Measuring the impacts of tariff: Protecting industries or hindering growth?
A tariff is meant to protect local industries by making imported goods more expensive. However, more protection leads to making the industry inefficient
Tariffs are a crucial yet contentious tool in shaping Bangladesh's economic landscape. These duties, levied at the import stage, encompass various forms, such as Customs Duty (CD), Regulatory Duty (RD), and Value Added Tax (VAT). Together, they determine the Total Tax Incidence (TTI), a measure that significantly influences domestic industries and the broader economy.
But how effective are these measures in protecting local industries, and what unintended consequences do they carry?
The answers lie in the complex calculations of protection metrics like the Effective Rate of Protection (ERP) and the interplay with exchange rates.
Keep updated, follow The Business Standard's Google news channel
The role of tariffs in domestic protection
At its core, a tariff is meant to protect local industries by making imported goods more expensive. For example, if garments face a tariff, their domestic prices rise, benefiting local producers who sell in the home market.
However, the impact is not straightforward. Tariffs on fabric, an input for garments, can simultaneously raise production costs, undermining the same producers.
This duality highlights the need to measure the overall impact of tariffs through the ERP. ERP captures how tariffs on both inputs and outputs affect the value added by domestic producers. A positive ERP indicates protection, while a negative ERP suggests taxation of the industry.
Tariff and para-tariff measures, such as Supplementary Duty (SD), Advance Income Tax (AIT), and Advance Tax (AT), also play a role in shaping trade policies.
While these are considered trade-neutral, their cumulative impact—calculated as the Statutory Nominal Rate of Protection (NRP)—can influence the competitiveness of local industries. To achieve a balanced approach, understanding the implications of these measures is critical.
Tariffs calculated by minimum import prices and imposing bound tariffs increase the protection of import-competing industries. But more protection leads to making the industry inefficient. Therefore, measuring the rate of protection provided to import-competing industries by imposing tariffs on import-competing goods is needed.
To measure the impacts of imposing tariffs, it is required to have the level of protection given to the industry. In this respect, a calculation of the Effective Rate of Protection (ERP) is necessary.
ERP is a measure of the total effect of the entire tariff structure on the value added per unit of output in each industry when both intermediate and final goods are imported. It is very important to producers because it indicates the level of protection provided to domestic production of import-competing goods.
The impact of tariff policies on producers is slightly more complex; for instance, tariffs on garment imports raise domestic garment prices and are beneficial to domestic garment producers selling in the local market. On the other hand, a tariff induced in the domestic price of fabric raised garment producer costs.
The net impact of tariff policies on the producers of any good depends on their effects on prices of both outputs and inputs.
Calculating ERP
The ERP calculation is nuanced but essential. For instance, assume the global price of garments is $100, and fabric costs $75. If Bangladesh imposes a 30% tariff on garments and 20% on fabric, the ERP for local garment production is 60%, signifying strong protection.
But what happens when a garment producer competes in the global market? If fabric costs rise to $90 due to tariffs, selling garments at $100 yields a negative ERP of -60%, effectively penalising exporters.
Through withdrawing duties on inputs by providing special provisions, resulting in an ERP of 0%, which is a big improvement. But it is still much less attractive to export than a very large incentive to produce for the domestic market. This is called anti-export bias.
This calculation process involves two stages: determining the NRP and analysing its implications.
Suppose that a country enters a preferential trading arrangement with a regional partner under which goods produced in each country can be exported duty-free into the other.
If the NRP on garments is 40% and a garment producer wishing to sell in the partner's market still suffers from the domestic protection of 20% on fabric,.
But it now benefits from the partner country's protection of 40% on garments. The ERP for sales in the regional market, therefore, is 100%.
If, on the other hand, the partner country provided NRP of only 25% on garments, then this would yield an ERP for preferential sales in this market of 40%.
Challenges of tariff implementation
Bangladesh's tariff structure often exceeds the bound rates set by the World Trade Organisation (WTO)—187% for agricultural products and 94.3% for industrial goods. Such high rates not only invite scrutiny but also incentivise tax evasion. Measures like setting a minimum import price aim to curb under-invoicing but must align with WTO guidelines to avoid trade disputes.
Additionally, the global trade environment presents challenges like dumping and subsidies from exporting countries. When local industries struggle despite reasonable protection, the government can impose anti-dumping or countervailing duties.
Another concern is the inefficiency that excessive protection can create. Industries shielded by high tariffs may lack the incentive to innovate or improve productivity, ultimately hindering long-term growth. Policymakers must balance short-term protection with strategies to enhance competitiveness.
In order to reduce the duty evasion through under-invoicing, the minimum import price is fixed by the government. Minimum import prices ensure that a product cannot be imported at a price that is lower than a price set by the government of a country. The trend of tariff evasion by under-invoicing can be eliminated by imposing compound tariffs consistent with various WTO agreements.
It may happen that the industry has not been competitive with imported goods in spite of providing reasonable protection. In that case, there may be a trend in increasing imports due to dumping from abroad. In this situation, industry can be protected by imposing either anti-dumping duty or countervailing duty after investigation.
Besides, it may also be observed that suddenly the import of any product is increased abundantly. This sudden import of a product can be prevented by taking safeguard measures consistent with the WTO agreement.
Through the tariff policy of a country, a tariff is imposed on any imported or exported goods. On 10 August 2023, the government published a gazette on the National Tariff Policy (NTP), to diversify and expand exports by reducing current anti-export biases along with providing incentives to investors, eliminating minimum import values in accordance with World Trade Organisation (WTO) regulations, and creating jobs.
It is seen that the impact of imposing tariffs and exchange rates is interdependent on each other. An increase in tariff tends to increase the price of imported products in the country. As a consequence of which, demand for imported products reduces, and thereby, demand for foreign currency reduces as well. This will appreciate the local currency.
For Bangladesh, the challenge lies in creating a framework that protects local industries without isolating them from global opportunities. Policymakers must prioritise transparency, align with international norms, and remain adaptable to evolving trade dynamics.
Moreover, fostering collaboration between stakeholders—including industry representatives, policymakers, and international trade experts—is crucial for designing effective tariff policies. Regular assessments of tariff impacts, supported by robust data and analysis, can guide decision-making and ensure that policies remain relevant in a dynamic global environment.
In a globalised economy, tariffs should not be a barrier but a bridge to sustainable development.
As Bangladesh navigates this delicate balance, understanding the broader implications of tariff policies will be key to shaping a resilient and inclusive economic future.
Abdul Quaiyum is a former member of the Bangladesh Trade and Tariff Commission, Ministry of Commerce.
Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions and views of The Business Standard.
