Any economics text book will present the case for free trade: both countries benefit by having more goods and services available when each country produces those products where it has a comparative advantage and exchanges for products produced by a trading partner who has a comparative advantage in producing the products exchanged for. However, it takes a leap of faith on the part of a country to eliminate trade barriers. Trade barriers are traditionally used to protect the industries within the country. Eliminating trade barriers tradeoffs possible detriment to specific industries and their employees with the desired benefit of improving the standard of living for the general population. Trade barriers can include tariffs, import quotas, voluntary export restrictions, local content requirements, or administrative policies.

For businesses, a high level of imports indicates a willingness and ability to move production to lowest cost locations. Trade barriers are a constraint on the firm’s ability to disperse its production in such a manner. A high level of exports indicates the ability to market products internationally and the competitiveness of the company’s products. Voluntary export restrictions and local content requirements may limit a firm’s ability to serve a country from locations outside of that country. The firm may set up production facilities in that country -- even though it may result in higher production costs.

Foreign direct investment (FDI) occurs when a firm invests directly in new facilities to produce a product in a foreign country or when a firm buys controlling interest in an existing enterprise in a foreign country. FDI can benefit a host country by bringing capital, skills, technology, and jobs; but those benefits often come at a cost. When a foreign company rather than a domestic company produces products resulting from an investment, the profits from that investment go abroad. A foreign-owned manufacturing plant may import many components from its home country, which has negative implications for the host country’s balance-of-payments position. Direct entry of foreign firms into host country markets could be detrimental to the development and growth of the host country’s’ domestic industry and technology.

There appears to be no consensus as to whether either inbound or outbound FDI is positive or negative for a country. A country’s attitude will often vary given the economic and political climate at the time.

Foreign portfolio investment (FPI) is investment by individuals, firms, or public bodies in foreign financial instruments (e.g., government bonds, foreign stocks). FPI does not involve taking a controlling interest in a foreign business entity. Policies accommodating inbound FPI can be positive in that FPI can reduce the cost of capital and enhance liquidity by providing worldwide markets for bonds and stocks. The level of inbound FPI can indicate either positive or negative factors. A high level may indicate confidence in a country’s economic and political policies or it may indicate bargain hunting due to the depressed nature of the host economy. Likewise a high level of outbound FPI can indicate a high level of capital availability for investment or it can indicate a lack of confidence in the subject country’s economic or political climate. What is meaningful is whether or not there are restrictions on inbound and outbound FPI.

Regional economic integration can be seen as an attempt to achieve additional gains from the free flow of trade and investment between countries beyond those that are attainable under international agreements such as the General Agreement on Trade and Tariffs. It is easier to get a limited number of countries to agree to a common set of rules. Economic integration can consist of several levels:

The primary regional integration activities today include the following:

Participation in regional alliances was scored according to the perceived size and nature of the alliance. Participants in the European alliance were scored 10; NAFTA – 7; Andrean Pact – 3; MERCOSUR – 3; ASEAN – 4; all others or none were scored a zero.

Most nations tax the profits from branch operations of foreign countries. This tax is in addition to the taxes paid on these profits by the companies in their home countries. Some nations provide some credit, usually partial credit, for the taxes paid in the home countries. Some nations tax the operations of branches of foreign countries at rates over and above that taxed for domestic companies. This has the effect of discouraging foreign companies from establishing operations in the nation. This is done to protect domestic companies. However it also has negative effects. Foreign companies may be more efficient, may have better technology to produce and distribute goods and services, and may have better management expertise. They may also provide goods and services not provided by domestic companies. Hence the nation’s consumers pay higher prices and have less product selection.

The scores for foreign branch taxation were calculated based on the total taxation rate, national and local, for foreign branch operations. A high tax rate merited a low score. Note that Singapore does not tax foreign branch operations. Hong Kong has a low rate. This is another example of how these two countries have successfully used favorable taxation policy to foster growth in their small countries that are otherwise deficient in natural resources.

Japan has a very high foreign branch tax rate. This is an example of how Japan has used various administrative measures to close its markets to foreign companies. Of current interest is China’s policy. At 33% it does not appear to be out of line with other nations.

The level of exports, imports, and the balance between them show the results of a nation’s trade policies, its economic policies, and its competitive position.

The level of exports relative to GDP is indicative of the competitiveness of the nation’s products in the global market place and the importance of trade to the nation’s economy. The level of exports per capital is a means to compare the level of exports among nations. The export growth rate, when compared to other nations, is indicative of whether a nation’s products are becoming more or less competitive in the market place and the growth of businesses to provide those exports. Note the high level of exports per capita coupled with a high export growth rate in Hong Kong and Singapore. Also note the high level of growth in Korea, China, and Taiwan. Although Japan is getting a lot of attention from United States politicians for its restrictive import policies and closed markets, Japan’s exports per capital and export growth rate pale in comparison to these other countries.

The level of imports relative to GDP results from a nation’s trade policies. A high level of imports can demonstrate a willingness to allow consumers to benefit from the best prices and product selection available on a global basis. On the other hand, a high level of imports may result from importing components for incorporation in goods that are subsequently exported. Singapore and Hong Kong are examples of the latter case.

The meaning of trade balance as a measure of policy success is unclear. The United States has had large negative trade deficits for years and the public debate regarding the significance of this has proponents arguing that this represents a crisis and others arguing that it is unimportant. What is clear to me is that a long running trade deficit does put downward pressure on the value of a nation’s currency due to the law of supply and demand.

Web site and publication by Howard Woodward Jr.
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Revised: 29 Mar 2001 22:24:56 -0500 .