Dumping is the act of selling a good or service for less than the cost of production in order to drive all of the competitors out of business.
What I don’t understand is how you make money from it.
Suppose the manufacturing cost of one unit of TechnoWidget is $100. The government of the country I am in wants my factory to have a worldwide monopoly on TechnoWidgets. So they give me a subsidy, so that I can see the TechnoWidgets for $75, when they sell for $150 from other manufacturers.
I sell the widgets for 5 years, and even up selling 10 million of them. Also, all my competitors have gone out of business. I’m also short 250 million dollars.
So I jack up the price to $125. This higher price on the supply:demand curve means it will take longer to sell the 10 million I need to even break even. So maybe 7-10 years later I’ve finally brought in as much money as the factory cost to run to make all the widgets.
During this prolonged payback period, what stops the foreign competitors from resuming operations and guaranteeing I’ll never make an overall profit?
Startup costs. They have to set up factories to make their products, many of which have been repurposed or shutdown. And there’s no guarantee that if the reenter the business, the government might resume its subsidy.
It also helps if the demand for widgets is relatively inelastic. If I need a widget, I need a widget. I’ll happily buy the cheapest one available, but if the price goes up to $125, I still need a widget, and I can’t wait for the competition to get back into the business.
Also, you have to factor in economics of scale. Let’s say that widgets are $10 to manufacture if you do lots of 10,000, but if you do lots of 100,000 they only cost you $8. At lots of 1,000,000 they only cost $6.
In this kind of scenario, a new guy in the market can’t afford to slowly build up sales over the years, because they have to sell at a higher price just to break even… and that makes it doubly hard to build up sales. So there’s a certain logic to producing at the $6 volume regardless of your sales channels, and selling those widgets at any price you can get. Once you kill off your big competitors, you can pretend like your cost of production actually is $10, since that’s where any new competitors will start.
Consider also the time involved. You don’t set up a new company, build a factory and get widgets churning out the next month. It may even be a matter of years for a new competitor to get back in the game.
Would it take 5 years to destroy the competition? And would the price need to be 25% below market value? If not then the losses would be smaller. Plus if it is an industry where starting up is difficult (certain kinds of manufacturing for example) then that will also create barriers to entering the marketplace.
First you must consider that ‘dumping’ is usually politically defined in trade disputes by the importing countries’ government under pressure from its own manufacturers for protection, in the context of treaties or agreements, or countervailing political pressure within the importing country which prevents it simply saying what it’s doing: erecting a trade barrier. IOW the charge of ‘dumping’ is often highly dubious. Government agencies politically friendly to the local industry seeking protection are the ones calculating the foreign firms’ (supposed) costs. Often ‘dumping’ just means that foreign producers have lower costs than domestic ones, and there’s a political reluctance to face up to the adjustments that requires, or again to just honestly say: we’re going to protect this industry and force its domestic customers to pay higher prices for the product.
Even to the extent the concept of ‘dumping’ is valid, there isn’t really one clearly defined ‘cost of production’ for most items. For example in the steel industry, where ‘dumping’ is perhaps most frequently invoked, a lot of cost of producing steel is in recovering the capital cost of the steel plant. Over the long run revenues have to pay not only for variable costs (costs which vary with production) like raw material (iron ore, coking coal) labor, etc but for depreciation of the plant (usually just the plant’s cost divided by some semi-arbitrary number in accounting statements, but at some point it does need to be replaced), and also any actual cash interest costs on bank loans or bonds issued to fund the plant originally.
It makes complete economic sense to run the plant as long as it is generating a positive cash flow, revenue exceeds variable cost of production and interest payments; even if the plant is not making a profit, which means the revenue also covers the annual (on paper only) charge for depreciation. In capital intensive industries that can be a big difference. In the long enough run the producer will go out of business at positive cash flow but negative profit (plant will eventually need replacing, and he has no money to do so). Still, it doesn’t make sense to go out of business immediately just because profit is negative as long as cash flow is positive.
Any anyway there’s really no plausible economic reason to care if foreign producers are selling stuff for less than it’s worth. It’s bad to get something for less than it’s worth? Strange logic when you think about it. And the idea of anyone cornering the market on most items subject to ‘dumping’ suits is far fetched, usually commodity products with permanently ferocious competition among different countries.
Protectionism can only be justified in narrow cases of direct national security interest or as social welfare for the companies (owners and workers) which can’t compete. And latter can almost always be done less inefficiently some other way (job retraining, subsidizing the workers if they have to take lower paying jobs, etc, and no particular reason ever to protect the owners of non competitive firms).
The Chinese government is hugely subsidizing cheap rates for Chinese products sold to America and other countries.
They are doing this because they like Americans.
Well, that’s one theory. The problem with dumping as a tactic is that, leaving aside Corry El’s completely correct points, you never have any real idea that you can survive it. The firm doing the dumping faces guaranteed risks. They will lose money on the deal for some time. And it’s not even certain that they’ll steal market share. With many firms, there’s a pretty clear ceiling on production, and even the most optimistic CEO’s are going to think twice about trying to expand production while deliberately losing lots of money. Even if you can sell everything you can sell, if the market is big enough your competition is going to keep their prices, or even raise them, and still sell everything they’ve got.
Plus, these days competition on pure price is less important than you might think. Firms compete on a variety of roles, including information awareness, speed of delivery, and quality. If you go into a pure competition on price, you may find that your customers are untrustworthy, because all the good markets are willing to pay more for better services. And a dumper can’t count on having cash to invest in the other competitive areas.
Finally, let’s say you succeed. You’ve dumped for years, lost a huge pile of money, but maybe you did somehow drive out a lot of the competition. Except guess what? You’re now deep in a hole, may run hither and yon at the whim of politicians, and the surviving competition is likely to be lean, aggressive, and will devour your market the moment you try to raise prices. And you’re probably going to see increased competition from foreign firms you never even knew existed until three years ago but which are now snapping up your lucrative contracts. That’s a good time to take a golden parachute.
Which is not to say I’m in favor of ignoring dumping. Although I believe it will likely trend towards wrecking the firm doing it more than anyone else, it’s also obnoxiously disruptive to the economy and is unlikely to increase efficiency more than several healthy firms. Even from a national standpoint, it promotes over-dependence on specific industries and tends to result in home-country monopolies that slowly become outdated while grossly increasing domestic costs.
Understand in production, you have “fixed costs” and “variable costs”. You have to pay back the loan to build the plant, a fixed amount of $X per year, whether you sell 10,000 widgets or 100,000. The cost of the steel and plastic in each widget is roughly the same (give or take volume discounts) so the amount you pay is a variable cost depending on the number of widgets. If you sell above your variable cost, the more you sell, the less of the fixed cost each widget has to account for.
The theory is that a company/country dumping is just increasing their cash flow, getting more sales. If it’s a country, they have the added advantage of having more, happier, employed industrial workers probably getting a better wage. Plus, if the company has to pay extra to lay people off, there’s a benefit to losing a small amount of money to avoid unproductive extra costs like layoffs and mothballing the plant. You still need to ay the mortgage and the utility costs etc. even if the plant is shut down.
of course, dumping only works if you are already fairly competitive. It’s not cost effective if you charge 25% more than the local maker; once you raise your prices, he just gets back in the game. If however, getting back in the game only yields him marginal profits then it’s not worth the startup costs.