This device is expected to restrict imports on account of the following reasons:
i. The importer is deprived of some liquid funds. Arranging additional funds adds to his cost. In times of credit scarcity, it is more difficult to arrange additional funds. Moreover, during inflation, his funds also lose some purchasing power.
ii. This scheme can be applied in as selective a manner as need be.
iii. Under this scheme, purchasing power flows from the market into the central bank and/or the treasury. This exerts an anti-inflationary impact on domestic prices, thereby encouraging exports and discouraging imports.
However, this scheme also suffers from certain drawbacks including the following:
i. It puts new importers at a disadvantage. The established importers are in a better position to arrange additional funds including, for example, supplier’s credit from the foreign sellers. They are also able to make such arrangements at relatively economical rates.
ii. Over time, the authorities may accumulate huge sums. They are likely to put them to some use or the other and later find it difficult to return them even when the scheme is closed.
iii. At the time of release, the deposit funds tend to exert an inflationary pressure and thus encourage imports and discourage exports.
These days, this device has lost its popularity.
A quota is the maximum volume (or value) of an item which can be imported during a specified period of time (a month, a quarter, six months, or a year, etc.).
The device of quotas can be used very selectively with provisions varying from (i) item to item, (ii) between sources of imports, and so on.
It is one of the most popular forms of quantitative restrictions. Quotas are used not only for correcting a deficit balance of payments, but also for restricting the import of individual items and/or from specified sources.
They are favoured by the authorities when customs duties are expected to be ineffective. They are particularly useful in checking speculative trading.
Quotas can assume various forms. They may be prescribed in terms of physical quantities or in value terms or both. Generally, they are separately specified for individual goods or their categories. In addition, shares of specified sources of imports are also specified.
The system of quotas calls for an efficient administrative set up with an equally competent decision-making machinery.
Therefore, is advisable to restrict the application of quotas to only a few important commodities selected on the basis of some objective criteria. For example, quotas may be restricted to items with large import bills and inelastic demand.
The merits and demerits of a quota system are deeply conditioned by the mechanism of its working. For a revealing glimpse of its working and repercussions for the home economy, let us describe it with reference to a single item.
As stated above, import quota for an item is always fixed per period of time a quarter, six months, or a year, etc. Its administration, however, throws up a lot of issues and problems.
A Crude Form:
The authorities may adopt a crude approach in which imports are stopped the moment its announced quota (in quantity or value) is completed.
This method has nothing to commend itself. It is fraught with all the disadvantages of arbitrariness, confusion, inequity and many more. An importer is forced to rush in and secure imports before others do; and he has no time or opportunity to negotiate or look for a cheaper source of supply.
There is a scramble for bringing in the permitted imports as quickly as possible. In the process, not only several individual importers suffer, the country as a whole also suffers from a deterioration in terms of trade. Elasticity of demand for imports decreases and the foreign sellers are able to take advantage of it.
Theoretically, with prior planning, even a single importer may succeed in cornering the entire permitted import quota before anyone else gets a chance to do so.
This possibility becomes a real risk where multinational corporations (or others with international links) are involved and where the item in question is of high value and small bulk.
There is also a problem of whether to monitor the imports in terms of ‘orders placed”, or “supplies received” or “payments made”, or something else. Each of these monitoring methods has its own drawbacks.
Quotas may be allocated to importers by issuing those licenses. However, the criteria of issuing licenses are bound to be arbitrary and inequitable.
For example, there would be a scramble for licenses with all its ill- effects, if licenses are issued on “first come first served” basis. Moreover, import licenses tend to command a premium on account of the scarcity factor.
Quotas have a high rate of success in effectively restricting imports to a desired level. However, they also throw up very difficult administrative and other problems.
They tend to push up prices of imports since the suppliers know that the quota holders must complete their purchases before a stipulated date.
This disadvantage is particularly serious when the item in, question is available only from a small number of sellers, or where purchases cannot be made from ready stock (as in the case of high-technology machinery, or other specialised equipment).
When quotas are origin-specific, the foreigners are likely to gain more because this arrangement reserves a definite share of the import bill for each designated source.
3. Exchange Control:
It is a device for regulating the inflow and outflow (the use) of foreign exchange. Under this method, if successfully applied, all the transactions in foreign exchange pass through the hands of the authorities and only with their permission.
That way, it is an all-embracing instrument for regulating not only capital transfers, but also payments for visible and invisible trade items. It is also recommended as an effective aid for economic growth through manipulation of trade flows.”
Exchange control is a highly effective tool for quantitative restrictions on imports. In practice, however, it may also be supplemented with certain quantitative restrictions and customs duties.
Exchange control is usually accompanied with some form of fixed or regulated exchange rate, though this need not be so.
Exchange control has enjoyed widespread popularity with countries having meager foreign exchange reserves. In India, Reserve Bank was given the authority and duty of exercising exchange control at the beginning of the Second World War.
It used this instrument very extensively till the beginning of the era of economic liberalisation. And even now, it is exercising exchange control to a certain extent.
Exchange control raises several administrative and other problems including the following:
i. The agency managing the exchange control (such as the central bank of the country) is seldom in a position to decide the desirability of individual import items and their respective quantities (values). That has to be done by several other agencies on the basis of their expertise and respective jurisdiction, etc.
ii. The entire process of exchange release necessitates an effective monitoring of all transactions involving commodities, services and capital flows.
iii. The problems relating to coordination of all the activities of the external sector of the economy and ensuring their harmony with its domestic sector are so vast and complex that the economy is bound to operate at a sub- optimal level.
iv. The system of exchange control entails an additional resource cost to the country and the treasury.
v. Exchange control encourages several illegal activities like smuggling, over- invoicing and under-invoicing of imports and exports, etc. In certain cases, traders find a way of even entering into private barter transactions.
4. Multiple Exchange Rates:
A government may go a step further and supplement an exchange control with a system of multiple exchange rates. This means that foreign exchange is allocated at different prices (against home currency) to importers, the prices varying on the basis of the rules framed by the authorities.
However, critics maintain that the objectives of multiple exchange rate policy can be achieved more directly through differential rates of customs duties supplemented, if need be, with some quantitative restrictions.
Similarly, on the export side, export duties and subsidies can achieve similar objectives. This is more so because multiple exchange rates are really equivalent to customs duties and subsidies in their revenue and expenditure effects.
There are also the problems of unauthorised arbitrage and other loopholes mentioned before. Still, they have been employed by many countries, especially by the Latin American ones.