Canadian Economic Development
Commerical Policy
- Topic: introduction to the economics of trade policy and the history of commercial policy in Canada.
- Economics of tariffs and barriers to trade
- Raises domestic price of good by amount of tariff (assuming small country).
- Reduces quantity demanded (movement up demand curve).
- Reduces quantity imported as higher price implies ability for less efficient domestic producers to compete.
- Increases domestic production of good.
- Decreases production of other sector as protected sector draws in factors of production which would otherwise be used elsewhere.
- Welfare Effects
- Consumers: lose because of higher price and less consumed.
- Producers: gain in the form of higher price for good solds.
- Government: receives tariff income to be used for redistribution.
Net effect: transfer from consumers to producers and government + loss due to inefficienty of consumption and production.
- Redistribution of income much greater than aggregate welfare loss (deadweight loss) to society.
- Reasons for tariffs
- Income redistribution and political representation - large returns to lobbying for small group versus small loss to each member of a large group.
- Infant industry - where economies of scale are important, new domestic industry will face high average costs and won't be able to compete even though with greater output domestic industry will realize lower average costs.
- Employment stimulus - gains in employment of protected import-competing sector come at loss in employment in export sector. Considered important if there are positive externalities to growth in the import-competing sector.
- Large country and terms of trade - a country consuming a significant portion of world output can alter terms of trade in its favor by reducing demand for imports through tariffs thereby offsetting the deadweight losses of the tariff. If country also significant supplier of an export, reduced exports may also improve terms of trade.
- Trade integration.
- Forms of trade integration
- Free(er) Trade Area - arrangement for lower tariffs among preferred countries.
- Customs Union - Free Trade Area plus countries share a common external tariff policy.
- Common Market - Customs Union plus freedom of movement of factors of production across borders.
- Trade integration gives rise to gains and losses though trade creation and trade diversion.
- Trade Creation: expansion of trade among preferred countries due to reduction in relative tariffs and consequent removal of deadweight losses they implied.
- Trade Diversion: substitution of output of inefficient producer from among preferred countries for more efficient producer outside.
- Significant Examples of Commercial Policy in pre-Confederation Canada
- Colonial Policy until Repeal of Corn Laws (1848)
- Britain and colonies retain preferences.
- Duties on imports collected at port of entry - Halifax for East and Quebec for Lower and Upper Canada.
- As tariffs were bulk of government revenue, and as tariffs collected at Quebec, colonial government of Upper Canada dependent on Lower Canada to reasign revenues.
- With expansion of Erie Canal in U.S., shipping of exports from Upper Canada start to be diverted from St. Lawrence.
- In 1840, Act of Union, Upper and Lower Canada join to form Canada East and West. Canada West gets share of tariff revenue while Lower Canada gets more freight traffic from Upper Canada. Both also agree to a common external tariff - i.e. form a Customs Union.
- Reciprocity with the United States, 1854-1866
- Britain repeals Corn Laws in 1848 leaving Canadian preference in British home market irrelevant - in essence tariffs on Canadian goods have risen relative to rest of world.
- After some debate, colonies negotiate Reciprocity with U.S. lowering tariffs on a variety of agricultural goods as a replacement for lost British preference.
- Canadian farmers gain better access to growing U.S. market, particularly important to southwestern Ontario is proximity to Detroit and Chicago.
- U.S. gains access to Canadian market, which because of its small relative size means very little, but also gains access to Canadian fishery. In addition, U.S. expects to continue to next stage and free up trade in manufactured goods thereby giving U.S. manufacturers a bigger market.
- Benefits to Canadian economy
- Trade creation greater than trade diversion in year treaty goes into effect.
- Expansion of lumber industry to Georgian Bay region.
- Other explanations behind growth of period:
- Railroad expansion in Canada
- U.S. Civil War inflation.
- Business Cycle at height.
- In particular
- Timber - rail expansion and urban growth in U.S.
- Wheat - crop failure in Britain in 1853 and Crimean War of 1854-6 disrupts European sources.
- Wool and livestock - Civil War demand.
- Cheese - evidence by what happened after Reciprocity when Canadian cheese industry expanded from 12 Canadian cheese factories in 1865 to 323 in 1870.
- Reading: See Officer & Smith. Also, browse Ankli
- Cayley-Galt Tariffs of 1858-9 and abrogation of Reciprocity
- Rail boom of late 1850's and government involvement therein heightened need for government revenue.
- Colonial government raises tariffs on manufactures for, as they argue, reasons of revenue. NB: still a valid reason for tariffs under the WTO if country dependent on tariffs for revenue.
- U.S. Congress (1865 - after Civil War ends) argues this violates spirit of Reciprocity and gives requisite one-year notice of its intention to withdraw treaty.
- Nominal versus effective protection of Cayley-Galt tariffs
- Revenue motivates tariffs, predict tariffs fall neutrally across goods, or fall on goods which yield the highest revenues per unit taxed, i.e. goods for which demand tends to be inelastic.
- Canada and U.S. have Reciprocity, lower tariffs on agri, so colonial government has no choice but to apply them to manufactured goods.
- Nominal vs. Effective protection: pattern of Cayley-Galt tariffs is such that where a tariff is applied to an important input of a Canadian manufacturing industry, the tariff on the output of that industry is greater thereby insuring continued effective protection to Canadian manufacturers.
- Success of Cayley-Galt tariffs in protecting domestic manufacturing results in it being adopted and further modified by MacDonald government as part of National Policy.
- Reading: Barnett