Wednesday, June 10, 2009

Distinguish between free trade and protection.

Distinguish between free trade and protection. Discuss the merits
and demerits of free trade vs. protection for a developing country like India.

Answer. External Sector Management refers to Policies adopted by a country with
reference exports and imports. It can be free trade policy or restricted trade policy. A
restricted trade policy seeks to maintain a system of trade restrictions with the objective
of protecting domestic economy from competition of foreign products. A free trade
policy involves complete absence of tariffs, quotas, exchange restrictions etc.
Thus, external sector management strongly influences the direction, trend and growth
of foreign trade of country. This is an important economic instrument, which can be
used by a, country, with suitable modifications from time to time, to achieve its longterm
Trade policy is alternatively called as (EXIM) Export- Import policy. In India Trade
policy is a policy, which is adopted by a country with references to exports and imports.
FREE TRADE POLICY: A policy that doesn’t impose any constraints on the
interchange of goods and services between separate countries. A policy includes full
absence of tariffs, quotas; interchange constraints on production taxes and subsidies.
Case in favour of Free Trade
Most arguments for free trade have been built on the grounds of efficiency, economic
growth and welfare. According to Samuelson "trade promotes a mutually profitable
regional division of labour, greatly enhances the potential real national product of all
nations, and makes possible higher standards of living all over the globe"
Free trade policy is economically advantageous to the participating countries since it
maximizes their social product. Free trade is supposed to be carried out under the
conditions of free competition in which price mechanism "… automatically ensures that
each country, specialized in the production of those goods, and those goods which it
can produce more cheaply, talking account of transport (cost)". Given the real
resources of a country, if it specializes in the production of goods in which it is
relatively more efficient, or its cost of production is comparatively lower, its total
national product will be much larger than if it spreads its limited resources over the
production of all goods, irrespective of the cost of production. With specialization in the
efficient sectors, a larger national product can be achieved; a larger exportable surplus
can be generated; and a larger volume of goods & services of the country’s
requirements can be imported from other countries at lower prices. This increases total

availability of goods and services and raises the standard of living of the people.
Possibly the mist attractive argument in favour of free trade is that ‘it lowers the prices
of imported goods’. Moreover, free trade in international market has an ‘educative
effect’ in the sense that it compels countries to enhance their efficiency through better
management of resources and quick adoption of improved and more efficient
techniques of production.
In theoretical terms, free trade offers various MERITS in realistically below developed
countries where as DEMERITS in such a system of international trade. As an
inference, international economy survives a difficult period of protective trade policies.
Trade policies may be outward looking or inward looking.
(i) Outward looking: An outward looking trade policy encourages not only free trade
but also the free movement of capital, workers enterprises and students, a welcome to
the (MNC) organizations and an open system of communications
Primary outward Policies: Goaled at encouraging export of raw material and
Secondary outward Policies: Goaled at promoting manufactured exports
(ii) Inward looking: An inward looking true policy stresses the requirement for a
Country to its own style of development and to be the master of its own fate with
limitations on the movement of goods, services and people in and out of the Country.
Primary inward policies: Opinion is to get agricultural self-sufficiency
Secondary inward policies: By import substitution opinion is attaining
manufactured commodity self-sufficiency.
Merits of FREE trade
If free trade between nations did not exist, then economies would stagnate.
Free trade allows nations to flourish at what goods and/or services they excel at
providing, fits into this scenario like a hand to a glove.
Free trade gives consumers more, and cheaper, choices.
It also helps to facilitate co-operation between the weaker developing countries
and help the South build a joint economic perspective.
FREE trade affects every country in the world and every section of society within

those countries.
Industries face stiff competition from foreign companies.
Small scale industries, which already have very less resources have to face high
For some political reasons most countries had adopted a projectionist policy. Perhaps
the world market never provided the perfect conditions required for free trade on a
global scale. For the purpose of regulating foreign trade or protecting a country’s
interest in foreign trade, tariff is one of the most important tools.
1. A protective trade policy by a country seeks to maintain a system of trade limitations
with the opinion of protecting the domestic economy from the competition of foreign
2. During the decades of 50, 60 and 70 and some enhanced in 80. Protective trade
policy constituted a significant plank (part) in the commercial policies of below
developed countries.
3. It helps in development of the industries in the country.
4. Local industries don't have to face high competition from the foreign countries.
Many undeveloped countries continue to have protective trade policies.
The product prices are high due to protective trade policies.
Consumers have to feel the heat of protective trade policies.
The economy can't grow at high pace.
It also discourages foreign investments.
In a developing country like India, we cannot have a full-fledged free trade policy due
to the following reasons:
Several industries in a developing country like India are in the initial stage of
industrial growth, most industries are in their infancy. In infant industries are
exposed to competition with the industries of developed nations, which have
achieved a high level of technical efficiency , economies of scale and financial
strength, they would run the risk of dying out in their infancy. The infant industries
of developing economy need protection.
Promotion of employment: Tariff protection is also suggested as an effective
remedy to the serious unemployment problem in underdeveloped countries.
Imposition of tariffs on imports directly competing with the domestic products helps

to expand employment opportunities in the import-competing industries by
securing the domestic market.

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