International marketing management lesson 02

2 BARRIERS IN INTERNATIONAL MARKETING MANAGEMENT 2.8 Non-Tariff Measures to Regulate Trade 2.9 Differences between Tariff and Non-Tariff Barriers2.10 Commodity Agreements... Internationa

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BARRIERS IN INTERNATIONAL MARKETING MANAGEMENT

2.8 Non-Tariff Measures to Regulate Trade

2.9 Differences between Tariff and Non-Tariff Barriers2.10 Commodity Agreements

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2.0 AIMS AND OBJECTIVES

After studying this lesson, you will be able to:

 Distinguish between tariff and non-tariff barriers

 Understand the application of tariff and non-tariff barrier in international trade

 Describe non-tariff measures to regulate trade

 Distinguish between quantitative restrictions on import and import through licensing

2.1 INTRODUCTION

Every country has to regulate its own international trade mainly due to the followingspecific reasons: (i) improving its balance of trade and balance of payments position.Most of the developing countries face balance of payments problem and, therefore, theystruggle hard to maintain the balance in their imports and exports; (ii) protecting its ownindustries against competition in the international market or in domestic markets fromforeign products; and (iii) exploiting its manpower and natural resources to the maximumextent possible so that the country’s economic development may proceed at a fasterpace In order to attain these objectives, almost every country imposes certain restrictions

on its international trade, i.e., imports and exports These restrictions may be called tradebarriers Trade barriers may be (i) tariff barriers and (ii) non-tariff or protective barriers

2.2 TARIFFS

Tariffs have been one of the classical methods of regulating international trade Theymay be referred to as taxes levied on imports They aim at restricting the inward flow ofgoods from other countries to protect the country’s own industries by making the goodscostlier in that country Sometimes the duty on a product is so steep that it does notbecome worthwhile to import it In addition, the duties so imposed provide a substantialsource of revenue to the importing country In India, customs duty form a significant part

of total revenue and, therefore, is an important element in preparing the budget Somecountries use this method of imposing tariffs and customs to balance their balance oftrade A nation may also use this method to influence the political and economic policies

of other countries It may impose tariffs on certain imports from a particular country as

a protest against tariffs imposed by that country on its goods

In order to ensure that the system of imposing custom duties is not discriminatory, amultilateral association, comprising a number of countries of the world, has been formed

to help formulate trade policies of the member countries This association is popularlyknown as General Agreement on Tariff and Trade (GATT) and its main objective is toreduce duties and other import levies systematically through mutual negotiations It ensuresthat every member country enjoys a status of Most Favoured Nation (MFN) and amember country must charge the tariffs and customs duties at the lowest rate unlessotherwise settled bilaterally

2.3 KINDS OF TARIFFS

Tariffs may be classified according to (i) the purpose of taxes, and (ii) how they arelevied

i As far as the purpose of taxes is concerned, tariffs may be classified into two

categories (a) revenue tariff and (b) protective tariff

29 Barriers in International Marketing Management

Revenue Tariffs are basically intended to raise government revenue without

intending to protect any industry of the country It is levied at a fairly low rate and

does not obstruct the free flow of imports

Protective Tariffs, on the other hand, aim at protecting the domestic industries and

are generally levied at a very high rate and, therefore, obstruct the free flow of

imports Its main purpose is not to increase revenue but to provide a safeguard to

the domestic industries against foreign competition in the local market

Tariffs, sometimes, are levied to discriminate between countries, e.g., tariffs are

imposed on certain goods having certain specifications, which are imported, from a

particular country

ii On the basis of how tariffs are computed, tariffs may be put into two categories

(a) specific tariffs and (b) ad valorem tariffs.

Specific Duties or Tariffs are imposed on the basis of per unit of any identifiable

characteristics of merchandise such as per unit of weight, volume, length, number

or any other unit of quality of goods The duty schedules so specified must specify

the rate of duty as well as the determining factor such as weight, number, etc and

the basis of arriving at determining factor such as gross weight, net weight or fair

weight, etc

Ad valorem Tariffs are based on the value of imports and are charged in the form

of a specific percentage of the value of goods The schedule should specify how

the value of the imported goods would be arrived at Most of the countries follow

the practice of charging tariffs on the basis of c.i.f cost of a product or f.o.b cost

mentioned in the invoice As tariffs, under this method, are levied on c.i.f or f.o.b

prices, sometimes unethical practices of under invoicing are adopted whereby the

custom revenue is affected In order to eliminate such malpractices, some countries

adopt a fair value (given in the schedule) or the current domestic value of the

goods as the basis for the computation of customs duty

In order to protect the domestic industries against competitions, some other tariffs

are also imposed Among them, two are important (a) Anti-dumping duty and

(b) Counteracting duties

to sell their products in foreign markets with a view to capture a large market,

at a very low price not proportionate to their cost of production This attempt

to introduce their products in a large quantity into foreign market at a very

low price, even lower than cost, is called ‘dumping’ This naturally will adversely

affect the domestic industries The government of the importing country,

therefore, imposes customs duty on such goods at a very high rate to counteract

this unfair competition This duty is known as ‘anti-dumping duty’ Such duties

are charged in addition to the normal customs duty on the product This

additional charge would cover at least the difference between the export

price and the normal price or market price in the exporting country

charged on goods imported from countries where the manufacturer exporter

is paid, directly or indirectly, a subsidy as an incentive for export The amount

of duty normally does not exceed the estimated amount of subsidy

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Check Your Progress 1

1 Define Ad-valorem Tariffs

2 What do you understand by Anti-dumping duty?

2.4 NON-TARIFF BARRIERS

Over the last few years, GATT has been endeavouring to achieve a reduced andrationalised tariff structure for trade among its member countries As per terms of GATT,every member country will accord MFN treatment to all other member countries whileimporting goods from them At the same time, importing countries are also concernedwith the development of their own industries and trade They will have to protect themagainst unfair competition with a view to giving the domestic industry a fair chance forsurvival To meet the challenges, more and more countries are adopting non-tariffmeasures to regulate their imports Such measures may be called ‘non-tariff barriers’.Some of these non-tariff measures are:

a Quantitative restrictions, quotas and licensing procedures

b Foreign exchange restrictions

c Technical and administrative regulations

d Consular formalities

e State trading and

f Preferential arrangements

We shall discuss these measures in brief hereunder

a Quantitative (QR) restrictions, quotas and licensing procedures: Under

quantitative restrictions, the maximum quantity of different commodities, whichwould be allowed to be imported over a period of time from various countries, isfixed in advance The quantity allowed to be imported or quota fixed normallydepends upon the relations of the two countries and the need of the importingcountry There is, therefore, no effect of price level changes in foreign or domesticmarkets and the government is in a position to restrict the imports to a desiredlevel Quotas are very often combined with licensing system to regulate the flow ofimports over the quota period as also to allocate them between various importersand supplying countries Under this system, a licence or a permit is to be obtainedfrom the government to import the goods specifying the quantity and the countryfrom which to import, before concluding the contract with the supplier

b Foreign exchange restrictions: Exchange control measures have been widely

used by a number of developing countries in the post-war period to regulate theirimports and to keep the balance of payments in controllable limits Under thissystem, the importer must be sure that adequate foreign exchange would be madeavailable to him for the import of goods by obtaining a clearance from the exchangecontrol authorities of the country before concluding the contract with the supplier

c Technical and administrative regulations: Another measure to regulate imports

is the imposition of certain standards of technical production, technical specifications,

31 Barriers in International Marketing Management

etc to which an importing commodity must conform Such types of technical

restrictions are impressed in case of pharmaceutical products, etc and the importing

commodities must satisfy them before their import is permitted Besides technical

restrictions, administrative restrictions such as adherence to certain documentary

procedure are adopted to regulate imports These technical and administrative

measures impede the free flow of trade to a large extent

d Consular Formalities: A number of countries demand that shipping documents

must accompany the consular documents such as certificate of origin, certified

invoices, import certificates, etc Sometimes, it is also insisted that such documents

should be drawn in the language of importing countries In case the documentation

is faulty or not drawn in the language of importing country, heavy penalties are

imposed Fees charged for such documentation are quite heavy

e State trading: In most socialistic countries, foreign trade, i.e., import and export

transactions, are exclusively handled or canalised by certain state agencies Separate

state agencies are set up for each class of products These agencies carry on

international trade strictly according to the government policies A few other countries

of the world follow state trading in a restricted sense to achieve certain desired

results especially where bulk imports are needed and the government wants to

maintain price stability India is a good example where state trading is followed in a

restricted sense Some articles, as decided by the government, are imported only

through the State Trading Corporation (STC) Likewise, exports of raw materials

such as iron ore, mica, etc are canalised only through Minerals and Metals Trading

Corporation (MMTC)

f Preferential arrangements: With due evolvement of the multilateral trading system,

a few member countries agree to a small advantageous group for their mutual

benefit The member countries of the group negotiate and arrive at a settlement of

preferential tariff rate to carry on trade amongst them These rates are much

lower than ordinary tariff rates and applicable only to the member nations of the

small group Such type of preferential arrangements are outside the purview of the

GATT Some of the small groups are EEC, ASEAN, LAFTA, etc

2.5 QUOTAS

In the preceding chapter, we analysed the basis of international trade and the advantages

expected to be gained by each country specialising in the manufacture of products for

which its factor endowment gives it comparative advantage over other countries Such

an argument implies free trade between nations However, free trade is not the commercial

policy of most nations of the present-day world in which a variety of measures are

undertaken by different countries to regulate their imports and exports in keeping with

certain economic objectives so that they can all benefit It is admitted that free trade

advances the welfare of all people of all the trading countries equally While free

international trade would, other conditions being equal, help attain maximum world

production of goods and services, it may also hurt the welfare of certain groups in every

country because of income-redistribution effects But it is difficult to set off the gains of

one group against the losses of another, because of the difficulties of making meaningful

interpersonal comparisons Groups, which are likely to suffer as a result of free international

trade, are likely to pull their weight in favour of restrictive trade Another motive for

imposing restrictions lies in a country’s (especially economically weak country’s) desire

for gains, which it may not achieve under free trade conditions Additionally, while

considering economic welfare, we are concerned with marginal social costs rather than

Several policy instruments are adopted to regulate trade in the national interest Apartfrom tariffs, a country may adopt quantitative quota systems, exchange control methods,commodity agreements, state trading and certain policies either to encourage or discouragetrade.

A quota may be defined as the imposition of an ‘absolute limit on the physical quantity ofvalue of goods or services that may be traded over a set period of time’ Quotas can beimposed on imports as well as exports Import and export quotas may be global (universal,non-discriminatory) if they apply to all countries in respect of any commodity or group ofcommodities; or they may be selective (discriminatory), if the restrictions imposed relate

to some of the exporting countries and not to others Such quotas may be the result oftraditional and historical factors, e.g., the quota arrangements between a colonial countryand the imperial regime which may continue even after independence because they findthem mutually advantageous

Again, there may be a “tariff quota” wherein the rate of tariff imposed increases whenthe total quantity imported exceeds a certain amount and, at some later point, furtherimports may be completely prohibited

If the supply and demand curves of a country are not inelastic, and if the quota is set atthe volume of imports which would result from a given tariff duty, the protective,consumption and redistribution effects of the quota will be similar to those of the tariff.The following figures illustrate the quota effects

COUNTRY A (Exporting)

QUANTITY (a)

P R I C E

33 Barriers in International Marketing Management

commodity traded, to country B, whose imports, ad, just equal to it, and make up the gap

between its supply Oak and demand Do then, for whatever reason, country B, decides

to limit its imports of the commodity to a smaller quantity equal to B and so imposes a

quota restriction, which may be global This has the effect of raising the equilibrium price

from P to P1, domestic production (supply) from Oa to Ob, and domestic demand is

reduced from Od to Oc In the exporting country A, as may be expected, production

(supply) decreases from OC to OB There is no change in price because supply is

Figure 2.2

Thus, it can be seen from the second part of the figure (relating to country B) that, like

tariffs, quotas raise the domestic price of the commodity, reduce imports and the quantity

demanded, increase domestic production (supply) and redistribute real incomes from

consumers to producers But the revenue effect of a quota may be different In the case

of a tariff, a revenue equal to the area of gh will accrue to the government But in the

case of a quota, the outcome is not so certain There are four distinct possibilities Firstly,

if the imports are well organised and have a monopoly of the trade, they may capture this

revenue Contrarily, the exporters may capture it, if they are organised and strong enough

to raise the price and compel weak and disorganised importers to pay it Third possibility

is that the government, say, by auctioning the import licences, takes away the excess

value due to scarcity In this case the revenue effect of a quota is similar to that of a

tariff But, fourthly, in the actual marketing situation, it is unlikely that any of the three

parties involved will be able to monopolise the entire revenue, which may be shared in

some ratio amongst them The actual outcome will depend on the market structure

facing the country, which imposes the quota, and how the parties involved react to that

structure Thus, the revenue effect is unpredictable and might, most likely, be shared by

the three parties involved The possibility of improvement in the terms of trade, as a

result of the imposition of quota, depends upon the foreign (exporting) country’s elasticity

of supply and retaliatory action, if any, that it may take

There are a variety of reasons for the prevalence of quota system Quotas are usually

preferred in respect of those commodities in which the foreign supply position is quite

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Marketing Management

inelastic In such a case, tariff is likely to be absorbed fully by the exporting country and

as such would not lead to a rise in price for the importing country or a decline in thequantity of imports Thus, tariff would not succeed in restricting imports This is usuallythe situation with regard to agricultural products However, the elasticity of externalsupply of any commodity is generally not precisely known Hence, it is difficult to calculateprecisely the several effects of a tariff and the magnitude by which the price would rise

is an open guess It may be even more difficult if foreign markets are riddled In suchcircumstances, quota systems give more determinate results

Similarly, if domestic demand for a certain imported commodity is inelastic and if it isconsidered desirable to reduce the imports of that commodity, then fixation of importquotas may be the only way of curtailing imports Tariffs, in such cases, are ineffectivebecause demand is unresponsive to rise in price

From the administrative point of view, quotas are easy to administer and more flexibleinstruments of commercial policy because they can be quickly adjusted — raised, lowered

or removed Since they are more definite, they are less speculative And since they areusually seen as short-term measures, they do not lead to the creation of vested interests

— an important drawback with tariffs

Additionally, since quotas are better related to internal demand and supply situation than

a tariff, they can be used more effectively to insulate the domestic economy from externaldisturbances owing to cyclical fluctuations In such circumstances, the gains fromeconomic stability may far outweigh the costs associated with quotas

2.6 WHAT ARE THE COSTS ASSOCIATED WITH QUOTAS?

Firstly, quotas are more arbitrary than tariffs, in as much as they violate the marketmechanism and the price mechanism The danger is greater when non-economic motivesinduce quota policy and insufficient and/or dishonest administration implements it Thismay not only distort the price and market mechanisms but also open the floodgates ofgraft, which may introduce irrationality in economic decision making in unpredictableways

Secondly, being an administered system of allocation of imported resources, the quotasystems might lead to collusion among importers, which may spread to other relatedareas of economic power This, however, is a drawback quotas have in common withtariffs

There are a variety of other import control measures prevalent in different countries butthese are of minor significance, and as such may be dealt with en passant

A policy to buy the product of a domestic industry, so as to promote development,employment, or other defined economic and non-economic objectives is very popular InIndia, Mahatma Gandhi once campaigned for swadeshi with nationalist zeal and raisedbonfires of foreign textiles to promote Indian handloom industry, which gives employment

to millions of indigent people Such sentiments are very common and useful to certaintimes, especially, wars — cold or shooting Many countries also insist that others tradingwith them should avail of their shipping, airlines, insurance and other services which add

to their invisible earnings from trade Government may make the use of indigenousproducts and services compulsory for its own agencies as well as other organisations.Various countries also prohibit the import of certain categories of products (e.g meat,vegetable products) for health reasons, others impose regulations regarding packaging

35 Barriers in International Marketing Management

and labelling and other administrative measures to restrict imports by imposing costs on

the exporting country

Finally, exchange control measures may be used to influence trade Since, generally,

importers have to pay in foreign currencies, this requires conversion of domestic currency

into foreign currency, e.g Indian rupees into British pounds or US dollars Governments

strictly regulate conversion of currencies Therefore, denial or liberalisation of conversion

facilities can influence the course of trade Similarly, the terms on which currencies are

exchanged (rate of exchange) can be altered either to favour or adversely affect the

flow of goods or services from one country to another The principles covering the

determination of foreign exchange rates and their implications for trade between countries

will, however, be dealt with in another lesson

We turn now to consider commercial policies for control of exports These export controls

may be subdivided into two parts: (i) those imposed by any foreign country on its exports

to the home country and (ii) those imposed by the home country itself on its exports to

the rest of the world

As regards the first category, it has a family resemblance with import controls imposed

by the home country The terms of trade of the home country move against it and

whatever revenue accrues goes to the foreign country, except when the foreign market

for the commodity in question is competitive and there is no collusion amongst exporters

These export controls may not affect the export prospects of the home country if they

are global (non-discriminatory) but they will if they are selective (discriminatory) However,

they may be inflationary, if they apply to a commodity which is an essential input for a

number of commodities or which is widely used in the economy

The second type of export controls are more involved in their effect Inelastic foreign

demand will raise the price of the exported commodity and hence improve the terms of

trade in favour of the home country Thus, it will increase receipts from a given amount

of exports because fall in exports will be accompanied with rise in prices of exports

Since exports are limited, it makes possible increased supplies for domestic consumption,

which, in turn, would lead to lower prices for the consumers Thus, the more elastic the

domestic demand, more favourable will be the consumption effect

Similarly, export controls could be used with favourable effects to deal with an inelastic

domestic supply situation If domestic supply is restricted, producers benefit at the expense

of the consumers via rise in prices There is, thus, a redistributive effect in their favour

However, policies and measures which bank on restricting supplies are bedevilled by

tensions and conflicts and are difficult, if not, unworkable In practice, such a policy

would lead to collusion and monopolistic practices among the producers, if they do not

exist already

It can be seen from the above, that export quotas are beneficial when foreign demand

and domestic supply are inelastic in contrast with import quotas which are advantageous

when domestic demand and foreign supply are inelastic

However, export controls and quotas are generally less successful than import controls

The reason simply is that knowledge about demand and competitive conditions in foreign

markets is far from perfect As such it is difficult to fix suitable prices and quotas

Whatever success the export quotas achieve is generally a short-run phenomenon because

in the long-run demand is more elastic, substitutes can be found, alternative sources of

supplying the demand can be developed and the monopoly of a country can be broken

as protective tariff), tariffs function within the price system But they modify the terms

of trade between the domestic economy and the rest of the world Unless the duty isvery high, it need not completely shut out the products of other countries A tariff duty

can be specific or ad valorem The specific duty is based upon the quantity of the

product howsoever measured The ad valorem duty is based on the value of the productand is expressed as a proportion or percentage of the total value (w.e.f) of the importedquantity The protective effect of a specific tariff is eroded under inflationary pressure

but not so the effect of ad valorem duty.

There are, in addition, export duties on goods being sent out of the country and in-transitduties on entrecote trade

The effects of a tariff are manifold CP Kindle Berger classifies them into eight categories

1 The protective effect

2 The consumption effect

3 The revenue effect

4 The redistribution effect

5 The terms of trade effect

6 The employment income effect

7 The balance of payments effect and

8 The competitive effect

A tariff achieves these effects by limiting imports and invariably all these effects can beanalysed as part of the total impact of a tariff upon the economy A tariff reducesimports that can be easily seen because a duty on imports will raise its price, so itsdemand will fall, thus, compelling a reduction in import of the commodity subjected tosuch a duty If the duty equalises import and domestic prices and if domestic supply isadequate, then, in the absence of qualitative differences, imports will cease

If a tariff duty is levied on a finished product, it has the effect of raising the import price

of that commodity If we know the elasticities of domestic and foreign demand andsupply, we can calculate how effective the tariff duty would be in reducing the imports.However, if the tariff duty is on an input required to make the final product, its impactwill be on the costs of production It will raise the selling price of the product and thusreduce the gap in the prices of the imported and the domestic product An import duty onthe finished product achieves the same result by raising the price of the imported product.Thus, to assess the total impact of tariffs on a product, we must take into account, notmerely the individual tariffs on different commodities but also the tariff structure of thecountry as a whole Only then can the effective rate of protection be assessed

We can assess the effect of a tariff by examining its implication for a product or theeffect of a general duty on all (or most) imports

37 Barriers in International Marketing Management

P 11

P 1

P

S O

Figure 2.3: Effect of a Tariff on Production (Protective); Consumption,

Revenue and Income Distribution

Figure 2.3 analyses the effects of a tariff in partial equilibrium context DD and SS

represent the demand and supply curves OP represents the pre-tariff price level, at

which OQ is produced domestically and quantity QQ3 is imported from abroad to meet

the total demand (consumption), which is OQ3 Then tariff is levied which raises price

level from O to P This has the effect of raising domestic output from OQ to OQ1 But

this output is raised by diverting resources from other firms Area A represents gain to

the industry due to protection (redistribution effect), the area B represents a dead loss

due to transference of resources at a higher cost and perhaps decreasing return It is

known as the protective effect

On the other hand, the consumption effect is seen as the fall of domestic consumption

from (OQ3 to OQ2) Thus area D, like B, is also a dead loss to the economy Import

duties yield revenue to the government which are equal to the product of the tariff and

the quantity imported, i.e PP1 × Q1Q2 – which corresponds to the rectangle marked C

in the above diagram and is known as the revenue effect of the tariff Thus, in sum, (A

+C) accounts for the positive effects of the tariff and (B + D), the negative aspect The

balance of these would indicate the net benefit/loss from a tariff

If, however, the tariff is raised as high as OP, it will prove to be prohibitive for imports

The domestic supply will equal domestic demand but the cost in terms of consumption

and protective effects will increase and the revenue to the state from imports will fall to

zero

It may also be noted that the magnitude of the protective and consumption effects of a

tariff depend upon the elasticity of the supply and demand functions respectively The

more elastic are these functions, the greater will be these costs and vice versa If any or

both of these functions become completely inelastic, the related cost falls to zero

Protective effects of a tariff are uncertain It is true that it helps to stabilise and enable

the development of an industry faced with unequal, if not unfair, foreign competition; it

also often breeds inefficiency, retards technical change and encourages combinations in

restraint of trade Thus, the impact of a protective tariff is quite unpredictable