Growth in Exports from China Figure 8-12 compares the changes in clothing and textiles exports with
the United States following the elimination of the MFA. Panel (a) shows that in 2005, China’s textile
and apparel exports to the United States increased by more than 40% relative to the previous year,
whereas those from higher-cost exporters like South Korea, Hong Kong, and Taiwan declined by 10% to
Welfare Cost of MFA The drop in prices in 2005 with the removal of the MFA translates to a return of
the quota rents from the foreign exporters to U.S. consumers. More specifically, with an estimated price
Import Quality The removal of the MFA resulted in a “quality downgrading” of Chinese exports. The
Reaction of the United States and Europe To restrict the growth of its exports and subdue growing
concerns, China offered to self-impose a system of export taxes. However, the United States and Europe
successfully negotiated a new system of quotas with China, which restricted the amount the developing
country can sell in a variety of products. The system of quotas imposed by the United States ended on
6 Conclusion
This chapter examines the effect of trade barriers such as tariffs on the welfare of the importing country,
exporting country, and world. Reasons why importing countries impose the barriers to trade include
politics, raising government revenue, and increasing welfare for the large-country case. The analysis
shows that although a small country always loses with a tariff, a large country may improve its terms of
TEACHING TIPS
Tip 1: Current Events in Trade Policy
Have your students find recent news articles regarding trade disputes involving the United States. Ask
them to interpret these disputes with the theories presented in this chapter. Do any of these trade disputes
seem to be retaliatory or part of a trade war, as discussed in Chapter 7?
Tip 2: Current Events in Trade Investigations
Students can look up the facts surrounding all recent trade investigations at the U.S. International Trade
IN–CLASS PROBLEMS
1. LobbyInc is a firm that specializes in lobbying the government on behalf of special interest groups.
Suppose sugar producers recently hired LobbyInc to help them obtain the rights to sugar quota
licenses.
a. What is the maximum amount domestic sugar producers are willing to pay LobbyInc for its
services? Explain.
b. What is the net effect of their activities on the welfare of the domestic sugar market?
2. Suppose Home is a large country whose supply and demand curves are given in the left panel of the
following figure.
a. Assume the world price is PW = $5. Determine the consumer and producer surplus under free
trade.
Answer:
b. Suppose the Home government imposes a tariff in the amount of $4 (i.e., t = $4). What is the
new Home price? What is the price received by foreign exporters?
c. Determine the terms of trade for Home with the tariff.
d. Does Home welfare increase or decrease due to the tariff? Explain.
Answer: To determine whether Home welfare increases or decreases, we need to compare the
3. Refer to Problem 2. At what amount would the tariff be considered prohibitive? Explain.
4. Aoslia is a small country that takes the world price of corn as given. Its domestic supply and demand
for corn are given by the following:
D = 45 − 3P
S = 3P − 9
a. Assume initially that Aoslia does not open to trade. What is the autarky equilibrium price and
quantity?
b. Suppose Aoslia decides to engage in trade. Determine the quantity demanded, quantity supplied,
and import given the world price of $6 per bushel of corn.
c. If the Aoslia government imposes a tariff in the amount of $1 (i.e., t = $1), what is the new
domestic price? What is the amount imported?
d. Determine the effect of the tariff on the Aoslian consumers, producers, and government.
Answer:
Consumer surplus without tariff: Consumer surplus with tariff:
e. Calculate the terms-of-trade gain. What is the net effect of the tariff on Aoslia’s welfare?
Explain.
5. Refer to Problem 4. Suppose the Aoslian government applies an import quota that limits imports to
12 bushels.
a. Determine the quantity demanded, quantity supplied, and new domestic price with the quota.
Answer:
b. Calculate the quota rent.
Answer:
c. Assuming that the quota licenses are allocated to domestic producers, what is the net effect of the
quota on Aoslia’s welfare?
Answer:
Fall in consumer surplus: −5.5
d. Assuming that the quota rents are earned by foreign exporters, what is the net effect of the quota
on Aoslia’s welfare?
Answer:
6. Why do many countries, including the United States, continue to use tariffs to limit imports when the
theory shows that such restrictions have a potential to impose net loss on the domestic country?
Answer: For small-importing countries, a tariff is a source of government revenue that is “easy to
7. Suppose the United States is a large importer of Mexican tortillas. Following the implementation of
the North American Free Trade Agreement (NAFTA), the U.S. tariff on tortillas decreased from
25% to 0.
a. Will the price of tortillas in the United States fall by the exact amount of the tariff? Explain.
Answer: Because the United States is a large country, a portion of the tariff was absorbed by
b. What is the impact of NAFTA on U.S. tortilla producers, Mexican tortilla producers, and U.S.
tortilla consumers?
Answer: U.S. tortilla producers received a higher price under the tariff, so they are worse off
c. Removal of the tortilla tariff under NAFTA has increased welfare for the United States.
Comment.
Answer: The statement is true only if the gain in terms of trade (area e) under the tariff was
8. What is the role of the “most-favored-nation” clause in helping to eliminate discriminatory treatment
in international commerce?
Answer: Article I of the key provisions of the GATT states that nations must apply the same tariff to
9. The government is more concerned about producer surplus than consumer surplus if it levies an
import tariff that raises the domestic price. Comment.
Answer: This comment is true if the country is a small importer because the loss in consumer
surplus outweighs the gain in producer surplus from the import tax even if the government were to
10. What is an efficiency loss? Does it only occur when a small country imposes a tariff?
Answer: The efficiency loss or production loss results from the home producer increasing the
11. Why is tariff revenue less important as a source of income for the U.S. governments relative to some
developing countries?
Answer: Unlike some developing countries, the high- and middle-income countries are able to
12. What causes the Foreign export supply curve to slope upward?
Answer: The Foreign export supply gives the amount exporters in Foreign are willing and able to
supply internationally at each world price. When the world price, PW, is higher than Foreign’s no-
13. Graphically show the effect of a United States‒imposed tariff on world welfare, assuming that the
United States is a small country. How does your result differ if the United States is a large country?
Answer: In addition to the deadweight loss equal to area b + d, there is an additional amount equal
to area f if the United States is a large country.
14. If the Foreign export supply is perfectly elastic, what is the optimal tariff Home should apply to
increase welfare? Explain.