Infant Industry Theory

Posted in Finance, Accounting and Economics Terms, Total Reads: 421

Definition: Infant Industry Theory

The theory states that, “the nascent industries that have recently opened up in a country need to be protected from the poaching by foreign countries due to trade”

An infant industry has the following characteristics:

• Lack of skilled workforce

• Has not attained the economies of scale

• Inefficient production process

• Inexperienced mangers and administration

• Low market share in the domestic country

As these industries lack the economies of scale, their average cost per good is higher. There might be other countries where this industry has already well established and is quite efficient. As the domestic country is open for trade, the foreign goods are imported rather than developing the domestic industry. To avoid this, the Government introduces many policies such as quotas, import tariffs, exchange rate controls and duty taxes on importing the finished or intermediate goods pertaining to that industry.

Example: The US Steel Industry was given protection in the 1900s from Britain by imposing import tariffs and quotas. This provided an opportunity for US to develop its own industry at a faster pace.

The tariffs imposed must be gradually be reduced as the industry grows and depending on the learning curve of the industry, tariffs are to be changed continuously.

The graphs show the learning curve and the respective fixed learning costs.

FLC indicates Fixed Learning Cost

Q- Quantity of goods being produced

c(Q)- Cost of learning

In the first graph, FLC is low because the learning is fast. In such cases, the import tariffs imposed must be reduced fast since only then can the industry actually compete in the international market and grow.

In the second graph, the learning cost is high as it takes time to achieve economies of scale. Therefore, this type of industry is to be supported by the Government till it reaches the required stage and then, import tariffs must be removed.


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