International EconomicsBy Robert J. Carbaugh

8th Edition

Chapter 5:

Tariffs

Why restrict trade?

• Benefits of free trade come in the long term, and are usually spread widely across society

• Costs of free trade are felt rapidly and are usually concentrated in specific sectors of the economy

Tariffs

Defining tariffs• A tariff is a tax (duty) levied on products as

they move between nations– Import tariff - levied on imports– Export tariff - levied on exported goods as they

leave the country– Protective tariff - designed to insulate domestic

producers from competition– Revenue tariff - intended to raise funds for the

government (no longer important in industrial countries)

Tariffs

Types of tariff

• Specific tariff– Fixed monetary fee per unit of the product

• Ad valorem tariff– Levied as a percentage of the value of the product

• Compound tariff– A combination of the above, often levied on finished

goods whose components are also subject to tariff if imported separately

Tariffs

Effective rate of protection

• The impact of a tariff is often different from its stated amount

• The effective tariff rate measures the total increase in domestic production that the tariff makes possible, compared to free trade

Tariffs

Effective rate of protection (cont’d)

• When tariff rates are low on raw materials and components, but high on finished goods, the effective tariff rate on finished goods is actually much higher than it appears from the nominal rate

• This is referred to as tariff escalation

Tariffs

Avoiding and postponing tariffs (US)

• Production sharing and special treatment for foreign assembly

• Bonded warehouses

• Foreign trade zones

Tariffs

Tariff welfare effects

• Consumer surplus– The difference between the price buyers would

be willing to pay and what they actually pay

• Producer surplus– The revenue producers receive above the

minimum amount required to induce them to produce a good

Tariffs

Consumer and producer surplus

Tariffs

Tariff trade and welfare effectsWelfare effects of tariffs

Tariff trade and welfare effectsWelfare effects of tariffs

Who pays for import restrictions?

• Domestic consumers face increased costs– Low income consumers are especially hurt by

tariffs on low-cost imports

• Overall net loss for the economy (deadweight loss)

• Export industries face higher costs for inputs• Cost of living increases• Other nations may retaliate, further restricting

trade

Tariff effects

Arguments for trade restrictions

• Job protection

• Protect against cheap foreign labor

• Fairness in trade - level playing field

• Protect domestic standard of living

• Equalization of production costs

• Infant-industry protection

• Political and social reasons

Reasons for tariffs

Politics of protectionism

• “Supply” of protectionism (trade policy) depends on:– the cost to society of restricting trade– the political importance of the import-

competing industries– Magnitude of the adjustment costs from free

trade– Public sympathy for those sectors hurt by free

trade

Reasons for tariffs

Politics of protectionism

• “Demand” for protectionism depends on:– The amount of the import-competing industry’s

comparative disadvantage– The level of import penetration– The level of concentration in the affected sector– The degree of export dependence in the sector

Reasons for tariffs