International Trade and Protectionism: Question 5

Worked solution

Part (a): Two arguments for protecting the domestic car industry

The infant industry argument: the domestic car industry is described as small and young, meaning it has not yet had the chance to grow large enough to benefit from economies of scale, to build up the technology and experience of its established foreign rivals, or to develop supporting supply chains. Temporary protection, such as a tariff on imported cars, could shield the industry from more efficient foreign competition for long enough that it can grow, cut its own costs, and eventually compete successfully without needing protection.

Protecting employment: a high tariff makes imported cars relatively more expensive, encouraging domestic buyers to purchase domestically made cars instead. This helps preserve jobs directly in the domestic car industry, and indirectly in related domestic industries that supply it, such as parts and components manufacturers, which might otherwise shrink or close if cheaper foreign cars took over the market.

Part (b): Discussing the overall benefit to the economy

Potential benefits: if genuinely temporary, the tariff gives the young car industry breathing room to grow, invest, and achieve the economies of scale and experience needed to become internationally competitive, a stronger, larger car industry in the long run, plus the jobs it protects in the meantime, both directly in car manufacturing and in its domestic supply chain.

Potential costs: a tariff on imported cars raises the price domestic consumers must pay for a car, and/or reduces the range of models available to them, reducing consumer welfare. Shielding the industry from competition can also reduce its incentive to control costs or innovate, since it does not have to match the efficiency of foreign rivals to survive, so the industry may fail to become genuinely competitive even after a long period of protection. There is also a risk that the foreign countries whose car exports are restricted retaliate with tariffs of their own on this country’s other exports, which would harm exporters in unrelated domestic industries. Finally, resources (labour and capital) are kept employed in car manufacturing even if the country does not actually have a long-run comparative advantage in producing cars, which is an inefficient use of the economy’s scarce resources compared with specialising in whatever it produces relatively most efficiently.

Judgement: protecting the car industry is likely to bring some benefit to the economy in the short-to-medium run, supporting output and jobs while the industry is still developing, but whether it benefits the economy as a whole in the long run depends heavily on whether the tariff is temporary and successfully removed once the industry matures, and on whether the industry actually uses the protection to become efficient rather than relying on it indefinitely. If the tariff becomes permanent and the industry never becomes competitive, the ongoing costs to consumers, other exporters, and the wider allocation of resources are likely to outweigh the benefits.

Final answers

• (a) Infant industry argument (temporary protection lets a young industry grow) and protecting employment (a tariff preserves jobs in the car industry and its supply chain).
• (b) Likely to bring some short-to-medium-run benefit, but the long-run benefit to the economy as a whole depends on the protection being temporary and the industry becoming genuinely competitive. Otherwise the costs to consumers, other exporters and resource allocation are likely to outweigh the gains.