2 Tariffsdefinition – tax levied on a good when it crosses a national borderimport tariff – much more commonexport tariff – less common; revenue sourcepurposesprotective tariff – designed to reduce the amount of imports entering a country; increase sales for domestic producersrevenue generation – designed to generate additional funds for domestic government
3 Types of Tariffsspecific tariff – fixed monetary amount per unit of the imported goodad valorem tariff – fixed percentage of the value of the imported goodcustoms valuation – process of determining the value of an imported goodfree-on-board (FOB) valuation – tariff applied as product leaves countrycost-insurance-freight (CIF)valuation – tariff applied as product enters countrycompound tariff – combines the elements of specific and ad valorem tariffs
5 Effective Rate of Protection nominal tariff rate – based on tariff applied to value of finished producteffective tariff rate – based on tariff applied to finished product and imported inputsn = nominal tariff rate on final producta = ratio of value of imported input to value of finished product (prior to tariffs)b = nominal tariff rate on imported input(n-ab)(1-a)effective rate of protection = e =
8 Tariff Escalationtariff escalation – higher tariffs on intermediate and finished goods and lower tariffs on raw materialsincentive for developing nations to expand production of raw materialsdisincentive for developing nations to compete in market for finished goods
9 Offshore Assembly Provision (OAP) outsourcing – aspects of production process occur in another countrylow cost, labor intensive productsOAP – tariffs applied only to portion of production occurring in another countryreduces effective tariff rate for domestic consumersincentive for foreign producers to use U.S. components in productiondetrimental to U.S. workers who also produce the same finished goods
10 Dodging Import Tariffs tariff avoidance – legal method of reducing or eliminating the amount paid in tariffsexample: Brazilian raw sugar shipped to Caribbean and refined there into ethanol then imported to the U.S. duty freetariff evasion – illegal means of reducing or eliminating tariffsexamples:false reclassification of productsfalsification of country of originaltering composition of product itself
11 Postponing Import Tariffs Bonded Warehouselocation maintained by importers ensuring that all customs obligations will be satisfiedgoods may be stored for maximum of 5 yearsrequires inspection by U.S. Customs ServiceForeign-Trade ZoneU.S. site at which foreign merchandise can be imported without immediate payment of duties or tariffsdoes not require inspection by U.S. Customs
12 Consumer & Producer Surplus 1) consumer surplus – additional benefit obtained by the buyer of a gooddifference between the maximum that the buyer is willing to pay and the actual pricearea below demand and above price2) producer surplus – additional benefit obtained by the seller of a gooddifference between the minimum that the seller is willing to accept and the actual pricearea above supply and below price
13 Consumer & Producer Surplus (cont.) When combined, the areas of consumer surplus and producer surplus represent the total welfare to the nation resulting from the sale of this good.
14 Tariff Welfare Effects – Small Nation Before Trade:U.S. consumer surplus is area in red.U.S. producer surplus is area in green.
15 Tariff Welfare Effects – Small Nation With Free Trade:Consumer surplus increases by areas a,b,c,d,e,f and g.Producer surplus decreases by areas a and e.The overall increase in welfare is b,c,d and f.
16 Tariff Welfare Effects – Small Nation With Tariff:c = revenue effect = lost consumer surplus now government rev.a = redistributive effect = shift from consumer to producer surplusb + d = deadweight loss = benefits lost to all partiesb = protective effectd = consumption effect
17 Tariff Welfare Effects – Large Nation Before Trade:U.S. consumer surplus is area in redU.S. producer surplus is area in green.
18 Tariff Welfare Effects – Large Nation With Free Trade:Consumer surplus increases substantially.Producer surplus decreases but to a lesser degree.The overall increase in welfare is b,c,d and the triangle above.
19 Tariff Welfare Effects – Large Nation With Tariff:c + e = revenue effect = consumer surplus now government rev.a = redistributive effect = shift from consumer to producer surplusb + d = deadweight loss = benefits lost to all partiesb = protective effectd = consumption effect above.
20 Tariff Welfare Effects – Large Nation Revenue Effect:In this case there are two separate portions:c = domestic revenue effect = prior U.S. consumer surpluse = terms-of-trade effect = redistribution of income from foreign nationarea e > (b+d) leads to more domestic welfare
21 Tariff Burdens on U.S. Exporters cost of inputs: tariffs increase price of imported raw materials thus increasing the price of manufacturing using these materials making U.S. firms less competitivecost of living: tariffs lead to higher prices for U.S. consumers eventually leading to higher wages for U.S. workersinternational repercussions: tariffs decrease exports from other countries decreasing their income and ability to purchase U.S. exports
22 Tariffs and the Poortariffs often applied to low price products which represent large share of budgets of low- income householdsregressive - poor pay greater tariffs in percentage termshigh end domestic producers compete based on prestige and quality rather than price so these producers do not lobby as much for greater protection from imports
23 Trade Restriction Arguments job protectionpreserve jobs in some industries but decrease employment in othersincreased cost to consumer greater than average salary for worker whose job was savedcheap foreign laborproductivity and cost relevant factorsrelevant to labor intensive production onlyfairness in trade – level playing fieldother nations lack of environmental regulationsresponse to trade barriers of other nations
24 Trade Restrictions Arguments (cont.) domestic standard of livingrestrictions only improve standard of living at the expense of trading partnersequalized production costsscientific tariff – tariff to offset cost differentialssubsidizes inefficient domestic productioninfant industryshort run protection for new domestic industries against developed foreign competitionnoneconomic argumentsnational defense and cultural considerations
25 Political Economy of Protectionism protection-biased sector consists of import competing companies, their workers, and suppliers to these industriesfree-trade-biased sector consists of exporting industries, their workers and suppliers to these industriesU.S. policy dominated by well organized special interest groups representing producersconsumers generally unorganized and diversetariff escalation effect as evidence of this imbalance
26 Supply & Demand of Protectionism greater supply of protection:higher cost to societygreater political importancehigher adjustment costsgreater public sympathygreater demand for protection:greater comparative disadvantagegreater import penetrationgreater domestic concentrationlesser export dependence