Transcript Chapter 8

Chapter 8
Analysis of a Tariff
Analysis of a Tariff
A tariff is a tax on importing a good or service into a
country. Types of tariffs:
• Specific tariff is stipulated as a money amount
per unit of import, such as dollars per ton of steel
bars, or dollars per eight-cylinder two-door sports
car.
• Ad valorem tariff is a percentage of the
estimated market value of the imported good
when it reaches the importing country.
• Compound tariff is a combination of specific and
ad valorem tariffs.
© 2016 McGraw-Hill Education. All Rights Reserved.
2
A Preview of Conclusions
• A tariff almost always lowers world well-being.
• A tariff usually lowers the well-being of each nation,
including the nation imposing the tariff.
• The exception is the “nationally optimal” tariff. When
a nation can affect the prices at which it trades with
foreigners, it can gain from its own tariff. (The world
as a whole loses, however.)
• A tariff absolutely helps those groups tied closely to
the production of import substitutes, even when the
tariff is bad for the nation as a whole
© 2016 McGraw-Hill Education. All Rights Reserved.
3
The Effect of a Tariff on Domestic Producers
The U.S. Market for Bicycles with Free Trade:
Domestic producer surplus is area CBA
Domestic consumer surplus is area FEC
© 2016 McGraw-Hill Education. All Rights Reserved.
4
The Effect of a Tariff on Domestic Producers
© 2016 McGraw-Hill Education. All Rights Reserved.
5
The Effect of a Tariff on Domestic Consumers
© 2016 McGraw-Hill Education. All Rights Reserved.
6
The Tariff as Government Revenue
• As long as the tariff is not so high as to
prohibit all imports, it also brings revenue to
the country’s government
– Revenue equals the unit amount of the tariff
times the volume of imports with the tariff (area c
in the diagram)
• This revenue could be used to pay for extra
government spending, matched by an equal
cut in some other tax, or serve as extra
income
© 2016 McGraw-Hill Education. All Rights Reserved.
7
The Net National Loss From a Tariff
• One-dollar, one-vote metric: Every dollar of gain or
loss is just as important as every other dollar of gain or
loss, regardless of who the gainers or losers are.
• Consumption effect of the tariff shows the loss to the
consumers in the importing nation based on the
reduction in their total consumption (area d in the
diagram).
• Production effect of the tariff is the amount by which
the cost of drawing domestic resources away from
other uses exceeds the savings from not paying
foreigners to buy extra units (area b in the diagram).
© 2016 McGraw-Hill Education. All Rights Reserved.
8
Small Importing Country: Net
National Loss from a Tariff
© 2016 McGraw-Hill Education. All Rights Reserved.
9
The Effective Rate of Protection
The effective rate of protection of an individual
country is defined as the percentage by which
the entire set of a nation’s trade barriers raises
the industry’s value added per unit of output.
Effective rate of protection (ERP) =
𝑉 ′− 𝑉
𝑉
where v = value added under free trade and
v’ = value added under tariffs.
© 2016 McGraw-Hill Education. All Rights Reserved.
10
Illustrative Calculation of ERP
𝐸𝑅𝑃𝑏𝑖𝑐𝑦𝑐𝑙𝑒𝑠 =
99 − 80
= 23.8%
80
© 2016 McGraw-Hill Education. All Rights Reserved.
11
Export Tax, Small Country
© 2016 McGraw-Hill Education. All Rights Reserved.
12
Large Country and the Terms of
Trade
• Monopsony power: a nation has a large
enough share of the world market for one of
its imports that changes in the country’s
import buying can noticeably affect the world
price of the product.
• If the country’s demand for imports increases,
its terms of trade deteriorate. If its import
demand decreases, its terms of trade improve.
© 2016 McGraw-Hill Education. All Rights Reserved.
13
The Terms-of-Trade Effect of a Tariff
Imposed by a Large Country
• The large country will import less because the
tariff increases the domestic price, so foreign
firms export less and produce less
• By removing demand pressure on foreign
production, the marginal cost at the smaller
level of foreign production is lower
• With lower marginal cost and weak demand,
foreign firms will compete and lower their
export price
© 2016 McGraw-Hill Education. All Rights Reserved.
14
A Large Country Imposes a Small Tariff
© 2016 McGraw-Hill Education. All Rights Reserved.
15
The Nationally Optimal Tariff
© 2016 McGraw-Hill Education. All Rights Reserved.
16
The Nationally Optimal Tariff
• A nationally optimal tariff is the tariff that
creates the largest net gain [area e −area (b +
d)] for the country imposing it, assuming the
rest of the world is passive.
• The optimal tariff rate, as a fraction of the
price paid to foreigners, equals the reciprocal
of the price elasticity of foreign supply of
home country’s imports.
• Danger: Rest of world is worse off. Risk of
retaliation by foreign country governments.
© 2016 McGraw-Hill Education. All Rights Reserved.
17