The important merits of protection of inefficient indigenous firms are as follows:
(i) Infant Industry Argument:
In underdeveloped countries, resources remain un-utilized. Development of such countries can take place by utilizing of resources by indigenous firms. The entry of foreign companies will destroy indigenous firms. In such cases, it is necessary to protect companies of underdeveloped countries by imposing custom duty or quantitative restrictions.
ADVERTISEMENTS:
The basic defect in the argument of infant industry is that once the protection is given to the domestic sector, a vested interest develops to prolong it, even when it is not justified. Such protected companies start earning monopoly profit by exploiting consumers.
The protected companies will bribe the ruling party in Government to prolong the protection. In addition, there is no objective criterion to decide which industry needs protection, because in an underdeveloped country even company is in its infancy to begin with.
Image Source: images.slideplayer.com
(ii) Deteriorating Terms of Trade:
Underdeveloped countries export primary goods like agricultural products, minerals etc. which have low income and demand elasticity. Due to this reason, terms of trade for underdeveloped countries deteriorate. Imposition of tariff improves the rate at which the country’s exports are exchanged for imports.
As a result, tariff improves the terms of trade for developing countries because the foreign exporter is forced to import duty. The extent to which a country can improve its terms of trade by imposing import duty will depend on relative demand and supply elasticity’s at home and abroad.
(iii) Improve bargaining power of undeveloped countries:
ADVERTISEMENTS:
By the threat of imposition of tariff, underdeveloped countries can compel the multi-national companies to charge fair price, supply good quality products and latest technology.
(iv) Generate employment:
Imposition of tariff reduces import as a result of which demand for domestic products is increased. This increases employment opportunity in the country.
(v) Improves Balance of Trade position:
Imposition of tariff or quantitative restriction will restrain imports and will improve the balance of payment position.
(vi) To protect domestic industry against dumping:
Dumping means selling a product in a foreign market at a lower price than in the home market. Foreign companies resort to dumping by charging low price in foreign market so as to kill the indigenous sector and then charge monopoly price by exploiting the consumers. As a result, domestic sector is ruined. To protect such firms from getting extinct due to dumping, Government should impose high tariff.
(vii) To formulate national priorities:
ADVERTISEMENTS:
Government of a country should have the right to decide the future of the nation. They should decide whether to give priority to capital goods sector or consumer goods sector. Accordingly custom duty or quantitative restrictions are imposed.
In sectors where Government wants to encourage domestic industries, custom duty will be set at high level. In other sectors, where Government doesn’t consider the urgency to promote domestic sector or domestic sector lacks competency to become self-sufficient, Government may charge low rate of tariff.
(viii) Earn Revenue:
Government imposes custom duty to earn revenue to cover its huge cost. Sometimes, earning revenue through custom duty is more effective than allowing unrestrained fiscal deficit to meet Government’s non-developmental expenditures.