs on majority of imported goods are causing problems in other spheres and dissatisfaction among major trade partners with Brazil. A good balance between protectionism and free trade may be the solution and may be able to inhibit the negative consequences of tariffs, and still be able to protect vital industries that suffer due to international competition. One also has to remember that tariffs are not the only protectionist measure employed by the Brazilian government; quotas and subsidies have also found their way into Brazilian protectionist policy, meaning that while domestic industries are sufficiently protected, other stakeholders may lose out more. The impact of protectionism may help Rousseff’s government in the present, but its overuse may lead to damaging consequences for the other stakeholders.