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How Do Quotas Help Domestic Producers?

Last updated 03/15/2024 by

Benjamin Locke

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Quotas are limits on the importation of goods from foreign countries. Established by the government, a quota sets a ceiling on how much of any good may be imported from any single nation, based on either the physical amount or the monetary value of that good to protect domestic producers of the same good from foreign competition. Policymakers implement quotas to protect and nurture domestic industries they deem important or believe threatened by unfair trade practices such as dumping.
The subject of quotas and tariffs has been front and center over the last decade, highlighted by the China-U.S. trade war. Although the conflict between Chinese and U.S. policymakers has grabbed the most media coverage, import quotas are used worldwide. To understand today’s global economy, you need to know what import quotas are, who uses them and why, and what effects they may have. This article will help you gain that essential knowledge.
Before diving into the topic proper, let’s set the context.

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Quotas, development economics, and politics

The question of import quotas and their effects commonly arises in two contexts. One context is the branch of economics that studies developing countries, developmental economics, more frequently called development economics. The other context is politics or, to be more precise, government trade policy.

Trade quotas in development economics

In modern developmental economics, there are three prevailing theories relevant to quotas: modernization theory, dependency theory, and hybrid theory.

Modernization theory: free trade benefits everyone

Modernization theory holds that, when a country is trying to develop, it should have absolutely free trade so that foreign capital can enter the country and help develop it. Though the phrase “modernization theory” nowhere appears in the film, the first volume of economist Milton Freidman’s 1980 Free to Choose television series, which tells of the free-trade-driven development of Hong Kong, can be seen as a classical expression of this perspective for the general public. Free trade, advocates of this theory hold, benefits everyone.

Dependency theory: free trade exploits poorer nations

Dependency theory has a very different outlook. This theory states that the current postcolonial period of the world works as follows. Poor countries export natural resources to developed countries. The latter then use those resources to manufacture higher-value goods, many of which are then sent back to be sold in the poorer countries. Thus, the poorer countries are made dependent on the wealthier ones for these more valuable goods.
Rather than seeing free trade between developed and developing nations as mutually beneficial, this theory sees free trade as exploiting developing countries, created trade imbalances that benefit richer countries at poorer countries’ expense. While this dependency persists, development of domestic industries to create higher-value goods in poorer countries is hindered. Advocates of this theory believe a developing country should not have free trade. Instead, it should seek to grow and cultivate its own domestic industries. Import quotas are one way to do this.

Hybrid theory: poorer nations should protect themselves, but richer nations should trade freely

Hybrid theory is not a discrete developmental economics theory in its own right. Instead, hybrid theory adopt select aspects of each of the two preceding theories. Over the last 50 years, the view has become more prevalent that, in order to develop properly, nations need to draw upon aspects of both theories when planning policy. When countries are first developing, hybrid theory maintains, they need to impose quotas and other trade barriers that will help cultivate their domestic industries, in line with dependency theory. Then, once they reach a certain level, they can begin to loosen trade restrictions and embrace policies more in line with modernization theory.

Quotas in government trade policy

Quotas are not limited to developing countries, however. Both developed and developing countries around the world implement quotas to protect industries that government officials believe are essential to the nation-state or deserving of protection for some other reason.

An aside for business owners

Your interest in this topic could mean that you are, or that you plan to become, a business owner. In addition to knowing about government policies and how they might affect your business, another matter that should concern you is how you will handle your routine business expenses from day to day. Since you need to keep good records to optimize your tax savings as a businessperson, cash may not be the best option.

SuperMoney may receive compensation from some or all of the companies featured, and the order of results are influenced by advertising bids, with exception for mortgage and home lending related products. Learn more

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Quotas 101

Quotas are different than import tariffs, although the desired effect is the same, to limit imports from a country through trade barriers. However, an import quota differs from a tariff in that, rather than taxing the value of goods, a quota limits the number of goods that are able to enter. This means that, in terms of successfully achieving their trade-limiting objective, quotas are superior to tariffs. People can pay an unlimited amount of money for goods, but if they do not have access to the goods, there is no way they can buy them.
Technically speaking, import quotas do not prevent all additional access to goods beyond the limits imposed by officials. If they have no moral qualms about violating the quotas, people willing to spend enough for goods can get them on the black market. Rather than prevent trade, quotas may replace legal trade with organized criminal trade.
Quotas can be implemented for a specific period of time or maintained as a long-term policy to protect domestic businesses from foreign imports. They can set import limits based on a fiat currency amount (only $12 billion of product X per year, for example), or based on a physical amount (only 500 tons of product Y per year, say). Regardless of how they are structured, the goal of an import quota remains the same: protect a domestic industry that you deem important by limiting the influx of goods from foreign countries.

Are quotas good or bad?

The answer to this question depends on whom you ask.

Consistent free traders: quotas are bad

In the eyes of consistent free traders, quotas always benefit one domestic industry or group of business owners at the expense of consumers and other businesses. As a writer for the American Institute for Economic Research (AIER) puts it, “Protectionism,” such as import quotas, “pretends that government can enrich citizens by selectively raising the prices of politically favored items.” In the opinion of such free traders, protectionist measures like quotas can only be made to seem beneficial by focusing just on the people who benefited and ignoring other effects.
The bad economist sees only the direct consequences of a proposed course; the good economist looks also at the longer and indirect consequences. The bad economist sees only what the effect of a given policy has been or will be on one particular group; the good economist inquires also what the effect of the policy will be on all groups.” — Henry Hazlitt, Economics in One Lesson

Others: rightly used quotas can be good

In the eyes of those who see value in quotas, the view of free traders is simplistic. Those who believe quotas can be good trade policy maintain that, like other things in life, quotas have good and bad aspects to them.

Good aspects of import quotas

On the one hand, they are a very powerful tool for disrupting unfair trade practices used by one country against another. For instance, if a foreign company engages in dumping, selling products at a price below what it costs to make them in order to drive competing producers out of business, quotas can prevent this strategy from succeeding. Without quotas, a whole sector of the domestic marketplace could end up dominated by one or multiple foreign businesses.

Bad aspects of import quotas

On the other hand, people of this opinion grant, quotas are not always a good idea. They can shield inefficient domestic industries that otherwise would die in a free market. As a rule of thumb, an increase in production and overall economic health depends on improving efficiency. Therefore, if a country protects inefficient companies, this can have detrimental effects on the overall health of the domestic economy in the future.
History shows that trade protection removes the incentives for companies to make the difficult decisions needed to become more cost competitive” — Edward L. Hudgins, Ph.D., Heritage Institute

Bottom line: quotas require expert implementation

Basically, then, quotas can be good if the policymakers administering them do so without ulterior motives such as personal enrichment, and with consummate skill and expertise. Otherwise, the quotas could cause trouble down the road. As you might expect, this means that the officials who are most willing to make the greatest use of quotas are those with the greatest confidence that they are qualified and capable of planning and organizing a nation’s economy.

Quotas in the U.S.

Quotas in the U.S. are overseen by the U.S. Federal Customs and Border Protection Agency. This department belongs to the Department of Homeland Security. Presently, the agency enacts three significant types of quotas on imported goods. They are as follows:

Absolute quotas

Absolute quotas are quotas with a hard limit on the importation of goods to the United States. Say, for instance, that there is a quota on soybeans allowing only $2 billion worth of soybeans to be imported into the U.S. each year. Once this $2 billion has passed through Customs, all other soybeans headed for the U.S. need to sit in an outside warehouse or go to a special economic zone excluded from the quota, until the quota resets. These quotas typically remain fixed even when domestic demand for the limited good is strong.

Tariff-rate quotas

Tariff-rate quotas work a bit differently. Instead of creating a fixed limit, tariff-rate quotas allow U.S. businesses and consumers to import a certain amount of goods at a lower tax rate. For instance, rather than an absolute quota of 2 billion soybeans a year, the U.S. government lowers the taxes on the first $2 billion worth of soybeans. That first $2 billion in soybeans will be subject to a tax rate of 5%, for example, and everything after $2 billion will be subject to the higher tariff rate, say 30%. If people in the U.S. want to buy more imported soybeans than $2 billion worth, they will have to pay a higher price.

Tariff preference level

Tariff preference level is related primarily to free trade agreements. In free trade agreements, what typically happens is nations enter into agreements that give them “favored nation” status. This allows them to circumvent quotas. For instance, let’s say that Brazil and Argentina are both exporting meat to the U.S. If Brazil has a free trade agreement and the most favored nation status, its quotas of imported beef can be significantly higher than those of Argentina.
On the subject of U.S. federal agencies, the Department of Homeland Security’s Customs and Border Protection Agency is far from being the only government agency influencing the U.S. economy. To learn more about the United States’ current economic system and the large role that government plays in it, read What Is the Economic System in the United States?.

Quotas to stop dumping

Supporters of import quotas see them as essential to prevent dumping. Technically, businesses in a foreign country are only guilty of dumping if they sell their goods for a price lower than the manufacturing costs. Policymakers rarely use the term to mean this, however. Instead, they identify dumping as when businesses in a foreign country manufacture something and then “dump” it in the U.S. for an “extremely low” price — even if that price makes the foreign companies a profit.
The most common foreign ‘unfair trade practice’ is selling a better product at a lower price….Antidumping laws [, for example,] make it a crime for a [foreign] company to sell the same product for two different prices in two different markets 15,000 miles apart.” — James Bovard, AIER

Dumping example: U.S. Commerce vs. China

That U.S. policymakers use the term “dumping” in such a broad way doesn’t mean that genuine dumping never occurs. A modern-day example of actual dumping can be seen in Chinese solar panels. At least that was the conclusion of the U.S. government.
In 2011, the United States government’s Commerce Department ruled that China was indeed dumping solar panels. The department concluded that the Chinese government, because it believes solar panels are essential to a transition to a green economy, sees controlling this industry as of utmost importance. Therefore, China was exporting its solar panels to the U.S. for well below what it would cost to manufacture them.
As a countermeasure, the Commerce Department imposed trade barriers, such as tariffs, on Chinese solar panels of as much as 250% of their sales price. This resulted in a rapid decline in U.S. imports of Chinese solar equipment, from $2.8 billion in 2011 to less than $400 million in 2020.
Additional reading. Trade policy is not the only aspect of the U.S. economy worth knowing about. For an overview of the current economy and where it might be headed, read Are We Headed for Another Great Depression?.

Profiting from quotas

Looking for industries that might acquire import-quota protection in the future, thus increasing the value of domestic producers in those industries? Among the things that qualified investment advisors keep track of are the current and pending actions of policymakers. If you don’t have the time or inclination to keep track of these matters yourself, consider speaking to one of these professionals.

SuperMoney may receive compensation from some or all of the companies featured, and the order of results are influenced by advertising bids, with exception for mortgage and home lending related products. Learn more

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Pro tip for shoppers: When looking at the domestic prices of some goods, be aware that they should not be greatly different from the foreign prices. If a domestic product is notably cheaper, or just easier to find in stock, you could be dealing with a product protected by quotas or tariffs or both. Do some research before you buy to ensure you get the best price.

Does protectionism ever work?

Like with the question of whether quotas are good or bad, the answer to this one depends on whom you ask.

Free traders: protectionism is fundamentally flawed

In our day, protectionism is most often presented as a call for “fair trade.” As you might expect, consistent free traders see fair trade measures like quotas and tariffs as invariably harmful in the long run, when all effects on all affected parties are taken into account. To their way of thinking, the protectionist impulse errs at its foundation. In the words of AIER free trader James Bovard:
The myth of fair trade is that politicians and bureaucrats are fairer than markets — that government coercion and restriction can create a fairer result than voluntary agreement — and that prosperity is best achieved by arbitrary political manipulation, rather than allowing each individual and company to pursue his own interest.”

Others: protectionism sometimes works

Those who are not among the free traders, in contrast, believe that quotas, tariffs, and other forms of protectionism have their upsides in downsides. In some cases, they maintain, protectionism can really work to a country’s benefit. Here are a couple of examples they offer.

China success: Wechat/Alibaba vs. Facebook/Google

In mid-2014, people in China were shocked when they couldn’t access Google anymore. They had seen a similar scenario before, in 2009, when the Chinese government blocked access to Facebook. At the time, it was taken by the rest of the world as an effort to curb freedom of speech, to prevent things like the Arab Spring from happening. Whatever the Chinese government’s primary objective was, however, limiting the presence of Google and Facebook had a positive effect on the Chinese Internet industry. It led the Chinese to cultivate Internet behemoths such as Tencent (WeChat) and Alibaba. Today, due to the immense growth of these two companies, China has some of the most dominant Internet companies in the world.

Malawi success: fertilizer

Another example of protectionist policies being successfully implemented by a developing country is Malawi’s fertilizer policy. In the mid-2000s, the government of Malawi enacted subsidies and protectionist policies to cultivate its own domestic fertilizer industry. The implementation did not slow production in the fertilizer-dependent maize industry. In fact, Malawi had higher maize yields than ever after implementing the protections. Many see Malawi’s foray into protecting fertilizer as a road map for other countries in Africa that wish to develop.


How do quotas affect domestic producers?

Quotas differently affect different domestic producers. In the case of producers in protected industries, quotas benefit the producers by limiting foreign companies’ ability to compete with them. Quotas can be especially beneficial to these producers when foreign competitors are guilty of dumping.
In the case of domestic producers dependent on imported materials subject to quotas, quotas increase their production costs and can make them less competitive.

How do quotas affect domestic consumers?

If domestic demand remains constant or increases, quotas affect domestic consumers by raising prices, at least until domestic production rises high enough to bring prices back down. Consider the case of solar panels, for example. At one time, consumers could have purchased these panels for less than the cost of manufacturing them because of Chinese dumping.

How do quotas benefit producers?

Quotas benefit producers only if they are located in the country that imposes the quotas, and only if they are in the protected industries. Foreign producers in the domestically protected industries will suffer negative effects, at least until they find other markets for their products. Domestic producers in unprotected industries may be either unaffected or harmed by quotas, depending on whether they make use of goods subject to quotas.

How do import quotas protect domestic industries?

Import quotas protect domestic industries by limiting outside competition.

Key takeaways

  • Quotas are limits on the importation of goods from suppliers in a foreign nation, based on the goods’ physical amount or monetary value.
  • The point of quotas is to protect domestic industries from foreign competition. They are often implemented in response to foreign trade practices that policymakers judge unfair.
  • Those who support quotas believe they can protect industries that are crucial to national security. Both supporters and opponents of quotas agree that they can also help protect industries that are inefficient and shouldn’t need protection.
  • Protectionist measures like quotas and tariffs have achieved policymakers’ objectives in multiple cases, including in the U.S. response to Chinese dumping of solar panels, Malawi’s protection of its domestic fertilizer industry, and China’s protection of its social media and Internet industry.
  • Consistent free traders object to discussions of quotas that fail to take into account how they affect consumers and domestic producers in unprotected industries who make use of imported materials subject to quotas.

SuperMoney may receive compensation from some or all of the companies featured, and the order of results are influenced by advertising bids, with exception for mortgage and home lending related products. Learn more

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