Part II. 1. Protectionist measures (controls) are in the form of duties which eliminate the comparative advantage

1. Protectionist measures (controls) are in the form of duties which eliminate the comparative advantage, or quotas which restrict the import of the product altogether. There are two forms of import tariffs (taxes): specific and ad valorem. A specific tariff is a certain amount of tax for each unit of the product, for example $500 for each automobile. An ad valorem tariff is based on the value of the product, for example 5% of its value. Thus, under an ad valorem tax a Rolls Royce imported to the United States would be taxed more than a Nissan. The imposition of the ad valorem tax depends upon first determining the value of the product. The United States uses the free on board (FOB) method, which is the cost of the product as it leaves the exporting country. European countries have adopted the cost insurance freight (CIF) method, which adds the value of place utility to the cost of the product. A tariff increases the price of the item, raises revenue for the government, and controls consumption through market forces. A quota has a different effect on the market because it limits the number of the items imported. While under a quota there may be a higher price because of a limited supply, under a tariff it is the tax that creates a higher price: the supply is not limited.

8. 2. In order to import and export products, there needs to be a system of international monetary exchange. While a few products like oil are always priced in dollars, most products must be paid for with the legal tender (currency) of the producing country. International trade involves the exchange of one currency for another. Most currencies are now exchanged on a floating (variable) rate basis. There are no official exchange rates. The rates fluctuate (change) according to market forces. If large amounts of a country's currency are being exchanged, the exchange rate may vary greatly because of demand, and therefore, the price of a currency is either rising or falling. Sometimes these great fluctuations in value threaten economic stability; then central banks change market forces by purchasing a foreign currency to support its price and maintain stability.

9. 3. Exporting countries sometimes set up subsidiaries (branches of companies) in the market countries. The larger company is referred to as the parent company. Some countries have laws restricting the foreign ownership of factories or other production facilities, while others encourage foreign investment. A large company that sets up production facilities in different countries is referred to as a multinational. Multinational corporations develop a global philosophy of management, marketing, and production. They choose to operate in those countries that afford them comparative advantage.

Exercise 2