Question

Suppose that you are tasked with negotiating an international trade agreement. Assume that your counterpart is from a large nation and that the overseas industry in question is a State-run monopoly. You seek to ensure that domestic consumers and producer receive the maximum benefit from any possible trade. Discuss the tactics you will use. Support your claims with models and diagrams.

Answer 1

• A small country tends to be a price taker, since the global price of the commodity will not be affected by a change in the quantity demanded by the smaller country. In order to stay away from getting charged too heavily, the best way for smaller country is either investing in the Research and Development of the larger country's product, or by reducing trade barriers. Assuming, smaller country does not have enough resources to invest in the R&D, it is left with no option but to reduce the taxes.
• countries that are not far away from each other tend to trade more.

Let's take the two countries to be Germany and Bhutan . The product in question is electric cars and bhutan is smaller country.

If I were bhutan , this would the policy I'd follow:

1) Subsidy for import of car parts,

2) Reducing trade restrictions to enter in Joint Venture Agreements with Bhutanese car manufacturers

3) Allocation of Special Economic Zone

using the the assumptions of the Gravity Model of Trade which predicts the two way flow of economic products based on the GDP of the country and the distance.

Where , ij= The two countries (i and j)

C= Constant

Y= Size of the GDP

T= Trade Costs (primarily transport costs, which depends on distance between countries)

1) According to the Gravity Model, reducing trade costs will automaticaly lead to higher trade. But given the distance, it would be next to impossible to reduce transport costs, since it is out of our hands. we can reduce the cost of importing the raw car parts, which can be then assembled by a local manufacturer and  would drastically cut down on the amount the german producer would have to spend on exporting their raw material, leading to lower costs for the producer, and a better price for the consumer.

2) By reducing restrictions on entering into a Joint Venture with a bhutanese company, would lead to higher investment by german companies in the foreign market, Leading to creation of jobs, and the need for importing car parts would be drastically reduced, since the company can get access to the raw materials in bhutan . Also, the producers stand to benefit from the extra investment, which would automatically imply reduction in prices for the consumers.

3) Lastly, the Special Economic Zone (SEZ) status. By giving SEZ status to the german company, you are allowing them to set up factories and production units, with lesser tax impositions (land tax, turnover tax, etc). In turn, bhutanese producers and consumers will no longer be price takers. The supply-demand equilibrium would determine the price, as it should. Thus, benefitting both the producer and the consumer.

The german company gain Market expansion and become a giant in the car manufacturing business in bhutan and also get Unlimited access to the bhutanese labour market

Downsides: Might become a monopoly in bhutan, hurting local competition and Increased dependence of the bhutanese economy on a foreign company

Exploitation of labour.