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Class Outline Introduction to Tariffs Effect of a Tariff on Producers Effects of a Tariff on Consumers Tariff as Government Revenue Economic Result from a Tariff Nationally Optimal Tariff Effective Rate of Protection Reading: Chapter 8 Effect of a Tariff on Producers

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class outline
Class Outline
  • Introduction to Tariffs
  • Effect of a Tariff on Producers
  • Effects of a Tariff on Consumers
  • Tariff as Government Revenue
  • Economic Result from a Tariff
  • Nationally Optimal Tariff
  • Effective Rate of Protection

Reading: Chapter 8

effect of a tariff on producers
Effect of a Tariff on Producers
  • Tariffs benefit producers that compete with the imported good
  • Assumptions of our analysis
    • Small country
    • Start with free trade
effect of a tariff on producers3
Effect of a Tariff on Producers

Price

F

Sd (Domestic Supply)

540

E

C

World Price

300

B

210

A

Sd (Domestic Demand)

S0=0.6

D0=1.6

Quantity

effect of a tariff on producers4
Effect of a Tariff on Producers

Price

F

Sd(Domestic Supply)

540

Domestic Price with Tariff

330

a

Tariff

World Price

300

B

g

M1

210

A

M0

Sd(Domestic Demand)

D0=1.6

S0=0.6

S1=0.8

D1=1.4

Quantity

effect of tariff on consumers
Effect of Tariff on Consumers

Price

F

Sd (Domestic Supply)

540

H

G

Domestic Price with Tariff

330

a

c

Tariff

b

d

E

World Price

300

C

B

210

A

Sd (Domestic Demand)

S0

S1=0.8

D1=1.4

D0

Quantity

tariff as government revenue
Tariff as Government Revenue

Price

F

Sd (Domestic Supply)

540

H

G

Domestic Price with Tariff

330

c

Tariff

E

World Price

300

C

B

210

A

Sd (Domestic Demand)

S0

S1=0.8

D1=1.4

D0

Quantity

net national loss
Net National Loss

F

Sd (Domestic Supply)

540

H

G

Domestic Price with Tariff

330

Tariff

b

d

E

World Price

300

C

B

210

A

Sd (Domestic Demand)

S0

S1=0.8

D1=1.4

D0

Quantity

effects of a tariff
Effects of a Tariff

Price

Price

Supply

d

b+d

Demand for Imports

b

330

330

a

c

c

300

300

Demand

0.6

0.8

1.4

1.6

0.6

1.0

Quantity

Quantity

Imports0

Imports1

terms of trade and nationally optimal tariff
Terms of Trade and Nationally Optimal Tariff
  • Let us relax the assumption of a small country
  • Sometimes a nation can have a monopsony power
    • Example: The U.S. in the world auto market
    • In this case the tariff has a term of trade effect
effect of a tariff in prices
Effect of a Tariff in Prices
  • The U.S. has market power in the market for bikes
  • (As before) The U.S. government increases tariffs
  • At the international price plus the tariff, U.S. consumers demand less bikes
  • Because the lower demand depress the market for bikes, now foreign producers will prefer to decrease prices in order to improve sells
  • They will decrease price as long as the price is higher than the marginal cost
  • However, there is still a loss on economic efficiency for both, the U.S. and the rest of the World.
effects of a tariff11
Effects of a Tariff

Price

Price

b+d

d

b

303

303

a

c

300

c

300

e

297

297

e

0.6

0.62

1.58

1.6

0.96

1.0

Quantity

Quantity

Imports0

Imports1

types of tariffs
Types of Tariffs
  • Ad-valorem tariff
  • Is a tax on imports that is specified as a percentage of the value of the product being taxed
  • Specific tariff
  • A specific amount is that is levied per unit of imports
  • Advantages and disadvantages:
  • Ad valorem tariffs are easier to set that specific tariffs.
  • Ad-valorem tariffs are immune to inflation
  • Ad-valorem tariffs reward low-cost foreign suppliers by charging a lower absolute tax in their products
  • Specific tariffs are less prone to misinvoicing
the effective rate of protection
The Effective Rate of Protection

The Effective rate of protection of an individual industry is defined as the percentage by which the entire set of a nation’s trade barriers raises the industry’s value added per unit of output.

The effective rate of protection can be quite different from the percent tariff paid by consumers on its output

What are the effects of a 10% tariff on bicycle imports and 5% tariff on imports of steel, rubber and all other material inputs?

10% tariff raises prices by 10% to $330

5% tariff increases costs by $11 per bike

The total increase in value added for the industry would be $19

This protection of value added represents 23.8 percent of value added, not just 10%

the effective rate of protection14
The Effective Rate of Protection

10% Tariff on Bikes

5% tariff on inputs

Free Trade

Unit Value Added=$99

Unit Value Added=$80

Unit Price=$330

Unit Price=$300

Unit Cost=$220

Unit Cost=$231

10% Tariff

5% Tariff

$220 to $231

the effective rate of protection15
The Effective Rate of Protection
  • Main points
  • A given industry’s incomes, or value added, will be affected by trade barriers on its inputs as well as trade barriers on its output
  • The effective rate of protection will be greater than the nominal rate when the industry’s output is protected by a higher duty than the tariff duty on its inputs
  • If the tariff rates on inputs and output are the same, then the output rate is also the effective rate
  • The effective rate of protection can be negative
  • Export producers are penalized with something like negative effective protection if their costs are increased by tariffs on the inputs they use in production
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