Chapter 8 Flashcards
What is the other name for the PS incurred as a result of tariff?
Subsidy Effect of Tariff
What is Domestic Value Added?
It is the price of the final commodity minus the cost of imported inputs going into the production of the commodity.
Who is the effective rate important to?
The producers because it indicates how much protection is actually provided to the domestic processing of the import-competing commodity.
When will effective rate of protection exceed the nominal tariff rate?
Whenever the imported input is admitted duty free or at a lower tariff rate on the input than on the final commodity produced with the imported input.
What is the formula for effective rate of protection?
g= T-at / 1-a
Where g is the effective rate of protection,
T is the nominal tariff on consumers for final commodity
ai is the ratio of cost of the imported input to the price of the final commodity in the absence of tariffs
ti is the nominal tariff rate on the input
Will a tariff on imported inputs demotivate the domestic producers?
Yes, because it increases the cost of production and reduces the rate of effective protection provided by a nominal tariff on the final commodity.
Why should the concept of effective protection rate be used cautiously?
Because of its partial equilibrium nature. It assumes the international prices of the commodity and of imported inputs are not affected by tariffs and that inputs are used in fixed proportion in production.
What is a prohibitive tariff?
With a 300 percent nominal tariff rate, Px/Py=4 for domestic producers and consumers, and the nation will return to it’s autarky point A in production and consumption. Also, the 300 percent is the minimum ad valorem rate on this case.
Stolper-Samuelson Theorem
An increase in the relative price of a commodity raises the return or earnings of the factor used intensively in the production of the commodity.
Explain Stolper-Samuelson Theorem in the small country case.
Nation 2 is K abundant and tariff is on the labour intensive X. As Px/Py rises, the nation will produce more of X. L/K increases and so w/r also increases. Now that K has become cheaper, so K is substituted for L and now K/L rises in both commodities. Since each unit of labour is combined with capital, labour productivity increases. So higher wages. And so, labour benefits from the tariff on X.
What happens to welfare in a large country during a tariff?
The imposition of tariff by a large nation reduces the volume of its trade, thus reducing the welfare. But this is cancelled by the improvement in the terms of trade, which increases welfare.
What does offer curve elasticity has to do with terms of trade?
For any tariff rate, the steeper or less elastic Nation 1’s offer curve is, the more it’s terms of trade deteriorate and Nation 2’s improve.
What does Stolper-Samuelson Theorem say about mobility of factors?
It refers to the long run when all factors are mobile between the nation’s industries. If one of the two factors, is immobile, the effect of a tariff on factors’ income will differ from the theorem.
What is optimum tariff?
It is the rate of tariff that maximizes the net benefits resulting from the improvement in the nation’s terms of trade against the negative effect resulting from reduction in the volume of trade. Past the optimum, welfare decreases and the nation returns back to autarky point with a prohibitive tariff.
Small country and Optimum tariff
Optimum tariff for a small country is zero, since a tariff will not affect its terms of trade and will only cause the volume of trade to decline. Thus, no tariff can increase the small nation’s welfare over it’s free trade position even if the trade partner doesn’t retaliate.
What is the protection cost or deadweight loss of tariff?
The production component of deadweight loss arises as b=5 because of the transfer of some resources from the more efficient production of exportable commodity Y to commodity X in Nation 2. The consumption component d=10 arises because the tariff actually increases Px/Py and distorts the pattern of consumption in Nation 2. This is the partial equilibrium effects of a tariff on a small nation.
How does tariff cause deadweight loss in Nation 2?
Tariff redistributes income from the domestic consumers to the domestic producers, and from the nation’s abundant factor to scarce factor, this leading to inefficiencies or deadweight loss or protection cost.
Stolper Samuelson theorem applies for large countries too. And in the long run where all factors are mobile between the nation’s industries. True?
Yes.
