Do Two Wrongs Make a Right? Export Incentives and Bias in Trade Policy

Abstract

In the large literature on export promotion and South-East Asian trade policy, there is a tradition, going back at least to Corden (1971), of emphasizing the offsetting consequences of export promotion in the presence of protection of domestic industry. It is often claimed that the anti-export bias of protection is removed, or ‘neutralized’, by export incentives. Thus, the combined presence of fairly high levels of protection with equally large doses of export incentives results in an allocation of resources similar to that produced by a policy of unilateral free trade. On theoretical grounds, this proposition derives support from the familiar competitive production (supply-side) model of a small, open economy. In that model the relative output of exportables and importables is determined by the internal product price ratio. Given tariffs on imports, export subsidies can be used to restore the internal producer price ratio to the external world price ratio.₂ One could summarize by saying that this is an example in economic policy where ‘two wrongs make a right’; that is, while each policy individually would reduce welfare, jointly they produce an outcome that is optimal.

The authors are grateful for the helpful comments of conference participants Rod Falvey, Don White and an anonymous referee. Remaining errors are the responsibility of the authors.