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Chapter 6 -- Tariffs

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Title: Chapter 6, Husted and Melvin Subject: International Trade Author: John D. Eastwood Last modified by: eastwood-j Created Date: 6/16/1997 2:53:50 PM – PowerPoint PPT presentation

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Title: Chapter 6 -- Tariffs


1
Chapter 6 -- Tariffs
  • INTERNATIONAL ECONOMICS,ECO 486
  • Draft simplified harmonized uniform tariff
    schedule (HTS) for UShttp//www.usitc.gov/sec/I0
    326w2m.htm

2
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

3
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

4
Gains from Trade
  • Static Gains (PPF doesnt shift)
  • Consumption gains
  • Production gains
  • Dynamic Gains (PPF does shift)
  • Trade expands resources
  • Trade may raise productivity
  • Political Gains

5
Consumption Production Gains
rF
C
B
CIC2
A
CIC1
TEXTILES, T (yards per year)
CIC0
X
0
SOYBEANS, S (bushels per year)
6
Consumption Production Gains
(PS/PT )F rF slope of terms of trade line
rF
C
A to B shows consumption gains B to C shows
production gains
B
CIC2
A
CIC1
TEXTILES, T (yards per year)
CIC0
X
0
SOYBEANS, S (bushels per year)
7
Dynamic Gains from Trade
  • Trade may speed economic growth

8
Dynamic Gains from Trade
  • Trade may speed economic growth
  • When more K goods are imported than produced in
    autarky, PPF shifts out.
  • Trade diffuses new technology.
  • Trade raises real income. Savings rise.
  • Free trade an effective anti-trust policy
  • Trade expands the market, allowing firms to
    exploit IRS.
  • When trade spurs development, decreasing-costs
    may occur.

9
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

10
Commercial Policy
  • Governments action that may change the
    composition and volume of trade flows
  • Tariffs
  • Quotas
  • Subsidies
  • Other non-tariff barriers
  • Well analyze the cost benefits of these

11
Tariffs
  • Taxes on
  • Imports
  • Exports
  • Subsidies
  • Components -- See Table 6.1, page 153
  • Ad valorem-- of value
  • Specific -- flat fee per unit
  • Compound -- both

12
Positive Effects of Tariffs
  • Revenue Effect -- provide tax revenue
  • Protective Effect -- shelter domestic producers
    from foreign competition

13
Tariff Terminology
  • A pure-revenue tariff is one imposed on a good
    not produced domestically
  • A tariff on bananas imported to Iceland
  • A prohibitive tariff is one that is so high that
    none of the good is imported
  • no revenue is collected

14
Uses of Tariffs
  • Developing countries may rely on tariffs to
    provide tax revenue
  • Developed countries impose tariffs for their
    protective effect

15
Tariffs as tools of intl policy
  • Most Favored Nation status, MFN
  • granted as a reward, withheld as a punishment
  • Generalized System of Preferences, GSP
  • Most developed countries have GSP as means of
    helping developing countries
  • access to markets of developed countries

16
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

17
Welfare Cost Analysis
  • Use (National) Supply and Demand
  • Partial equilibrium
  • One import or export good
  • Measure Changes in Consumer Surplus and Producer
    Surplus
  • Start with a small country
  • Its trade is too small to affect terms of trade

18
Gains from free trade -- imports
10
Price ( per bushel of grapes)
6
3
2
0
4
1
10
7
Quantity (millions bushels of grapes per year)
19
Gains from free trade -- imports
Domestic Supply of grapes
10
Price ( per bushel of grapes)
6
a
b
c
3
World price of grapes
2
Domestic demand for grapes
0
4
1
10
7
Quantity (millions bushels of grapes per year)
20
Welfare of a Move to Free TradeA Small Countrys
Imports
21
Welfare of a Move to Free TradeA Small Countrys
Imports
22
Gains from free trade -- exports
10
9
Price ( per jar of honey)
6
2
0
4
1
10
7
Quantity (millions jars of honey per year)
23
Gains from free trade -- exports
Domestic Supply of honey
10
9
World price of honey
Price ( per jar of honey)
g
e
f
6
2
Domestic demand for honey
0
4
1
10
7
Quantity (millions jars of honey per year)
24
Welfare of a Move to Free TradeA Small Countrys
Exports
25
Welfare of a Move to Free TradeA Small Countrys
Exports
26
Welfare Cost of a Tariffon Imports -- Small
Country
10
Price ( per bushel of grapes)
5
3
2
0
1
10
7
3
5
Quantity (millions bushels of grapes per year)
27
Welfare Cost of a Tariff on Imports -- Small
Country
Domestic Supply of grapes
10
Price ( per bushel of grapes)
5
World price tariff 2/bu
c
a
b
d
3
World price of grapes
2
Domestic demand for grapes
0
1
10
7
3
5
Quantity (millions bushels of grapes per year)
28
Welfare Cost of a Tariff on Imports -- Small
Country
Loss 0.5 x tariff x change in imports
29
Welfare Cost of a Tariff on Imports -- Small
Country
Loss 0.5 x tariff x change in imports
30
Welfare Cost of a TariffSmall Country
Domestic Supply of grapes
10
Price ( per bushel of grapes)
5
World price tariff 2/bu
c
b
d
3
World price of grapes
2
Domestic demand for grapes
0
1
10
7
3
5
Quantity (millions bushels of grapes per year)
31
Welfare Cost of a Tariff on Imports -- Small
Country
Domestic Supply of grapes
10
Price ( per bushel of grapes)
5
World price tariff 2/bu
a2
c
a1
b
d
3
World price of grapes
2
Domestic demand for grapes
0
1
10
7
3
5
Quantity (millions bushels of grapes per year)
32
Export Tariff -- Small Country
Domestic Supply of honey
10
9
Price ( per jar of honey)
6
2
Domestic demand for honey
0
4
1
10
7
Quantity (millions jars of honey per year)
33
Export Tariff -- Small Country
Domestic Supply of honey
10
9
PW
d
b
c
a
Price ( per jar of honey)
PW -T
6
2
Domestic demand for honey
0
4
1
10
7
Quantity (millions jars of honey per year)
34
Welfare Cost -- Export TariffSmall Country Case
35
Welfare Cost -- Export TariffSmall Country Case
36
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

37
Intl Free Trade Eq. Large Country
Price ( per lb.)
PA
PB
0
0
Quantity (lb. of Lobster per year)
38
Intl Free Trade Eq. Large Country
Price ( per lb.)
As Supply of L
Bs Supply of L
PA
PFT
PFT
PB
As demand for L
Bs demand for L
0
0
Q1
Q2
Q1
Q2
Quantity (lb. of Lobster per year)
39
Learning Objectives
  • Derive import demand export supply
  • Review the welfare cost of tariffs
  • Learn elasticity of import demand export supply
  • Determine the incidence (burden) of a tariff

40
Import Demand
Price ( per lb.)
Price ( per lb.)
As Supply of Lobster
PA
PA
PFT
PB
PB
As demand for Lobster
0
0
M QD - QS
Quantity (lb. of Lobster per year)
41
Import Demand
Price ( per lb.)
Price ( per lb.)
As Supply of Lobster
PA
PA
PFT
PB
PB
As demand for imported lobster (excess demand)
slope rise/(sum of runs)
As demand for Lobster
0
0
M QD - QS
Quantity (lb. of Lobster per year)
42
Export Supply
Price ( per lb.)
Bs Supply of L
PA
PB
PB
Bs demand for L
0
0
QD
QS
X QS - QD
Quantity (lb. of Lobster per year)
43
Export Supply
Bs Supply of exports, excess supply slope
rise/(sum of runs)
Price ( per lb.)
Bs Supply of L
PA
PB
PB
Bs demand for L
0
0
QD
QS
X QS - QD
Quantity (lb. of Lobster per year)
44
Export Supply Import Demand
Price ( per lb.)
Export Supply, X
PA
PFT
PFT
PB
Import Demand, M
0
0
M Q2 - Q1
Quantity (lb. of Lobster per year)
45
Export Supply Import Demand
Price ( per lb.)
Bs Supply of L
Export Supply, X
PA
PFT
PFT
PB
PB
Import Demand, M
Bs demand for L
0
0
Q1
Q2
0
M Q2 - Q1 X Q2 - Q1
Quantity (lb. of Lobster per year)
46
Optimal Tariffs
  • Large countries may export part of their
    tariff.
  • Because they are important customers, they force
    foreign supplier to cut price.
  • The optimal tariff maximizes the net welfare
    change
  • Retaliation is likely to offset this gain

47
Equilibrium with a Tariff Large Country
Price ( per lb.)
As Supply of L
Bs Supply of L
P
PFT
PFT
P
P
As demand for L
Bs demand for L
0
0
Q1
Q3
Q4
Q2
Q1
Q2
Q3
Q4
Quantity (lb. of Lobster per year)
48
Equilibrium with a Tariff Large Country
Price ( per lb.)
As Supply of L
Bs Supply of L
P
a
c
b
d
PFT
PFT
j
i
e
e
h
P
P
As demand for L
Bs demand for L
0
0
Q1
Q3
Q4
Q2
Q1
Q2
Q3
Q4
Quantity (lb. of Lobster per year)
49
As Welfare Cost -- Import TariffImposed by
Large Country, A
50
As Welfare Cost -- Import TariffImposed by
Large Country, A
51
Bs Welfare Cost from As TariffImport Tariff
Imposed by A
52
Bs Welfare Cost from As TariffImport Tariff
Imposed by A
53
World Welfare Cost of As Tariff
54
World Welfare Cost of As Tariff
55
World Welfare Changes
  • Tariff raises the price in A to PW T
  • Tariff lowers the world price to PW
  • Tariff reduces the quantity world trade from MFT
    to MT
  • Welfare loss area, f bd
  • Welfare loss area, g ij

56
Export Supply Specific Tariff, T
Price ( per lb.)
T
Export Supply, X
T
Import Demand, M
0
MFT
Quantity (lb. of Lobster per year)
57
Export Supply Specific Tariff, T
Price ( per lb.)
X TARIFF, T
T
Export Supply, X
PA
PW T
f
PFT
g
PW
T
PB
Import Demand, M
0
MFT
MT
Quantity (lb. of Lobster per year)
58
Graphing Tariffs
  • Specific tariff raises the y-intercept of the
    export supply curve,
  • p a b q
  • p T a b q T
  • Ad-valorem tariff raises the slope and
    y-intercept of the export supply curve
  • p a b q
  • p (1 t) (a b q) (1 t) (1 t) a (1
    t) b q

59
Export Supply with Ad-Valorem Tariff, t
Price ( per lb.)
X(1t)
Export Supply, X
PA
PW T
f
PFT
g
PW
PB
Import Demand, M
0
MFT
MT
Quantity (lb. of Lobster per year)
60
Price Elasticity of Demand, ed
  • ed and slope are inversely related.

61
The Price Elasticity of Supply, es
  • The formula for price elasticity of supply, es,
    at a point is shown below. Note that its the
    same as the formula for ed , but lacks the
    absolute value notation

62
Import Demand Elasticity, em
  • The formula for price elasticity of import
    demand, em, at a point is shown below. Q is the
    quantity of imports P is the price DP is the
    change in price DQ is the change quantity
    imported

63
Import Demand Elasticity, em
  • The formula for price elasticity of import
    demand, em, at a point is shown below
  • Qm is the quantity of imports Qd is the quantity
    demanded Qs is the quantity supplied

64
Interpreting em
  • em is directly related to As ed and es
  • em is inversely related to the share of imports
    in As consumption and production

65
Export Supply Elasticity, ex
  • The formula for price elasticity of export
    supply, ex, at a point is shown below. Q is the
    quantity of exports P is the price DP is the
    change in price DQ is the change quantity
    exported

66
Export Supply Elasticity, ex
  • The formula for price elasticity of export
    supply, ex, at a point is shown below.
  • Qx is the quantity of exports Qd is the quantity
    consumed Qs is the quantity produced

67
Interpreting ex
  • ex is directly related to Bs ed and es
  • ex is inversely related to the share of exports
    in Bs consumption and production

68
Export Supply Specific Tariff, T
PA
X TARIFF, T
PW T
T
f
As burden, b
PFT
Export Supply, X
g
PW
PB
Import Demand, M
0
MFT
MT
Quantity (lb. of Lobster per year)
69
Compare em and ex to determine As burden, b
0b1
  • When em ex , b _____
  • When em gt ex , b _______
  • When em lt ex , b _______

70
Compare em and ex to determine As burden, b
0b1
  • When em ex , b 0.5
  • When em gt ex , b lt 0.5
  • When em lt ex , b gt 0.5

71
Differing em
PA
X TARIFF, T
PW T
T
Export Supply, X
f
As burden, b
PFT
g
PW
Elastic M
Bs burden, 1- b
PB
Inelastic M
0
MFT
MT
Quantity (lb. of Lobster per year)
72
Differing ex
PA
Inelastic X T
Elastic X T
T
Inelastic X
PW T
f
As burden, b
PFT
Elastic X
g
PW
PB
T
Import Demand, M
0
MFT
MT
Quantity (lb. of Lobster per year)
73
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

74
Nominal Effective Rates of Protection
  • t tariff
  • P price of good
  • v domestic value added with free trade
  • v domestic value added with tariff

75
Nominal Effective Rates of Protection
  • t tariff
  • P price of good
  • v domestic value added with free trade
  • v domestic value added with tariff

76
Effective Rate of Protection
  • gj Effective Rate of Protection on final
    product j
  • tj nominal tariff rate on final product j
  • ti nominal tariff rate on imported input I
  • aij share of I in the total value of J in the
    absence of tariffs

77
Welfare Cost of Tariffs as a Percentage of GDP
  • Traditional Square the tariff rate
  • Ten percent tariff reduces GDP by 1
  • Tariffs NTBs often exclude new goods
  • GDP loss almost twice the tariff rate

78
Welfare Cost of Tariffs as a Percentage of GDP
  • Traditional Square the tariff rate
  • Ten percent tariff reduces GDP by 1
  • Tariffs NTBs often exclude new goods
  • GDP loss almost twice the tariff rate
  • Ten percent tariff lowers GDP by 19.8
  • Twenty-five percent tariff lowers GDP by 47

79
Learning Objectives
  • Reprise the gains from trade
  • Become familiar with tariffs
  • Analyze the welfare cost of tariffs
  • Determine the optimal tariff
  • Explain the effective rate of protection
  • Learn the imperfect substitutes model

80
Imperfect Substitutes
  • Increased trade in final products relative to raw
    materials and intermediate goods
  • A final-good import and competing domestic
    products are often imperfect substitutes
  • Tariff increases demand for the domestic good
  • Increased price of domestic good increases demand
    for the import
  • Welfare cost is more difficult to estimate

81
Imperfect Substitutes Small Country -- Free
Market
SD
Price
Price of Import
PD
PM
SM
DM
DD
0
0
QM
QD
Quantity of Imports
Quantity of Domestic Substitute
82
Imperfect Substitutes Small Country -- Tariff
SD
Price
Price of Import
m
i
k
SM
j
f
n
h
l
tariff
SM
e
g
r
DD
DM
DM
DD
0
0
QD
QM
QM
QM
QD
Quantity of Imports
Quantity of Domestic Substitute
83
Welfare Cost of a TariffImperfect Substitutes
84
Welfare Cost of a TariffImperfect Substitutes
85
Review homework
86
Trade with a TariffVersus Autarky
Domestic Supply of grapes
10
Price ( per bushel of grapes)
6
e
d
5
World price tariff 2/bu
3
World price of grapes
2
Domestic demand for grapes
0
1
10
7
3
5
Quantity (millions bushels of grapes per year)
87
Pure Revenue TariffVersus Free Trade
Domestic Supply of grapes lies along y-axis
10
Price ( per bushel of bananas)
a
5
World price tariff 2/bu
b
c
3
World price of bananas
2
Icelands demand for bananas
0
1
10
7
3
5
Quantity (millions bushels of bananas per year)
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