Download or Tariff

Chapter 6
Tariffs
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Topics to be Covered
• Types of Commercial Policies
• Tariffs and Types
• Consumer Surplus vs. Producer Surplus
• Static Gains vs. Dynamic Gains from Free Trade
• Effects of a Tariff
• Small Country vs. Large Country Case
• Deadweight Losses
• Optimal Tariff
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INTRODUCTION
• We have seen that I T leads to the
redistribution of production in an economy.
It also affect the returns paid to factors of
production. For both of these reasons, some
individuals of every society favor gov’t
policies aimed at affecting the volume &
composition of I T.
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Commercial Policy
• Actions taken by government to influence
the country’s volume and composition of
trade. A gov’t has a variety of options in
conducting commercial policy.
• Types of Commercial Policy
–
–
–
–
Tariff
Quota
Subsidy
Nontariff Barriers
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Commercial polcy
• Tariff: A tax imposed by government on
either imports or exports.
• Quota: A government-imposed limit on the
value or quantity of an import or export
good.
• Subsidy: A government payment to a
domestic industry to encourage exports or
discourage imports
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Nontariff Barriers
• A wide range of government policies other
than tariffs designed to affect the volume or
composition of a country’s international
trade
• These NTBs include:
– Health and safety standards
– Government procurement policy
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Gains from Free Trade
• Economic Gains—increase in standard of
living and economic growth that result from
a country’s engaging in free international
trade
– Static Gains
– Dynamic Gains
• Political Gains—increases in well-being that
accrue to a country because expanded trade
and economic interdependency may
increase the likelihood of reduced
international hostility
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FIGURE 6.1 The Gains from Free
Trade
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Static Gains from Free Trade
• Consumption gains
• Production gains
Refer to Figure 6.1 (next slide)
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Dynamic Gains from Free
Trade
• Increases in economic well-being that
accrue to a country because trade
expands the country’s productive
resources or raises resource productivity
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Relationship Between Trade and
Economic Growth
• Trade enhances economic growth through
imports of capital goods.
• Trade enhances international diffusion of
technology.
• Trade is pro-competition.
• Trade expands market size if economies of
scale exist.
• Trade can enlarge the pool of savings
necessary for investment spending.
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TARIFFS: SOME PRELIMINARY
DETAILS
• A tariff is a tax on an imported good
– It affects the domestic consumption of an imported
good
– It affects the domestic production of goods that
compete with the imported good
– It affects the foreign production of the imported
good
– It changes the structure of the domestic economy
• Tariffs are no longer a major form of tax revenue for
the U.S., but they still have important economic
effects
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TARIFFS: SOME
PRELIMINARY DETAILS
• Some tariffs are revenue tariffs which is
a tax levied on a good that is not
domestically produced
• Most common in the developing countries
• In developed countries, protective tariffs
are more common
• Protective tariffs protect a domestic
industry from foreign competition
• In 2006, U.S. tariffs generated tax
revenues of $26.7 billion
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TARIFFS: SOME
PRELIMINARY DETAILS
• Types of Tariffs
– The simplest form is a specific tariff
– This is a per-unit tax on an imported good
– Easy to administer but may not be uniform if
there are large differences in imported prices
– A specific tariff encourages domestic
producers to produce less expensive goods
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TARIFFS: SOME
PRELIMINARY DETAILS
• An ad valorem tariffs is expressed as a
fraction of the value of the imported goods
• It avoids the regressive nature of the
specific tariff but the price becomes an
important factor
• Importers have an incentive to underinvoice the price of the imported good
• Requires knowledgeable customs officials
• Ad valorem tariffs are more difficult for a
country to administer than specific tariffs
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TARIFFS: SOME
PRELIMINARY DETAILS
• A compound tariff is a combination
of an ad valorem and a specific tariff
• Common on agricultural products
whose prices tend to fluctuate
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TARIFFS: SOME
PRELIMINARY DETAILS
Table 7.1 Selected U.S. Tariffs
Product
Duty Rate
Live, Chickens
0.9 cents each
Hams
1.4 cents/kg
Butter
12.3 cents/kg
Rice wine or Sake
3 cents/liter
Cheddar Cheese
16%
Caviar
15%
High Quality Beef Cuts
4%
Photographic Film in Rolls, 35mm
3.7%
Tire of Rubber for Motor Vehicles Radial
4%
Bicycles
11%
Mushrooms
8.8 cents/kg + 20%
Cigars each valued as less that 15 cents
$1.89/kg + 4.7%
Cigarettes, paper-wrapped
41.7 cents/kg + 0.9%
Women’s or Girl’s Overcoats made of wool
55.9 cents/kg + 16.4%
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TARIFFS: SOME
PRELIMINARY DETAILS
• Methods of Valuing Imports
– There are three methods of valuing imports
– The free alongside (F.A.S.) price defines the
price of the imported good as the foreign
country’s market price before loading the
good for shipment to the importing country
– The free on board (FOB) price defines the
price of the imported good as the foreign
country’s market price plus the cost of loading
the good in the means of conveyance
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TARIFFS: SOME
PRELIMINARY DETAILS
• The third method is the cost, insurance, and
freight (C.I.F.) price which is the foreign
country’s market price plus the cost of loading
the goods into the means of conveyance plus
all inter-country transportation costs up to the
importing country’s port of entry
• Most countries use the C.I.F. price for
calculating ad valorem tariffs
• U.S. currently uses the FOB price for
calculating ad valorem tariffs
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U.S. Tariff Schedule
• Column 1 General Rates of Duty (Refer to
Table 6.1)
– Most Favored Nation (MFN) Status—a country
confers MFN status upon another by agreeing
not to charge tariffs on that country’s goods
which are no higher than those it imposes on the
goods of any other country.
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TABLE 6.1 Harmonized Tariff Schedule
of the United States (2008)
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TABLE 6.1 Harmonized Tariff Schedule
of the United States (2008) (cont.)
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U.S. Tariff Schedule (cont.)
• Column 1 Special Rates of Duty—
tariffs applied to goods from many
developing countries or from countries with
special trade agreements with the U.S.
including:
– Generalized System of Preferences (GSP)—a
system in which developed countries charge
preferential lower tariffs on goods from certain
developing countries.
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U.S. Tariff Schedule (cont.)
• Column 2 Rates of Duty—tariffs applied to
goods from countries (Cuba and North
Korea) without U.S.-granted MFN status;
these rates are substantially higher than
MFN rates.
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Tools for Analyzing Tariff
Effects
• Consumer Surplus
• Producer Surplus
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Consumer Surplus
• The difference between the amount
consumers are willing to pay to purchase a
given quantity of a good and the amount
they have to pay to purchase the good
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FIGURE 6.2 Consumer Surplus
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Producer Surplus
• The difference between the price paid in the
market for a good and the minimum price
required by the industry to produce and
market the good
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FIGURE 6.2 Consumer Surplus
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Gains from Free Trade for a
Small Country
• Imports Side
• Exports Side
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Effects of Free Trade on the
Imports Side
•
•
•
•
•
•
•
Refer to Figure 6.4 Gains (imports side)
Price effect
Consumption effect
Production effect
Imports effect
Consumer surplus effect
Producer surplus effect
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FIGURE 6.4 The Gains from Free
Trade (Imports Side)
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Trade Effects on Imports Side
(cont.)
• Net welfare effect
TABLE 6.2 Summary of the Welfare Effects in the Import
Market of a Move to Free Trade
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Effects of Free Trade on Exports
Side
•
•
•
•
•
•
•
Refer to Figure 6.5 Gains (Exports Side)
Price effect
Consumption effect
Production effect
Exports effect
Consumer surplus effect
Producer surplus effect
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FIGURE 6.5 The Gains from Free
Trade (Exports Side)
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Trade Effects on Exports Side
(cont.)
• Net welfare effect
TABLE 6.3 Summary of the Welfare Effects in the Export
Market of a Move to Free Trade
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Effects of a Tariff Imposed by a
Small Country
•
•
•
•
•
•
•
•
Refer to Figure 6.6 Effect of Import Tariff
Price effect
Consumption effect
Production (or protective) effect
Imports effect
Government revenue effect
Consumer surplus effect
Producer surplus effect
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FIGURE 6.6 The Effect of an
Import Tariff
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Welfare Cost of Tariff Imposed
by a Small Country
• Deadweight cost—value of wasted resources
devoted to expanded domestic production
and expenditures devoted to less-desired
substitutes brought about by a tariff
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TABLE 6.4 Welfare Cost of a Tariff
Imposed by a Small Country
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Two Deadweight Costs of the
Tariff
• Refer to Figure 6.7 Deadweight Cost of Tariff
• Production deadweight cost—refers to the protective
effect of the tariff which allows domestic firms to
increase production above free trade levels (area b).
• Consumer deadweight cost—the value of lost consumer
satisfaction due to a shift in consumption to less-desired
substitutes brought on by the higher price (area d).
• Total deadweight cost = ½ x tariff x reduction in
imports
• Consider Global Insights 6.2 for estimates of the welfare
costs of tariffs on U.S. industries
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FIGURE 6.7 Deadweight Cost of
the Tariff
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Export Tariff
• Consider Figure 6.8
• Small country A imposes an export tariff of z
dollars per bushel on its corn exports.
• Effects of the export tariff:
domestic price falls
domestic production falls
domestic consumption rises
exports fall
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FIGURE 6.8 The Effect of an
Export Tariff
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Other Effects of an Export Tariff
•
•
•
•
•
•
See Table 6.5
Producer surplus falls by area (f+g+h+k)
Consumer surplus rises by area f
Government revenue rises by area h
Deadweight costs equal area (g+k)
Read Global Insights 6.1 for real world
examples
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TABLE 6.5 Welfare Cost of an Export
Tariff Imposed by a Small Country
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Free Trade with a Large
Country
• Assume country A is a large country (with
market power) importing from country B
• Equilibrium world price—the price at which
the quantity that consumers in A want to
import is equal to the quantity producers in
B want to export.
• Refer to Figure 6.9 International Free Trade
Equilibrium (next slide)
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FIGURE 6.9 International FreeTrade Equilibrium
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Effects of a Tariff Imposed by a
Large Country
•
•
•
•
•
•
•
•
Refer to Figure 6.10 Tariff for Large Country
Price effect
Consumption effect
Production (or protective) effect
Imports effect
Government revenue effect
Consumer surplus effect
Producer surplus effect
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FIGURE 6.10 Illustration of a Tariff
for a Large Country
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Welfare Effects of a Tariff on a
Large Country
• Because of its market power, the large
country is able to shift part of the burden of
the tariff onto the exporting country.
• The greater the tariff burden or revenue
paid by foreign exporters compared to the
large country’s deadweight costs, the
greater the welfare increase in the large
country (Refer to Table 6.6)
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TABLE 6.6 Welfare Cost of a Tariff
Imposed by a Large Country
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Optimal Tariff
• The size of a tariff that raises the welfare of
a tariff-imposing country by the greatest
amount relative to free-trade welfare levels.
• In this the optimal tariff or the welfare due
to tariff, the larger area $e is, every thing
else held constant, the greater is the
welfare that A’s has increased because of
the imposition of the tariff. Also, the smaller
area $b+d, the greater welfare increase in
A.
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Trade (or Tariff) War
• A general reduction in world trade brought
about by retaliation and increases in trade
barriers around the world.
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Effective Rate of Protection
• The effective rate of protection measures how
much protection a tariff or other trade policy
provides domestic producers.
– It represents the change in value that firms in an industry
add to the production process when trade policy changes.
– The change in value that firms in an industry provide
depends on the change in prices when trade policies
change.
– Effective rates of protection often differ from tariff rates
because tariffs affect sectors other than the protected
sector, causing indirect effects on the prices and value
added for the protected sector.
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Effective Rate of Protection
(cont.)
• For example, suppose that automobiles sell in
world markets for $8,000, and they are made
from factors of production worth $6,000.
– The value added of the production process is
$8,000-$6,000
• Suppose that a country puts a 25% tariff on
imported autos so that domestic auto
assembly firms can now charge up to $10,000
instead of $8,000.
– Auto assembly will occur in the domestic country if
the value added is at least $10,000-$6,000.
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Effective Rate of Protection
(cont.)
• The effective rate of protection for domestic
auto assembly firms is the change in value
added:
($4,000 - $2,000)/$2,000 = 100%
• In this case, the effective rate of protection
is greater than the tariff rate.
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The effective rate of protection takes into
consideration the costs of imported intermediate
goods.
Effective rate of protection = (Vt - Vw)/Vw where Vt
is the value added in the presence of trade
policies, and Vw is the value added without trade
distortions.
NRP= t/p $30/$150=20%
ERP= (Vt - Vw)/Vw (80 – 50)/50 = 60%
ERP ( 10%triff on textiles) = ( 70 – 50)/50 = 40%
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Effects of the Smoot-Hawley Tariff
Act of 1930
• Refer to Global Insights 6.3
• The Tariff Act resulted in average tariff
levels rising to almost 60% and covered
more than 12,000 products.
• Other countries retaliated by raising their
tariff levels.
• World trade and U.S. exports dropped (see
Figure 6.11).
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FIGURE 6.11 The Contracting Spiral of World
Trade, January 1929 to March 1933 (total imports of
75 countries in millions of U.S. dollars)
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How High are Tariffs?
• Refer to Table 6.7 MFN Applied Tariff Rates
• Tariffs for individual products may be different than the
average rates shown.
• The tariffs differ by product (tariffs on agricultural goods
exceed those of manufactured goods).
• Tariffs on manufactured final goods are higher than
those on intermediate goods (tariff escalation by stages
of processing).
• Tariffs are generally lower for high-income countries.
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6-61
FIGURE 6.11 The Contracting Spiral of World
Trade, January 1929 to March 1933 (total imports of
75 countries in millions of U.S. dollars)
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