A trade barrier is any obstacle that limits the movement of trade flows between countries. Generally, this measure protects the domestic economy.
There are various kinds of trade barriers, including tariffs, quotas, embargoes, sanctions, and regulations. However, in broad terms, the walls can fall into two main categories:
- Government-imposed barriers are deliberate actions that make trading more difficult. See rates, quotas, embargoes, and standards.
- Natural resistance, such as inaccessible geographic areas.
And in economic textbooks, trade barriers usually refer to the first point.
Types of Trade Barriers
Several types of trade barriers are deliberately designed. For example, the government could issue tariffs – special taxes imposed on imported goods – to limit goods from abroad.
Other barriers, such as quota restrictions and Voluntary Export Restraints (VER) agreements, have also become increasingly common.
Other nontariff barriers can also take the form of health and safety standards, labeling requirements, and weights and measurement rules. Although these barriers are not always intended to restrict trade, modifying products to conform to requirements comes with costs.
Public procurement policies also often impose trade barriers, giving domestic suppliers preferential treatment over foreign suppliers due to legal requirements.
Furthermore, certain types of barriers prevent trade completely, for example, a trade embargo.
Tariff barriers
Import tariffs are taxes imposed on imports.
Imports are a source of supply in an economy. In an open economy, there are two sources of goods and services, namely domestic and import, to meet domestic needs. If domestic production does not meet domestic demand, imports meet the shortage.
When the government imposes import tariffs, import product prices go up. As prices become more expensive, domestic consumers reduce import demand.
For exporters, tariffs are detrimental because their goods are less competitive. Conversely, for domestic producers, tariffs are an opportunity to increase production and become more competitive. That way, they are more competitive in meeting domestic needs.
Nontariff barriers
Nontariff barriers involve rules and regulations that make trading more difficult, such as quotas, licensing, packaging, and labeling requirements, sanitary restrictions, and standard domestic inspection.
Quota
Quotas restrict the number of goods imported by a country for a certain period. This essentially caps the amount of a particular good that can enter the domestic market. Imagine a store with a limited stock of a popular item—quotas function similarly.
When quotas are enforced, each importing company receives an import license, which determines the specific amount they are allowed to bring in. This system can create a competitive environment among importers as they vie for a limited share of the import quota. Companies with larger quotas or those that can negotiate better deals with foreign suppliers may be able to secure a larger slice of the import pie.
However, quotas can also lead to inefficiencies. Limited supply due to quotas can lead to higher prices for consumers, who have fewer choices of products available. Additionally, black markets may emerge to meet the excess demand created by the restricted supply, potentially introducing counterfeit goods or safety hazards.
Voluntary Export Restraints (VERs)
Voluntary export curbs are similar to quotas. In this case, the partner countries agree to limit the number of exports. While the quota is imposed by the importing country, VER is set by the exporting country.
For example, in 1981, the United States and Japan adopted this agreement. Japan agreed to limit its annual exports of 1.68 million cars to the US.
But, ironically, such restrictions make Japanese exporters more profitable. They can raise prices because the quantity of supply is more limited. Another consequence was that Japanese companies began assembling cars in the US and forging partnerships with American automakers.
Subsidy
Government subsidies can provide a competitive advantage for local producers. For example, the European Union offers EUR39 billion to farmers in the form of direct subsidies. The provision of these subsidies makes the EU’s agricultural exports more competitive in international trade.
Furthermore, there are also export subsidies. A government payment made to domestic exporters for certain goods, export subsidies are intended to stimulate exports.
On the negative side, export subsidies interfere with free-market mechanisms and may result in a trade pattern that differs from that determined by comparative advantage. Furthermore, domestic producers will be more inclined to export their output than to sell it in the domestic market.
Embargo
An embargo is a complete ban on trade with a specific country. It is a far more severe measure than a tariff or quota, and it’s typically implemented for political rather than economic reasons. The main goal of an embargo is to pressure the target country’s government to change its policies or behavior.
For example, after Fidel Castro came to power in Cuba and implemented communist policies, the US imposed a trade embargo on Cuba. This meant no goods could enter from Cuba into the United States or vice versa.
Embargoes can be very disruptive to economies and often have unintended consequences for both the imposing country and the target country. The imposing country may lose access to valuable resources or markets, while the target country may experience shortages of essential goods and hampered economic growth. Additionally, embargoes can strain diplomatic relations and hinder international cooperation on other issues.
Licensing requirements
Imagine needing a special permit just to import a specific product. Licensing requirements involve obtaining government approval before importing certain goods. This process can be time-consuming and expensive, requiring companies to navigate complex regulations and potentially face delays or even denials. The uncertainty and cost associated with licensing can discourage some companies from engaging in international trade altogether.
Standards
Safety and quality standards are crucial for protecting consumers. However, some countries may establish overly stringent or complex standards specifically for imported goods. This can make it harder for foreign companies to comply, effectively limiting the competition they pose to domestic producers. For instance, a country might have very specific labeling requirements for imported food products, requiring foreign companies to redesign packaging or conduct additional testing to meet these standards. These measures, while potentially justified from a safety perspective, can create unnecessary burdens on imports.
Sanitary and Phytosanitary (SPS) measures
These regulations aim to protect human, animal, and plant health from diseases and pests. While these goals are important, overly stringent SPS measures can create unnecessary burdens on imports. For example, a country might have a very specific inspection process for imported fruits and vegetables, involving lengthy quarantines or destructive testing. These measures, while designed to prevent the spread of diseases, can make it difficult and expensive for foreign producers to meet the requirements, ultimately hindering trade.
Technical Barriers to Trade (TBTs)
These are standards that apply to the technical specifications of a product, such as its design, performance, or labeling. Similar to safety standards, overly complicated TBTs can make it challenging for foreign products to enter a market. Imagine needing to modify a product’s electrical plug design or data encryption protocols just to sell it in a specific country. These measures can stifle innovation and increase costs for foreign companies, hindering their ability to compete in the global marketplace.
Government procurement
Many governments have policies, often in the form of quotas or preferences, that favor domestic companies when purchasing goods and services. This can make it difficult for foreign companies to compete for government contracts, even if they offer a better product or price. These policies can distort competition and limit the potential for efficiency gains in government spending.
Subsidies
While not strictly an NTB, government subsidies to domestic industries can create an unfair advantage in the international market. If a domestic company receives financial support from its government, it may be able to offer lower prices or invest more heavily in research and development, making it harder for foreign competitors to compete. This can lead to a situation where consumers in the subsidizing country end up paying higher taxes to support domestic producers, while consumers in other countries benefit from lower prices due to the subsidies.
Arguments for trade barriers
Trade barriers are usually used to protect the domestic economy, especially strategic industries. Obstacles such as tariffs or taxes can benefit governments, domestic producers, and national interests.
However, trade restriction policies often cost consumers. With less supply, they are more likely to pay higher prices for goods.
Apart from economic reasons, the imposition of restrictions is also in response to partner countries’ similar actions. For example, in the case of dumping, a country will fight it through anti-dumping policies.
Protecting domestic employment
Some industries are highly strategic for an economy because they absorb a lot of labor. An example is the car industry.
The abundance of imported goods threatens the domestic industry. If the pressure on imports is so great, domestic companies can go bankrupt and close down. As a consequence, unemployment has increased.
This pressure can be very populist. A high increase in the unemployment rate can put pressure on the government. High unemployment is very unpopular in society and can worsen the electability of the government in power. As a result, whether we like it or not, the government will intervene to secure the domestic industry and employment.
Protecting consumers
The government can take multiple steps to protect consumers from potentially harmful imported goods. Tariffs can be imposed on products deemed hazardous or of low quality, making them less attractive to consumers and incentivizing them to choose safer alternatives. This can be particularly relevant for products like children’s toys, food items, or electrical appliances, where safety standards are paramount.
In addition to tariffs, governments can also set stricter health requirements and product standards. This might involve more rigorous testing procedures, mandatory labeling of ingredients and potential risks, or even outright bans on certain products deemed too dangerous for consumers. For instance, a country might impose stricter labeling requirements for genetically modified organisms (GMOs) in imported food products,
Save national security
Trade barriers can safeguard strategic industries crucial for national security. These industries are vital for a country’s ability to defend itself and maintain its independence. For example, the trade war between China and the United States under Donald Trump’s administration started with concerns about the United States’ national security.
By limiting imports of these goods or technologies through tariffs or quotas, governments aim to ensure domestic companies have the capacity to meet the nation’s needs in times of crisis.
For example, a country might impose import restrictions on certain types of advanced semiconductors, critical components for modern military technology, to ensure domestic manufacturers can supply these vital parts in case of a conflict disrupting international trade. It’s important to note that the use of trade barriers for national security reasons can be a complex issue, as it can sometimes come at the cost of higher
Retaliation against trading partners
A country can also impose trade restrictions in retaliation for unfair competitive behavior by trading partners. For example, a government imposes tariffs on products suspected of being dumping. We call such a policy anti-dumping.
Dumping is the practice of selling at a lower price abroad than at home. Because the foreign market is usually larger than the domestic market, dumping practices allow exporters to generate higher profits.
Dumping can be predatory pricing by large multinational companies to gain market share. Such large companies can bear losses in the short term compared to smaller players.
The purpose of dumping is to force companies in the destination country into bankruptcy. Exporters push down market prices below the average cost of producers in the destination country. Once they are gone, the exporter enjoys monopoly power and is likely to increase profits.
Because dumping is very detrimental to domestic producers, the government would impose trade tariffs. Tariffs increase the price of imported goods.
The increased price of imported goods keeps domestic producers competitive. That prevents them from going bankrupt. If these tactics are ineffective, the government can impose sanctions on certain companies and prohibit them from doing business with the domestic economy.
Support for early-stage industry (infant industry argument)
Early-stage industries are vulnerable to competitive pressures, especially from foreign players (through imports). Hence, this industry often requires high commitment and support from the government to grow. Support becomes even more significant if the industry is up-and-coming economically in the future.
To protect the industry, the government could impose trade tariffs. It could also subsidize players so that they can grow big and compete with foreign players.
Impacts of trade barriers
Trade barriers, while implemented with the intention of protecting domestic interests, can have a ripple effect across the economy, impacting consumers, businesses, and overall economic growth. Here’s a closer look at the potential drawbacks of trade barriers:
For consumers
Higher prices: One of the most immediate consequences of trade barriers is an increase in consumer prices. When tariffs or quotas limit the import of certain goods, domestic producers face less competition. This can lead to them raising prices, knowing consumers have fewer options. Additionally, with a smaller supply of imported goods, the overall availability can decrease, pushing prices even higher due to basic principles of supply and demand.
Reduced choice and quality: Trade barriers can limit the variety and quality of goods available to consumers. By restricting imports, consumers lose access to products from foreign countries that might offer better features, lower prices, or simply cater to different tastes and preferences. This lack of competition can also stifle innovation among domestic producers, as they face less pressure to improve their offerings constantly.
Limited access to new technologies: Trade barriers can hinder the flow of new technologies and ideas across borders. Restrictions on imports can make it more difficult for foreign companies to introduce innovative products into a market. This can slow down the adoption of new technologies across the domestic economy, potentially hindering productivity and economic growth.
For businesses
Higher costs and less efficiency: Trade barriers, such as complex licensing procedures or stringent standards, can increase the costs and time associated with importing goods. This can make it more difficult for businesses to compete globally, as they face additional burdens compared to competitors who can source materials or products more freely. Additionally, limited access to foreign technologies and expertise can hinder a company’s ability to innovate and improve its own products and processes.
Disrupted supply chains: Trade barriers can disrupt carefully established supply chains, leading to production delays and higher costs for businesses. Companies that rely on imported components or raw materials may face difficulties obtaining them due to quotas or restrictions. This can force them to find alternative suppliers, potentially at higher prices or with longer lead times, impacting their overall production efficiency.
Limited market access: Trade barriers can limit a company’s ability to export its products to foreign markets. Tariffs imposed by other countries can make their products less competitive, hindering their potential for international sales growth. This can be particularly detrimental for companies operating in industries heavily reliant on exports.
Overall economic impact
Slower economic growth: Trade barriers can stifle economic growth by reducing competition, innovation, and access to foreign markets. When businesses face higher costs and limited access to resources, it hinders their ability to expand and create jobs. Additionally, consumers with fewer choices and higher prices may have less disposable income to spend, further dampening economic activity.
Increased trade tensions: Trade barriers can lead to retaliatory measures from other countries, escalating trade tensions and potentially sparking trade wars. This can create uncertainty and instability in the global marketplace, making it more difficult for businesses to plan and invest.
Deadweight loss: Deadweight loss refers to the overall economic loss society experiences due to trade barriers. By restricting trade, both the exporting and importing countries lose out on potential gains from specialization and efficient production. Consumers pay higher prices for fewer choices, while producers may become less efficient due to a lack of competition.
