metadata: authors: 0: author: de Melo, Jaime
1: author: Tarr, David
count: United States
docna: 0: docna: Welfare costs of U.S. quotas on textiles,
            steel, and autos
docty: Policy Research Working Paper
subtopic: Trade Policy,International Trade and Trade Rules,Rules of Origin,Macroeconomic Management,Energy and Mining,Trade and Multilateral Issues
teratopic: International Economics and Trade
abstracts: cdata!: This paper deals with the problems of
            partial equlibrium analysis by presenting estimates from a
            static ten sector computable general equilibrium (CGE) model
            of the U.S. economy calibrated to the year 1984. Following
            the introduction, the paper is organized as follows. Section
            2 outlines the model. Section 3 details the sources of
            estimates of premia on preexisting QRs (quota rents) in 1984
            and the sources for the parameters describing demand and
            supply elasticities. Welfare and employment estimates of QR
            removal are presented by industry and in the aggregate in
            Section 4. Conclusions follow in Section 5.
geo_reg_key: 119228,517191
repnme: repnme: Welfare costs of U.S. quotas on textiles,
            steel, and autos
display_title: Welfare costs of U.S. quotas on
            textiles, steel, and autos
listing_relative_url: /research/1988/09/700653/welfare-costs-quotas-textiles-steel-autos
topicv3: Trade m1326924 698,Trade Policy and Integration m1327407 775,Trade Policy m1327640 776,Trade Balance m1327679 1136,Iron m1503514 2931
publishtoextweb_dt: 2010-07-01T00:00:00Z
historic_topic: International Economics and Trade
origu: Policy Plan & Prog Review Dept
no_of_pages: 40
model_extractions: Polaa Pning, and Reserc Trad* Policy Nontariff baniers prevent a transition to the Removing the remaining tariffs (an average realities of international competition, and their 3.5% in 1984) would produce a welfare gain of welfare costs are huge. about $0.9 billion - for a net benefit of $105 billion, measured in tenns of the discounted 'Te United States loses an estimated $14 value of displarced workers' lost earnings over a billion a year in revenues through rents lost to lifetime. exporting countries through export quotas. Add another $7 billion for distortionary costs.

This paper is a product of the Trade Policy Division, Country Economics Department. Copies are available free from the World Bank, 1818 H Street NW, Washington DC 20433. Pleace contact Carla Cabana, room N8-069, extension 61539.

The PPR Working Paper Series disseminnates the fio ings of work under way in the Bane s Pophcy, PlaW ing, and Research Complex. An objective of the series is to get these fndings out quickly, even if presentations are less than fully polished. The findings, interpretations, and conclusions in these papers do not necessarily represent official policy of the Bank.

Copyright 0 1988 by the International Bank for Reconstruction and DevelopmnentSTe World Bank
Welfare Costs of U.S. Quotas in Textiles, Steel, and Autos by Jaime de Melo and David Tarr

# TABLE OF CONTENTS

|1.|Intoduction ..........<br>1|
|---|---|
|2.|ModelOutline<br>.........................................................<br>3|
|3 .|Elasticity and Prernia Esdmates .............................<br>7|
|4.|Welfare CostEstmates ...............................<br>10|
|_5'._|Eployment ...............................<br>15|
|6.|Conclusions ...............................<br>17|
|Fo|otnotes<br>...............................<br>19|
|Re|ferences<br>...............................<br>22|
|Ap|pendix A: Model Equations ............<br>..<br>.................<br>26|
|Ap|pendix B: Data Sources and Data Preparation .............................<br>34|
|Ta|bles|
||Table i ............................<br>6<br>Table 2 ...........................<br>9<br>Table 3 ...........................<br>1 1<br>Table4 ............................<br>13<br>Table 5 ............................<br>16<br>Table Al ............................<br>27<br>TableA2 ............................<br>31|

The paper draws on a larger study by Tarr (1988) while he was at the US Federal Trade Commission. We thank participants of the General Equilibrium Trade Policy Modelling Workshop at the University of Western Ontario for comments. The views are those of the authors, not those of the USFTC, nor those of the World Bank. We thank Julie Stanton for extremely valuable research assistance, Maria Ameal for logistic support, and Soren Nielsen for computer support.
1

# I. Introduction

The United States, along with other developed countries, is progressively abandoning its commitment to the postwar multilateral trading system. The shift towards bilateralism is evident in the proliferation of discriminatory trade measures, which have increasingly canceled the benefits to the world econfny since World War II ef the successive rounds of multilateral tariff reductions on a most-favored-nation (MFN) basis. DisCriminatory trade measures are not only administered bilaterally; they are often undertaken unilaterally (e.g. various forms of administered protection) or through multilateral arrangements (e.g. the Multi-Fibre Agreement). Moreover, the MFN clause does not prevent countries not participating in the multilateral negotiations from facing higher average tariffs on their exports: in spite of the Generalized System of Preferences (GSP), developing countries exports to developed countries face tariffs that are on average twice as high as those faced by developed countries (Balassa and Balassa, 1984).

Though accentuated by the recent macroeconomic imbalances and resulting exchange rate imbalances among developed countries, the move towards discriminatory trade policy practices has been on the rise for the past twenty years. The rising protectionism in developed countries in the form of non-tariff barriers (NTBs) retards the relocation of production of mature industries from developed to developing countries. 1/ NTB protectiouiGm is congenial to those who seek protection because it is quick and lacks transparency and to exporters who negotiate it because they gain the rents. Thus, NTBs engender widespread opposition to trade liberalization. NTBs also impose huge costs on consumers and prevent a smooth transition to the realities of international competition.
2 Quite a few studies have been carried out to drive home the costs of these special protection arrangements. Individual sector studies for textiles: (Horkre (1985); Tarr and Horkre (1984); Cline (1987); Keesing and Wolf (1980)]; for automobiles [Winston and Associates (1987); Tarr and Morkre (1984); FeenstLa (1984, 1985a, 1985b); Dinopoulos and Kreinin (1986)]; for steel [Tarr and Morkre (1984)] are among the most vilely known studies thav provide estimates of the welfare costs of NTBs in the US. Perhaps the most comprehensive recent estimates come from the 31 case studies of special protection by Hufbauer, Berliner and Schott (1986). All these studies, using a partial equilibrium (PE) framework. rovide a very useful range of estimates of the costs of non-tariff px lon. These studies are especially valuable when taken individually because the assumptions of PE analysis provide an adequate approximation of reality even thougk. the behavior giving rise to the demand and supply curves used in the estimation are not always properly spelled out. But, as we discuss below, when it comes to aggregating the costs of all restrictions taken together, the underlying assumptions are much less tenable.

This paper deals with the problems of PE analysis by presenting estimates from a static ten-sector computable general equilibrium (CGE) model of the US economy calibrated to the year 1984 when QRs in textiles, and autos were in effect, and those on steel were in negotiation. To our knowledge, the treatment of QR-associated effects here is more satisfactory than in previous CGE applications. 'While the US-negotiated VER on automobiles has expired, demand for NTB protectionism in the US remains strong and may be on the rise because of presidential campaign politics. A new round of estJmates of the costs of protection is therefore all the more welcome.
3 The general equilibrium (GE) approach used here accounts for three effects omitted by PE estimates. First, the inclusion of a balance of trade constraint (expressed In foreign currency units) removes an upward bias present in PE analysis. Second, the effects of income transfers to and from the rest-of-the-world (ROW) are properly accounted for so that, unlike PE analysis, capturing quota rents affects resource allocation. Third, ecnuomy-wide resource constraints and interindustry linkages provide a more accurate estimation of sectoral employment effects.

The remainder of the paper is organized as follows. Section 2 outlines the model. Section 3 details the sources of estimates of premia on preexisting QRs in 1984 and the sources for the parameters describing demand and supply elasticities. Welfare and employment estimates of QR removal are presented by industry and in the aggregate in section 4. Conclusions follow in section 5.

# 2. Model Outline 2/

The simulation model is a static CGE model with assumptions that correspond closely to those followed by the partial equilibrium estimates cited above, namely a neoclassical perfect competition Walrasian model in which a representative consumer maximizes utility subject to a budget constraint, atomistic producers minimize costs, and the government redistributes, in a lump-sum manner, tax revenues from trade policy. The economy has a fixed endowment of labor and capital, and faces an exogenous balance of trade constraint expressed in foreign currency units. Because we are interested in the static welfare costs of protection, we abstract from investment, thereby simplifying the welfare analysis. The components of demand therefore only include consumer demand and intermediate demand.
4 Under these assumptions. it is clear that the welfare changes due to a change in trade policy are the usual production and consumption costs of protection referred to in the literature on the costs of protection. Our measure of the welfare cost to the US of departures from free trade is given by the equivalent variation (EV) measure associated with the utility function selected for the representative consumer, i.e., where C is the cost function corresponding to the selected utility function, superscripts o and 1 refer to the equilibrium before and after the counterfactual trade policy experiment, p is the vector of final goods prices, and IU is indirect utility which depends on prices and income. 3/ The structure of the ten-sector model is described in table 1. 4/ To best capture the trading possibilities at a relatively aggregated level for an economy like the US, we have treated commodities supplied (or purchased) abroad and domestic commodities sold on the domestic market as imperfect substitutes. This assumption of product differentiation, which has found considerable support at the disaggregate level (e.g. Isard, 1977), is commonly used in applied general equilibrium analysis and is also adopted in most of the partial equilibrium estimates of the cost of protection in the US cited above. The assumption is particulirly suitable for the relatively high level of aggregation in our btudy and allows for the observed cross-hauling in trade statistics. On the export side, the assumption of product differentiation is reflected in the constant elasticity of transformation (CET) funct.Lon between domestic and foreign
5 sales. 5/ A symmetric functional form is specified for intermediat_ demand by sector (see below).

Table 1 shows that production possibilities are parametrized by assuming CES furctions for vn4 -added and Leontief functions between intermediates (as a whole) and valae-addad, as well as witnwn intermediates. However, within each sector, intermediate demand is a CES function between the domestically produced intermediate and the compu.ting foreign intermediate. To give an example, no substitution is allowed between purchases of steel and other manufacturing intermediates, but substitution in purchases is allowed between domestically produced and foreign produced steel when their relative prices change as a result of a change in trade policy. Likewise, in consumption demand, we allow for non-unitary income elasticities of demand and non-zero cross-price elasticities of demand between domestically produced and foreign produced consumer goods.

Finally is the issv_. of whether or not the US would face fixed terms-of-trade for the trade policy changes envisaged here. In previous single-country partial equilibrium estimates, authors have invariably assumed that the US is a small supplier and demander in world markets. 6/ In our estimates, we retain this assumption except for autos where, in some cases, we argue that differences in standards and the size of the US market results in a non-infinite foreign elasticity of supply. When we consider a simultaneous removal of all discriminatory protection, at times, we also assume that the US would face a non-infinite elasticity of demand for her agricultural exports. 7/ The description of the model is complete except for our treatment of QRs. In the US, for the sectors considered here, there are no government controls or direct quota allocations with resale prohibition. Hence,
IBM/JDM-021 6 Table <!-- Start of picture text --> Model Structure<br>1. Substitution in Production and Demand<br>Domestic Supply<br>l.a Production and Its Allccation<br>Gross Output CET<br>!I Export Supply<br>Leontief<br>Value Added Intermediate<br>I I<br>CES Leontief<br>/ \ Composite Composite<br>Capital I.Ir Intermediate Intermediate<br>I I<br>.ES ~~~~~~CES<br>Domestic Imoted Domestic Imported<br>Intermediate Intermediate Intermediate Intermediate<br>l.b Consumer Demand<br>Consumption<br>I<br>LES<br>Domestic Imported<br><!-- End of picture text --> 2. Imoort SuOD1Y and Foreign Export Demand Import Supply: Infinitely elastic (except autos) Foreign Export Demand: Infinitely elastic (except agriculture) a
7 unlike the case of many QR allocation schemes in developing countries, the US system of QRs allows for market-clearing prices. 8/ Since in 1984 quotas were already in place in autos and textiles, we assume that observed purchases were at the premia inclusive pricGs in that year. (The estimation of premia is discussed in section 3). Finally, it is worth noting that, following the calibration procedures in applied general equilibrium models, we are assuming that the prices and quantities observed in 1984 correspond to an equilibrium of the US economy with normal capacity utilization and in which the only distortions are the QRs and tariff on imports. This may be viewed as a strong assumption but it is implicit as well in all other estimates of the costs of protection.

Host previous GE studies of the costs of protection (e.g. Deardorff and Stern (1986) and Whalley (1985)) that have dealt with QRs have done so in the context of global models where QRs have been treated by their tariff equivalents without including the associated rent transfer that occurs with the US QRs. Moreover, the choice of functional forms has resulted in excessively large terms-of-trade effects for unilateral changes in trade policy (see footnote 6). 9/ Both problems are remedied in our approach.

# 3. Elasticity and Premia Estimates

The accuracy of our estimates of the welfare costs of protection depend on the assumptions embodied in the model, on the estimates of preexisting premia due to QRs in existence and on the supply and demand elasticity estimates. With respect to the modelling assumptions, with the possible exception of noncompetitive behavior in autos (see Winston and Associates (1987) and Dixit (1987)), our assumptions are certainly
8 plausible and representative. Hence considerable effort was de'-c:ed to a *parameter search' for elasticities of demand and supply and to constructing premia estimates for existing QRs in textiles and autos. We discuss these briefly below. (Tarr (1988, chaps. 6 and 7) is devoted to a detailed discussion of how these estimates were derived.) Table 2 presents all the necessary elasticities and our constructed estimates of pre-existing premia. The elasticities reported in ta>'' 2 corres mnd to the 'central' elasticities. When we report the likely %nge of welfs e costs from removing all trade restrictions in table 4 below, we are reporting results from the 'low' and "high' elasticities that are derived from the 'central' elasticities in table 2 by subtracting (adding) a standard deviation. 10/ Because much econometric work has been done to estimate the capital/labor substitution elasticities, we are fairly confident abcut the relative accuracy of these elasticities. We are also fairly confident in the estimates of import demand elasticities for which a number of estimates are available. Less confidence can be placed on export supply elasticities. However, because these latter elasticities only enter indirectly into our estimations, we have found that our welfare estimates are quite insensitive to considerable changes in their values. 11/ Turning to the estimation of the premia rates estimates (expressed as a percent of landed US imrort price inclusive of tariffs), we have relied on Hamilton (1988) for apparel. In order to understand the problem of the premia rate estimation, it is crucial to recognize that the existing MPA arrangements allow a number of marginally inefficient foreign suppliers to sell in the U.S. If the MFA were abolished, many of them would be squeezed out of the US market by competition. The quota premium rate earned by these inefficient suppliers, is less than the quota premium rate
Tabl- 2

# Elasticity Specification (Central Case)

|Sector|(1)|Colu<br>(2)|InN<br>(3)|otes<br>(4)|<br>(5)|Elasticity<br>of<br>Substitution<br>Intermdiates<br>(.)<br>(1)|Elasticity<br>of<br>Substitutio<br>Capital/Labor<br>(2)|Elasticity<br>of<br>Transformtion<br>n Dometic/Expor<br>Sales<br>(3)|Price<br>Ele<br>t of Fina<br>Dometic<br>(4)|stieiti<br>l<br>Demand<br>Imports<br>(S)|es<br>Premis<br>Rates<br>(6)|
|---|---|---|---|---|---|---|---|---|---|---|---|
|Agriculture|a|**c**|*|k|f|1.4|0.6|4.0|0.76|0.3||
|Feed|a|c|**'**|f|f|0.8|0.3|3.0|0.90|1.1||
|Mining|b|b|*|j|f|0.5|0.3|S.0|0.50|1.0||
|Iron<br>and Steel|a|d|*|I|f|8.0|1.0|8.0|1.0|1.4||
|motor Vehicles|a|c|*|h|h|2.0|0.8|3.0|1.2|1.1|22.61|
|Toxtiles**and**Apparel|i|c|*|I|f|2.6|1.0|8.0|0.4|3.9|40.6X|
|Other Manufactures|a|c|*|*|t|8.6|0.3|8.0|1.6|1.8||
|CUher<br>Conwusor|a|c||t|t|3.2|0.8|3.0|1.9|2.4||
|Traoed Services|b|c|*|g|g|2.0|0.8|0.7|0.5|0.6||
|Noe-Traded Services||b||g|||0.0||0.6|||

- (.) CES and CET functions imply that the corrsponding elasticities of subatitutIon (transformation) corr eond to comp nsated import demand (export supply) elasticities.

All price elasticities if demand defined **as** positive numbrs. For premla estimates, a text. Column notes correspond to te sources from which estImtes are Interpolated. For Interpolation detilIs **ao** Tarr (198).

**(a)** ShiellI, Deardorff and Stern (1906); (b) Dixon at ***l.** (1962); (e) Caddy (1976); (d) kman; (e) own estimates; (t) Stern, Francis and Schumacher (1976); (9) Houthakker and Taylor (1970); (h) Lovinsohn; (1) Crandall (1981); 0) Bohi and Russell (1978); (k) USDA (1984); (l) Hutbauer at el (1966).
10 paid by US consumers as a result of the MFA. Thus, we had to determine the marginal supplier to the US if the MFA were abolished. Data in Hamilton (1988), allow us to determine that Hong Kong, which had a quota premium rate of 47Z for apparel sold to the US in 1984, or a supplier more efficient than Hong Kong, would be the marginal supplier if quotas were removed. 12/ The US is much more competitive in textiles than in apparel. Consequently, for textiles we take 5Z for the premium rate, which is much more conservative than the one (15Z) proposed by Cline (1987, p. 167). A positive rate, however, is indicated based on data in a study by the US International Trade Commission (1987). For autos we relied on the qualityadjusted premia estimates of Feenstra (1985a) for Japanese car imports by the US. For European car imports, we relied on the quality-adjusted price increase of European cars sold in the US estimated by Dinopoulos and Kreinin (1987). Our reaulting premia estimates, which are weighted averages, are 40Z for textiles a-nd apparel and 23Z for autos. 13/

# 4. Welfare Cost Estimates

Since the restrictions are administered by the exporting c,.untries, the premia accrue to the exporting countries rather than to the US. One can therefore distinguish two components of the costs of the QRs: (1) the income or rent transfer to foreigners; (2) the distortionary cost due to the usual consumption and production costs of protection. Table 3 summarizes these costs for each of the three industries: textiles and apparel, autos and steal. Since the restrictions on steel -- which resulted in approximately a 15Z reduction in the imports of steel starting in early 1985 -- were only implemented in 1985, we obtain the estimates for steel by reducing inteznediate and final consumption of imported steel
11 Table 3 Welfare Costs and Employment Effects of QRs: Individual Sectors

||Welfare a/<br>Gain|Employment b/<br>Change in the<br>Industry Losing<br>Its QR|Economy-Wide<br>c/<br>Employment<br>Relocation|
|---|---|---|---|
|Textiles and Apparel||||
|Remove QRs|13.06|-158.3|158.3 d/<br>(.15)|
|Capture Rents<br>from Foreigners|7.07|-3.3|35.2<br>(.03)|
|Autos||||
|Remove QRs|6.9|-1.14|1.27<br>(.001)|
|Capture Rents<br>from Foreigners|6.2|+1.05|30.9<br>(.029)|
|Steel||||
|Remove QRs|0.91|-20.7|22.3<br>(.021)|
|Capture Rents<br>from Foreigners|0.78|-0.1|3.9<br>(.004)|

# Notess Estimates based on central elasticities.

- a/ Welfare is EV measure expressed in 1984 US billion. b/ Employment is expressed in thousand work-years.

- Z/ One-half of the sum of the absolute value of the employment changes expressed in thousand work-years.

- _d/_ The numbers in parentheses in the third column are the percentage of employees in the economy who must relocate. For example, (.15) means that fifteen-hundredths of one percent of the economy's employees must relocate.
12 products by 15Z from the observed levels in 1984. This restriction results in a 7? premium on imported intermediate steel products. The employment figures in column 2 are only for the industry subject to quota removal, and the total economy-wide relocation of workers is presented in column 3. This latter measure is a summary of interindustry effects (see. e.g. Deardorff and Stern (1986)).

The figures in Table 3 reveal that the largest welfare costs are due to the QRs in textiles and apparel. This may seem surprising since that sector is smaller than autos, and imports are 314 of auto imports in value (including premia). Furthermore the proportion of the total welfare costs due to distortionary costs are much higher in textiles and apparel. This is so because the price elasticity of demand for textiles and apparel is almost four times higher than the corresponding elasticity for autos. 14/ Furthermore, the relative homogeneity of domestic and imported steel reduce production costs of distortion.

Because elasticity estimates are not precise, we report in table 4 a range of welfare costs from removing all QRs simultaneously for low and high elasticities. Note that because the marginal benefits to the economy of an income transfer is a decreasing function of demand and supply elasticities, the welfare gains from capturing the rents from foreigners is higher in the low elasticity case than in the high elasticity case. Of course these welfare estimate gains due to the capturing of rents from foreigners are overestimates to the extent that rent-seeking activities dissipate them. For this reason, an auction quota mechanism is superior to a direct allocation of quota rights to imports. 15/ Thus our estimate of the annual cost of QRs in these three industries for the protection levels in 1985 is between US$21 billion and US$23 billion.
13 Table 4

# Welfare Costs of QRs and Tariff Protection: Long-Run Estimates a/

||Low<br>Elasticity<br>Case|High<br>Elasticity<br>Case|
|---|---|---|
|Remore QRs|21.0|22.7|
|Capture Rents from<br>Foreigners (retain QRs)|16.0|13.8|
|Eliminate Remaining<br>Tariff Protection<br>(after QR removal)|0.59|1.34|

a/ Welfare is the EV measure expressed in US 1984 billion.
14 It is quite probable that the US has monopsony power in its purchase of imported autos and monopoly power in its sale of agriculture products because of its relative importance in the world market for these products. We have experimented with an export demand elasticity value of 4 for agricultural products and an import supply elasticity of 5 for autos. Insofar as removing QRs leads to an increase in agricultural exports and an increase in auto imports, the US terms of trade will decline and hence the welfare main will be leas. For the medium elasticity case, including terms-of-trade effects lowers the welfare gain from US$20.9 billion to $19.8 billion. This effect is small because of the relative importance of quota rents which account for two-thirds of the total welfare costs. Obtaining the quota rents is a pure income transfer from the ROW to the US whose effect is a real appreciation of the dollar (about 1Z) which is accompanied by a small improvement in the terms-of-trade (the transfer gain with terms-of-trade effect is about $100 million more in the medium elasticity case than without terms-of-trade effects). Thus, the distortion gains from removing QRs with terms-of-trade effects is only $5.5 billion, about 22Z less than in the small country case. _161_ It is conceivable that the US would have monopoly and monopsony power in all the sectors in which she trades. Although this seems unlikely because the US market share is usually small in her main import and export markets, we have experimented with generalized terms of trade across all sectors for the central elasticity case by assuming constant import supply for consumer goods imports and export demand elasticities of 5 for all sectors except autos (import supply elasticity of 3) and agriculture (export demand elasticity of 2). 17/ The gains from QR removal are smaller, but still substantial ($16.2 billion). However, because of the terms-of-trade effects, which result i-n expanded trade volume at higher
15 foreign currency import prices and lower foreign currency export prices, the share of distortionary costs in total QR costs falls from 32 percent to 8 percent of total costs. Finally, adding unilateral tariff reduction now results in a welfare loss of $2.9 billion because of the dominating termsof-trade effect, a result similar to those found in the global simulations mentioned in section 2.

Our welfare cost estimates are significantly higher than previous GE estimates and than mcit PE estimates. This is so for several reasons. First we properly account for the $14 billion transfer associated with the US system of QRs. Second, our results are not dominated by terms-of-trade effects. 18/ Third, in comparison with most previous PE estimates, we have benefitted from the detailed work on premia estimates by Feenstra (1985a), Hamilton (1986) and Dinopoulos and Kreinin (1988) which are higher than previous estimates. 19,

# 5. Employment

Table 5 presents estimates of the employment effects of simultaneous removal of QRs in textiles, autos and steel for the central elasticity case. The simultaneous removal of QRe also points out to conflicting worker interests across the three industries subject to QRs. While the steel and textiles and apparel sectors would lose almost as many jobs when all QRs are removed than when they are removed in their sector alone, the autos sector gain. 1,900 jobs when the QRs on steel (and textiles and apparel) are removed concurrently with the VER on autos. This is so because steel, an input into auto production is cheaper and because the income elasticity of demand for autos is high. Both effects benefit the domestic auto industry which expands even when QR protection is removed.
16 Table 5

# Employment Changes from Removing QRs in Autos, Steel and Textiles (Central Elasticity Case)

# (thousand jobs)

|Agriculture|14.3|
|---|---|
|Food|1.6|
|Mining|4.0|
|Textiles<br>and Apparel|-157.6|
|Autos|2.0|
|Steel|-16.2|
|Consumer Goods|17.5|
|Other Manufacturing|78.6|
|Traded Services|34.3|
|Non-Traded Services|21.6|

Given that QR protection is obtained through the political process, one can argue that the US Congress has decided to value more highly a job in the protected sectors. Since the combined QRs preserve 174 thousand jobs in textiles, autos and steel, but comes at a cost of US$20.9 billion, the annual cost per job protected in these three sectors is about US$120 thousand. This is approximately 8(3) times the average annual total compensation of workers in the textile (steel) industries.

If QRs are removed, displaced workers will incur search, relocation, and retrainivg costs (see Hussa (1978)). Net benefits from QR removal are obtained by subtracting these costs. A proxy for these costs is theadiscounted value of the displaced worker's earnings losses over his lifetime. 20/ This measure allows us to estimate how much gainers will
17 have left after compensating displaced workers for their earnings losses. Earnings losses for displaced workers last approximately six years. 21/ A conservative estimate of net benefits, NB, is obtained as where r - 7? is the discount rate and Ct are estimated earnings losses. 22/ NB is US$105 billion, with associated Benefit/Cost of 65. That is, for every dollar of earnings losses saved, the economy loses $65.

# 6. Conclusions

In the introduction, we said that PE estimates are upward biased because they fail to include the balance of trade constraint. An order of magnitude of the difference between PE and GE estimates due to this effect is obtained by solving the model with a fixed real exchange rate and hence an endogenous trade balance. This would correspond to what is typically done in PE estimates. For the central elasticity specification, removing all QRs would lead to a current account deterioration of US$11 billion and an EV estimate of US$33 billion. This estimate is about one and a half times the estimate obtained when the balance of trade constraint is properly taken into account. Economy-wide welfare costs estimates derived by adding up individual industry PE estimates are likely to be significantly upward-biased.

Perhaps the most striking result is the relative costs of protection from NTBs and from tariffs. While this is repeatedly mentioned
18 In policy discussions, few relative estimates are available. The figures in table 4 suggest that the welfare cost of tariff protection is between 3Z (low elasticity case) and 6Z (high elasticity case) of the welfare cost of QRs in textiles, autos and steel. Since there are other QRs in the US beyond those examined here, this estimate is a lower bound.

An alternative way to evaluate the costs of QRs is to ask what tariff structure would give the same welfare loss as existing QRs in the three sectors. Returning to the central elasticity estimates, in that case the total welfare cost is estimated at US$20.9 billion of which 1984 US$6.7 billion is the distortionary component. For that set of elasticities, moving from the actual tariff structure to a uniform tariff structure yielding the same (import weighted) average protection would represent a welfare gain of US$0.60 billion. (Removing tariffs altogether would give a welfare gain of US$0.94 billion.) Starting from the existing tariff dispersion, to get the distortionary cost element of QRs would require multiplying each tariff by 3.8 times its 1984 value, which would amount to an average (import weighted) nominal protection of 152. Adding the loss due to rent transfers would require multiplying tariffs by 6.9 times their 1984 value amounting to an average protection of 252. 23/ It is no exaggeration to say that, in terms of protection costs, QRs are taking us back to the early days of multilateral tariff negotiations, especially if one includes the rent transfer element.
19

# Footnotes

- 1/ See Baldwin (1984), Tumlir (1985) and Riedel (1986) on the political and economic causes for this shift in approach to trade policy. For the US, the shift towards discriminatory trade policy is associated with a combination of the decline in US hegemony politics and an increase in government intervention.

- 2/ Appendix A lists the equations describing the model, the endogenous and exogenous variables and details the functional forms.

- 3/ Consumption demand is represented by the linear expenditure system which is derived from the associated Stone-Geary utility function. The welfare measure used here is described in Varian (1984), who uses the term expenditure function rather than cost function, and Deaton and Muellbauer (1980).

- 4/ The ten sectors ares agriculture (1); food (2); mining (3); textiles and apparel (4); autos (5); steel (6); consumer goods (7); other manufacturing (8); traded services (9); non-traded services (10). All sectors are traded with the exception of sector (10). See Appendix B and Tarr (1988) for details on aggregation.

- 5/ The CET was first introduced by Powell and Gruen (1967) and has been adopted by Dixon et al. (1982) in the ORANI trade model.

- 6/ The large country assumption is always assumed in multi-country models (e.g. Deardorff and Stern, 1985; and Whalley, 1985). de Melo (1986) and Brown (1988) argue that the product differentiation assumption adopted in multicountry models overstates the extent of monopoly power countries are likely to have. Also see Deardorff and Stern (1986, p. 61) for a similar view.

- 7/ The (constant) elasticities are: import supply of autos (5.0); foreign elasticity of demand for US agriculture exports (4.0).

- 8/ If market clearing was not allowed one would need to use virtual prices in Hicksian demand curves along the lines suggested by Neary and Roberts (1980) as for example in Grais, de Melo, and Urata (1986).

- 9/ An important exception is the single country model of Harris (1984) in which unilateral free trade by Canada is shown to be welfare improving.

- 10/ As the sources for table 2 detail, the estimates were obtained from many studies. These studies generally provide standard errors of estimates. For those elasticities taken from Stern, Francis and Schumacher, the high and low estimates are generally the high and low estimates from their survey which are not standard-deviation-based. In a few cases the high and low estimates are obtained by doubling and halving the central estimate. See Tarr (1988, ch. 5) for details.
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- 11/ For example, doubling (halving) the elaiticity estimates in column (3) incre4ses (decreases) our estimates of the welfare gains with the central elasticity estimates from US$20.9 billion to $21.0 ($20.8) billion, respectively, or + 0.42.

- 12/ We note that estimates of quota premia, in both textiles and automobiles, vary from year to year. We obtained estimates of quota premia for 1984, the year for which we benchmarked the model. Thus, our estimates apply to the conditions prevailing in that year. For other years, the premia rates and our cost estimates may differ.

- 13/ If the marginal supplier is more efficient than Hong Kong, our premium rate estimate is conservative and the associated welfare gain estimate is downward-biased.

- 14/ In his study of the similar arrangement for quota right distributions among cheese exporters to the US, Anderson (1985) comes to similar conclusions, i.e. that the distortionary costs coming from the bilateral quota arrangements is extremely high. Had we further disaggregated textiles and apparel as Anderson did in his study of cheese quotas, we would have found even higher welfare costs.

- _15/_ See Elliott, Sohctt and Takacs (1987) for an appraisal of such a proposal for US trade policy.

- 16/ If one interprets the individual welfare estimates in table 3, as linear approximations to the nonlinear demand and supply curves in the model, then the sum of the individual estimates will underestimate the total welfare gain. This is indeed so, but the underestimate is small: for the small country case, the underestimate from table 3 is only $30 million. This non-linearity effect is even more important for the relativeiy large welfare equivalent (to QRs) of uniform tariffs reported below.

- 17/ It should be noted that, in the presence of a balance of trade constraint, the export demand and import supply elasticities are not independent (see Whalley and Yeung, 1984) and, along the offer curve will be less in absolute value than the figures cited in the text (see Jones and Berglas, 1977). The numerically calculated value for the aggregate export demand elasticity is -4.6; the numerical value for the aggregate import supply elasticity (including intermediates with the small country assumption maintained) is 6.3.

- 18/ For example, Whalley (1985, table 10.2) estimates welfare losses from US unilateral NTB removal and US unilateral tariff removal. Deardorff and Stern (1986, table 4.6) obtain small welfare gains.

- 19/ See Tarr (1988, chapter 2) for a comparison of our results with PE estimates.

- 20/ We call our estimate a proxy for these adjustment costs because we have not incorporated into our model an endogenou **s** ector that moves resources, as suggested by the theoretical work by Mussa.
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- 21/ See Jacobson (1978). To be conservative, we measure total compensation losses, which exceed earnings losses by the amount of fringe benefits. Morkre and Tarr (1980, Chapter 3) discuss the merits of this measure and the alternative unemployment cost measure.

- 22/ The estimate is conservative since earnings losses are zero after six years, while yearly benefits do not decay.

- 23/ In that experiment, we are increasing the variance of nominal protection by 3.8 and 6.9 times the variance prevailing in 1984. Since the distortionary costs of tariff protection is positively related to the average level of protection and to the variance of tariffs [see Johnson (1962)], another hypothetical calculation would consist of computing the average tariff under the assumption of no tariff dispersion across sectors. In that case, starting from a uniform tariff protection (3.5Z) equivalent to the existing tariff protection in 1984, the distortionary cost element of QRs would require an average uniform protection of 24Z. Adding the rent transfer loss would raise the average uniform protection to 48Z. With linear, rather than constant elasticity demand and supply curves, welfare calculations would yield lower estimates as the corresponding elasticities would increase as one moves up the demand and supply curves.