IBEconomicsSLRevision Notes4. The Global Economy4.2 Types of Trade Protection4.2.2 Quotas

Quotas (SL IB Economics)

Revision Note

Steve Vorster

Expertise

Economics & Business Subject Lead

An Explanation of Quotas

    • A quota is a physical limit on imports e.g. in June 2022 the UK extended its quota on steel imports for a further two years in order to protect employment in the domestic steel industry

    • This limit is usually set below the free market level of imports
      • As cheaper imports are limited, a quota raises the market price
      • As cheaper imports are limited a quota may create shortages

    • Some domestic firms benefit as they are able to supply more due to the lower level of imports
      • This may increase the level of employment for domestic firms

      

    4-2-2---quotas

    A quota on steel imports reduces the equilibrium quantity from Q4 → Q3 and raises the market price from Pw → Pq 
      

    Diagram Analysis

    • The initial market equilibrium is at PwQ4
      • Domestic firms supply up to Q1 and Q4-Q1 is imported
         
    • To support the domestic steel industry, the UK government limits the amount of imports by instituting a quota
      • The domestic supply curve (Sd) shifts to the right by the size of the quota (Q2-Q1)
      • Where this curve crosses the domestic demand curve (Dd) it forms the new market equilibrium at PqQ3
      • The quota has raised prices and reduced total output from Q4→Q3
      • Domestic producers supply up to Q1 PLUS Q3-Q2
      • Foreign producers supply Q2-Q1 (the quota)
         
    • Once governments announce the quota level, the market automatically prices in the reduced output
      • This means that each unit of output is sold at the quota price (Pq)
      • Both domestic producers and foreign producers receive a higher price for their steel

Examiner Tip

One of the main reasons that the quota diagram is confusing is because it appears that domestic producers supply up to Q1, then take a holiday while the imports flood in until Q2 is reached, after which they continue to supply up until Q3. This is not how it works in reality.

  1. The government announces the quota for the next 12 months
  2. The market factors in the reduced supply and a new market price is established
  3. Even while domestic firms are selling their products, importers continue to import the foreign product for as long as there i any quota allowance left
  4. The government keeps track of the level of imports and once the quota level is reached, they will not allow any more imports of that product to enter the country

An Evaluation of Quotas

  • Quotas can be beneficial in that they are a less confrontational method of protectionism than tariffs as there is less of a penalty for trading partners
      

The Impact of Quotas on Stakeholders 


Stakeholder
Explanation of Impact

Domestic Producers

  • Before the quota, the domestic revenue was area g
  • After the quota, domestic revenue is greater covering areas a+g+d+e+i

Foreign Producers

  • Before the quota, foreign producer revenue was area h+i+j
  • After the quota, foreign producer revenue is less covering areas b+c+h
  • Under the quota, they receive a higher price for all units sold at Pq but they sell fewer products

Domestic Consumers

  • Consumers pay a higher price (Pq) than previously (Pw) which reduces their disposable income
  • Some consumers leave the market as they cannot afford the higher price (contraction from Q4→Q3)

The Government

  • They gain some favour with the industry they are protecting
  • This policy may create jobs in the industry being protected and reduce the level of unemployment benefits required
  • The government does not receive tax revenue as they do when using a tariff

Downstream Producers

  • Other producers who rely on the imported product as a raw material in their own production process, now have to pay more for it as prices are higher
  • This increases their costs of production
  • They may have to reduce output which could impact unemployment levels and government tax receipts in their industry

Efficiency

  • Global efficiency has worsened as less efficient domestic producers are producing at the expense of more efficient foreign producers (area e+f)
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Steve Vorster

Author: Steve Vorster

Expertise: Economics & Business Subject Lead

Steve has taught A Level, GCSE, IGCSE Business and Economics - as well as IBDP Economics and Business Management. He is an IBDP Examiner and IGCSE textbook author. His students regularly achieve 90-100% in their final exams. Steve has been the Assistant Head of Sixth Form for a school in Devon, and Head of Economics at the world's largest International school in Singapore. He loves to create resources which speed up student learning and are easily accessible by all.