What it is:
Quota can refer to a measure that sets the limits, either minimum or maximum, on a particular activity.
How it works (Example):
Quotas are usually set by government or by an organization of producers of a particular product.
For trade quotas, governments set the quota limiting the import of a particular product, restricting the access to the domestic market by an offshore producer, and giving the domestic producers the opportunity to improve their position in the market. Such protectionist policies in industries including steel, autos, and many consumer electronics products, have protected domestic industry from international competition.
In production quotas, a government or a group of producers, limit the supply of a particular product in order to maintain a certain price level. For example, the Organization of Petroleum Exporting Countries sets a production quota for crude oil in order to "maintain" the price of crude oil in world markets.
Why it Matters:
Quotas counteract natural market forces and trends and usually upset normal business cycles. For example, protecting domestic industry from international competition has kept it alive, but has not increased its competitiveness. In an increasingly global economic marketplace, quotas tend to weaken domestic industry. As for production quotas, while maintaining prices in the world markets may sound like a good idea for producers, it can have the effect of forcing consumers to find alternative products (e.g., the search for alternative energy in the case of oil) or worse (e.g., take up arms to fight for rights to natural resources).