Transcript Lecture Slides Chapter 04

Tariffs
Chapter 4
Copyright © 2009 South-Western, a division of Cengage Learning. All rights reserved.
Tariffs
o definition – tax levied on a good when it
crosses a national border
• import tariff – much more common
• export tariff – less common; revenue source
o purposes
• protective tariff – designed to reduce the
amount of imports entering a country;
increase sales for domestic producers
• revenue generation – designed to generate
additional funds for domestic government
Types of Tariffs
1) specific tariff – fixed monetary amount per
unit of the imported good
2) ad valorem tariff – fixed percentage of the
value of the imported good
customs valuation – process of determining the value
of an imported good
o free-on-board (FOB) valuation – tariff applied as
product leaves country
o cost-insurance-freight (CIF)valuation – tariff
applied as product enters country
3) compound tariff – combines the elements of
specific and ad valorem tariffs
Tariff Examples by Country and
Industry
Effective Rate of Protection
1) nominal tariff rate – based on tariff applied to
value of finished product
2) effective tariff rate – based on tariff applied to
finished product and imported inputs
(n-ab)
effective rate of protection = e =
(1-a)
n = nominal tariff rate on final product
a = ratio of value of imported input to value of
finished product (prior to tariffs)
b = nominal tariff rate on imported input
Effective Rate – 1st Example
(n-ab)
0.1-0.8(0)
e=
=
= 0.5 = 50%
(1-a)
1-0.8
for this example:
n = $50/($100 + $400) = 0.1 = 10%
a = $400/($100 + $400) = 0.8
b = $0/($400) = 0
Effective Rate – 2nd Example
(n-ab)
0.1-0.8(0.05)
e=
=
= 0.3 = 30%
(1-a)
1-0.8
in this case:
n = $50/($100 + $400) = 0.1 = 10%
a = $400/($100 + $400) = 0.8
b = $20/($400) = 0.05 = 5%
Tariff Escalation
o tariff escalation – higher
tariffs on intermediate and
finished goods and lower
tariffs on raw materials
o incentive for developing
nations to expand
production of raw materials
o disincentive for
developing nations to
compete in market for
finished goods
Offshore Assembly Provision (OAP)
o outsourcing – aspects of production process
occur in another country
o low cost, labor intensive products
o OAP – tariffs applied only to portion of
production occurring in another country
o reduces effective tariff rate for domestic
consumers
o incentive for foreign producers to use U.S.
components in production
o detrimental to U.S. workers who also produce
the same finished goods
Dodging Import Tariffs
o tariff avoidance – legal method of reducing or
eliminating the amount paid in tariffs
example: Brazilian raw sugar shipped to Caribbean
and refined there into ethanol then imported to the U.S.
duty free
o tariff evasion – illegal means of reducing or
eliminating tariffs
examples:
false reclassification of products
falsification of country of origin
altering composition of product itself
Postponing Import Tariffs
Bonded Warehouse
o location maintained by importers ensuring that
all customs obligations will be satisfied
o goods may be stored for maximum of 5 years
o requires inspection by U.S. Customs Service
Foreign-Trade Zone
o U.S. site at which foreign merchandise can be
imported without immediate payment of duties
or tariffs
o does not require inspection by U.S. Customs
Consumer & Producer Surplus
1) consumer surplus – additional benefit
obtained by the buyer of a good
• difference between the maximum that the
buyer is willing to pay and the actual price
• area below demand and above price
2) producer surplus – additional benefit obtained
by the seller of a good
• difference between the minimum that the
seller is willing to accept and the actual price
• area above supply and below price
Consumer & Producer Surplus (cont.)
When combined, the areas of consumer surplus and
producer surplus represent the total welfare to the
nation resulting from the sale of this good.
Tariff Welfare Effects – Small Nation
Before Trade:
U.S. consumer
surplus is area in
red.
U.S. producer
surplus is area in
green.
Tariff Welfare Effects – Small Nation
With Free Trade:
Consumer surplus
increases by areas
a,b,c,d,e,f and g.
Producer surplus
decreases by
areas a and e.
The overall
increase in welfare
is b,c,d and f.
Tariff Welfare Effects – Small Nation
With Tariff:
c = revenue effect =
lost consumer surplus
now government rev.
a = redistributive effect
= shift from consumer
to producer surplus
b + d = deadweight loss
= benefits lost to all
parties
b = protective effect
d = consumption effect
Tariff Welfare Effects – Large Nation
Before Trade:
U.S. consumer
surplus is area in
red
U.S. producer
surplus is area in
green.
Tariff Welfare Effects – Large Nation
With Free Trade:
Consumer surplus
increases
substantially.
Producer surplus
decreases but to a
lesser degree.
The overall
increase in welfare
is b,c,d and the
triangle above.
Tariff Welfare Effects – Large Nation
With Tariff:
c + e = revenue effect
= consumer surplus
now government rev.
a = redistributive
effect = shift from
consumer to producer
surplus
b + d = deadweight
loss = benefits lost to
all parties
b = protective effect
d = consumption
effect above.
Tariff Welfare Effects – Large Nation
Revenue Effect:
In this case there are
two separate portions:
c = domestic revenue
effect = prior U.S.
consumer surplus
e = terms-of-trade
effect = redistribution
of income from foreign
nation
area e > (b+d) leads
to more domestic
welfare
Tariff Burdens on U.S. Exporters
1) cost of inputs: tariffs increase price of imported
raw materials thus increasing the price of
manufacturing using these materials making
U.S. firms less competitive
2) cost of living: tariffs lead to higher prices for
U.S. consumers eventually leading to higher
wages for U.S. workers
3) international repercussions: tariffs decrease
exports from other countries decreasing their
income and ability to purchase U.S. exports
Tariffs and the Poor
o tariffs often applied to low
price products which represent
large share of budgets of lowincome households
o regressive - poor pay greater
tariffs in percentage terms
o high end domestic producers
compete based on prestige
and quality rather than price
so these producers do not
lobby as much for greater
protection from imports
Trade Restriction Arguments
1) job protection
•
•
preserve jobs in some industries but decrease
employment in others
increased cost to consumer greater than average
salary for worker whose job was saved
2) cheap foreign labor
•
•
productivity and cost relevant factors
relevant to labor intensive production only
3) fairness in trade – level playing field
•
•
other nations lack of environmental regulations
response to trade barriers of other nations
Trade Restrictions Arguments (cont.)
4) domestic standard of living
•
restrictions only improve standard of living at the
expense of trading partners
5) equalized production costs
•
•
scientific tariff – tariff to offset cost differentials
subsidizes inefficient domestic production
6) infant industry
•
short run protection for new domestic industries
against developed foreign competition
7) noneconomic arguments
•
national defense and cultural considerations
Political Economy of Protectionism
o protection-biased sector consists of import
competing companies, their workers, and
suppliers to these industries
o free-trade-biased sector consists of exporting
industries, their workers and suppliers to these
industries
o U.S. policy dominated by well organized
special interest groups representing producers
o consumers generally unorganized and diverse
o tariff escalation effect as evidence of this
imbalance
Supply & Demand of Protectionism
greater supply of protection:
1) higher cost to society
2) greater political importance
3) higher adjustment costs
4) greater public sympathy
greater demand for protection:
1) greater comparative disadvantage
2) greater import penetration
3) greater domestic concentration
4) lesser export dependence