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9 Import Tariffs and Quotas Under Imperfect Competition
Notes to Instructor
Chapter Summary
This chapter is much like the previous Chapter 8, except now we will drop the
assumption of perfectly competitive markets and examine once again the impact of
gain.
Then we turn to an example of a Foreign monopolist who is a discriminating monopolist
engaging in dumping products into the home market. And, we will find that antidumping
duties have the potential to result in losses for the home country.
Finally, we consider the case of government policies of “infant-industry” protection,
Comments
This chapter offers a number of interesting applications that link theory and real-world
events. In addition, the questions at the end of the chapter refer students to the
Lecture Notes
Introduction
Though most economists agree that tariffs and quotas usually reduce general economic
when the foreign exporting firm is a monopolist. Contrary to the situation in which the
home firm is a monopoly, the importing country may experience a terms-of-trade gain
similar to the “large country under perfect competition case” by imposing a tariff on the
sole foreign producer.
A country may protect its domestic firms by imposing a tariff on a foreign competitor
1 Tariffs and Quotas with Home Monopoly
We begin by assuming that the Home firm is the only producer selling a homogeneous
good. We will see that tariffs and quotas are nonequivalent in imperfect competition.
No-Trade Equilibrium
The Home demand curve, D, and the monopolist’s marginal cost curve, MC, are
Comparison with Perfect Competition Suppose Home consisted of many firms selling
the same product and that the industry marginal cost equals the monopoly marginal cost
Free-Trade Equilibrium
Suppose that Home is a small country. Under free trade, the monopolist may not charge a
price higher than PW because consumers can meet their demand via imports at the given
Comparison with Perfect Competition
By continuing to assume that the competitive firms face the same cost conditions as a
Home monopoly, we see that with free trade this small country will consume D1 at the
Effect of a Home Tariff
Suppose Home imposes a tariff in the amount of t on imports. The tariff raises the Home
price to PW + t, which becomes the highest price the monopolist can charge for the
product. The higher price corresponds to an upward shift of the marginal revenue curve
Comparison with Perfect Competition With the tariff, the monopolist continues to set
equilibrium quantity and price equal to that of a perfectly competitive industry with a
Home Loss Due to the Tariff The impact of the import tariff on Home welfare is the
same with the monopoly and perfect competition, as summarized by the following:
Effect of a Home Quota
Now let’s replace the tariff with a quota that limits imports to the exact amount that
would enter Home under the import tax (i.e., M2), as illustrated in Figure 9-4. Because no
more than M2 can be imported from abroad, the effective demand faced by the
under the quota than the tariff, S3 < S2. The reason this result is possible is that the quota
creates a “sheltered” market for the Home firm, which allows the monopolist to exercise
Home Loss Due to the Quota We see that under imperfectly competitive markets, tariffs
and quotas have different effects on Home prices. Namely, the price faced by Home
APPLICATION
U.S. Imports of Japanese Automobiles
We previously mentioned that during the 1980s the government in Japan limited the
quantity of Japanese automobiles exported to the United States. We now examine in
Undeterred by the failure to obtain Section 201 protection, several members of Congress
from states where the auto industry was active introduced a bill to restrict import
competition, particularly from Japan. Shortly before the bill’s scheduled revision by the
Senate Finance Committee, the Japanese government announced that it would
“voluntarily” impose limits on the sales of automobiles in the U.S. market. The quota was
Price and Quality of Imports As shown in Figure 9-5, under the VER, the average price
of imported Japanese cars increased by about $2,900 between 1980 and 1985. A third of
the price increase ($1,100) was due to quota rents earned by Japanese producers. With the
Quota Rents The rent earned by the Japanese producers is found by multiplying the
quota rents of $1,100 per car by the imports of about 2 million cars. The total estimated
The Japanese were limited on the number of cars each firm could import, but not the
Price of U.S. Cars In addition to the price increase for Japanese cars due to the VER, the
price of European cars sold in the U.S. market also rose as a result of lessened
The GATT and WTO Contrary to an import quota, the restraint of Japanese automobile
exports did not violate Article XI of the GATT, because the VER was enforced by Japan
rather than the United States. Consequently, the use of VERs increased in popularity in
2 Tariffs with Foreign Monopoly
We just analyzed the case for a monopolist in a small home country. Now we will move
to the case in which the Foreign exporting firm is a monopoly and Home is still a small
Foreign Monopoly
We will extend the previous example by assuming that the Foreign firm is a monopolist
in its local and export markets, meaning that Home’s demand is satisfied entirely by the
Free-Trade Equilibrium Without barriers to trade, the Foreign monopolist exports X1,
for P1, where the Home marginal revenue, MR, equals marginal costs, MC*, at point A.
Effect of a Tariff on Home Price With the fixed tariff in the amount of t dollars, the
marginal cost of exporting to the Home market increases to MC* + t, as shown in Figure
9-7. Given the higher marginal costs, the Foreign firm decreases exports to X2. This
In situations in which the marginal revenue curve is steeper than the Home country’s
demand curve, the importing country may experience a terms-of-trade gain because the
increase in the import price from P1 to P2 is less than the amount of the tariff, t. To
prevent the quantity exported from falling below X2, the Foreign firm absorbs part of the
Effect of the Tariff on Home Welfare To determine the effect of the tariff on Home
welfare, note that the increase in the import price reduces consumer surplus by the area (c
+ d), as illustrated in Figure 9-7. Home producer surplus is unaffected, as there are no
Fall in Home consumer surplus: −(c + d)
where Home is better off with the tariff if the terms-of-trade gain denoted by area e is
APPLICATION
Import Tariffs on Japanese Trucks
Initially, compact trucks imported from Japan mainly consisted of cab/chassis, which
were classified as “parts of trucks,” requiring some final assembly in the United States
A study of the increased tariff on compact trucks provides evidence in support of the
theory presented above. Namely, the results of the study suggest that the Japanese
producers passed along 12% of the tariff to U.S. consumer prices. The remaining 9% was
absorbed by the exporters. Due to the reclassification of the imported compact trucks
from Japan, the United States experienced a terms-of-trade gain as predicted, where the
An important point should be made here in our studies of gains and losses from trade
policies. Specifically, we have a second example of a case whereby a country may stand
to gain by implementing a strategic trade policy. In Chapter 8, we learned that a large
home country may experience a terms-of-trade gain, albeit at the expense of its trading
H E A D L I N E S
The Chickens Have Come Home to Roost
This section argues that the current troubles of the big three U.S. automobile producers
may be linked to the 25% tariff on lightweight trucks, which was born out of an “accident
of history.” With the tariff, the U.S. auto industry focused on the sales of trucks where it
now had a more “competitive” advantage. But, this required that consumers demanded
3 Dumping
Given their market power, firms engage in dumping by taking advantage of their ability
to charge different prices across countries to increase their profits. A firm is considered to
be dumping if it sells a product at less than its average costs of production, or more
antidumping duties.
In this section, we address why firms engage in dumping. Is it really always a case of
dumping at unprofitable prices in order to drive out competition or increase market
share? Why are these firms selling at below average costs or setting foreign prices below
their local prices and engaging in price discrimination? Is pricing strategy unprofitable?
Discriminating Monopoly We examine how a firm may find it profitable to price below
the market value or the average cost of production. We begin by assuming that the
Foreign firm is a monopolist in its local market but has competition in the Home market.
Moreover, possibly due to a tariff or high transport costs between the markets, arbitrage
Equilibrium Condition To maximize profit, the Foreign firm produces Q1 at point B,
where marginal costs equal the export marginal revenue, MR. Of the amount produced,
The Profitability of Dumping Furthermore, Figure 9-8 also shows that the Foreign
monopoly is dumping when defined by the export price set below the average cost of
