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Implications of Trade and Capital Restrictions

Implications of Trade and Capital Restrictions

Trade Restrictions

Governments restrict international trade by imposing trade policies to shield domestic producers from competition. The main types of trade restrictions are discussed below.

Tariffs

A tariff is a type of tax that imposes additional costs on imports. This ensures protection of upcoming industries and economies that are developing. Tarrifs reduce the demand for imports by increasing their prices to a level above the free trade price.

Licenses

A license is granted to a business by the government within whose juridiction it operates. It enables the business to import specific goods. By and large, licenses increase prices of goods and services.

Import Quotas

Import quotas refer to the regulations that restrict the amount of a specific good that can be imported within a specific period of time. The effect of quotas is uncertain since the foreign producers can increase the prices of their goods to make higher profits which produce a quota rent.

Voluntary Export Restraints (VER)

This type of restriction is created by the government of the exporting nation. However, these restraints are often implemented upon the insistence of the importing nations. Voluntary export restraints lead to the deterioration of welfare in the importing country.

Local Content Requirement

The government recommends a percentage of goods to be made within the country. As such, a minimum level of local content is sometimes a requirement under trade laws.

Capital Restrictions

Capital restrictions refer to measures taken by a government or central bank to control the flow of capital. This could be capital flowing in and out of the economy. Controls include taxes, tariffs, volume restrictions, etc., whereas regulations include foreign exchange, tax regulation, credit regulation, and investment restrictions.

They have similar effects as trade restrictions – protect domestic industries – but:

  • capital restrictions can slow growth; and
  • more restrictions can mean higher domestic prices for goods.

Controls are useful when they enable a government to deal with currency exchange rates and interest rates. The government benefits from tariffs since they are a type of revenue (tax). Industries benefit from reduced competition since import prices are high. On the flip side, consumers do not benefit because the increase in import prices means higher prices.

The most obvious difference between trade restrictions and capital restrictions is that trade restrictions limit access to a wide range of goods and services. In contrast, capital restrictions limit access to financial markets.

Question

Which of the following is least likely a consequence of open trade?

  1. Increasing unemployment
  2. Strengthening the economies
  3. Increasing the choices of goods to buy from

Solution

The correct answer is A.

Open trade strengthens economies, creates jobs, and increases the choice of goods and services from which one can choose. As such, it does not increase unemployment.

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