Note that not all countries can improve their terms of trade by levying
tariffs on imported goods. A necessary condition is that the importing
country has market power—in other words, that its imports represent a
large proportion of total world demand for the good in question, so that
its restrictive trade policies lead to a decline in the world price of its
imports. Large countries like China and the United States have market
power in many products. Small countries, like Canada, do not. For small
countries, therefore, tariffs cannot improve their terms of trade.
Large countries can sometimes improve their terms of trade (and thus increase their national
income) by levying tariffs on some imported goods; small countries cannot.Protecting Infant Industries
The oldest valid arguments for protection as a means of raising living
standards concern economies of scale or learning by doing. It is usually
called the infant industry argument. An infant industry is nothing more
than a new, small industry. If such an industry has large economies of
scale or the scope for learning by doing, costs will be high when the
industry is small but will fall as the industry grows. In such industries, the
country that first enters the field has a tremendous advantage. A
developing country may find that in the early stages of development, its
industries are unable to compete with established foreign rivals. A trade
restriction may protect these industries from foreign competition while
they “grow up.” When they are large enough, they will be able to produce
as cheaply as their larger foreign rivals and thus be able to compete
without protection.