C. Tariffs
- Tax on a product when it crosses international
boundaries
- Could be on imports or exports
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1. Types of tariffs
a. Protective tariff - protect
import-competing industries
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b. Revenue tariff - generate tax
revenue
- World average = 3.9 percent of government revenue
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c. Specific tariff - fixed monetary
amount per unit of import
- Degree of protection varies inversely
with changes in import prices
- More protection when prices fall, less
protection when prices rise
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b. Ad valorem tariff - fixed
percentage of the value of an import
- Good when products have a wide range of grade
(and value) variations
- Constant degree of protection as prices
change
(1) Free-on-board (FOB) valuation - product's
value as it leaves exporting country
(2) Cost-insurance-freight (CIF) valuation -
product's value as it arrives at final destination
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c. Compound tariff - combination of specific
and ad valorem tariffs
- Ex. - Electricity meters ($0.16 + 1.5%)
- Specific portion compensates for cost
disadvantage due to protection for domestic input suppliers
- Ad valorem portion is protection to finished
goods industry
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2. Effective rate of protection
- Amount that domestic prices can rise above
foreign prices before being priced out of market
- Nominal tariff rate - published tariff
schedule
- Effective tariff rate - gives effective
rate of protection
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- Effective protection increases as value added
decreases
- Tariff on imports used in production process
reduces level of effective protection
- If inputs enter a country under low tariffs and
final imported product is protected by high tariffs, effective
protection rate is high
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- Tariff escalation - greater protection to
intermediate and finished goods than to primary commodities
- Hurts development of processing in less
developed countries
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3. Dealing with tariffs
a. Outsourcing
- Different aspects of manufacturing process
done in different countries
- Foreign assembly of domestic components
reduces costs
- Offshore-assembly provision (OAP) - if U.S.
components are assembled into a finished product overseas and
imported into the U.S., only the value added is subject to import
duties
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- Gives incentives to buy U.S. components
- Encourages outsourcing of assembly
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b. Postponing import duties
(1) Bonded warehouse
- Buy imported products in bulk to reduce
costs
- Duty-free if left in a bonded warehouse
- Tariff paid only when products taken out
of warehouse to be used or sold
- No duty owed if products are exported
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(2) Free trade zone (FTZ)
- Foreign products imported without tariffs
- Duties and taxes not paid unless product
shipped to U.S. markets
- No duties if product is exported
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4. Welfare effects
a. Surplus
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b. Small-nation model
- Imports are a small portion of the world
market supply
- Small nation is a price taker - constant
world price for import commodity
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(1) Impact of free trade
- Consumers benefit - price lower, more
quantity consumed
- Profits, production down in domestic
industry => job loss
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(2) Impact of tariff
- Consumer hurt - price increases, quantity
consumed decreases
- Domestic production increases => jobs
increase
- National welfare impacted
(a) Revenue effect - government's
collection of duties
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(b) Redistributive effect -
transfer of consumer surplus to domestic producers
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(c) Protective effect -
wasted resources because product produced at higher cost
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(d) Consumption effect - loss
to consumer due to higher price and less consumption
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(e) Deadweight loss - sum of
protective effect and consumption effect
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b. Large-nation model
- Country large enough to affect world price
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(a) Redistributive effect -
transfer of consumer surplus to domestic producers
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(b) Deadweight loss - sum of
protective effect and consumption effect
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(c) Revenue effect - government's
collection of duties
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5. Effects on exporters
- Increases costs of inputs
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- Higher import prices => higher cost of living =>
higher wages for workers
- Fewer imports => less export revenue in foreign
countries => foreign countries less able to import
- Exporters don't protest because:
- Cost increases are subtle and invisible
- Some firms don't form because of increased costs
- no basis to oppose policies
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6. Tariffs and the poor
- Income distribution becomes more inequitable
- Tariffs high on cheap goods, lower on luxuries
- High burden on countries specializing in cheapest
goods
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7. Arguments for trade restrictions
- Argument for trade is lower prices and higher levels
of output, income, and consumption
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a. Job protection
- Dominant factor in government imposition of
trade restrictions
- Ignores dual nature of trade - imports
generate revenue for foreign countries, which allow those countries
to import from domestic country
- Studies show trade restrictions have no long
term effect on jobs
- Need to consider the cost of saving domestic
jobs
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b. Protection against cheap foreign labor
- Set tariff equal to wage differential
- Low wages alone don't guarantee low
production costs - need to look at productivity too
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- Low wage countries have an advantage when
labor requirement is higher than other factors
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c. Fairness in trade (level playing field)
(1) Advantages for foreign firms
- Environmental regulations
- Low corporate taxes and government
regulation
- High trade barriers (subsidies)
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(2) Counter arguments
- Consumers benefit from these practices
- Could lead to retaliation
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d. Maintenance of domestic standard of
living
- Encourage domestic spending => stimulates
domestic economy
- Foreign economies hurt, could lead to
retaliation
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e. Production cost equalization
- Foreign firms have advantage because of lower
wages, tax breaks, or government subsidies
- Levy a tariff to equalize costs
- Which costs should be used?
- Consumer would be subsidizing inefficient
production
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f. Infant industry argument
- Countries should temporarily shield newly
developing industries from foreign competition
- Lift barriers after industries have time to
develop and become efficient
- Difficult to remove protective barriers
- Difficult to determine which industries will
eventually be able to handle foreign competition
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g. Noneconomic arguments
(1) National security
- Problems during international crises if
too dependent on foreign suppliers
- What is an essential industry?
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(2) Cultural and sociological considerations
- Protect against "cultural imperialism"
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8 Political economy of protectionism
a. Supporters
- Import-competing companies, workers and
unions, suppliers
- Highly concerned with protecting industries
and jobs
- Impacts are concentrated and severe
- Import-competing industries can point to
direct damage (sales, profits, jobs)
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b. Opponents
- Exporting companies, consumers, suppliers
- Impacts are dispersed and small
- Damage to exporters is indirect (lower
foreign income, retaliation)
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c. Supply of protection by government
depends on
- Cost to society (welfare loss)
- Higher cost => less likely to have
protection
- Political importance of import-competing
industry
- Industry more important => more likely
to have protection
- High adjustment cost => more likely to have
protection
- More public sympathy => more likely to have
protection
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d. Demand for protection by domestic
industries depends on:
- Greater disadvantage => more likely to
demand protection
- Higher level of import penetration => more
likely to demand protection
- Concentration of domestic production
- Higher concentration => more likely to
demand protection
- Foreign sales a large portion of total sales
=> less likely to demand protection
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