Evaluating protectionism

Overview

Infant industry argument for protection, evaluate the employment argument for protection and strategic industry argument for protection.

What you need to know

Answer each one before you reveal it.

Questions from this subtopic

Each one with the model answer underneath.

1. 1

   Explain the infant industry argument for protection.

   Model answer

   A new industry may have high unit costs at first because it has not yet reached efficient scale or accumulated production experience, and so cannot survive against established foreign firms that already have both. Temporary protection lets it grow to the point where costs fall to competitive levels, after which the protection is withdrawn and the industry stands on its own. The argument only holds where the eventual cost reduction is large enough to repay the losses incurred during the protected period.

2. 2

   Evaluate the infant industry argument.

   Model answer

   The argument is coherent because learning by doing and economies of scale are real, and there are cases where protected industries did mature into successful exporters. Its weaknesses are that governments must correctly identify which industries will succeed, which is a forecasting problem they have often got wrong; that protection removes the very competitive pressure that drives cost reduction, so the infant may never grow up; and that once granted, protection creates a lobby that fights removal, so temporary measures become permanent. Where the underlying problem is a lack of finance for a firm that will eventually be viable, a loan or a time-limited subsidy tackles it more directly than a tariff, without penalising consumers.

3. 3

   Explain and evaluate the employment argument for protection.

   Model answer

   The argument is that restricting imports switches demand to domestic producers, raising output and preserving jobs in industries facing foreign competition, and that the jobs saved are concentrated in regions with few alternatives. Against this, the jobs are saved at a high cost per job in the form of higher prices paid by all consumers; downstream industries using the protected good lose competitiveness and shed workers; partners may retaliate against the country's exporters; and protection preserves employment in a declining activity rather than assisting the move into growing ones. The cost per job saved is typically several times the wage, so direct retraining and regional support usually deliver the same employment outcome more cheaply.

4. 4

   Analyse the argument that protection can be used to correct a current account deficit.

   Model answer

   Restricting imports reduces spending on foreign goods directly, which improves the trade balance and in turn raises domestic output. The objections are substantial: partners may retaliate so exports fall by as much as imports, protected industries lose the discipline that would have restored competitiveness, the exchange rate may appreciate as import demand falls and undo the effect, and the deficit's real cause may be excess domestic demand or poor non-price competitiveness that a tariff does nothing to address. Protection is therefore a way of suppressing the symptom rather than curing the condition, and it does so at the cost of higher prices.

5. 5

   Explain the strategic industry argument for protection.

   Model answer

   Some sectors are held to be essential to national security or basic functioning, such as food production, energy, defence equipment, steel or pharmaceutical ingredients, so a country may wish to retain domestic capacity even where imports would be cheaper. The argument is that dependence on foreign supply carries a risk of interruption whose cost, if it occurred, would greatly exceed the price premium paid to keep domestic production alive. It is essentially an insurance argument rather than an efficiency one, and it is strongest where the good is genuinely essential, cannot be stockpiled, and has few alternative suppliers.

6. 6

   Evaluate the strategic industry argument for protection.

   Model answer

   It is legitimate in principle, since markets do not price the national cost of a supply interruption and there is a real externality in maintaining capacity. In practice it is heavily abused, because almost any industry can claim to be strategic and the label is often applied to sectors that are simply politically well organised. Even where the case is genuine, protection is rarely the cheapest instrument: stockpiling, diversifying suppliers among reliable partners, or paying directly for standby capacity all achieve security without imposing a permanent price rise on consumers. The test should be whether the risk is quantified and whether cheaper insurance exists.

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