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Tutorial on Partial Equilibrium Modeling:
Import Tariff by a Large Country
Importer
The Microeconomics of International Trade
ECN 230
Roberto J. Garcia
School of Economics and Business, UMB
Economic effects of a specific tariff
Specific tariff
A per unit tax on imports (e.g., 30kr/kg) such that
the difference between the domestic price and the
world price is equal to 0, i.e., (PD)1 - (PW)1 = 0.
A tariff has implications for prices, which affects
economic behavior and welfare. The economic
effects are studied by analyzing the change in
prices on:
Production, consumption and trade patterns, and
Producer and consumer welfare and government's
budgetary position (i.e., expenditures and revenue).
2
Economic effects of a specific tariff
Market analysis
Analyzing the production, consumption and trade
effects: the perspective of the importing country
Importer's domestic market
P
S
World market
PW
[PD]1
[PD]1
PW
PW
[PW]1
ES
[PW]1
D
[QS]0 [QS]1 [QD]1[QD]0


Q
ED1
[QM]1 [QT]0

ED
QT
3
Economic effects of a specific tariff
Economic intuition and expectations
Regardless of the reason a tariff is applied, the result is a
reduction in the quantity imported (ED shifts to the left)
• The world price decreases (PW) because a large buyer on the
international market reduces demand, i.e., a TOT effect.
• The internal price in the importer’s market increases (PD)
because there is greater scarcity of the good in the domestic
market.
Producers and consumers react to the change in the
domestic price, from PW to [PD]1.
• Producers respond to price increases by increasing output, QS.
• In partial equilibrium analysis, a price increase is expected to
result in a decrease in consumption, QD.
Government collects tariff revenue which is equal to the
tariff rate, τ0, times the quantity imported, [QD - QS]1.
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Economic effects of a specific tariff
Welfare analysis
Analyzing economic costs and income transfers
among producers, consumers, traders and the
government: the importing country's perspective
Importer's market
P

τ0
[PD]1
PW
 [P ]
W 1
S
b
a
Welfare analysis
Δ CS
- (a+b+c+d)
Δ PS
+ (a)
ΔG
+ (c+e)
d
c
e
Δ NSW - (b+d) + (e)
D
[QS]0 [QS]1 [QD]1[QD]0
Q
5
Economic effects of a specific tariff
Economic interpretation of welfare areas
Area 'a' represents the value lost by consumers that is
gained by producers, i.e., a tax on consumers; it is an
income transfer from the consumer to the producer.
Area 'b' represents a part of the total value lost by the
consumers that is not transferred to any other economic
agent in the economy; it is a "dead-weight loss" (DWL)
in production.
• The DWL in production is the cost to society of producing
more the good in which the country has a comparative
disadvantage.
• The increased production reflects a misallocation of resources
because resources are being used inefficiently.
Area 'c' represents the value lost by consumers that is
gained by government; it is an income transfer from the
consumer to the government in the form of a tax.
6
Economic effects of a specific tariff
Area 'd' represents part of the value lost by consumers
that is not transferred to any other economic agent; it is
a "dead-weight loss" (DWL) in consumption.
• The DWL in consumption is the cost to society of consuming
less of the imported good as a result of distorted prices.
• The decreased expenditures reflects a misallocation of
resources in consumption (ie, a non-optimal consumption mix).
Area 'e' represents revenue that is collected by the
government, along with area 'c', from the tariff; the total
revenue is (c+e) which is equal to {[PD]1 – [PW]1} x
[QM]1; however, area 'e' is an income transfer from the
exporter to the government resulting from the TOT
effect of the tariff (i.e., the policy-induced reduction in
demand by a large international buyer that lowered PW).
The net effect of the tariff on the importer is uncertain
because the negative DWLs can be offset by the income
transfer from the exporting country.
7
Economic effects of a specific tariff
Market analysis
Analyzing the production, consumption and trade
effects: the perspective of the exporting country
World market
Exporter's domestic market
P
PW
D
S
ES
PW
PW
[PW]1
[PW] 1
ED1
[QT] 1 [QT]0
ED
QT
[QS]0 [QS]1[QD]1 [QD]0


Q
8
Economic effects of a specific tariff
Economic intuition and expectations
Regardless of the reason a tariff is applied, the result is a
reduction in the quantity imported. (Graphically, ED
shifts to the left by the per unit rate of duty.) It is
assumed that the export-country government does not
take any policy action to counter the tariff.
• The world price decreases (PW) because a large buyer on the
international market reduces demand.
• The internal price in the exporter’s market is the world price
because no policy action has been taken.
Producers and consumers react to the change in the
domestic price, from PW to [PW]1.
• Producers respond to price decreases by decreasing output, QS.
• In partial equilibrium analysis, a price decrease is expected to
result in an increase in consumption, QD.
Because the export-country government took no action,
there are no budgetary outlays on or revenues collected
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from the exported good.
Economic effects of a specific tariff
Welfare analysis
Analyzing economic costs and income transfers
among producers, consumers, traders and the
government: the exporting country's perspective
Exporter's domestic market
P
D
S
PW
[PW]1
Welfare analysis
Δ CS
+ (1)
Δ PS
- (1+2+3+4)
ΔG
0
1
2
3
4
Δ NSW
[QD]0[QD]1[QS]1 [QS]0
Q
- (2+3+4)
10
Economic effects of a specific tariff
Economic interpretation of welfare areas
Area '1' represents the value gained by consumers from
the lower price; it is an income transfer from producers
to consumers.
Area '2' represents a part of the total value lost by the
producer that is not transferred to any other economic
agent in the economy; it is a "dead-weight loss" (DWL)
in consumption.
• The DWL in consumption is the cost to society of consuming
more the exportable good and becoming less reliant on trade.
• The increased consumption reflects a misallocation of
resources because the world price has been distorted.
Area '3' represents the value lost by producers that is
gained by the importing government; it is an income
transfer from the producer/exporter to the importer's
government in the form of a tax as a result of the TOT
effect.
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Economic effects of a specific tariff
Area '4' represents a part of the value lost by the
producers that is not transferred to any other economic
agent in the economy; it is the "dead-weight loss"
(DWL) in production.
• The DWL in production in the exporting country is the cost to
society of producing too little of the exportable good, the good
in which the country has a comparative advantage.
• The decreased production reflects a misallocation of resources
away from the export sector, stifling the specialization process.
The net effect of the tariff on the exporting country is
negative, resulting in the DWLs and an income transfer
to the importing country
12
Economic effects of a specific tariff
Net world welfare effects
Internal domestic transfers,
DWLs and international transfers
Δ NSW
Importer
Importer's market
P
Exporter's market
Exporter
P
S
D
d
[PD]1
PW
[PW]1
S
a
4
b c
e
PW
[PW]1
1
World
- (b+d)
+ (e)
- (2+4)
- (3)
(e) = (3)
- (b+d)
- (2+4)
2 3
D
[QS]0 [QS ]1[QD]1[QD]0
Q
[QD]0 [QD]1[QS]1 [QS]0
Q
13
Economic effects of a specific tariff
Concluding comments
The import tariff by a large country results in a TOT effect
that affects importers and exporters differently:
1. A decrease in the world price benefits the importing country(ies)
at the expense of the exporting country(ies)
2. The higher domestic price in the importing country is a price
support to domestic producers which is paid by domestic
consumers.
3. The lower world price in the importing country is a tax on
producers/exporters, but benefits consumers in the exporting
country.
4. Part of the revenue collected by the importing country's
government is an international income transfer from the
producers/exporters, i.e, it is a tax by the importer on the exporter.
5. The net effect of the tariff on the world economy is an
international income transfer and a series of DWLs in production
and consumption in both the importing and exporting country
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because prices have been distorted.