1. T HE I NSTRUMENTS OF T RADE P OLICY 9-1

2. T ARIFFS A tax levied when a good is imported. Can be specific – a charge for each unit of imported goods. Can be ad valorem - a fraction of the value of imported goods. 9-2

3. H OME ’ S I MPORT D EMAND C URVE 9-3

4. F OREIGN ’ S E XPORT S UPPLY C URVE 9-4

5. I N EQUILIBRIUM, IMPORT DEMAND = EXPORT SUPPLY 9-5

6. T HE E FFECTS OF A T ARIFF Acts like a transportation cost. Makes the price rise in the Home market and fall in the Foreign market. The price in the Home market rises from P W under free trade to P T with the tariff Home producers supply more and Home consumers demand less the quantity of imports falls If the Home country is large, the price in the Foreign market falls because of the new tariff Their quantity of exports thus falls 9-6

7. A T ARIFF IN A S MALL C OUNTRY 9-7 If we assume that the country is “small,” it has no effect on the foreign (world) price

8. E FFECTIVE R ATE OF P ROTECTION The change in value that firms in an industry add to the production process when trade policy changes a 25% tariff on imported cars allows car manufacturers at home to charge $10,000 instead of $8,000 I production factors cost $6,000, the value added increased from $2,000 to $4,000 – a 100% increase. 9-8

9. C OSTS AND B ENEFITS OF T ARIFFS AT H OME Hurts consumers –decreases consumer surplus Benefits producers – increases producer surplus Benefits the government – increases tax revenues 9-9

10. C HANGE IN WELFARE DUE TO THE TARIFF IS E – ( B + D ) 9-10 The rectangle e represents the terms of trade gain. The welfare effect of a tariff can only be ambiguous for a large country.

11. E XPORT S UBSIDY Can also be specific or ad valorem. Raises the price in the exporting country; decreases consumer surplus; increases producer surplus. Government incurs higher expenditure If a large country: lowers the price paid in importing countries 9-11

12. E FFECTS OF AN E XPORT S UBSIDY 9-12 Net loss: areas b + d + e + f + g Again, e + f + g is miniscule if the country is small

13. I MPORT Q UOTA A restriction on the quantity of a good that may be imported. Usually enforced by issuing licenses or quota rights. The government only receives revenues if it can collect quota rents Raises the price of the import as the quantity demanded exceeds the quantity supplied. 9-13

14. E FFECTS OF THE U.S. I MPORT Q UOTA ON S UGAR 9-14

15. V OLUNTARY E XPORT R ESTRAINT Works like an import quota Officially imposed by the exporting country but usually requested by the importing country. The profits or rents from this policy are earned by foreign governments or foreign producers. Foreigners sell a restricted quantity at an increased price. 9-15

16. L OCAL C ONTENT R EQUIREMENT A regulation that requires a specified fraction of a final good to be produced domestically. In the World Trade Organization language, this is called “rules of origin” For domestic producers of inputs, it is a protection, just like an import quota. From firms that must buy home inputs, it raises the price of their inputs. This price rise is largely passed on to consumers. The policy provides neither government revenue nor quota rents. 9-16

17. O THER T RADE P OLICIES Export credit subsidies A subsidized loan to exporters U.S. Export-Import Bank subsidizes loans to U.S. exporters. Government procurement Government agencies are obligated to purchase from home suppliers. Bureaucratic regulations Safety, health, quality, or customs regulations. 9-17

18. F OR EACH TRADE BARRIER, THE PRICE RISES IN THE H OME COUNTRY ADOPTING THE POLICY Home producers supply more and gain. Home consumers demand less and lose. The world price falls when Home is a “large” country that affects world prices. Tariffs generate government revenue; export subsidies drain it; import quotas may have no effect. All trade barriers create production and consumption distortions. 9-18