Carbaugh, Chap. 4 1 Why restrict trade? Benefits of free trade come in the long term, and are usually spread widely across society Costs of free trade

Carbaugh, Chap. 4 1

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 and scarce factors)

Tariffs

Carbaugh, Chap. 4 2

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

goods, intermediates or raw materials) 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)

Tariffs

Carbaugh, Chap. 4 3

Types of tariff Specific tariff – a fixed monetary fee per unit.

Ad valorem tariff A percentage of the value of the product (like a

sales tax) - FOB vs. CIF

Compound tariff A combination of the above, often levied on

finished goods whose components are also subject to tariff if imported separately

Tariffs

Carbaugh, Chap. 4 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. GovernmentPrinting Office, 2004); http://www.usitc.gov/t affairs.htm.

Carbaugh, Chap. 4 5

Effective rate of protection The impact of a tariff often differs from its stated

nominal tariff rate The effective tariff rate measures the total

increase in domestic production that the tariff makes possible, compared to free trade Measures the degree to which domestic producers can

be less efficient compared to foreign producers.

Domestic producers may use imported inputs which are subject to tariffs, so calculation of the effective tariff rate is not simple

Tariffs

Carbaugh, Chap. 4 6

Effective rate of protection te = (tnom – ti*a)/(1 – a)

a = value imports/value final good ti = tariff rate on imported inputs

te = value added/(original value added) The higher ti (tariff on imported inputs), the

lower the effective tariff since domestic producers pay more for their inputs.

If imported inputs have low duties and final goods have high duties then the effective tariff rate is high; called tariff escalation.

Carbaugh, Chap. 4 7

Example

Free trade price $100, inputs $80; ti = 0%.

Free Trade: Domestic Foreign

Components $ 80 $ 80

Value added $ 20 $ 20

Price $100 $100

Carbaugh, Chap. 4 8

Ad valorem final good tariff = 10%; Price = $110 Tariff: Domestic Foreign



Tariff ------- $ 10

Price $110 $110

te = value added/value added = ($30 - $20)/$20 = 0.5 or 50% effective tariff rate.

te = (tnom – ti*a)/(1 – a) = {0.1 – (0)*(0.80)}/(1 – 0.80) = 0.1/0.2 = 0.5 = 50% effective tariff rate.

Carbaugh, Chap. 4 9

Tariff on inputs: ti = 10%

Tariff: Domestic Foreign



Tariff ------- $ 10

Price $110 $110

te = value added/value added = ($22 - $20)/$20 = 0.1 or 10% effective tariff rate.

te = (tnom – ti*a)/(1 – a) = {0.1 – (0.10)*(0.80)}/(1 – 0.80) = 0.02/0.2 = 0.10 = 10% effective tariff rate.

Carbaugh, Chap. 4 10

Nominal & effective tariff ratesTariffs

Product United States Japan European Union

Nominal rate (%)

Effective rate (%)

Nominal rate (%)

Effective rate (%)

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 8.8 15.4 15.7 50.0 11.6 20.1

Wood products 1.6 1.7 0.3 –30.6 2.5 1.7

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 2.1 -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, TheStructure and Evolution of Recent U.S. Trade Policy (Chicago: University of Chicago Press, 1984), 368–377.


Who pays for import restrictions? Domestic consumers face increased costs

Low income consumers are especially hurt by tariffs on low-cost imports

Overall the economy suffers DWL due to production and consumption effects

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


Import quotas Quotas are a restriction on the quantity of a

good that may be imported in any one period (usually below free-trade levels)

Global quotas restrict the total quantity of an import, regardless of origin

Selective quotas restrict the quantity of a good coming from a particular country

Types of non-tariff barriers


Tariff-rate quota The tariff-rate quota is a two-tiered tariff

A specified number of goods (up to the quota limit) may be imported at one (lower) tariff rate, while imports in excess of the quota face a higher tariff rate



Domestic content requirements Rules that require a certain percentage of a

product’s total value to be produced domestically

Often has the effect of forcing lower-priced imports to include higher-cost domestic components or be assembled in a higher-cost domestic market



Domestic content: trade & welfare effects



Subsidies Domestic subsidy

Payments made to import-competing producers to raise the price they receive above the market price

Export subsidy Payments and incentives offered to export

producers intended to raise the volume of exports



Dumping The practice of selling a product at a lower

price in export markets than at home (or exporting at prices below production cost) Sporadic dumping - to clear unwanted

inventories or cope with excess capacity Predatory dumping - to undermine foreign

competitors Persistent dumping - reaping greater profits by

engaging in price discrimination



Other NTBs Government procurement policies Social regulations (health, environmental

and safety rules can also restrict trade) Sea transport and freight restrictions



Case for Free Trade Not based on claim that everyone is better

off with free trade Modern case against free trade is based

on: The infant industry argument, The terms of trade argument, Arguments concerning income redistribution


Case for Free Trade Consumption Efficiency Production Efficiency Compensation Principle: TAA for displaced

workers Introduces competition into imperfectly

competitive markets Helps country avoid tit-for-tat retaliation Reduces interest group lobbying


Case Against Selected Protectionism 1) Potential reactions by others in response

to a country's protection, 2) Superior policies to raise economic

efficiency relative to a trade policy, 3) Information deficiencies which can inhibit

the implementation of appropriate policies, 4) Problems created by lobbying within

democratic political systems.

Documents

Carbaugh, Chap. 4 1 Why restrict trade? Benefits of free trade come in the long term, and are usually spread widely across society Costs of free trade