International Economics By Robert J. Carbaugh 10th Edition Chapter 4: Tariffs

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 (usually import-competing industries Carbaugh, Chap. 4

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 budget (no longer important in industrial countries) Carbaugh, Chap. 4

Types of tariff Specific tariff Ad valorem tariff Compound tariff Fixed monetary fee per unit of the product Ad valorem tariff Levied as a percentage of the value of the product (much like a sales tax) Compound tariff A combination of the above, often levied on finished goods whose components are also subject to tariff if imported separately Carbaugh, Chap. 4

Selected US tariffs Tariffs Product Duty Rate Brooms 32 cents each Fishing reels 24 cents each Wrist watches (without jewels) 29 cents each Ball bearings 2.4% ad valorem Electrical motors 6.7% ad valorem Bicycles 5.5% ad valorem Wool blankets 1.8 cents/kg + 6% ad valorem Electricity meters 16 cents each + 1.5% ad valorem Auto transmission shafts 25 cents each + 3.9% ad valorem Source: U.S. International Trade Commission, Tariff Schedules of the United States (Washington, DC: U.S. Government Printing Office, 2004); http://www.usitc.gov/taffairs.htm. Carbaugh, Chap. 4

Effective rate of protection 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 Domestic producers may use imported inputs or intermediate goods subject to various tariffs, which affects the calculation Carbaugh, Chap. 4

Effective rate of protection (cont’d) 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 Carbaugh, Chap. 4

Nominal & effective tariff rates Tariffs Nominal & effective tariff rates Product United States Japan European Union Nominal rate (%) Effective rate (%) Agriculture, forestry, fish 1.8% 1.9% 18.4% 21.4% 4.8% 4.1% Food, beverages, tobacco 4.7 10.6 25.4 50.3 10.1 17.8 Textiles 9.2 18.0 3.3 2.4 7.2 8.8 Wearing apparel 22.7 43.3 13.8 42.2 13.4 19.3 Leather products 4.2 5.0 3.0 –14.8 2.0 –2.2 Footwear 15.4 15.7 50.0 11.6 20.1 Wood products 1.6 1.7 0.3 –30.6 2.5 Furniture and fixtures 4.1 5.5 5.1 10.3 5.6 11.3 Paper and paper products 0.2 -0.9 2.1 1.8 5.4 8.3 Printing and publishing 0.7 0.9 0.1 –1.5 -1.0 *Following the completion of the Tokyo Round of Multilateral Trade Negotiations in 1979. Source: Alan Deardorff and Robert Stern, “The Effects of the Tokyo Round on the Structure of Protection,” in R. Baldwin and A. Krueger, The Structure and Evolution of Recent U.S. Trade Policy (Chicago: University of Chicago Press, 1984), 368–377. Carbaugh, Chap. 4

Tariff welfare effects A small country case Price taker A large country case Influence on world price Carbaugh, Chap. 4

Tariff welfare effects 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 Carbaugh, Chap. 4

Consumer and producer surplus Tariffs Consumer and producer surplus Carbaugh, Chap. 4

Tariff trade and welfare effects (small country case) Has no influence over world price Tariff increases => price increases => supply curve shifts Carbaugh, Chap. 4

Tariff trade and welfare effects Welfare effects of tariffs Tariff trade and welfare effects Carbaugh, Chap. 4

Redistribution effect Protective effect Consumption effect Carbaugh, Chap. 4

Results of Tariff Small country case Tariff entirely falls on consumers Nation’s welfare decreases because of deadweight loss Carbaugh, Chap. 4

Tariff on welfare Large country case Has influence on world price Carbaugh, Chap. 4

Tariff trade and welfare effects Welfare effects of tariffs Tariff trade and welfare effects Carbaugh, Chap. 4

Results of Tariff Large country case Redistribution effect Protective effect Revenue effect Consumption effect Carbaugh, Chap. 4

Results of Tariff (large country case)(cont’d) Deadweight loss Domestic consumers pay the bill, well… partially Foreign producers pay another share of the bill National welfare,… depends Carbaugh, Chap. 4

Policy Implication U.S. could increase tariff to a certain level: Optimum tariff However, we should be careful… Carbaugh, Chap. 4

Other impacts of Tariff Export industries face higher costs for inputs Cost of living increases Other nations may retaliate, further restricting trade Carbaugh, Chap. 4

Other impacts of tariff (cont’d) Poor people in U.S. more likely pay the price Young single mothers purchasing at Wal-Mart pay tariff rates 5 to 10 times higher than rich families purchasing at luxury stores. Job protection costs 1 million dollars to save one steel worker’s job (1986). Carbaugh, Chap. 4

ONE MILLION DOLLARS! Carbaugh, Chap. 4