Compensating for loss of trade

A government endeavouring to convince the public or sectoral interests that a certain trade reform will proceed smoothly may offer guarantees against disruption. Those who are to benefit must be able to rely on the benefits, which entails clear and comprehensible guidelines and speedy administration. Compensation must be generous, approximating the private costs imposed on those who are denied protection. The programme also needs to be seen as fair. The beneficiaries should include most of those who bear major losses and have considerable political power, including owners of capital. Provision of additional income support is one such measure.

1. The need to preserve the income of vulnerable workers is one of the main arguments used for the protection of agriculture in industrial nations. However, the main effect of such a policy is to push up the price of land, which benefits only landowners. Direct income support would be more successful in preserving wages in farming at a much lower real cost to the community. In other industries, where there is no factor of production in fixed supply, such as land, there is no reason in principle why incomes could not be supported by protecting the industry, but direct income transfers would still be far less costly.

1. The conditions for compensation are not readily satisfied. The costs of identifying those penalized by a trade reform process are very high. This is because of the practical difficulties of distinguishing policy changes and their impacts, since people gain and lose for many economic reasons and it is seldom possible to be sure of the cost inflicted on a particular group by any given policy. Compensation measures also create "moral hazard", in which people are given incentives to behave inefficiently to qualify for compensation. Any programme based on a firm-by-firm examination of what has already happened tends to suffer from arbitrariness in eligibility criteria and their application. Virtually any financially feasible programme of compensation is likely to be limited to those who leave the industry; in contrast, protection benefits those who stay. Inevitably there are problems of fairness in setting limits on who will be compensated, not least in regard to industries supplying inputs to the affected industry, and in compensating people who would have left the industry anyway, while not compensating those who stay. Whatever the political justification for compensating owners of capital, it may be felt that it is their function to anticipate economic developments and that therefore any sums granted should be limited.

   Buying off pressure groups differs from straightforward compensation - at least in principle. It is a way of overcoming obstacles to change in an overtly political way. Even with this more limited objective, however, the record is discouraging. Far from softening resistance to change, this approach merely channels protest into pressure on governments about who should get the most compensation.

1. Providing compensation

1. Reforming domestic trade policy

1. Protecting against overseas imports

1. Vulnerability
2. Support
3. Loss