Do "protective tariffs" really help a country develop its domestic industry?

Great Debates
1

I just finished What Lincoln Believed: The Values and Convictions of America’s Greatest President by Michael Lind. (http://www.amazon.com/exec/obidos/tg/detail/-/0385507399/qid=1129097993/sr=8-1/ref=pd_bbs_1/102-6558801-7682530?v=glance&s=books&n=507846) It was enlightening in many ways – I never realized how deep-seated Lincoln’s racism was, or that to the end of his life he was committed to “colonization” (deporting all blacks from the country as soon as emancipation had been achieved). But another thing that struck me was this: In 19th-Century American politics, the most important, galvanizing national issue, after slavery, was “protective tariffs.” Both Henry Clay’s Whigs and Lincoln’s Republicans were entirely committed to them, to stimulate America’s infant industry by shielding it from competition from the more advanced manufacturing interests of Europe, especially Britain. (The agrarian interests of the South, OTOH, were always opposed to them – since they manufactured very little, they were in effect bearing the cost of the North’s industrialization, by being forced to pay higher prices for manufactured goods than they would have to pay under an open-borders free-market system. That was one cause of the regional friction leading to the Civil War.) Tariff protection remained the prevailing U.S. policy until after WWII – when our industry had become so fully developed that a free-trade policy in foreign commerce was more to our interest.

Well and good. But I wonder – was tariff protection actually ever necessary? In A History of the American People (http://www.amazon.com/exec/obidos/tg/detail/-/0060930349/qid=1129098284/sr=2-1/ref=pd_bbs_b_2_1/102-6558801-7682530?v=glance&s=books), conservative scholar Paul Johnson expressed deep skepticism on this point – on the grounds that America from the beginning had such a huge internal market that that alone should have been enough to stimulate the development of industry here, regardless of what came into the ports at what price.

Has any modern economist seriously studied this question? And, would the answer have any relevant application to developing nations today?

2

I don’t know whether anybody serious has looked at infant industry arguments recently. I know a mate of mine did a case study for a Masters degree. I suppose you would look to Bhagwati or Corden’s Trade and Welfare for the standard arguments. Krugman’s notorious “Is Free Trade Passe?” would be a modern take on the story.

A crucial point to remember is that your statement “when our industry had become so fully developed that a free-trade policy in foreign commerce was more to our interest” is incoherent. Tariffs benefit some and hurt others. Whilst there are potential gains from trade in that winners could in principle overcompensate losers from the reduction of tariffs, they don’t in practice.

A couple of quick points that I think would be hard to disagree with:

  1. pretty much all rich countries developed behind tariff barriers
  2. protection screws consumers and the non-protected sector
  3. infant industries never seem to grow up. They stay on the government teat using power, tradition, transition costs and deliberate incompetence as weapons.
3

Cite? Argument? Anything?

4

How about Malaysia’s car company, Photon (or Proton, I cannot remember). That company has had very strong protected tariffs and government support, and yet it is still a mess.

5

Are you sure on that point? I know Germany was, with the UK and U.S., one of the world’s three most important industrial regions, before it was politically unified by Bismarck. But what kind of protective tariffs the German Empire’s predecessor ministates may have had, I do not know.

Also, I think, although I could be wrong, that Japan’s industrialization post-Meiji-Restoration owed less to tariff barriers than to direct government subsidies to industry. (That was Alexander Hamilton’s vision for promoting industry in the U.S., by the way – “bounties” or subsidies to new industrial concerns. He never got Congress to vote them, but I wonder if that approach might have helped us industrialize even faster than we did.)

6

Can you tell us more about that? AFAIK, I’ve never seen a Photon (or Proton) on the road in the U.S., but that doesn’t necessarily mean the company is a “mess.” What exactly is wrong with it (or with the cars it makes)?

7

In post WWII Japan, the country erected high tariff barriers to trade to protect their industries, and it seems to have worked out well for them. Subsequently they used other technicques (Cite) – free trade has hardly been the watchword there.

8

Well, we’re looking at two basic problems here.

First, if this stretegy works, it only works by being parasitic. That is, you cannot win by using it in all circumstances. It only works when different nations have low tariffs by default. Then a nation using high tariffs can, in theory, use it to gain more profits (by charging monopoly prices, or just plain having less competition). And if everyone starts using these tariffs all over, they become relatively useless and everyone is worse off.

Second, there is as noted a danger in that the industry may not actually develop. If it believes it can just keep the tariffs in place it has no reason to develop competitively. In fact, it can create deep structural problems.

Several countries have modernized by following a high tariff-high export program, but it’s not clear how much good the tariffs did them. Korea seems to have done well, but Japan has had serious financial trouble across the board. Sure, they took a lot of business away from the US, but then lost again as the government was unable to keep financing them.

The Japanese memory manufacturers in particular seem to have obtained vast amounts of capital from the government somehow (this amounts to much the same thing as tariffs), and were simply able to operate far more labs for memory chips. Thus, they were able to slowly pull ahead of companies like Intel. OTOH, those same companies are now being beaten at their own game by other places, so again it doesn’t appear to have been worth it.

9

You can always use softwood lumber as an excellent example of why protectionism fails. For the past few decades, the U.S. has repeatedly slapped punitive tariffs on Canadian lumber imports. In the past three years, $5 billion has been collected, and handed straight to U.S. lumber barons.

Has this done anything to develop the U.S. industry? Nope, those private tree farmers are just as inefficient as always because they know they’re getting extra income. Instead of spending money on improving technology and their workforce, they’re spending it on lobby groups and pocketing the rest.

But Canada’s sawmills have turned into an incredibly efficient industry. Despite the punitive tariffs, sawmills in B.C. are turning out better quality 2x4s at a lower cost than any U.S. competitor. Canada’s share of the U.S. market is still the same as it was years ago-- about 27% – and if Canada could sell lumber for its actual price, would probably have a 50% share of the U.S. market.

10

:confused: The purpose of the kind of protective tariff I’m talking about – the kind the U.S. had for most of its history before 1945 – is to protect domestic industry from foreign competition in domestic markets. For that purpose, it doesn’t matter what any other country’s tariff policy is.

11

That is in no way, shape, or form true. Industry - any industry - does not and cannot exist in a vaccuum. It lives in an economy. If everyone starts using tariffs, everyone loses in a general sense.

But you don’t even need to look at the general sense; few industries never look into export markets. If Nation A has big tariffs, Nation B will be more likely to use them to protect its own industries from unfair competition from Nation A. Then what happens? Nation A loses! It now can’t export as much as it did. People lose jobs - and because the whole system has become more inefficient, no domestic industry can (even if they wanted to) create as many jobs as were lost.

12

I don’t think that’s how the 19th-Century proponents of the “American System” (which also included government subsidies for internal improvements – roads, railroads, canals) looked at it. The way they saw it, the U.S. had a huge enough internal market to provide American industries with all the customers they needed – provided those industries did not have to compete with even more advanced industrial interest in the UK and Germany. As for selling U.S. manufactured goods abroad, that could come later. And it is a fact (no cite, it’s just something I read in high-school U.S. history class) that in the first couple of decades after independence, the British “dumped” cheap manufactured goods on U.S. markets, at a loss, with the conscious intention of strangling U.S. industry in the cradle. The whole tariff-protection movement might have started as a reaction to that. The question is, was it an overreaction?

13

Sorry, I didn’t mean to post and run. I thought the thread died. This will be brief, but I’ll try to return and expand as required.

Infant industry and dumping are two different (although related) stories. In infant industry, the idea is that you experience lower costs a while after starting up, perhaps due to learning by doing or economies of scale. The idea is that the industry will turn out to be a comparative advantage industry after a while and will not need protection. That is, it is a temporary measure compatible in principle with free trade.

Anti-dumping is kind of the same but rather than an industry starting up it is that (again) temporary tariffs are required because - as BrainGlutton says - foreigners are attempting to wipe out an industry by selling at a loss. This would be a “bad thing” if it would be unduly costly to restart the industry when the foreigner gets sick of giving discounts. Similarly to infant industry, anti-dumping arguments are just acceptable in principle, but in practice are usually disguised handouts to industries which do not have comparative advantage. Google Polish golfcarts for an example of how this stuff works.

For both dumping and infant industry arguments, the standard policy prescription is a production subsidy, not a tariff (which can be thought of either as a combination production subsidy and consumption tax or a tax on trade [i.e. a tax on imports *and* exports]).

Both of these arguments are supposed to be different from plain old protectionist arguments. A really brief summary of the standard position about why trade is good:

Moving from autarky to trade hurts some industries and helps some industries (and the same applies to people) but – and this is the basic sense in which trade is “good” – the gainers could overcompensate the losers. Trade removes the constraint that a region has to consume only what it produces. When a region trades it can produce stuff it’s relatively cheap at producing and swap it for stuff it’s not.

If a country cannot influence its terms of trade (the prices of its imports and exports) then its optimal tariff is zero regardless of what other countries’ commercial policy is. There may be other types of policies that are justifiable (like production/ consumption taxes/ subsidies) and it may be that a there is a welfare improving “second best” tariff, but the optimal tariff is zero.

If a country can influence its import and export prices (and the US unquestionably can for many goods) then its optimal tariff is not zero. However, tariff reductions by others and the US would still be good.

Note that BrainGlutton’s

contains some truth and a hint of a fallacy: It is true that having a large internal market makes trade less important (at least to the extent that economies of scale matter). But trade interventions penalise consumers and comparative advantage (i.e. export) industries. It is not a matter of protecting all industries: you must hurt some. And crucially, remember that the ONLY reason you’d want to “sell US manufactured goods abroad” is to import stuff.

14

:confused: That might be how the government would look at it . . . The individual exporters would be concerned with exchanging their goods for money, not “stuff,” and likely would be indifferent to the material-imports side of the balance-of-trade report.

15

If the foreigners had nothing anyone here wanted to buy, they wouldn’t be able to buy our money.