What’s it: An import quota is an import policy by limiting the quantity of product imports over a certain period. The government implemented it to protect domestic industries that were vulnerable to pressure from imported products. Or, it is retaliation for a similar policy by a partner country.
Import quotas are one of the non-tariff trade barriers in addition to subsidies and embargoes.
Import quota purposes
The government tries to protect domestic industries by limiting the quantity of imports. Producers in partner countries may adopt unfair trade practices.
Foreign producers may deliberately try to force domestic producers out of the competition. They sell at a price below the domestic market price.
Indeed, cheaper imported products may be due to lower production costs. However, foreign producers may also deliberately dump. They sell to foreign markets at a lower price than those sold in their domestic market.
Dumping hurts the domestic market. High imports increase pressure on domestic producers and make them less competitive.
As a result, imported products began to shift the position of domestic products. Domestic consumers are starting to switch from domestic products to get lower prices.
Imported products then capture more sales and leave less share for domestic producers. In the long run, conditions are likely to turn off domestic producers.
To prevent this, the government can implement trade barriers. One option is to impose import quotas.
Quotas limit the quantity of imports that are allowed to enter the domestic territory. Due to the lower quantity of imports, the competitive pressure eased. However, that raises another problem, namely shortage.
Apart from protecting domestic industries, another purpose of import quotas is to save foreign exchange reserves and lessen pressure on the balance of payments. High imports put pressure on the trade balance. That can result in a deficit if exports don’t grow at an equal rate. A deficit means that the incoming currency is lower (proceeds from exports) than is exiting (to pay for imports). That ultimately drained foreign currency reserves to pay for imports.
Difference between import quota vs. import tariff
Quotas are different from import tariffs. Under the quota, the government limits the quantity of the product. Meanwhile, import tariffs are levies on the price of imported products.
Import quotas only affect the quantity and do not increase the price of imported products. Conversely, import tariffs increase the price of imported products.
Quotas produce shortages in the domestic market, whereas tariffs do not.
The government enforces both to protect the domestic economy. For the government, tariffs are a source of revenue for the fiscal budget. But, the quota is not.
For foreign producers, tariffs are costs. Their goods are becoming more expensive and less competitive in the domestic market. Conversely, quotas mean their sales volume is lower.
How the import quota works
As I said earlier, under the import quota, the government limits the quantity of imports. The government usually appoints several importers to ship goods from abroad. The government then sets a limit on how much they can import.
Say, before the quota policy took effect, the importer shipped 100 tonnes. Due to high demand, they then increased the import quantity to 200 tons.
High imports increase supply in the domestic market. Feeling that imported products threaten their position, domestic producers pressure the government to impose import quotas.
Say, the government agrees. The government then issued a quota policy and limited imports to only 90 tons.
Indeed, with the new quota, the government protects domestic producers. But, that also raised another problem. Domestic supply is reduced. The shortage is up to 110 tonnes (200 tonnes – 90 tonnes) in the above case.
Note: In microeconomics, another term for the shortage is excess demand, a condition in which demand exceeds supply.
Following the law of supply-demand, a decrease in supply pushes up the domestic market price. That, of course, is detrimental to consumers.
Let’s draw the situation on a graph.
Before the quota took effect, supply in the domestic market was in Q1. After the quota policy came into effect, supply was reduced to Q2 due to the smaller imports. The supply curve shifts to the left.
Assuming demand is constant, less supply will push the price up from P1 to P2. As a result, domestic consumers have to pay higher prices.
Consumers also have fewer choices. Imported goods may offer some features that are unavailable in domestic products.
To deal with rising prices, the government should encourage domestic producers to increase production. Say, domestic production increases as much as the quantity of imports decreases (Q1 minus Q2). Market prices should fall back to previous levels, assuming that demand is unchanged.
Types of import quota
Import quotas can take several variations. The government may impose a fixed quota. In this case, the government limits the maximum amount that can be imported. In the example above, the government limits imports to only 90 tonnes.
Furthermore, the government can also apply a tariff-rate quota. The government still allows imports over the quota but has to pay high import duties for each additional quantity.
For example, suppose the import quota is 90 tonnes, and the importer pays a duty of 6%. They can import more than 90 tonnes but must pay an import duty of 15%.
In short, the tariff-rate quotas are a combination of import quotas and import tariffs.
Other types of import quotas are:
- Voluntary export restraints
- Hidden quotas
Voluntary export restraints
Voluntary export restraints (VERs) are voluntary quotas adopted by exporting countries. It contrasts with the conventional quota, where the importing country is the one that imposes the quota.
VERs are mutually beneficial between the countries involved. And, why are exporting countries willing to do so? Isn’t that detrimental to their producers?
Import quotas are a protectionist measure. It tends to provoke retaliation from exporting countries. Worsening trade relations could lead to trade wars.
Say, the United States imposes import quotas on Chinese products. Because it hurts domestic producers, the Chinese government would adopt a similar policy and limit imports of products from the United States. And the situation gave rise to a prolonged trade dispute.
To deal with worsening conditions, the United States can negotiate a VER with China. The two countries come into a bilateral agreement. China agreed to impose quotas for its exports to the United States.
Why did China agree? China may think that is the best solution. If China does not implement a VER, the United States could take a stricter policy. The United States could retaliate through not only quotas but also other trade barriers such as import tariffs.
VERs are an effective tactic for reducing trade disputes. That eases geopolitical tensions. And as international trade keeps changing, the countries involved will usually update the VER to keep it useful.
The government can limit the supply of imported goods without explicitly imposing import quotas. For example, the government may impose stricter requirements or quality controls on certain imported products.
Although relatively simple, however, such a policy is quite effective, mainly if it targets low-quality goods.
Another form of hidden quotas is to increase propaganda campaigns to encourage domestic consumers to reduce their consumption of imported goods. For example, the government could open propaganda about how imports could cause health problems.
One example is the European Union’s campaign on environmentally friendly vegetable oils. Such campaigns have proven effective in reducing demand for palm oil from countries such as Indonesia, which are considered environmentally unfriendly in their production.
Import quota advantages
Quotas can be more effective at restricting trade than tariffs.
The government can determine how much imports enter the domestic market.
Conversely, tariffs may be ineffective in limiting the quantity of imports. The exporting country may subsidize their export products. The goal is to keep products competitive even though the destined country applies import tariffs.
Import quotas also do not depend on the elasticity of demand or changes in exchange rates.
Depreciation, for example, causes imported products to fall. If a product is elastic in demand, a decrease in price will increase the demand for higher imports.
However, because the quantity is limited, depreciation will not affect.
Import quota disadvantages
Import quotas contain several weaknesses.
The government does not get revenue.
The main focus of the policy is product quantity. That contrasts with tariffs, which are a form of tax on goods. The increase in tariff increases government revenue But, that doesn’t apply to quotas
Domestic consumers bear higher prices.
If domestic producers do not increase production to offset a decrease in imports, it reduces supply in the domestic market. Consequently, the price will go up.
Quotas may be beneficial for some importers but not for others.
Rations may not be evenly distributed among importers. The government may favor state-owned importers over private importers by giving them higher quotas.