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Export Subsidy: Two Countries
Udayan Roy
http://myweb.liu.edu/~uroy/eco41
September 2006
Price (in Europe)
A
B C
E
D
F G
H IJ
Europe Japan Quantity
Japan implements an export subsidy
This causes its supply to, in a sense, fall by the extent of the subsidy.
The price for Japan’s producers increases, but by less than the subsidy.
The price in Europe falls.
Exports
Imports
Net Trade
Export Subsidy: Two Countries CaseEurope Japan
Before After Before After
Consumer Surplus
A ABC F FHI
Producer Surplus
BD D HJ EFHJ
Subsidy -- -- -- -EFGHI
Total Surplus ABD ABCD FHJ FHJ-G
Export Subsidies Create Fake Trade
• Subsidies are the opposite of a tax; they reward rather than punish
• Export subsidies reward domestic producers for the goods that they export
• This artificially boosts the nation’s levels of trade
• The country may export its entire output of a commodity and then import back the same commodity for its own use!
Fake Trade is Bad
• The fake trade induced by export subsidies reduces the nation’s welfare (by G) and …
• … may even leave it worse off under trade than in autarky
Gains and Losses
• When a country imposes an export subsidy, it is affected as follows:– Producers gain (EF)– Consumers gain (HI)– The country as a whole loses (G), because
the cost of the subsidy (EFGHI) are not worth the benefits (EFHI)
Gains and Losses
• When a country imposes an export subsidy, the other country is affected as follows:– The price of its imported good decreases. As
a result, – Consumers gain (BC)– Producers lose (B)– The country as a whole is better off (C)
Export Subsidy and Welfare
• When one country implements an export subsidy, that country is worse off (G)
• The other country is better off (C)
• The losses of the worse-off country (G) are larger than the gains of the better-off country (C). So, the world as a whole is worse off.
Textbook
• For more on this topic, see “Export Subsidies: Theory” in Chapter 8, pages 197-199.