Standards and Protection

This paper examines the behavior of a country that imposes a minimum standard on a good produced both by a domestic firm and by a foreign competitor, and where the latter also supplies its own market. Production costs rise with the standard, and the foreign firm incurs a fixed setup cost if it produces at two standard levels. When the domestic government raises the minimum standard, the foreign producer has to choose between sacrificing exports, facing higher production cost on its entire output, or incurring the fixed setup cost. Depending on the size of the foreign market and the fixed setup cost, the domestic firm will lobby for the lowest minimum standard that excludes the foreign firm or for no standard at all. When consumption of the good produces an externality, the domestic social planner sets a minimum standard which is a non-increasing function of the size of the foreign market. When an externality is present, we show that the planner is always protectionist in the sense that it chooses a higher standard than the one it would set if both firms were domestic.