ABSTRACT
Despite its analytical validity and its appeal to common sense, infant-industry protection encounters severe difficulties in actual practice.6 It is difficult to determine in advance just which industries possess a potential comparative advantage. If protection is extended to the wrong industry, the cost to society can be heavy. Firms will expand their capacity, but costs per unit will remain high and continued protection will be necessary for their survival. Tariff protection involves a social cost in that consumers have to pay higher prices for the protected commodity than would be necessary with free trade. Higher prices reflect the greater amount of scarce resources required to produce the commodity at home. If the industry eventually develops a comparative advantage, the extra costs incurred during its infancy may be recovered during its maturity. If a mistake is made, however, the nation is
The opportunity for a country to improve its terms of trade by levying a tariff can also be shown with offer curves. If Country A imposes a tariff on imports of food, for example, that will shift its offer curve inward from OA to OA´, and A’s terms of trade improve as the relative price of cloth rises from OE to OE´. The potential for Country A to gain depends importantly upon the elasticity of the foreign offer curve. In Figure 6.2, note that the initial equilibrium occurs along the inelastic range of Country B’s offer curve. Just as a monopolist in a domestic market wants to restrict output to find an optimal solution along the elastic portion of the industry demand curve, a country seeking to impose an optimal tariff will want to reach a solution along the elastic range of Country B’s offer curve. At the equilibrium shown at point E´, Country A offers much less cloth in return for a greater amount of food than it received in the initial equilibrium. Given that no retaliation will occur, Country A’s choice of an optimal tariff is intended to maximize its welfare by allowing it to reach the highest possible community indifference curve. James Meade developed the related concept of a trade indifference curve, such as TT in Figure 6.2, and demonstrated that Country A should set the tariff that allows it to reach the point where the highest possible trade indifference curve is tangent to Country B’s offer curve.4
