International Trade: Friedrich List's Theory of the infant industry argument

Table of Contents

1. Introduction

2. The Origin of the List’s Theory
2.1. Pattern of Protection of List’s Theory
2.2. Justification of List’s Theory

3. Contemporary Perspectives of List’s Theory
3.1. Future comparative advantage
3.2. Domestic Market Failure and “Pseudoinfant” industries
3.2.1. Imperfect Capital Markets
3.2.2. Appropriability Argument / External economies
3.3. Political Economy Problem
3.4. Example for a general disagreement with the infant industry argument
3.5. Example for a general agreement with the infant industry argument

4. Conclusion

References

1. Introduction

The infant industry argument is one of the most famous arguments for protection against free international trade. The argument claims that protection is justified for new industries especially in less developed countries in order to establish them sufficiently. These infant industries are unable to compete with the old and well established industries located mostly in developed countries. The main reasons are differences in efficiency in production, information, knowledge and capital endowment (Suranovic, 2004).

Since Friedrich List (1789-1846) had developed this argument at the beginning of the Nineteenth Century, since then infant industry protection has been immensely criticized among economists. Most economists agree to some reasonable circumstances that would justify the temporary and limited protection of an infant industry (Melitz, 1999). Nevertheless, there is a big community of opponents who claim that protection is likely to be only the second-best policy rather than the first-best policy (Suranovic, 2004). Despite this opposition, almost all countries of the world have developed their industrial base by applying to infant industry protection (Krugman and Obstfeld, 2003 and Shafaeddin, 1998).

This essay aims to examine Friedrich List’s theory of the infant industry argument in detail. First, it explores the origin of List’s theory by giving a general explanation and some background information, by identifying the pattern of protection and by examining the justification for his theory. Secondly, it critically examines List’s theory under a contemporary perspective by discussing the current issues of the infant industries argument. Finally, it asks the question, if List’s theory is still valid.

2. The Origin of the List’s Theory

Friedrich List (1789-1846) was a critic of economic theory. He was an American citizen, a German patriot and universalist who believed in the ultimate harmony of national interests. His famous work, The National System of Political Economy (1841) was written to oppose the free-trade doctrines of Classical economics (Fonseca and Ussher, 2004 and Lind, 1998).

illustration not visible in this excerpt

Picture of Friedrich List (1789-1846), Source: Fonseca and Ussher, 2004

After the first industrial revolution List developed the infant industry argument to react to the divergence of the industrial development between Great Britain, the main European countries and the United States. At this time Great Britain was more developed than these other countries, largely due the fact that industrial revolution took place mainly in that country (Shafaeddin, 2000). ‘Adam Smith and the school of economic liberalism represents List’s principal theoretical opponent’ (Bolsinger, 2004). List (1841) argued that Adam Smith’s universal theory of international trade have been mainly influenced by the perspective of Great Britain. He wrote that Smith ‘… omits a vital intermediate stage between the individual and the whole world. This is the nation, to which its members are united by the tie of patriotism’ (List, 1841).

A world of free trade can not be achieved instantly due to the divergence of the industrial development of the nations. A precipitate acceptance of global free trade would enduringly favour the industrialised countries (like Great Britain in the 19th century and the United States nowadays). To enable the infant industries of the developing countries to catch up, they had to be protected. After this stage of development, the recently developed nations should slowly reduce protection to be more engaged in free trade with the rest of the world (Lind, 1998).

List (1841) examined the different stages of economic development though which countries naturally pass. These stages are described as (1) the Savage stage, (2) the Pastoral stage, (3) the Agricultural stage, (4) the Agricultural united with Manufacturing stage and the (5) the Agricultural, Manufacturing and Commercial stage (see also Hoselitz, 1960).

According to List (1841), every country should start with free trade to develop a strong agricultural industry. They should export raw materials and import manufactures. But to develop further, countries must industrialize, i.e. go from the Agricultural stage (3) to the Agricultural united with Manufacturing stage (4) and later to the Agricultural, Manufacturing and Commercial stage (5).

List (1841) assumed that such developments cannot emerge automatically through the ‘natural course of things’, i.e. through market forces. Therefore, infant industry protection becomes a necessity for countries which are at the agricultural united with manufacturing stage (4) to be enabled for the competition with more developed countries.

To enable countries to go through these different stages of development List explained the pattern of protection, which will be examined in the next chapter.

2.1. Pattern of Protection of List’s Theory

List (1841) examined the following pattern to protect the domestic infant industry:

1. Import duties and subsidies are opportunities to support domestic industrialization. To show that these are not the only methods, List referred to a lot of other policies such as industrial, financial and educational policies as an obligation for promoting the domestic industry. Furthermore, List highlighted the development of agricultural sector as a requirement for successful industrial development (Senghaas, 1989).
2. List recommended ‘… protection of manufacturing products on a selective and discriminatory rather than a universal basis’ (Shafaeddin, 2000). List (1841) clearly stated: ‘But it is not necessary that all branches of industry be equally protected’. A manufacturer ‘… has a hundred times more opportunity for developing his mind than the agriculturist. In order to qualify himself for conducting his business, he must become acquainted with foreign men and foreign countries; in order to establish that business, he must make unusual efforts...‘. Form List’s point of view, the manufacturing industry is the ‘engine of growth’ (Hong and Moon, 2004).
3. To support further industrialisation on a higher stage, protection should only be temporary, because further growth would be hardly possible without international trade. In addition, the level of protection should not be too high to stop imports at all, because even infant industries need a slight competition to be more efficient and therefore successful, especially in the long-run.
4. The intensity of protection cannot be concluded by using any theory, even List’s theory. There is no general rule, which countries can apply, because the situation of every country is different, especially in the context of its trading partner. List (1841) stated that not all countries have the opportunity for industrialisation. He supported this notion by giving some recommendations on the minimum conditions for the success of infant industry protection and the level of duties. In addition, he suggested that sudden protections are not favourable for the domestic industry, because the producers and investors need to know the scale of protection duties in advance to have enough time to react.
5. There should be no duties on importing raw materials or intermediate goods. List (1841) gave an example of cotton yarn to show the disadvantages of an import duty on such products.

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