Protectionism: That’s the world but this is Sri Lanka

The young economist was very emphatic in her assertion. She retorted triumphantly, “That’s the world, but this is Sri Lanka”, when a questioner sitting in a corner of the audience tried to tell her that the world has long ago moved away from protectionist policies.

The whole audience was over-jubilant at her retort, for they were all supportive of her views on trade policy. It appeared that the questioner was a loner and had no support from others in the audience.

The young economist continued her lecture. “The world trade, monopolized by developed countries, is generally unkind to developing countries.

Developed countries deliberately raise the prices of their industrial goods and buy at bargain prices the primary products produced by developing countries. As a result, developing countries have to sell more units of primary products to buy one unit of an industrial product.

For example, Sri Lanka has to sell more kilograms of tea to buy a computer. Economists call this unfavourable terms of trade for developing countries. It simply reduces the welfare of the people in developing countries. How? Because, developing countries work hard and produce primary products, but can enjoy only a lesser number of industrial products.

The solution to this welfare loss is the establishment of factories in developing countries and protection of them from the unfair world trade.”The lone questioner who later related the incident to me said that the message delivered in the lecture appeared to be sweet music to the ears of those in the audience. He wanted to know the truth.

“This conspiracy theory is very popular, especially among the academics in our part of the world. But, it ignores several basic issues,” I said. The lone questioner threw a puzzled look, so I continued to explain.

“The first is the structure of foreign trade. There, about 75% of world trade is conducted among developed countries themselves. Developed countries sell only about 20% of their industrial products to developing countries.

If this conspiracy to raise the prices of industrial products is true, then, developed countries are exploiting themselves. That’s not a very plausible argument.” “What’re the other issues?” he asked.“Another issue is the quality improvements. The quality of primary products basically remains unchanged for centuries.

For example, tea or coffee is presented to the market in the same way it had been presented hundred years ago. No improvement at all. You boil water, pour into a pot with tea or coffee and drink! But, industrial products undergo quality improvements day by day, because of innovations and high expenditure on research and development.

So, an industrial product that you have today is not the same product that you had five years ago. Look at a mobile phone or a computer.They offer a wider and wider range of quality services to users and therefore users are ready to pay more for the quality.

So price increases in industrial products that you may have observed is not due to any conspiracy, but because of the willingness of users to pay more for improved quality. Primary products cannot command that kind of attraction.”“Isn’t it the case that prices of many industrial products have in fact fallen in real terms over the years rather than increasing?” he also commented.

“Yes, indeed,” I said. “Because of innovations and productivity improvements, the costs have fallen and as a result, the producers have been able to offer them at a lower price.Good examples are computers and mobile phones. Their prices have fallen significantly over the years.”

“So, the conspiracy theory has no foundation?” “Yes and besides, some innovations have made some of the primary products obsolete. So, the demand for those products doesn’t rise along with the increase in the world incomes.One good example is copper which was extensively used as a conductor of electric and electronic signals in 1950s and 60s.

But the ascent of satellite communication and the discovery of optical fibre made copper obsolete as an input for communication and transmission. Another example is cotton which was largely replaced by synthetic yarn.

We have other examples like natural rubber being replaced by synthetic rubber, jute by polysacks and so on.So countries which enjoyed a higher standard of living from such products had to undergo innumerable difficulties after their prices collapsed in the world markets in 1970s and 1980s. The worst hit country was USA which was a world leader in producing copper and cotton. But that country successfully moved into new areas of production and managed to avoid the shock.”

“So, primary producing developing countries are to be blamed for lacking foresight and quick adjustment?”“You’re correct. Instead of continuing to blame developed countries and harbouring ghostly conspiracy theories, they should raise productivity and cut costs of primary products on one side and move into areas of production which have a bigger demand in the world market on the other.”

“Then, should we protect our local industries as advocated by many people?” he said, raising his last question. “Protection is a double-edged sword.Whichever side you use, you get cut. Japan has been protecting its agriculture for decades. The result has been that Japanese consumers have to pay five to six times higher than world market prices when they buy basic food items.

So, Japanese industrialists have to pay higher salaries to Japanese workers to compensate for the high cost of living.Those high salaries are not justified by high productivity. The result has been the shifting of Japanese industry to South Korea first and then to Taiwan, Singapore, Malaysia and now to China. Today, Japan is suffering from a long-drawn economic recession, though interest rates are practically at zero level. So, you pay in some other way, but very dearly.”