Lobbying, Innovation and Protectionist Cycles

Abstract

This paper explains why trade liberalizations occur in developing countries, and why they are often reversed. It does so by focusing on the use of lobbying for protection by import competing firms as a means to postpone costly product quality upgrades to keep up with foreign competitors. Given the availability of a political market for import tariffs, domestic firms will lobby for a sequence of tariffs that insulate domestic profits from a widening quality gap, thereby allowing adjustment to be postponed. But as the contributions required by the government grow with the size of the quality gap, it will be optimal to adjust quality and to decrease the lobbying effort at some time, leading to liberalization and technological catch-up. But then the equilibrium tariff will again be small and cheap, and it will pay to start lobbying anew, until the next quality adjustment. Therefore, cycles in protection will occur as a result of the use of lobbying as a substitute for innovation. The model thus sheds new light on the impact of the costs of protection on the effectiveness of the lobbying effort over time, and on their implications for the timing and the time horizon of trade reforms in developing countries.