Eco Today - Mar10:ET Master Page 2007 - ASKnLearn

There are a number of arguments for trade barriers but can they be justified?
number of foreign goods can be
purchased at a constant world price Pw
in Figure 2. This means that the world
supply curve for the product is perfectly
elastic at price Pw.
With no tariff (world price Pw),
domestic supply is Q1 and domestic
demand is Q4. The difference is met by
imports (Q1-Q4). The introduction of a
tariff effectively raises the world price to
Pw+t. Domestic supply expands to Q2,
while demand contracts to Q3. With the
tariff, the level of the imports is Q2-Q3. If
there is no retaliation by other countries
(and this may be assuming a great deal),
this fall in imports may reduce a current
account deficit.
However, the rise in price reduces the
level of consumer surplus by the area
A + B + C + D. Not good for domestic
consumers, especially if hard pressed by
recession. On the other hand, although
consumer welfare has been reduced,
domestic producers and the government
both benefit from the tariff. Producer
surplus has increased by area A, and the
government receives revenue from the
tariff equal to area C. This is calculated
by multiplying the tariff by the level of
imports Q2-Q3.
Part of the fall in consumer surplus is
not compensated for by gains to any
other group in the economy. It is
common, then, to regard areas B and D
as deadweight welfare losses to the
economy as a whole. However, the
expansion in domestic output means
that producers also receive area B in the
form of higher revenue so the dead -
weight loss could be argued to be area
D alone.
Whichever approach we take, there is
an overall loss of welfare to the economy
Key terms
and questions of equity (fairness) may
have to be considered and weighed to
justify this loss.
What conclusions
might be drawn?
There would appear to be a formidable
economic case for free international
Absolute Advantage – This describes a situation in which, for a given set
of resources one country can produce more of a particular good or service
than another country.
Comparative Advantage – If a country has an absolute advantage in
producing both goods (in a two good example) it should specialise in the
production of the good in which it has the greatest advantage.
Consumption Possibility Curve – This shows all possible levels of
consumption that are available to a country if it specialises on the grounds
laid down by the Law of Comparative Advantage.
Deadweight Loss of Welfare – In the context of the imposition of tariffs,
this is the net loss of welfare to the country concerned. It is the difference
between the welfare loss to domestic consumers from price increases (a
reduction in consumer surplus) and the welfare gain to domestic producers
(an increase in producer surplus) and the government (tax revenue
increases).
Infant Industry Argument – The argument that newly-formed industries,
with the potential to achieve an absolute or comparative advantage in the
future, should be temporarily protected from overseas competition.
Dumping – The selling of goods in an overseas market at a price below the
cost of production.
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