PROJECT REPORT ON

“A Study on Influence of Tariff Barrier on Indian Economy”

Submitted toUniversity of Mumbai

In Partial Fulfillment of the Requirement

For

M.Com (Accountancy) Semester IIn the subject

Economics

By

Name of the student : - Vivek ShriramMahajanRoll No. : - 14 -7288

Name and address of the collegeK. V. Pendharkar College

Of Arts, Science & CommerceDombivli (E), 421203

NOVEMBER 2014

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DECLARATION

I VIVEK SHRIRAM MAHAJAN Roll No. 14 – 7288, the student of

M.Com (Accountancy) Semester I (2014), K. V. Pendharkar College,

Dombivli, Affiliated to University of Mumbai, hereby declare that the

project for the subject Strategic Management of Project report on “A Study

On Influence Of Non Tariff Barrier On Indian Economy” submitted by

me to University of Mumbai, for semester I examination is based on actual

work carried by me.

I further state that this work is original and not submitted anywhere else for any examination.

Place : Dombivli

Date:

Signature of the Student

Name: - Vivek Shriram Mahajan Roll No: - 14 -7288

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ACKNOWLEDGEMENT

It is a pleasure to thank all those who made this project work possible.

I Thank the Almighty God for his blessings in completing this task. The successful completion of this project is possible only due to support and cooperation of my teachers, relatives, friends and well-wishers. I would like to extend my sincere gratitude to all of them.

I am highly indebted to Principal A.K.Ranade, Co-ordinater P.V.Limaye, and my subject teacher Ms. Neha Salagare for their encouragement, guidance and support.

I also take this opportunity to express sense of gratitude to my parents for their support and co-operation in completing this project.

Finally I would express my gratitude to all those who directly and indirectly helped me in completing this project.

Name of the studentVivek Shriram Mahajan

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Table of Contents:CHAPTER No Topic Page no

CHAPTER 1 Introduction

Introduction to Subject………………………..Introduction to Tariff Barrier…………

56

CHAPTER 2 Types of Tariff & Non Tariff Barrier

Types of Tariff Barriers…………………………..Types of Non Tariff Barriers......................................

911

CHAPTER 3 Effect on Agricultural Product

Import ………………………………………Export …………………………………...…..

2325

CHAPTER 4 India’s Industrial Performance

Protection and India’s Industrial Performance 36

CHAPTER 5 Conclusion

Conclusion………………………………….. 41

Bibliography………………………………………….

42

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CHAPTER 1: Introduction

Introduction to Subject

The commercial policy plays an important role in economic growth and development of the country. Many of the countries of the World sometimes use free trade policy as well as protectionist commercial policy. The countries participating in the international trade are geographically and politically independent countries. These countries pursue their own trade policies independently from the point of view of their own economic development.

Tariffs are the most common kind of barrier to trade; indeed, one of the purposes of the WTO is to enable Member countries to negotiate mutual tariff reductions. Before we consider the legal framework that provides the discipline regarding tariffs, we must understand the definition of tariffs, their functions, and their component elements (rates, classifications, and valuations).

International trade increases the number of goods that domestic consumers can choose from, decreases the cost of those goods through increased competition, and allows domestic industries to ship their products abroad. While all of these seem beneficial, free trade isn't widely accepted as completely beneficial to all parties. This article will examine why this is the case, and look at how countries react to the variety of factors that attempt to influence trade.

The commercial policy or trade policy is meant, “All measures regarding all international economic transactions between the reporting country and the foreign countries.” International trade involves the trade between two or more countries.

Commercial policies are of two types:

1. Free trade policy: A free trade policy is a type of trade policy which does not placesany restriction on the movement of goods and services between countries. According to Adam Smith Free Trade is an international trade policy which draws no distinctions between the domestic goods and the foreign goods. It is a policy which doesn‘t give any special favour to domestic goods or doesn‘t impose extra duties on foreign goods.

2. Protection: means safeguarding the home country by erecting a strong tariff wall to fortify the domestic infant industries from the attack of the foreign sophisticated goods and simultaneously giving some concessions, bounties, subsidies, tax holidays etc, to domestic industries. It includes import substitution and export promotion as well.

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Introduction to Tariff Barrier

Traditionally trade was regulated through bilateral treaties between two nations. For centuries under the belief in mercantilism most nations had high tariffs and many restrictions on international trade. Free and fair international trade is an ideal situation as free trade is beneficial to all participating countries. However, various types of barriers/restrictions are imposed by different countries on international marketing activities. Such imposed or artificial restrictions on import and exports are called Trade barriers which are unfair and harmful to the growth of free trade among the nations. The trade barriers can be broadly divided into two broad groups.

Tariff Barriers. Non-Tariff barriers.

Tariff Barriers:

Tariff is an important method to prevent imports in any particular nation. In simplest terms, a tariff is a tax. A tax imposed on imported goods and services. Tariffs are used to restrict trade, as they increase the price of imported goods and services, making them more expensive to consumers. They are one of several tools available to shape trade policy. Tariffs are available in the form of export as well as import tariffs.

Governments may impose tariffs to raise revenue or to protect domestic industries from foreign competition, since consumers will generally purchase cheaper foreign produced goods. Tariffs can lead to less efficient domestic industries, and can lead to trade wars as exporting countries reciprocate with their own tariffs on imported goods.

General Definitions of Tariff:

“A tariff is a tax imposed on the import or export of goods.”

A tariff refers to “Import duties‖ charged at the time goods are imported.”

Tariff barriers represent taxes on imports of commodities into a country and are among the oldest form of government intervention in the economic activity.

Tariffs are a kind of specialized tax that affects goods imported to, or exported from, a country.

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The main causes of imposing trade barriers are as follows:

For protecting the domestic industries from foreign competition.

For protecting domestic employment.

For promoting development and research.

For the purpose of National Security

For conserving the foreign exchange resources of the country.

For guarding the domestic industries against dumping.

For making the Balance of Payment position favorable.

For raising the revenue for the Government.

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Introduction to Non Tariff Barrier

The issue of non-tariff barriers crops up because of the glearing defects of tariffs. As is already seen in the previous modules, "Tariffs" that at the imposition of tariff leads to bringing about gains to the tariff Imposing country but at the same time it reduces the volume of trade. At the highest of the high tariff the losses will be more than the gains. Moreover, Tariff produces indirect effect through raising of the price of the tariff imposed goods. Therefore tariffs should be within limits which should lead to minimization of losses and maximization of gains i.e. the "tariff should be optimum tariffs". Hence it paves the way for non-tariff barriers.

Tariffs are not very effective in under developed countries. Their problems are different from the problems faced by the developed countries. The problem before the developed countries is to maintain the already attained high rate of economic growth while the problem before the undeveloped countries is to accelerate the rate of economic growth. The underdeveloped countries face the problem of deficit in the balance of payment. To correct the deficit in the balance of payment the underdeveloped countries need to have indirect controls like non-tariff barriers i.e. import quota and not the direct controls like tariffs.

CONCEPT

The measures which are used other than tariffs to restrict imports get collectively referred to as non-tariff barriers. These are direct measures of import restrictions. The setting up if GATT and WTO led to progressive reduction in tariffs. However it paved the way for the adoption of non-tariff barriers methods by the developed countries for the reduction of imports. The non-tariff barriers include a cafeteria of Trade barriers viz. Import Quota, Import licensing, voluntary export restraints, Dumping, International Cartels, Subsidies etc.

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CHAPTER 2: Types of Tariff & Non Tariff Barrier

TYPES OF TARIFFS BARRIERS

There are several types of tariffs and barriers that a government can employ. These types are explained as follows:

(A) On the basis of origin and destination of the goods crossing the national boundary:-

On the basis of origin and destination of the goods crossing the national boundary, there is a threefold classification of Tariffs which is as under:

a) Import Duties: An import duty is a tax imposed on a commodity originating from abroad and imported by the duty levying country.

b) Export Duties: An export duty is a tax levied up on a commodity originating from the duty levying country imported by the foreign country.

c) Transit Duties: A transit duty is a tax imposed upon a commodity crossing the national frontiers originating from the foreign country and imported by other foreign country.

(B) On the basis of the qualifications of tariff :-

a) Specific Duties: A fixed fee levied on one unit of an imported good is referred to as a specific tariff. This tariff can vary according to the type of good imported. For example, a country could levy a Rs. 100 tariff on each pair of shoes imported, but levy a Rs. 1000 tariff on each computer imported.

b) Ad-valorem Duties: The phrase ad valorem is Latin for ―According to the value‖, and this type of tariff is levied on a good based on a percentage of that good‘s value. An example of an ad valorem tariff would be a 15% tariff levied by India on U.S. automobiles. The 15% is a price increase on the value of the automobile, so a $10,000 vehicle now costs $11,500 to Indian consumers. This price increase protects domestic producers from being undercut, but also keeps prices artificially high for Indian car shoppers.

c) Compound Duties: When a commodity is subjected to both specific and ad-valorem duties then the tariff gets referred to as compound duty. These duties are charged depending upon the situation of minimum criterion. If the specific duty happens to be minimum then specific duty will be charged conversely if the ad-valorem duty happens to be minimum then the ad-valorem duty will be charged.

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(C) On the basis of the application of tariff between different countries:-

a) Single columns Tariff: The single columns Tariff is also known as uni-linear tariff. When the uniform rate of duty is charged on all the commodities without making any discrimination between countries then the tariff gets referred to as Single Columns Tariff.

b) Double columns Tariff: When two rates of duties are charged on some or all the commodities then the tariff gets referred to as double column tariff. The double column tariff discriminates between countries.

(D) On the basis of the purpose of the imposition of tariff:-

a) Revenue Tariff: Many a times a tariff is imposed on the goods and services to earn revenue or income to the country then it is termed as ―Revenue tariff‖. When the main purpose of the Government in imposing tariff is to obtain revenue then the tariff gets referred to as revenue tariff. When raising of revenue happens to be the main or primary motive behind imposition of tariff the rate of tariff generally remains low otherwise imports will be curtailed and the Government will not be in a position to raise enough revenue. Revenue tariff tends to fall on mass consumption goods. Government would like to earn additional revenue in order to calls to various functions viz.:

1) Obligatory functions like administrations of the country, maintenance of law and order, administrations of justice, preservation of peace.

2) Optional functions or development and welfare oriented functions like poverty alleviation, employment generations, social justice, planning, economic development etc.

b) Protective Tariff: when the tariffs imposed in order to restrict imports into a country as far as protection to the domestic industries are concerned then it is called as ―Protective tariffs‖ these kinds of tariffs are used by developing nations of the World.

c) Countervailing and Anti-Dumping Duties: Countervailing Duties may be imposed on certain items of imports when these items have been subsidized by foreign countries Governments. Anti-Dumping Duties are imposed in the foreign goods when there goodsget dumped in the domestic market. Below the price prevailing the originating the market. Countervailing and Anti-Dumping Duties are generally the penalty duties.

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TYPES OF NON-TARIFF BARRIERS

There are various types of barriers are available to the Non-Tariff Barriers to Trade Following are the various Six Types of Non-Tariff Barriers to Trade.

1. Specific Limitations on Trade: it includes the Quotas, Import Licensing requirements, Proportion restrictions of foreign to domestic goods (local content requirements), Minimum import price limits, Embargoes.

2. Customs and Administrative Entry Procedures: It includes the Valuation systems,Anti-dumping practices, Tariff classifications, Documentation requirements, Fees and soon.

3. Standards: In this type the Standard disparities, Intergovernmental acceptances of testing methods and standards, Packaging, labeling, and marking etc. are included.

4. Government Participation in Trade: It has Government procurement policies, Export subsidies, Countervailing duties, Domestic assistance programs

5. Charges on imports: It includes Prior import deposit subsidies, Administrative fees, Special supplementary duties, Import credit discrimination, Variable levies, Border taxes etc.

6. Others: It has Voluntary export restraints, Orderly marketing agreements and so on.

Thus, the various types of barriers to the Non-Tariff barriers are explained as well. The Non-Tariff barriers can include wide variety of restrictions to trade. Here is some example of the ―popular Non-Tariff barriers.

A) Licenses

License is the most common instruments of direct regulation of imports (and sometimes export) are licenses and quotas. Almost all industrialized countries apply these Non-Tariff methods. The license system requires that a state (through specially authorized office) issues permits for foreign trade transactions of import and export commodities included in the lists of licensed merchandises. The main types of licenses are general license that permits unrestricted importation of goods included in the lists for a certain period of time.

B) Quotas

A quota is a limitation in value or in physical terms, imposed on import and export of certain goods for a certain period of time. It is also an important instrument to restrict trade as far as Non-Tariff barriers are concerned. Licensing of foreign trade is closely related to quantitative restrictions – quotas - on imports and exports of certain goods. This category includes global quotas in respect to specific countries, seasonal quotas, and

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so-called ―voluntary" export restraints. Quantitative controls on foreign trade transactions carried out through one-time license.

Licenses and quotas limit the independence of enterprises with a regard to entering foreign markets, narrowing the range of countries, which may be entered into transaction for certain commodities, regulate the number and range of goods permitted for import and export. The licensing and quota systems are an important instrument of trade regulation of the vast majority of the world. The consequence of this trade barrier is normally reflected in the consumers‘loss because of higher prices and limited selection of goods as well as in the companies that employ the imported materials in the production process, increasing their costs.

C) Voluntary Export Restraints (VERs)

A Voluntary Export Restraints (VERs) is a restriction set by a government on the quantity of goods that can be exported out of a country during a specified period of time. Often the word voluntary is placed in quotas because these restraints are typically implemented upon the insistence of the importing countries.

D) Embargo:Embargo is a specific type of quotas prohibiting the trade. As well as quotas, embargoes may be imposed on imports or exports of particular goods, regardless of destination, in respect of certain goods supplied to specific countries, or in respect of all goods shipped to certain countries. Although the embargo is usually introduced for political purposes, the consequences, in essence, could be economic.

E) Standards:Standards take a special place among Non-Tariff barriers. Countries usually impose standards on classification, labeling and testing of products in order to be able to sell domestic products, but also to block sales of products of foreign manufacture. These standards are sometimes entered under the pretext of protecting the safety and health of local populations.

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EFFECTS OF TARIFFS

As far as tariffs are concerned these are concerned with two important things i.e. revenue and protection to the domestic industries from the foreign goods. The role of tariffs is very important as far any particular nation of the World is concerned. Many of the developing nations take an advantage of tariffs in the forms of protection and revenue source as well. Kindleberger has analyzed various effects of tariffs based on price, consumption, revenue, protection and so on.

It has been briefly explained as follows:

1) Price effect2) Revenue effect3) Protection effect4) Consumption effect5) Redistribution effect6) Terms of trade effect7) Competition effect8) Income and employment effect9) The balance of payment effect (BOP)

All these effects of tariffs are discussed below with the help of following diagram

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In the above diagram quantity of commodity is represented on ‗X‘ axis and on the ‗Y‘ axis price of commodity has been mentioned.

Where, DD is the Domestic Demand Curve, SS is the Domestic Supply Curve, OP is the Equilibrium Price without Trade,OP1 is the Price of the Import under the Trade,OP2 is the Price after Imposition of Tariff on Imports,

Various effects of tariffs mentioned above can be better understood with the help ofabove diagram and an explanation given below;

1) Price effect:

The price effect of tariff refers to an increase in the price of the commodity on which profit is levied. It the tenancy of the importer is to impose the entire tariff on the consumers the price will increase as an amount of tariff is levied on the import of goods. If in the market the demand is inelastic in nature then full burden will be passed on the consumers and in the opposite situations if demand is perfectly elastic then the price effect will have fewer burdens as well. In the above diagram P1P2 is the price effect of tariff as the post tariff price is OP2.

2) Revenue effect:

Many of the times there have been tendencies of the nations to earn revenue by imposing tariffs. The revenue effect can be expressed by simple calculations of, the rate of tariff multiplied by the imports.

3) Protection effect:

A tariff has protective effect for the domestic industries. It tends to raise the domestic price of the imported commodity, reduce the domestic demand for that commodity and thereby stimulates its domestic production.

4) Consumption effect:

Imposition of tariff raises the price, and as a result, the demand for the commodity falls. Total outlay on consumption of the commodity is larger or smaller depending upon whether demand is inelastic or elastic.

5) Redistribution effect:

Redistribution Effect refers to the transfer of real income from the consumers to the producers as a result of tariff. The tariff-imposed price increase results in the loss of consumer‘s surplus. The redistribution effect takes place while an increase in the price due to tariffs. It implies redistribution of income and wealth from one class to another class. As far as developing nations are concerned capital is limited available as compared to the labor so tariff is not expected due to the social justice.

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6) Terms of trade effect:

When a country imposes a tariff duty, its willingness to receive imports is reduced. For a given quantity of exports, the country now demands a larger quantity of imports because a part of these imports are to be surrendered to the customs authorities in the form of tariff payment. Or, putting the same thing differently, the country is now willing to offer less of exports in exchange for a given quantity of imports.Thus, the tariff reduces the country's offer of exports for imports.

7) Competition effect

Tariff protects the domestic industry from foreign competition. Under this protection an infant industry after a period of time, grows into an economically strong industry which can fully compete in the world market. But, the sluggish and lazy industry may not like to face the competition and remain inefficient even under the protection cover provided through tariffs.

8) Income and employment effect:

As a result of tariff, the expenditure on imported goods is reduced. This will increase the export surplus of the country and thereby the income from foreign trade. The money shifted from imports can now be spent on the domestically produced goods. If the country is at less than-full employment level, this will raise income and employment in the country.

9) The balance of payment effect (BOP):

Tariff has favorable effect on the balance of payments position of the imposing country. It reduces imports and increases the export surplus of the country. Thus, through tariffs, a deficit in the balance of payment can be corrected.

Thus, tariff plays an important role as far as international trade and relations are concerned, it has positive and negative effects on the exporting as well as importing nations of the world. It is not only bringing revenue to the government but also to protect and save the domestic industries, but an appropriate use of tariffs is very important.

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Non-Tariff Measures affecting India's Exports

According to recent estimates, multilateral liberalisation in the wake of the Uruguay Round is expected to increase world income by between US$ 212 to 510 billion by the turn of the 21st century. The welfare gains are likely to result from the expansion in world trade as well as greater productive efficiency and higher rates of return on capital. However, other evidence suggests that the distribution of gains is likely to be uneven between economies with the possibility that some developing countries might benefit less than other economies. Against a background of falling tariff barriers, one determinant of export success is the extent to which non-tariff measures (NTMs) in major markets affect a given developing country. Another is the speed of developing country trade and market liberalisation.

Since 1991, India has begun gradually liberalising its economy and dismantling barriers to trade and investment. Although the reform process is incomplete, India has developed a fairly diverse production base by developing country standards, which has become increasing export-oriented and open to foreign direct investment. This base has been dominated by resource-based and low-technology products for which global demand is somewhat stagnant. There is also a small set of high skill and technology products with considerable export potential. Following the Asian currency crisis in mid-1997 and international recession, there is an emerging perception that non-tariff measures in overseas markets may adversely affect the country's export growth. These measures are likely to affect the whole range of Indian exports.

Against this background, the Government of India requested the Commonwealth Secretariat to conduct a study on non-tariff measures (NTMs) affecting selected Indian exports representing different categories of exports (i.e. resource-based, low, medium and high technology exports). The study had three objectives:

To identify the nature and origin of NTMs affecting particular Indian industries; To evaluate enterprise responses to NTMs and the costs of adjustment; To assess the adequacy of public and private sector institutional support for

overcoming NTMs at enterprise-level.

The study is based on information from several different sources: interviews with 57 enterprises in five categories of exports (pharmaceuticals, engineering, leather products, marine products and mangos), discussions with Indian government officials and private sector representatives, consultations with WTO and UNCTAD officials, published studies and desk research.

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Analytical Framework

The World Trade Organization (WTO) provides the global framework for the conduct of international trade in goods and services. It administers the implementation of a set of agreements which include the Agreement on Technical Barriers to Trade (TBT) and the Agreement on the Application of Sanitary and Phytosanitary Measures (SPS). These two Agreements constitute the core of what have been known as Non-Tariff Measures (NTMs). This study makes a distinction between non-tariff barriers (NTBs) and non-tariff measures (NTMs) and focuses only on NTMs. The former relate to quantitative restrictions on imports and include quotas, licensing and voluntary export restraints. The latter relate to that wide spectrum of mandatory technical regulations and voluntary standards, which relate to issues of health, safety, consumer protection and the environment. Examples include the requirement that US Food and Drug Administration (FDA) approval be obtained for Indian pharmaceutical exports, the prohibition of dyes and chemicals in leather products, quarantine certificates for seafood exports and a ban on fresh mango exports from India owing to fruit fly regulations.

There is general agreement that there has been a steady growth in NTMs over the past 30 years both in a formal sense (mandatory requirements) and in an informal sense (voluntary requirements). NTMs can play a positive role in encouraging international trade through the provision of information and greater transparency and raising domestic standards to international levels. Equally, however, NTMs may be used to protect domestic producers if used in a discriminatory fashion. The WTO lays down certain procedures and rules for the application of technical regulations and standards including the principle that they must be applied in a non-discriminatory fashion (the most favoured nation principle) and that they must not extend to imported products treatment less favourable than that extended to domestically produced goods (national treatment principle). The SPSS Agreement requires countries to base their measures on international standards and guidelines. The paramount consideration for their application is that scientific evidence is used. The basic aim of the TBT Agreement is to ensure that technical regulations and standards (including packaging, marking and labelling requirements) and procedures used for assessing conformity with such regulations, requirements and standards are not formulated and applied so as to create unnecessary barriers to trade. Both agreements contain provisions for the extension of special and differential treatment for developing countries.

The imposition of an NTM can be seen as an external shock to which enterprises have to react quickly and positively if they are to maintain their competitive advantage. For the purpose of this study we distinguish between offensive and defensive competitive strategies. The former involve investment in new plant and equipment, acquiring new technology, upgrading product quality and seeking joint ventures with foreign partners.

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The defensive competitive strategy may involve moving back into the domestic market, cutting costs by reducing wages and employment and lobbying government.

Government bodies and private sector sources can provide a variety of services to assist enterprises to react positively the imposition of NTMs and adopt offensive competitive strategies. These services can include technical assistance with inspection, certification and compliance; training of different kinds, and providing marketing information. Developing countries characterised by a strong institutional support system, which is closely connected with the industrial sector, are likely to perform better than those countries lacking such an infrastructure.

Pharmaceuticals

The Indian pharmaceutical industry is a high technology sector, which has been growing rapidly since economic liberalisation and presently accounts for about 2.8% of India's total exports. Ten pharmaceutical enterprises - all located in and around New Delhi in North India – were interviewed. The sample firms produce two broad types of products: bulk drugs (intermediates and active pharmaceutical ingredients which are used to make up finished goods or formulations) and finished formulations in various dosage forms. These enterprises were exporting to developed countries, CIS markets and a large number of developing countries.

The main findings in regard to the incidence of NTMs, firm strategies and institutional support are as follows:

There are at least eight different kinds of NTMS, which seem to affect Indian exporters in overseas markets. These include: company and product registration, product registration only, WHO-GMP certification, packaging and labelling requirements, import bans, anti-dumping measures and pre-shipment inspection. Each of these has a different purpose, regulatory requirement and impact on firm behaviour.

The incidence of NTMs varies across export markets and a distinct pattern can be observed. Developed countries like the US, France and Japan tend to have one main type of NTM (company and product registration) while developing and transition economies appear to have entirely different types of NTMs (e.g. product registration only, WHO-GMP certification, packaging and labelling requirements, pre-shipment inspection and import bans).

Seven of the ten pharmaceutical enterprises in the sample appeared to have adopted offensive competitive strategies in relation to NTMs in major export markets. Of the remaining three pharmaceutical enterprises, one seems to be

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showing a mixed response to NTMs (with some positive and negative aspects to its approach) while the other two seem to be reacting defensively.

Compliance with NTMs has involved significant financial and time costs for the sample pharmaceutical enterprises. By far the greatest compliance costs are associated with obtaining US Food and Drug Administration approval - the cost of requisite clinical trials can range from US$ 0.15 million to US$ 1.5 million depending on the type of drug being tested and process can take up to two years. WHO-GMP certification can also involve relatively high compliance costs depending on the extent of upgrading required and a certification processing spanning between 3-12 months.

The sample pharmaceutical enterprises seem to draw on half a dozen sources of technical assistance to comply with NTMs in overseas markets including in-house technical staff, consultants, equipment suppliers, commercial labs, chambers of commerce and industry associations and state and central government drug control agencies. However, interviews with the sample pharmaceutical enterprises suggested that these sources of support were insufficient in relation to enterprise needs. These gaps seem to apply to both private as well as public sector service provision.

Engineering

The Indian engineering industry is relatively diversified with a number of distinct sub-sectors including capital goods and automobile assembly and components. It exports a wide range of products covering the spectrum of technology, from hand tools to automobile products and electrical machinery. Sixteen engineering companies, located in Ludhiana and Chennai, were interviewed. The sample firms produced a wide range of products and exported to a variety of markets, mainly developed market economies and developing countries worldwide.

The main findings in regard to the incidence of NTMs, firm strategies and institutional support are as follows:

a variety of NTMs were identified by sample firms, including anti-dumping measures (or the threat thereof), discriminatory specifications, visa problems and customs delays and harassment; there was no overall pattern, however, and the sample enterprises did not identify NTMs as a major problem facing them in crucial export markets;

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constraints on market access and discriminatory treatment were more likely to be found in developing country markets, but care must be exercised in generalising from such a small sample; the highest profile NTM was that imposed by France on imports of Indian bicycles;

ten of the sample companies for which information was available adopted an aggressive (actively competitive) or intermediate (passively competitive) stance when faced with NTMs; only one company could be said to have adopted a purely defensive stance; the competitive response involved investment in new plant and equipment and upgrading standards, procedures, products and processes; although in some cases the additional costs incurred by such strategies could be estimated, in general the Companies had limited choice - they either had to meet the standards imposed by their customers or lose their market;

because of the relatively low technological content of most engineering exports, Indian exporters were very vulnerable to both NTMs and new sources of competition, especially that posed by Chinese enterprises;

few sources of domestic assistance to sample enterprises were identified; most enterprises relied on their own resources and/or bought in consultants; neither industry associations nor government bodies appeared to play an active role in assisting Indian exporters.

Marine Products

Marine products is a relatively new natural resource based export sector that has emerged in the post-economic liberalisation era and currently makes up for about 3.2% of total Indian exports. Eleven marine products enterprises were interviewed. With one exception (based in Cochin), the marine sample enterprises are located in Chennai in South India. The sample firms were exporting several kinds of marine products (e.g. live lobsters, chilled fish and frozen shrimp) to developed and developing country markets.

The main findings in regard to the incidence of NTMs, firm strategies and institutional support are as follows:

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There are at least five kinds of NTMs, which seem to affect Indian exporters of marine products in overseas markets. These pertain to issues of quotas, standards, distribution, documentation and transportation.

The incidence of NTMs seems to differ across export market with a lack of a clear pattern. Japan, for instance, seems to have three types of NTMs - a quota on imports of a specific variety of squid, a requirement for a local quarantine certificate and cartelised distribution chains. In contrast, the US and the EU have single NTMs -the former takes the form of a quality certificate (known as a Green Ticket) while the EU also has tough standards on seafood imports which have been stringently enforced following a total import ban in 1997 because of a shipment affected by cholera. Meanwhile, selected developing countries have NTMs relating to health regulations, documentation requirements and an insistence on full container loads.

Eight of the ten marine enterprises in the sample appeared to have adopted offensive competitive strategies in relation to NTMs in major export markets. Of the remainder, one reported that it was not affected by NTMs and the other had reacted defensively by moving to a less demanding export market.

Compliance with NTMs has involved significant financial and time costs for the marine sample enterprises. In the case of EU standards, these costs are primarily in the nature of fixed costs of upgrading plant and equipment. Based on the evidence from the sample, it seems that an investment of about US$ 315,000 is required to upgrade a typical Indian marine export plant to meet EU standards and process of upgrading can take more than one year. However, obtaining the Green Ticket for exporting to the US is much cheaper (as it involves only checking final products and not the process of production) and the procedure can take between 3-6 months.

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Most sample firms seemed to complain about the lack of technical assistance to marine exporters from government institutions especially in regard to disease prevention and provision of market information. Instead, they seem to rely on advice from in-house technical staff, equipment suppliers and Japanese buyers of marine products.

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CHAPTER 3: EFFECT ON AGRICULTURAL PRODUCT

India is a minor participant in global agricultural markets. In 2008, Indian agricultural imports and exports accounted for just 1 percent and 3 percent, respectively, of global agricultural trade. Agriculture’s share of total Indian merchandise imports and exports was 3 percent and 11 percent, respectively. Only about 3 percent of Indian food and agricultural demand is met by imports, compared with 13 percent for Asia as a whole.

During 2003–08, India experienced an increasingly positive trade balance in agricultural products, reaching $11.6 billion in 2008 (fig. 2.1). Much of this growth occurred in 2007 and 2008, mostly reflecting significantly higher global commodity prices. Between 2003 and 2008, Indian agricultural imports increased at an annual average rate of about 13 percent, reaching a record $8.5 billion in 2008. Indian agricultural exports increased more than threefold, from $6.1 billion in 2003 to $20.2 billion in 2008, representing annual average growth of 27 percent.

Imports

Imports by Product

Indian agricultural imports from the world are highly concentrated in a few major product categories (table 2.1 and fig. 2.2) in which domestic supply is unable to meet domestic demand. These categories include edible oils (mostly palm and soybean oils), pulses (peas, beans, and lentils), and nuts, which together accounted for 60 percent of all agricultural imports in 2008. Imports of hides and skins, wool, and cotton accounted for 13 percent of imports during 2006–08. With the exception of wheat, animal feed and alcoholic beverages, all other product categories each accounted for less than 1 percent of total agricultural imports during this period. Notably, Indian imports of food grains (excluding wheat), feed grains, oilseeds, meat, dairy products, sweeteners, and processed foods were negligible in 2008. As outlined in chapter 1, low levels of trade in agricultural products are an outcome of Indian government policies aimed at food security, food self-sufficiency, and income support for farmers, implemented through domestic agricultural production support, tariffs and nontariff measures (NTMs), and export restrictions. Consequently, many trade trends can be explained more by domestic and trade policy initiatives, such as tariff changes, than by changing market factors, such as weather.

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Imports by Major Trading Partner

In terms of major suppliers, Association of Southeast Asian Nations (ASEAN) countries accounted for 35 percent of Indian agricultural imports during 2006–08. Indonesia, a major supplier of palm oil, was by far the largest supplier, accounting for close to one quarter of Indian imports during this period (table 2.2 and fig. 2.5). Other leading ASEAN suppliers were Burma (dry beans) and Malaysia (palm oil, certain cocoa products), accounting for 7 percent and 4 percent of total Indian agricultural imports, respectively. During this period, imports of soybean oil from Argentina fell sharply, from $661 million to $222 million, as India sourced more competitively priced palm oil from Indonesia. These losses were somewhat offset by Argentine exports of wheat as India resumed importing in 2006 after several years of being a net wheat exporter.35 During 2006–08, the EU-27 supplied a wide range of products, led by alcoholic beverages (mostly whiskies), peas, fibers (wool and flax), and hides and skins. Indian agricultural imports from Canada increased sharply during 2003–08, such that by 2008, Canadabecame the second-largest agricultural supplier behind Indonesia. Canada’s exports to India were almost exclusively peas and lentils.

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Exports

The competitiveness of Indian agricultural exports is based on low costs associated with abundant labor and subsidized inputs, including fertilizer, electricity, and seeds. India’s proximity to ASEAN and Middle Eastern markets provides India with a transportation cost advantage over other suppliers. Other factors affecting Indian agricultural exports include government export restrictions aimed at curtailing food price inflation (box 2.2), a minimum export price program that makes certain Indian exports less competitive in world markets and the use of export subsidies when government buffer stocks become too large.

Exports by Product

Between 2003 and 2008, Indian agricultural exports to the world grew more than threefold, increasing from $6.1 billion in 2003 to $20.2 billion in 2008. Similarly, Indian agricultural exports to the United States increased steadily from $585 million in 2003 to about $1.3 billion in 2008. Indian global agricultural exports are concentrated in a few major commodities. During 2006–08, rice, soybean meal, and cotton represented one-half of Indian global agricultural exports, with sugar and frozen beef (mostly buffalo meat) accounting for an additional 20 percent. Tobacco, nuts (mostly cashews and peanuts), beverages (tea and coffee), and spices are also exported by India. Agricultural products exported by India to the United States include nuts and a wide range of specialty products supplying ethnic grocery stores and restaurants.

Exports by Major Trading Partner

Indian agricultural exports are dispersed among a large number of destination markets (table 2.4). During 2006–08, the EU-27 was India’s largest agricultural export market, accounting for 14 percent of the total, followed by the United Arab Emirates (UAE), China, and the United States each with a 7 percent share (fig. 2.8). Other important markets include Bangladesh, Saudi Arabia, and Vietnam. During 2003-08, growth in Indian agricultural exports to the UAE, China, Vietnam, and Pakistan was particularly strong, led by sharply higher exports of rice, cotton, meat, and animal feed.

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India’s agricultural production, valued at $176 billion1 and representing 17 percent of Indian gross domestic product (GDP) in 2007, has been heavily influenced by domestic government policies emphasizing food security, food self-sufficiency, and income support for farmers. Indian food consumption is overwhelmingly supplied by domestic production, with imports playing a minor role for most commodities.

Agriculture is an important sector of India’s economy. It employs more than 60 percent of the population dominated by millions of extremely poor farmers working small to marginal landholdings, who account for more than one-half of total Indian agricultural production. India is a leading global producer of a number of commodities—including various grains, dairy, fruits, and vegetables—because of its significant natural resource base. The country has the world’s second-largest arable land base after the United States 4 and is endowed with all of the world’s major climates. While grains remain the foundation of the Indian diet, production has recently increased for other foods, such as milk, meat, fruits, and vegetables; in response to increasing Indian demand. the value added food processing sector of the Indian economy is small but growing.

During marketing years (MYs) 2003/04–2007/08, Indian production volumes of many commodities increased, some with annual double-digit growth rates. Many of the increases were aided by favorable weather and prices, increased planted area, and rising yields. Yet growth in the overall value of agricultural production slowed relative to past performance and lagged behind the growth in population. The 2.5 percent growth recorded during fiscal years (FYs) 2002/03–2006/07 (the years covered by the government’s Tenth Five-Year Plan) is not considered by the Indian government sufficient to sustain food security objectives. Consequently, the government is currently looking for ways to improve performance in the sector, which suffers from fragmented landholdings, an incentive program that distorts crop planting decisions, the overuse of fertilizer and groundwater, inadequate postharvest treatment, and inefficient market channels.

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Applied Tariffs

High applied tariff rates are a major impediment to U.S. agricultural exports to India, according to U.S. agricultural exporters, because they increase the price of U.S. goods in relation to domestically produced products. Indian tariff rates are applied almost exclusively on an ad valorem basis and primarily range from 10 to 150 percent. The simple average of Indian applied tariff rates on agricultural products declined significantly from 113 percent in 1991 12 to approximately 34 percent during 2007; however, they remain among the highest in the world. Indian applied tariff rates on agricultural products are also substantially higher than its applied rates for nonagricultural products. As a result of the continuing sensitivity of the Indianagricultural sector and India’s preparations to implement a free trade agreement (FTA) with the Association of Southeast Asian Nations (ASEAN), the government has been reducing tariff rates on nonagricultural products faster than those for agricultural products. India’s applied tariff rates vary substantially by product and product group. Certain agricultural product groups, such as sugar and grains, are considered sensitive because of employment and food security concerns; these generally have high average applied tariff rates. Market conditions, industry stability and employment, and the importance of the product to Indian consumers are other factors that contribute to significant differences in applied tariff rates for specific agricultural products within product groups. For example, among vegetable fats and oils, the tariff rate for margarine is 80 percent, while the tariff rates on crude soybean and palm oils were reduced to free in March 2009. Vegetable oils have traditionally been protected by high tariffs, although tariff rates on this product group have been reduced to an average of 24 percent in order to combat food price inflation. Similarly, the average tariff rate on animal products is 33 percent, with most products subject to a 30 percent tariff. However, imported fresh and frozen chicken cuts, which compete with the large domestic industry, are subject to a 100 percent applied tariff rate. Applied tariff rates on specific grains also differ widely. For example, the tariff rates on oats and rye are zero, while the tariff rates on other cereals, such as semi- and wholly milled rice and wheat, which are important for maintaining food self-sufficiency, are 70 percent and 50 percent, respectively.

U.S. exporters indicate that high tariffs raise the price of imported U.S. products to levels that can substantially dampen Indian demand for them. For example, the U.S. apple and pear industries estimate that U.S. exports could more than double if the tariff rates were reduced or eliminated. Both the U.S. apple and pear industries compete for market share with cost-competitive Indian producers. In some instances, the presence of high tariffs keeps U.S. exporters from trying to enter the Indian market.

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In addition to lower tariffs, some industry officials, including U.S. exporters and Indian importers, suggest that certain other changes to the current Indian tariff structure could increase U.S. access to the Indian market. For example, some Indian importers have requested that India follow the approach taken in the European Union on certain seasonal products by varying tariff levels on imports of those products based on the time of year, with higher rates applied when domestic production is available and a lower rate applied when domestic production is out of season. Some importers claim that this change would increase market access while not harming the domestic industry. In addition, certain importers have requested that the Indian government apply tariffs on a specific or per-kilogram basis, a method used currently only for almond imports, instead of on an ad valorem basis. This system would create more certainty for foreign exporters because industry officials report that tariffs assessed by volume are generally less likely to be manipulated than those assessed by value.

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Tariff Variability

The difference between high Indian average bound tariff rates and lower average applied tariff rates for agricultural products allows the government to raise applied tariffs on most agricultural products without violating its WTO commitments. The Indian government has used this authority to modify rates on certain agricultural products frequently, especially for staple food products. Industry sources claim that tariff-rate variability is an impediment for U.S. agricultural exports because frequently changing tariff rates create uncertainty, making negotiating future sales and determining financial plans difficult.

The Indian government views the ability to adjust tariff rates as a necessary trade instrument, as long as the system is WTO compatible. The rationale for adjusting tariff rates is to protect farmers and maintain domestic price stability when domestic production and international prices fluctuate. The Indian government strives to balance competing interests of producers and consumers by adjusting tariff rates in reaction to market conditions, typically lowering them when domestic prices are rising and domestic production cannot meet domestic demand. Conversely, the Indian government often increases tariff rates when international market prices are falling and there is a surplus in domestic production or government buffer stocks, decreasing the country’s need for imports. In addition to government-directed changes, domestic industry associations can petition the Ministry of Finance to lower tariffs. In response, the Ministry of Finance will determine the reduction’s impact on the budget before lowering tariff rates. Concerns about the impact of tariff-rate adjustments on government revenue are generally secondary to their impact on producers and consumers.

The history of Indian applied tariff rates for certain products, especially food staples, illustrates the frequent variability that occurs. Between 2005 and 2008, production shortfalls and rising international prices caused Indian domestic food prices to rise sharply. To minimize the burden on consumers, India decreased tariff rates on many staple food products. As prices declined, however, tariff rates generally were returned to their previous levels to support Indian farm prices. This is shown by recent changes in applied tariff rates for wheat, rice, pulses, and vegetable oils:

Wheat: The tariff rate on wheat was lowered as poor harvests caused domestic prices to increase. The rate was lowered from 50 percent to 5 percent in June 2006 before being reduced to zero in September 2006. As a result, India imported wheat in 2006 for the first time since 2001. As domestic production increased and prices declined, India returned the rate to 50 percent on January 1, 2009.

Rice: Concerns about the rising price of rice caused India to lower the tariff rate on rice from 70 percent to zero in March 2008. When market prices stabilized in March 2009, the tariff rate was returned to 70 percent.

Pulses: The wholesale price index for pulses rose by 45.6 percent between 2003 and 2006.33 As a result, on June 8, 2006, the Indian government exempted pulses from the applicable 10 percent import duty in order to control prices. The duty exemption has been extended until March 31, 2010.

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Vegetable oils: In order to support farm prices, India raised tariff rates in early 2005 on crude palm oil from 65 percent to 80 percent and on refined palm oil from 70 percent to 90 percent. In early 2007, edible oil prices began rising quickly because of lower domestic production, which led the government to reduce rates three times during 2007 on both crude and refined palm oils, before reducing the tariff rates on crude soybean and crude palm oils to zero and on all refined edible oils to 7.5 percent on April 1, 2008. During the remainder of 2008 and through early 2009, prices and import levels of soybean oil continued to fluctuate, and as a result, the tariff rate on crude soybean oil also continued to vary.

Tariff Adjustment Process

Not only does the Indian government adjust tariff rates frequently, but the rates are adjusted under two different methods, which adds complexity and confusion to the tariff system. The first method involves changes made annually through the budgetary process, under which tariff revenues still represent a significant source of revenue for the Indian government. During February of each year, the Minister of Finance presents the government’s budget to the Indian Parliament for the new fiscal year, which begins April 1. The budget is enacted after parliamentary review and approval. The proposed budget, which is released to the public, may propose changes to any number of applied tariff rates. The budget approved for FY 2008/09, for example, adjusted tariff rates on four agricultural products: tariffs on two were reduced (unworked corals and feed additives), and tariffs on two were increased (cigars and cigarillos).

The second and more common method is for tariffs to be changed on an ad hoc basis by the Indian Ministry of Finance’s Central Board of Excise and Customs in notifications published in the Gazette of India, the national government’s official publication. During 2008, the Indian government issued 138 tariff-rate amendment notifications. Because tariff-rate adjustments can be made frequently and through more than one government process, and because they may be effective for either a set period of time or an indefinite period, exporters to the Indian market generally describe the process as lacking transparency and certainty. Other complications compound the difficulties. For example, tariff-rate changes in many notifications are referenced by serial numbers established and designated to goods in previous notifications, rather than providing descriptive product language or specific tariff codes. The research required to determine which serial numbers apply to which goods reportedly increases costs to exporters. To keep track of the current tariff rates, market participants state that they must monitor the Customs and Excise website daily because tariff-rate changes come into effect immediately unless otherwise specified. Additionally, the large number of notifications reportedly also makes the system more susceptible to error, irregular or arbitrary administrative discretion, or corruption. U.S. industry officials report that Indian customs agents may not be aware of which tariff rate applies to certain imports, and unless the importer knows for certain that a specific tariff rate has been reduced, customs agents may charge the higher rate previously in effect. In addition, many notifications incorporate changes to a wide variety of products, both agricultural and nonagricultural, while amending notifications from previous years. The Indian Minister of Finance recognized the complexity of the system

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in his February 2006 budget speech and called for the system of notifications to be simplified.

Simulated Effects of Indian Agricultural Applied Tariffs

Model simulations prepared by Commission staff suggest that Indian agricultural tariffs reduced U.S. agricultural exports to India in 2007 by $200–291 million; in the absence of Indian tariffs, U.S. agricultural exports to India would have been 42–61 percent higher in 2007. Among U.S. products most affected by Indian agricultural tariffs were almonds (U.S. exports to India were reduced by $26.9–32.7 million), fresh apples ($16.6– 21.2 million), soybean oil ($17.1–21.7 million), cotton ($3.0–26.4 million), and certain vegetable fats and oils ($17.8–27.2 million).

The simulation results suggest that Indian agricultural imports from all countries would have expanded from $7.51 billion in 2007 to $10.7–11.3 billion in the absence of Indian tariffs in 2007. Because India applies the same tariff rates on imports from the United States as on imports from other countries, the U.S. share of those imports would have expanded from 6.36 percent in 2007 to 6.37–6.81 percent in the absence of Indian tariffs.

The simulated tariff effects were obtained from model simulations of the absence of Indian applied tariffs on agricultural imports from all countries. The simulations are based on 2007 statistics. The simulations were performed with an interrelated framework that links a partial equilibrium trade model, specified at the six-digit level of the Harmonized System (HS6), to an economy-wide trade model, the Global Trade Analysis Project (GTAP) model.

The simulated tariff effects are the marginal effects of applied Indian tariffs and do not incorporate any other effects. In the absence of Indian tariffs and in the span of a few years, U.S. exports could expand by more than indicated here because of possible additional effects of economic growth in India and the results of market development by U.S. exporters. The tariff simulations focus on applied tariffs and do not consider other policies that reduce demand for U.S. products in India.

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EFFECTS OF TARIFFS ON PRICES

Tariffs increase the prices of imported goods. Because of this, domestic producers are not forced to reduce their prices from increased competition, and domestic consumers are left paying higher prices as a result. Tariffs also reduce efficiencies by allowing companies that would not exist in a more competitive market to remain open.

Figure 1 illustrates the effects of world trade without the presence of a tariff. In the graph, DS means domestic supply and DD means domestic demand. The price of goods at home is found at price P, while the world price is found at P*. At a lower price, domestic consumers will consume Qw worth of goods, but because the home country can only produce up to Qd, it must import Qw-Qd worth of goods.

Figure 1. Price without the influence of a tariff

When a tariff or other price-increasing policy is put in place, the effect is to increase prices and limit the volume of imports. In Figure 2, price increases from the non-tariff P* to P'. Because price has increased, more domestic companies are willing to produce the good, so Qd moves right. This also shifts Qw left. The overall effect is a reduction in imports, increased domestic production and higher consumer prices.

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Figure 2. Price under the effects of a tariff

Tariffs and Modern Trade

The role tariffs play in international trade has declined in modern times. One of the primary reasons for the decline is the introduction of international organizations designed to improve free trade, such as the World Trade Organization (WTO). Such organizations make it more difficult for a country to levy tariffs and taxes on imported goods, and can reduce the likelihood of retaliatory taxes. Because of this, countries have shifted to non-tariff barriers, such as quotas and export restraints. Organizations like the WTO attempt to reduce production and consumption distortions created by tariffs. These distortions are the result of domestic producers making goods due to inflated prices, and consumers purchasing fewer goods because prices have increased.

Since the 1930s, many developed countries have reduced tariffs and trade barriers, which has improved global integration and brought about globalization. Multilateral agreements between governments increase the likelihood of tariff reduction, while enforcement on binding agreements reduces uncertainty.

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Tariff and Industrial Production: Theoretical Issues

Micro-economic Aspects

To analyse the effect of tariff on domestic industry, the partial equilibrium framework was used in the 1950s. The focus was only on the industry or sector being protected. In the standard competitive ihodel, a tariff increase for a product results in a reduction in imports of the product and an increase in the output of domestic industry. This enables the domestic industry to capture a larger share of the domestic market. In the oligopolistic models also, the same effect of tariff on the production of domestic firms (i.e. expansion of domestic industry) was envisaged.

While the micro-economic analysis based on partial equilibrium framework showed tariff to have a favourable effect on the production of the domestic industry, the welfare costs of protection were also recognised. Such costs arise because tariffs drive a wedge between international prices and domestic prices which leads to production and consumption decisions different from what would put the society at the highest level of social welfare. The cost of tariff protection can be decomposed into a ’production cost’ and a ’consumption cost’ referring to two types of distortions.

Since the mid 1970s, empirical work on trade restrictions has been based on general equilibrium models1. Such models incorporate all repercussions of tariff hike on production, including effect on X-efficiency, the terms of trade, income and employment beyond the industry under consideration. Since both direct and indirect effects are captured, these studies provide substantially higher estimates of the costs of protection than do the studies based on partial equilibrium analysis.

There is also a body of literature that points to the ineffectiveness of import protection in stimulating domestic production under certain conditions. Metzler (1949) points out the possibility that if the small country assumption is not valid and the world prices are allowed to change, the tariff may depress the world prices of the imported good to such an extent that tariff inclusive domestic prices are lower than before, and in that case it may reduce domestic production. Baldwin (1982) analyzes a number of situations using partial equilibrium framework in which protection causes less than expected increase in domestic production. He draws attention to (a) the possibility that the protected product is imported in a less or more processed form than is covered in the policy and (b) the possibility of switching to substitute products. Baldwin and Green (1988) give examples of firms which do not plough back into the industry the increase in profits due to tariffs if the long-term prospects of the industry are not very favourable to growth. Among other reasons for ineffectiveness of protection is smuggling as noted in Bhagwati and Hansen (1973). Bhagwati and Srinivasan (1980) show how lobbying for protection may also reduce output in the domestic industry.

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Macro-economic effects

In his seminal paper, Mundell (1961) concluded that a general tariff will have an adverse effect on output and employment under flexible exchange rates. Mundell recognised at the same time that, with a fixed exchange rate and in the absence of extensive retaliation, a tariff may generate higher output and employment. MundelFs result relies on the Laursen-Metzler hypothesis that savings will increase with improved terms of trade, due to an increase in real disposable income. However, the Laursen-Metzler effect is not a clearly established empirical or theoretical result. Thus, much of the recent work on tariff policy has noted the restrictiveness of the Laursen-Metzler assumption and has attempted to see whether the result of Mundell holds under more generalised assumption.

Chan (1978) shows that when a money market is added to Mundell’s model, a tariff is contractionary even without the Laursen-Metzler assumption. Krugman (1982) argues that Mundell’s tariff ineffectiveness result holds for a number of monetary extensions of MundelPs 1961 model. These and several other such studies reach similar conclusions because they all share similar features and in particular the quantity theory of money is taken as the valid description of money demand. Ford and Sen (1985) have shown that, in a large number of circumstances, tariffs can have positive effects on output and employment if the money demand function is specified in Keynesian terms, allowing for interest effects on money demand.

The models discussed above are restrictive in that they assume full employment, neglect the specification of investment relationship and ignore economies of scale. In the framework of Kaldor (1970,1982), which differs from these models, there are reasons to expect a favourable effect of tariff on economic performance. In this framework, the Harrod foreign trade multiplier and increasing returns in manufacturing industry occupy an important place. Kaldor argues that the Ricardian rationale for free trade is dependent on the assumption of constant returns to scale. The existence of scale economies in manufacturing implies that a nation that is successful in competing with foreign firms can expect that the advantage of an expanding market will increase its competitiveness, Also, it should be noted that devaluation is a non-selective policy and raises the prices of all imports, not just the competitive ones. Consequently, any attempt to generate a substantial and long-term improvement in competitiveness through the exchange rate may require a large reduction in the nominal rate with repercussions for inflation, real income and economic stability. Accordingly, Kaldor has argued that some form of protection of competitive manufactures would be a more effective policy for securing full employment.

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CHAPTER 4: Protection and India’s Industrial Performance

It is widely recognised that India’s protective regime has succeeded in creating a large and highly diversified industrial base. However, in this process, the considerations of cost, comparative advantage (static) and international specialization have largely been ignored with the consequence that a number of industries have come up and grown over time in which the country does not have comparative advantage. Thus, the industrial structure that has evolved over time is different from what it would have been if the incentive system was more neutral (and the government did not interfere in the flow of resources to different industries).

It is also widely held that the protective regime has been responsible for inefficiency in resource use which has constrained the growth performance of Indian industry. Studies on the effective rates of protection(ERP) and domestic resource cost(DRC) of Indian industries have found these ratios to be generally very high and to be widely varying across industries, indicating thereby that India’s foreign trade regime has led to an inefficient allocation of resources among industries.3 There are other types of inefficiencies as well. It is often argued that the extreme complexity and case-by-case nature of both import licensing and tariff system have given rise to lobbying and considerable "rent seeking" activities with consequent adverse effects on efficiency. Further, sheltering from import competition along with domestic industrial licensing has led to X-inefficiency and lack of technological dynamism. This is manifested in lowrates of capacity utilisation and sluggish productivity growth.

That protection of domestic industries and the process of import substitution have adversely affected the productivity performance in Indian industries has been noted in the studies of Goldar (1986, 1986a) and Ahluwalia (1991). Goldar (1986) found a negative relationship between total factor productivity growth and ERP. Goldar (1986a) found a significant negative relationship between total factor productivity growth and the extent of import substitution. Similarly, the results of the analysis carried out by Ahluwalia (1991) indicate that the higher the degree of import substitution in an industry, the lower is its productivity growth.

Let us consider a hypothetical tariff leveled on, say, steel. The steel industry in the United States might lobby for such a tariff and has done so in the past using the argument that the tariff will protect it from foreign (often state-subsidized) competitors that will “dump” steel on the American market at prices that domestic steel producers can’t possibly match. The tariff, the steel industry representatives might argue, will tax the foreign imports sufficiently to raise their price to a comparable level to the price charged by domestic firms.

Of course, just implementing and enforcing the tariff and arranging the administrative machinery for it can be sufficiently costly to taxpayers – including the very owners and employees of the firms that lobbied for the tariff – as to outweigh any possible benefits. But let us assume that the tariff has been successfully put into place and

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has raised the price that Americans pay for imported steel. What happens then? And who are some of the American consumers that must now pay higher prices?

It turns out that the steel tariff would raise costs for American domestic firms – particularly those that use steel as an input. Manufacturers of automobiles, industrial equipment, tools, building materials, and many other products would be faced with far smaller profits – just because the tariff has raised their input costs. Thus, these firms become less competitive relative to other firms abroad that might not have to deal with the same artificially high steel prices. The government-imposed steel tariff actually hampers the profitability and competitiveness of many more domestic industries than it helps.

Consider how these firms might respond to an opportunity to move their operations abroad where steel tariffs are lower or don’t exist. Surely, such an action would lower their input costs and enable them to function more effectively. Tariffs imposed to “protect” domestic firms actually give many domestic firms a strong incentive to move outside the country!

But even the steel industry would lose in the long run due to steel tariffs. On the face of it, it might seem that the steel industry has been benefited by the “protection” from competition that the tariffs afford. But consider what it takes to produce steel in mass. A steel manufacturer would need to own a lot of specialized machines that include components made of… you guessed it – steel! By hurting the domestic industries that use steel as an input, steel tariffs make it less likely for those firms to develop new products that make it easier and less costly to manufacture steel! Thus, the domestic steel industry is deprived of the ability to benefit from innovations that would have occurred in the absence of the tariff.

Furthermore, the tariff gives the domestic steel industry an effective guarantee of certain levels of revenue – at least in the short run. The steel industry will receive this revenue irrespective of what it does and of whether it innovates or stagnates, cuts costs or decides to leave them as they are. With the artificially high barriers to entry created by the steel tariffs, there exist tremendous incentives for what economists call X-inefficiency – the tendency of firm managers to slack off in their efforts to maximize profit and instead try to lead an easier life by relying on the guarantees of protection offered by the government’s tariff. The result of X-inefficiency will be that the domestic steel firms’ cost structures will actually drift upward over time, leading them to lose any productive edge they might have had. Indeed, all historical evidence shows that industries can seldom, if ever, be “weaned off” of government protection once it starts. Rather, inefficiencies take holds that permanently cripple the “protected” industry’s ability to compete with foreign producers or domestic producers whom the government does not aid.

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Now let us assume the worst-case scenario offered by advocates of “protective” tariffs. That is, let us say that a domestic industry is entirely driven out of business by competition abroad. On net, even this change would be beneficial to domestic industries in general, and even, in the long run, to the specific workers displaced by the decline of one particular industry.

If it is truly the case that a certain firm or industry has been displaced by free, open competition, then this means that another firm or industry has a comparative advantage over the displaced competitor. If the firm with a comparative advantage in producing product A focuses on producing just A while the displaced competitor – who might have a comparative advantage in producing B instead – focuses on producing just B, a mathematical analysis can show that both firms can be made better off than if this specialization did not take place. Furthermore, this can still be the case when one competitor has an absolute advantage over the other in all areas. So even if a foreign firm F can produce both goods A and B at lower cost than a domestic firm D, it would still be advantageous for F to specialize in producing A and D to specialize in producing B, so long as F can produce A more effectively than it can produce B.

So a displaced domestic industry needs only to shift its focus on producing something else. Once the shift is in place and the workers and managers have been re-trained, everyone is better off than they would have been if the tariff had remained in place. There is no need to fear for the fate of the displaced workers during the transition, as it is possible to give such workers aid in place of the tariff. Many economic analyses have shown that an outright cash grant of several hundred thousand dollars to each displaced worker would generate less overall economic waste than maintaining any given protective tariff.

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Impact to the economy of a country with the tariff imposed on it

It is easy to see why a foreign tariff hurts the economy of a country. A foreign tariff raises the costs of domestic producers which causes them to sell less in those foreign markets. In the case of the softwood lumber dispute, it is estimated that recent American tariffs have cost Canadian lumber producers 1.5 billion Canadian dollars. Producers cut production due to this reduction in demand which causes jobs to be lost. These job losses impact other industries as the demand for consumer products decreases because of the reduced employment level. Foreign tariffs, along with other forms of market restrictions, cause a decline in the economic health of a nation.

Except in all but the rarest of instances, tariffs hurt the country that imposes them, as their costs outweigh their benefits. Tariffs are a boon to domestic producers who now face reduced competition in their home market. The reduced competition causes prices to rise. The sales of domestic producers should also rise, all else being equal. The increased production and price causes domestic producers to hire more workers which causes consumer spending to rise. The tariffs also increase government revenues that can be used to the benefit of the economy.

There are costs to tariffs, however. Now the price of the good with the tariff has increased, the consumer is forced to either buy less of this good or less of some other good. The price increase can be thought of as a reduction in consumer income. Since consumers are purchasing less, domestic producers in other industries are selling less, causing a decline in the economy.

Generally the benefit caused by the increased domestic production in the tariff protected industry plus the increased government revenues does not offset the losses the increased prices cause consumers and the costs of imposing and collecting the tariff. We haven't even considered the possibility that other countries might put tariffs on our goods in retaliation, which we know would be costly to us. Even if they do not, the tariff is still costly to the economy.

Economics is a broad field; there are many areas that relate to economics. One of the most important issues in a country’s economy is trading; therefore, tariffs are most often discussed when talking about imported goods. A tariff is simply a tax or duty placed on an imported good by a domestic government. Tariffs are usually levied as a percentage of the declared value of the good, similar to a sales tax. Unlike a sales tax, tariff rates are often different for every good, and tariffs do not apply to domestically produced goods. Therefore, tariffs do affect the economy and also change consumers and producers’ behavior. Every country in the world trades with other countries, depending on how much they need and the level of their production. This essay is going to focus on the impact of tariffs on imports to the economy, how they affect consumers’ and producers' behavior, the problem with the voluntary exports restraint, and the issues with WTO.

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The purpose of the tariff is largely categorized by two big concepts. First, an original concept is to defend domestic industries from foreign capital that would have comparative or absolute advantages to domestic products. If a country has excess imports, then the consumers in the foreign country gain from that importation. This is due to a lower world price of a product. However, excess imports create a trade deficit. Trade deficit does not create employment in a post-Keynesian world with weak unions according to Irwin (chapter 3). Secondly, the principle of tariff is that imported goods from countries want to gain extra profits from imported goods. The graph below (which was taken from the class lecture) will explain more of the situation. This is a basic imports graph, which shows the area of consumer surplus, producer surplus, and the level of local purchases with trade and total purchase with trade.

Since there exists a problem of tariff and other problems relating imports restriction in trade, the World Trade Organization (WTO) emerged as one of the most important and influential of international organizations. Therefore, the role of WTO has been established to help solving the problems dealing with the tax on imports and other problems in the world of trading. The primary goal of WTO is to help producers of goods and services, importers and exporters to conduct their business fairly. In general, the WTO Agreements are a set of rules which have to be followed by governments in formulating their policies and practices in the areas of international trade in goods and services and intellectual property right (Das).

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CHAPTER 5: Conclusion

Study after study has shown that tariffs, whether they be one tariff or hundreds, are bad for the economy. If tariffs do not help the economy, why would a politician enact one? After all politicans are reelected at a greater rate when the economy is doing well, so you would think it would be in their self interest to prevent tariffs.

Recall that tariffs are not harmful for everyone, and they have a distributive effect. Some people and industries gain when the tariff is enacted and others lose. The way gains and losses are distributed is absolutely crucial in understanding why tariffs along with many other policies are enacted. To understand the logic behind the policies we need to understand The Logic of Collective Action. The article titled The Logic of Collective Action discusses the ideas of a book by the same name, written by Mancur Olson in 1965. Olson explains why economic policies are often to the benefit of smaller groups at the expense of larger ones. Take the example of tariffs placed on imported Canadian softwood lumber. We'll suppose the measure saves 5,000 jobs, at the cost of $200,000 per job, or a cost of 1 billion dollars to the economy. This cost is distributed through the economy and represents just a few dollars to every person living in America. It is obvious to see that it's not worth the time and effort for any American to educate himself about the issue, solicit donations for the cause and lobby congress to gain a few dollars. However, the benefit to the American softwood lumber industry is quite large. The ten-thousand lumber workers will lobby congress to protect their jobs along with the lumber companies that will gain hundreds of thousands of dollars by having the measure enacted. Since the people who gain from the measure have an incentive to lobby for the measure, while the people who lose have no incentive to spend the time and money to lobby against the issue, the tariff will be passed although it may, in total, have negative consequences for the economy.

The gains from tariff policies are a lot more visible than the losses. You can see the sawmills which would be closed down if the industry is not protected by tariffs. You can meet the workers whose jobs will be lost if tariffs are not enacted by the government. Since the costs of the policies are distributed far and wide, you cannot put a face on the cost of a poor economic policy. Although 8 workers might lose their job for every job saved by a softwood lumber tariff, you will never meet one of these workers, because it is impossible to pinpoint exactly which workers would have been able to keep their jobs if the tariff was not enacted. If a worker loses his job because the performance of the economy is poor, you cannot say if a reduction in lumber tariffs would have saved his job. The nightly news would never show a picture of a California farm worker and state that he lost his job because of tariffs designed to help the lumber industry in Maine. The link between the two is impossible to see. The link between lumber workers and lumber tariffs is much more visible and thus will garner much more attention.

The gains from a tariff are clearly visible but the costs are hidden, it will often appear that tariffs do not have a cost. By understanding this we can understand why so many government policies are enacted which harm the economy.

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Bibliography

Newspapers:

The Times Of India Economic Times

World Wide Web

http://www.slideshare.net http://www.wto.org/ http://economics.about.com/ http://money.livemint.com/

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