International Trade - Theory and Policy, 2010a

Stuart Mill in hisPrinciples of Political Economy (1848). [3] The terms of trade argument was established by
Robert Torrens in 1844 in The Budget: On Commercial and Colonial Policy. [4] Frank Graham, in his 1923
article “Some Aspects of Protection Further Considered,” noted the possibility that free trade would
reduce welfare if there were variable returns to scale in production. [5] During the 1950s and 1960s, market
distortions such as factor-market imperfections and externality effects were introduced and studied in the
context of trade models. The strategic trade policy arguments are some of the more recent formalizations
showing how market imperfections can lead to welfare-improving trade policies. Despite this long history,
economists have generally continued to believe that free trade is the best policy choice. The main reason
for this almost unswerving support for free trade is because as arguments supporting selected
protectionism were developed, equally if not more compelling counterarguments were also developed.
KEY TAKEAWAYS
In the presence of market imperfections or distortions, selected protection can often raise a country’s
national welfare.
Because real-world markets are replete with market imperfections and distortions, free trade is not the
optimal policy to improve national welfare.
EXERCISES
1. Jeopardy Questions. As in the popular television game show, you are given an answer to a
question and you must respond with the question. For example, if the answer is “a tax on
imports,” then the correct question is “What is a tariff?”
1. The term used to describe market conditions that open up the possibility for welfareimproving
trade policies.
2. The term used to describe a market equilibrium in which market imperfections or distortions
are present.
3. Of very many or very few, this is the amount of market imperfections likely to be present in
modern national economies.
4. Of true or false, a tariff can raise a nation’s welfare when it is a large importing country.
5. Of true or false, a tariff can raise national welfare in the presence of an infant industry.
6. Of true or false, a tariff can raise national welfare if all markets are perfectly competitive and
if there are no market imperfections or distortions.
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