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IE CH-8 - solutions
International economics (Meiktila University of Economics)
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Chapter 8
Trade Restrictions: Tariffs
1.
Draw a figure similar to Figure 8.1 for Nation 1 but with the quantity of commodity Y on the
horizontal axis and the dollar price of Y on the vertical axis. Draw SY for Nation 1, identical to SX for
Nation 2 in Figure 8.1, but draw DY for Nation 1 crossing the vertical axis at PY = $8 and the horizontal
axis at 80Y. Finally, assume that PY = $1 under free trade and that Nation 1 then imposes a 100
percent ad valorem import tariff on commodity Y. With regard to your figure, indicate the following
for Nation 1:
(a) The level of consumption, production, and imports of commodity Y at the free trade price of PY
= $1.
(b) The level of consumption, production, and imports of commodity Y after Nation 1 imposes the
100 percent ad valorem tariff on commodity Y.
(c) What are the consumption, production, trade, and revenue effects of the tariff?
Step-by-step solution
1. Step 1 of 3
Draw the figure of partial equilibrium effects of a tariff on commodity Y. The nation
imposes a 100% ad valorem tariff:
Figure 8.1a
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a) The level of consumption at the free trade price of
, is 70Y.
The level of production is 10Y (AC), rest of the 60Y (MN) is imported.
2. Step 2 of 3
b) The level of consumption after 100% ad valorem tariff on commodity Y is 60Y.
The price rises to
,
The level of production is 20Y (GJ), the rest of the 40Y (JH) is imported.
3. Step 3 of 3
c) The consumption effect of the tariff is
The production effect is
,
The trade effect is
The revenue effect is
,
,
.
2.
For the statement of Problem 1:
(a) Determine the dollar value of the consumer surplus before and after the imposition of the tariff.
(b) Of the increase in the revenue of producers with the tariff (as compared with their revenues
under free trade), how much represents increased production costs? increased rent, or producer
surplus?
(c) What is the dollar value of the protection cost, or deadweight loss, of the tariff?
Step-by-step solution
1. Step 1 of 5
The statement referred to is indicated in the graph in figure 1.1:
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Figure 1.1
2. Step 2 of 5
a)
Consumer surplus is the difference between what the consumers are willing to pay
and what they actually pay.
For 60Y, consumers are willing to pay ZH = $2, but what they actually pay is ZN =$1,
The consumer surplus is NH =$1, Before imposition of tariff the consumers are willing
to pay OSBQ, They actually pay OABQ, the consumer surplus is ASB
In terms of dollars the consumer surplus is
3. Step 3 of 5
After imposition of tariff the consumers are willing to pay OSHZ, What they actually
pay is OGHZ, The consumer surplus is GSH
In terms of dollars the consumer surplus is
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4. Step 4 of 5
b)
Before imposition of tariff the total revenue received is $1×10= $10. After imposition
of tariff the revenue received is $2×20=$40. There is an increase in revenue of $30, Of
this the area VCJW=$15 represent increase in the costs of production while the
remainder area AGJC represents increase in rent or producer surplus.
5. Step 5 of 5
c)
The dollar value of deadweight loss is sum of triangles CJM $5+BNH $5=$10
3.
Suppose that a nation reduces import tariffs on raw materials and intermediate products
but not on finished products. What effect will this have on the rate of effective protection in
the nation?
Step-by-step solution
1. Step 1 of 2
If a nation reduces import tariffs on raw materials and intermediate products and not
on finished products, the rate of effective protection will increase.
2. Step 2 of 2
For instance;
Suppose shoe and leather both are traded into the country,
A 20% tariff is imposed on shoes and a 10% tariff on leather,
Shoes worth $100 and leather worth $60 is imported,
The price of shoes will rise to $120 and the leather will now cost $66,
,
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Therefore, whenever the tariffs on inputs are lower than on final product the effective
rate of protection will be more.
4.
Calculate the rate of effective protection when t (the nominal tariff on the final
commodity) is 40 percent, ai (the ratio of the cost of the imported input to the price
of the final commodity in the absence of tariffs) is 0.5, and ti (the nominal tariff on
the imported input) is 40 percent.
Step-by-step solution
1. Step 1 of 1
The rate of effective protection is measured by the following formula:
Where g = rate of effective protection to producers of the final commodity
t = nominal tariff rate on consumers of the final commodity
ai = ratio of the cost of the imported input to the price of the final commodity in
the absence of tariffs.
ti = nominal tariff rate on the imported input
t=40% ; ai=0.5; ti=40%
Thus, the rate of effective protection to producers of the final commodity is 40%.
5.
For the given in Problem 4, recalculate g with the following values of ti :
(a) ti = 20 percent.
(b) ti = 0.
(c) ti = 80 percent.
(d) ti = 100 percent.
Step-by-step solution
1. Step 1 of 4
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As per the details of problem 4:
t = 40%, ai= 0.5
a) ti = 20%
=
=
= 60%
2. Step 2 of 4
Calculate the effective rate of protection:
b) ti = 0
=
=
= 80%
3. Step 3 of 4
Calculate the effective rate of protection:
c) ti = 80%
=
=
=0
4. Step 4 of 4
Calculate the effective rate of protection:
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d) ti = 100%
=
=
= ? 20%
6.
For the given in Problem 4,
(a) Recalculate g if ti = 20 percent and ai = 0.6.
(b) What general conclusion can you reach about the relationship between g and t from your answer
to Problem 4 in Chapter 3 and Problem 6(a) above?
Step-by-step solution
1. Step 1 of 2
Calculate effective rate of protection where t=40%, ti=20%, ai=0.6
2. Step 2 of 2
b) A higher value of t , that is nominal tariff leads to a higher value of g, that is effective
rate of protection.
7. Starting with the trade model of Figure 3.4 for Nation 1 and assuming that Nation 1 is small,
draw a figure analogous to Figure 8.5 showing the general equilibrium effects resulting when
Nation 1 imposes a 100 percent ad valorem import tariff on commodity Y, starting from its
free trade position. (Hint: See Figure 4.3 but assume that, with the tariff, individuals exchange
30X for 15Y, instead of the 40X for 20Y in Figure 4.3.)
Step-by-step solution
1. Step 1 of 1
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The figure-1 below shows general equilibrium effects when a small nation imposes a
100% ad valorem tariff on commodity Y, starting from a free trade position:
Figure 1
A small nation1 imposes 100% tariff on commodity Y. Commodity Y is the capital
intensively produced commodity, which is imported. It will exchange GH of
commodity X, 30X, (40X-10X), for GF of commodity Y, 15Y, (60Y-45Y),
The production point will change from point H’ (50X, 30Y) to point H(40X, 45Y).
The consumption point will change from indifference curve I to indifference curve II,
from point E to F. The movement will be to a higher indifference curve. There is
expansion in production of the commodity Y.
8. Using the Stolper–Samuelson theorem, indicate the effect on the distribution of income
between labor and capital in Nation 1 (assumed to be a small nation) when it imposes an
import tariff on commodity Y.
Step-by-step solution
1. Step 1 of 2
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According to the Stopler-Samuelson Theorem if a small nation imposes a tariff on
importing commodity Y , which is a capital intensive produced commodity, Py/Px will
rise for the domestic producers and consumers and so will the price of capital.
The nation will start producing more of commodity Y and less of commodity X.
Compare point M and point F, in the below figure;
2. Step 2 of 2
The production of commodity Y requires more of capital so price of capital will rise,
Consequently demand for labour will rise, as a result the productivity of capital will
rise and so will it’s earnings.
The income will be distributed in favour of capital.
9. Explain the forces at work that lead to the redistribution of income in your answer to Problem
8, in a way analogous to the explanation given in Section 8.4c for the redistribution of income
in Nation 2 when that nation imposed an import tariff on commodity X.
Step-by-step solution
1. Step 1 of 2
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If a small nation imposes a tariff on importing commodity Y, which is a capital
intensive produced commodity,
will rise for the domestic producers and
consumers and so will the price of capital.
2. Step 2 of 2
The nation will start producing more of commodity Y and less of commodity X. The
production of commodity Y requires more of capital as a result price of capital rises.
Consequently, demand for labor rises. As a result, the productivity of capital rises and
so do its earnings.
10. How would the result in Problem 8 be affected if Nation 1 were instead assumed to be a
large nation?
Step-by-step solution
1. Step 1 of 2
If the nation is a large nation , an import tariff on commodity Y will affect the
distribution of income between labor and capital and it will be in favour of
capital ,price of capital will rise like it happens in case of small nation.
2. Step 2 of 2
If the nation imposes an import tariff on commodity Y which is a capital-intensive
commodity, its import of commodity Y will reduce and demand for the capital will
rise and so will its income.
If the commodity is blended coffee the demand for coffee blender will rise.
11. Is India more likely to restrict its imports of L-intensive or K-intensive commodities? Why?
What effect is this likely to have on the distribution of income between labor and capital in
India?
Step-by-step solution
1. Step 1 of 2
India is more likely to restrict imports of L-intensive commodities. As a result of the
tariff, production of the L-intensive commodity will increase in India.
2. Step 2 of 2
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This will be beneficial for a country like India because India is a country with a large
population, moreover there will be a rise in wages of labor due to increase in the
productivity of labor.
Due to tariff on L-intensive commodity, demand for capital will rise but as a result,
labor will get more capital to work with and the productivity of labor will rise. The
earnings of labor will also rise.
12. Starting with the free trade offer curves of Nation 1 and Nation 2 in Figure 8.6 and building
on your figure in Problem 1, draw a figure analogous to Figure 8.6 showing the general
equilibrium effects of the 100 percent ad valorem import tariff on commodity Y imposed by
Nation 1, now assumed to be a large nation.
1. Step 1 of 2
Draw a figure showing general equilibrium effects of 100% ad valorem import tariff
on commodity Y imposed by nation 1:
Figure 8.12a
2. Step 2 of 2
Explain the figure 8.12a:
An advalorem tax is a certain percentage of the value of the commodity imported, for
example, 10% tariff on the value of imports.
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In the case of the general equilibrium of a large nation offer curves are used for the
analysis.
An offer curve shows the quantity of a commodity that a nation would export for a
quantity of another commodity that it would import.
When a nation imposes a tariff on the importable commodity, the offer curve shifts
towards the axis measuring it by the amount of the tariff.
A 100% ad valorem tax on commodity Y by nation 1 shifts the offer curve 1 of nation
1 to 1’.
Before the tax nation 1 exchanged 60Y for 60X at PW=1, after the tax nation 1
exchanges 40Y for 30X at PW=1.3.
The point of equilibrium shifts from E to E’.
The offer curve 1’ is twice as distant from axis X as offer curve 1, showing 100% tax
on commodity Y. Compare point H’ to H and D’ to D.
The tariff reduces the volume of trade but improves the terms of trade.
The decrease in volume of trade reduces the welfare of the nation and improvement
in the terms of trade increases the welfare of the nation.
The optimum tariff will be the one, which increases the net benefit from improvement
in nation’s terms of trade and reduction in its volume of trade.
13. Draw a figure analogous to Figure 8.7 for Nation 1 showing that with the optimum tariff
Nation 1 will trade 25X for 40Y and also showing the effect of Nation 2 retaliating with an
optimum tariff of its own.
Step-by-step solution
1. Step 1 of 3
Figure showing that with optimum tariff nation 1 will trade 25X and 40Y and also
retaliation of nation 2 with optimum tariff:
Figure a
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2. Step 2 of 3
In Figure a offer curves 1 and 2 show free trade equilibrium at E.
With optimum tariff nation 1 offer curve rotates to1”. At 25X and 40Y, the new
equilibrium is at E*,
Nation 2 retaliates and the offer curve rotates to 2”, the equilibrium is at E**. The
terms of trade improve for nation 1. They reduce the negative effect of decrease in
volume of trade; Nation 2 faces deterioration of terms of trade and volume of trade.
3. Step 3 of 3
Hence, Both the nations lose.
14. What happens if the two nations retaliate against each other’s optimum tariff several times?
Step-by-step solution
1. Step 1 of 1
If both nations retaliate against each other’s optimum tariff both nations will lose
most or all of the benefits from trade and eventually reach the origin because one
nation gains at the expense of the other nation.
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