How import protection affects the Philippines'motor vehicle industry

The motor vehicle industry in the Philippines is regulated and protected by the provisions of development programs for cars, commercial vehicles, and motorcycles. Each program virtually prohibits the import of completely built-up vehicles, specifies minimum local content requirements for vehicles assembled in the country from imported completely knocked-down kits, and requires that firms assembling kits export to earn foreign exchange to cover the cost of the kits. Similar protective regimes have existed in a number of countries, especially in Latin America. The author develops a model to illustrate the economic impact and welfare cost of import prohibitions, local content requirements, and export requirements. She applies that model to Philippine data. Her results indicate that the protective regime in the Philippines imposes substantial costs on consumers and encourages the allocation of resources to relatively high-cost activities. Eliminating all of the restrictions overnight may lead to adjustment problems, but gradual liberalization could limit these problems. The proportion of domestic content required, the percentage of compensatory exports required for kits, and the tariff rates on kits could be lowered in stages, according to a preannounced schedule, to allow gradual adjustment. The prohibition on imports of assembled vehicles could be replaced by a tariff and phased out gradually. To avoid proportionately more protection of the assembly industry, the tariff on finished autos could be phased out more quickly than the other tariffs, to avoid sending false signals to the domestic industry about the direction of adjustment. To avoid increasing the effective rate of protection on assembly operations during liberalization, elimination of the domestic content and compensatory export requirements should be accompanied by decreases in the tariff rates on assembled vehicles.