The second theoretical argument against the GPA is that its prohibition of preferences may sometimes preclude the pursuit of socially optimal policy. At first sight, the GPA's prohibition of preferences in procurement would seem to create welfare benefits analogous to those arising from trade liberalization: the procuring country would benefit from cheaper purchases, other countries would benefit from increased market access, and the world in general would benefit from improved resource allocation. However, just as the benefits from free trade have been questioned in certain situations, doubts have also been expressed about the gains from non-discrimination in procurement.9 The supposed virtues of preferences derive first, from fact that domestic firms' profits are part of domestic welfare whereas those of foreign firms are not. Secondly, when costs differ between imperfectly competitive firms, preferences can lead to greater effective competition and help to minimize the costs of procurement. Both arguments are considered in turn.
Consider a procurement policy which is designed to maximize domestic welfare. Optimal favouritism of the domestic firm would follow simply from the asymmetry between the profits of the domestic firm and the foreign firm from the point of view of domestic welfare. The underlying intuition here is similar to the profit-shifting argument due to Brander and Spencer (1981). McAfee and McMillan (1989) has shown that if domestic firms' profits enter the social welfare function with the same weight as consumer surplus, the government should always offer a price preference to the domestic industry. Branco (1994a) finds that this is also true when explicit consideration of the social cost of distortionary taxation endogenously determines distinct weights for consumer surplus and domestic firms' profits.
(This paper concentrates on arguments for preferences which are specific to procurement, and not on other, more general arguments for protection - for instance, those based on the positive externalities generated by high-technology industries, or variants of the infant-industry argument.