International Economics

1. For the H & O model, the most important difference in relative commodity prices is relative factor prices which cause nations to be relatively well endowed in labor or capital, which is expressed in relative terms. Two nations may, in fact, have the same income level and still trade if the one is RELATIVELY more labor-endowed than the other.

2. The imposition of an import tariff by a nation will NOT always increase the nation's. I will, in this problem, assume that by welfare you mean this in a strictly dollars and cents manner. For another interpretation, refer to the final example. The effect of a tariff is to increase producer surplus, increase government revenue, and to REDUCE consumer surplus. See the example below:

All this money had there been no tariff, would've been handed on to consumers in the form of lower prices. With the tariff, however, some of this consumer surplus is redistributed (though some may return through government programs), but the rest is lost.

3. The cost of protection is equal to the reduction in consumer surplus MINUS the increase in rent to producers. The cost of protection, or "deadweight" is equal to the reduction in consumer surplus - increase in rent -government revenues, as in the example above.

4. The"technological gap" model represents an extension of the H-O model because the H-O model viewed technology statically. The H-O model presumes technological parity among nations. The only way in which technological innovations can be expressed, using H-O, is by SHIFTING the production possibility curves. This results then, however, in just another, static snapshot. By showing the process of technological advances, over time, the "technological gap" attempts to extend H-O over the dimension of time, showing a "motion picture".

5. When a nation imposes an import tariff, the nation's offer curve NOT will shift away from the axis measuring its import commodity. When a nation imposes an import tariff, its offer curve rotates toward the axis measuring the importable commodity.

1. The Effects of a Tariff:

The following figure shows the consumption, production, trade, revenue, and redistribution effects of an import tariff which the nation is assumed to be too small to effect world prices. To recycle my previous example:

Consumer surplus is reduced by a + b + c + d = $45
The government collects c, which is = $20
Domestic producers collect a, which is = $15
The protection, cost, or "deadweight" then = 45 - 20 - 15 = $10

The "nominal tariff" rate is, as its name implies the "named amount." In the example above the nominal rate was 100. The "effective" rate of protection is figured using the following formula:

ai, is the ratio of the cost of the imported good to the price of the final commodity, ie, the percentage actually being imported. ti is the nominal tariff rate on imported input.

What the nominal tariff rate yields is the amount being tacked onto the price to feed the tariff. The effective protection rate, in contrast, measures how well domestic value-added "finishers" are being served. For example, consider the following example in which there's a 10% tariff, the imported input is 70%, and no tariff on the imported input:

Thus, though the tariff seems to be only 10%, it's actually affording domestic finishers, the value added industry, 33% of the value of their domestic value added (for doing nothing). Thus the effective tariff rate is more of interest to value added finishers (and more likely to anger their domestic rivals) while the nominal tariff rate is more interest to consumers.

2. Tariffs and National Welfare

A nation cannot automiatically increase its welfare by imposing a tariff. The answer to this question depends on how you define the term "welfare." If your definition means simply putting the nation of furthest consumption frontier, then certainly a tariff will not improve the nation's welfare. The effect of a tariff is to artificially raise the price of imports. Society will be responsible for paying a portion of that costs, through a reduction in the consumer surplus, meaning that the consumer will have to pay a higher price for the commodity on which the tariff is imposed.

On the other hand viewing tariffs from another perspective, that of society in the long run, a tariff may be a beneficial, though not the most efficient means, of maintaining a country's economic health. The tariff, off course, benefits the producer who gets higher prices and a chance to sell more of his goods and the government, which has a larger budget it may recycle back to the consumer.

The producer, then, can continue to survive at a particular level in his own home market. As Robert McNamara once said, "I've always thought that what is good for General Motors IS good for the country." A country, then, wishing to look at "welfare" in the broader sense of the word must do a cost-benefit analysis. Is the cost of the tariff to consumer offset by the benefit of having the native producer stronger and healthier? Obviously, also, there are other means than tariffs that can accomplish the same ends, such as industry subsidies.

Therefore, the answer to this question depends on how welfare is described. If welfare is considered in a narrow, snapshot manner, as in looking at a Keynsian cross, obviously a tariff doesn't promote the country's welfare. If a tariff is looked at as a means of preserving a vital industry, at some cost, it may be in the best interests of the country's "welfare," meaning well-being, to impose the tariff.

There are two basic reasons that countries impose tariffs and other restrictions. The first reason is the raise revenue. The United States, for example, paid all of its governmental expenses until 1914 by means of a tariff on imports.

The main reason, however, that nations impose a tariff, however, is to protect their own producers of the same product. These producers may be "infantile" and just need an edge in order to grow technologically or in size. These producers may also be the subject of predatory trade practices such as dumping and feel that a tariff is an appropriate response. It may be, also, that the producer simply has enough political clout to secure a tariff and line his or her own pocket, or it may be a combination of all of the above.