Question

It is argued that import substitution is a misguided trade policy if the intent is to promote long-term economic growth. explain the reasons underlying this argument

Answer 1

Import substitution is when a nation decides to import less but decides to domestically produce the goods that it imports from other countries. This is not always in keeping with the long term growth plans of the country due to the following reasons -

1. What a country imports from other countries are usually things that cannot efficiently produce domestically. These are commodities that might drain the country of essential resources.

2. If a country domestically produces commodities that it imports, then it is using the factors of production which might have been better suited for producing the exportable commodities, and this is not good in the long term.

3. A country specialises in the commodities that require the intensive use of the nation's abundant factor and imports the other commodities. Hence, if a nation is labour intensive, then it will produce and export labour intensive goods and import capital intensive goods. If it goes in for import susbtitution, then it will have to produce a lot of capital intensive goods, which means a lot of jobs will be lost and a lot os excess demand for capital will be created which will further drive up the price of capital.

4. This will also divert the nation's resources towards less efficient production processes which would prove to be a loss in the long term

5. For encouraging the domestic production of imports, the government of the nation has to provide a lot of subsidies as production of imports will be expensive domestically. This will hence divert a lot of government funds from other productive uses like alleviation of poverty and removal of income inequality.