Quota: Effects, Advantages and Disadvantages (With Diagram)

Let us study about Quota. After reading this article you will learn about: 1. Effects of a Quota 2. Advantages of a Quota 3. Disadvantages.

Effects of a Quota:

Quotas are similar to tariffs. In fact, they can be represented by the same diagram. The main difference is that quotas restrict quantity while tariffs work through prices. Thus, a quota is a quantitative limit through imports. If an import quota of EC (Fig. 14.4) amount is imposed then price would rise to P_t because the total supply (domestic output plus imports) equals total demand at that price.

As a result of this quota, domestic production, consumption, and imports would be the same as those of the tariffs. Thus, the output effect, the consumption effect and the import restrictive effect of tariffs and quotas are exactly the same.

The only difference is the area of revenue. We have already seen that a tariff raises revenue for the government while a quota generates no government revenue. All the benefits of quotas go to the producers and to the lucky importers who manage to get the scarce and valuable import permits.

In such a situation, a quota differs from a tariff. However, if import licences are auctioned-off to the importers then the government would earn revenue from the auction. Under these circumstances, the effect of a quota and a tariff are equivalent.

Advantages of a Quota:

A quota is superior to a tariff on the following grounds:

i. Foreign Exchange Implication:

The main advantage of a quota is that it keeps the volume of imports unchanged even when demand for imported articles increases. It is because a quota makes the completely elastic (horizontal) import supply curve completely inelastic (vertical).

But a tariff permits imports to rise when demand increases, particularly if the demand for imports becomes inelastic. Thus, a quota leads to greater foreign exchange savings compared to tariff (which may even lead to an increase in foreign exchange spending because imports may rise even after tariff).

ii. Precise Outcome:

Another advantage of a quota is that its outcome is more certain and precise, while the outcome of a tariff is uncertain and unclear. This is so because the volume of imports remains unchanged if a quota is imposed. But this is not so in the case of a tariff.

iii. Flexibility:

Finally, Ingo Walter argues that “quotas tend to be more flexible more easily imposed, and more easily removed instruments of commercial policy than tariffs. Tariffs are often regarded as relatively permanent measures and rapidly built powerful vested interests which make them all the more difficult to remove.”

Disadvantages of a Quota:

But its disadvantages are nonetheless unimportant:

i. Corruption:

A quota generates no revenue for the government. However, if the government auctions the right to import under a quota to the highest bidder then quotas are similar to a tariff. But a quota leads to corruption. Usually officials charged with the allocation of import licences are likely to be exposed to bribery. Under this situation the tariff is preferable to the quota.

ii. Monopoly Profit:

Secondly, a quota creates a monopoly profit for those with import licences. This means that consumer surplus is converted into monopoly profits. Thus, a quota is likely to lead to a greater loss of consumer welfare. If a tariff is imposed, domestic price will be equal to import price plus tariff’.

iii. Monopoly Growth:

Thirdly, allied to this disadvantage of a quota is that a quota is much more restrictive in effect as it restricts competition. Thus, a quota may ultimately lead to concentration of monopoly power among importers and exporters.

iv. Distortion in Trade:

Finally, a quota has the tendency to distort international trade much more than tariffs since its effects are more vigorous and arbitrary.

Thus, we will have to make a choice between a tariff and a quota. A tariff is usually considered a less objectionable method of trade restriction than an equivalent quota. A tariff permits imports to increase when demand increases and, consequently, the government is able to raise more revenue.

In contrast, a quota is less obvious and more likely to remain in force for an indefinite period. For all these reasons, a tariff, while objectionable, is still preferable to a quota. The WTO condemns quotas.