Exemplary Writers

# Homework (Ch 05)

Identify which type of nontariff trade barrier is used in each scenario in the following table.
Scenario
Export Quota
Selective Quota
Tariff-Rate Quota
Global Quota
Export Subsidy
Domestic Production Subsidy
Domestic Content Requirement
The United States charges a tariff of 9.35¢ per kilogram for the first 30,393 tons of peanuts and a tariff of 20¢ per kilogram of peanuts in excess of that threshold.
The U.S. government makes a payment to domestic farmers of $1 on each bushel of peaches that is exported. The United Kingdom permits 30,000 tons of peanuts to be imported each year. Argentina voluntarily reduces textile exports to the Netherlands. The United Kingdom and Argentina agree that the United Kingdom produces 76% of its iGadgets in Argentina and is allowed to export iGadgets to Argentina tariff-free. The U.S. producers of automobiles, an import-competing good, receive$100 million from the U.S. government for their production of 250,000 autos.
The United Kingdom permits 30,000 tons of peanuts to be imported each year—14,000 tons must come from the Netherlands, and 16,000 tons must come from Argentina.
Points:
1 / 1
Close Explanation
Explanation:
A voluntary export restraint agreement, or export quota, typically leads to a reduction of exports. The fact that Argentina cuts back on textile exports to the Netherlands implies that both sides have reached an orderly marketing agreement to tame the intensity of international competition. In the Netherlands, less competitive domestic producers can now participate in markets that would otherwise have been lost to Argentinian producers because the latter are able to produce and sell textile products at a lower price.
By imposing a global quota, but allocating specific import quotas to selected countries, the United Kingdom imposes a selective quota. Specifically, a global quota of 30,000 tons of peanuts is allocated to the Netherlands and Argentina. Although this type of import quota avoids the favoritism of the global quota, quotas of any type have a potential to foster a domestic monopoly of production and higher prices because, upon a realization that foreign producers cannot surpass their quotas, a domestic firm may raise its prices.
tariff-rate quota is a two-tier tariff that displays both tariff-like and quota-like characteristics. It allows a specified number of goods to be imported at one tariff rate (the within-quota rate), whereas any imports above this level face a higher tariff rate (the over-quota rate). Tariff-rate quotas have also been used as temporary protection against surging imports of nonagricultural products, such as steel, brooms, stainless-steel flatware, and fish into the United States.
Whenever a country permits a specific number of units of a good to be imported each year, but it does not specify from where the product is shipped or who is permitted to import, it imposes a global quota. This has many adverse effects on international trade; the most visible is the favoritism toward merchants who are the first to capture a large portion of the business. For example, the merchants who import early in the year get their goods; those who import late in the year may not. Also, merchants discriminate against goods that are shipped from distant locations because of the long transportation time. In addition, smaller merchants without trade connections may be at a disadvantage relative to large merchants.
The $1 that the U.S. government pays to domestic farmers on each bushel of exported peaches is an export subsidy to encourage export sales. Unlike a domestic production subsidy, which is granted to producers of import-competing goods, an export subsidy goes to producers of the goods that are to be sold overseas. For example, to offset unfair trade practices or subsidies by competing exporters in foreign countries, the U.S. Export Enhancement Program gives U.S. exporters cash bonuses so that they can sell their products in targeted markets at prices below their production costs. When U.S. producers of automobiles receive$100 million from the U.S. government for the production of 250,000 autos, they receive a domestic production subsidy. Its main goal is to encourage domestic producers of automobiles to increase their output and, thus, become more competitive in the domestic market. It should not be mistaken for the export subsidy, which assists producers of goods that are sold overseas.
domestic content requirement is the minimum percentage of a product’s total value that must be produced domestically for the product to qualify for zero tariff rates. If the United Kingdom has reached such an agreement with Argentina, it not only can sell 76% of iGadgets tariff-free in Argentina, but also the remaining 24% of iGadgets. Note that the domestic content protection increases demand for domestic inputs, thus contributing to higher input prices, higher product prices, and loss of competitiveness of the home country.

## 2. Comparing tariffs, quotas, and subsidies

Which of the following statements correctly identify the difference in the revenue effect created by an import quota versus that of a tariff? Check all that apply.
Points:
1 / 1
Close Explanation
Explanation:
Tariffs always generate revenue for the government, whereas a quota’s revenue is less certain. Although a quota may be as restrictive as an equivalent tariff, it may not generate the same revenue for the government as a tariff. A quota’s revenue effect, known also as a “quota rent,” generally accrues to domestic importers or foreign exporters depending on the degree of market power they possess.
If the government desires to capture the revenue effect, it could auction import quota licenses to the highest bidder in a competitive market.

## 3. Import quotas

Kazakhstan is an apple producer, as well as an importer of apples. Suppose the following graph shows Kazakhstan’s domestic market for apples, where SKSK is the supply curve and DKDK is the demand curve. The free trade world price of apples (PWPW) is $200 per ton. Suppose Kazakhstan’s government restricts imports of apples to 80,000 tons. The world price of apples is not affected by the quota. Analyze the effects of the quota on Kazakhstan’s welfare. On the following graph, use the purple line (diamond symbol) to draw the Kazakhstan’s supply curve including the quota SK+QSK+Q. (Hint: Draw this as a straight line even though this curve should be equivalent to the domestic supply curve below the world price.) Then use the grey line (star symbol) to indicate the new price of apples with a quota of 80,000 apples. Points: 1 / 1 Close Explanation Explanation: When imports are limited to 80,000 tons, the quantity of apples demanded in Kazakhstan at the world price (180,000 tons) exceeds the quantity supplied domestically plus the import quota (20,000 tons+80,000 tons=100,000 tons20,000 tons+80,000 tons=100,000 tons). Above the free trade price, the total supply of apples in Kazakhstan now equals Kazakhstan production plus the quota, resulting in a rightward shift of the SKSK curve by 80,000 tons of apples. The new price of apples in Kazakhstan occurs where the DKDK and SK+QSK+Q curves intersect, or$400 per ton in this case. At this price, the quantity of apples demanded is 130,000 tons, which is the same as the quantity supplied domestically plus the import quota (50,000 tons+80,000 tons=130,000 tons50,000 tons+80,000 tons=130,000 tons).
In the previous graph, use the green area (triangle symbol) to shade the area that represents the effect of the quota on domestic producer surplus (PS) relative to domestic producer surplus under free trade. Use the tan quadrilateral (dash symbols) to shade the area that represents the quota rents. Finally, use the black areas (plus symbol) to indicate the deadweight loss (DWL) resulting from the quota’s consumption and protective effects.
Close Explanation
Explanation:
Under free trade, the producer surplus in Kazakhstan’s market for apples was the area above the supply curve and below the price of $200. With the quota, the producer surplus is the area above the supply curve and below the price of$400. That is, the domestic producers are able to sell more apples at a higher price, which increases their surplus. Therefore, the increase in PS is shown as the area above $200, below$400, and above the supply curve.
Deadweight loss arises in Kazakhstan for two reasons:
 1 Protective Effect: Apples are produced in Kazakhstan at increasing unit costs. Graphically, this is the triangular area below the domestic supply curve, above the free trade price for apples, and between 20,000 and 50,000 tons of apples (which formerly was imported without the quota). 2 Consumption Effect: Consumers enjoy fewer apples because they have to pay more for them. Graphically, this is the triangular area below the domestic demand curve, above the free trade price for apples, and between 130,000 and 180,000 tons of apples (which is no longer consumed).
The quota rents represent the profits received by the holders of the right to import apples to Kazakhstan. These quota licenses represent the right to buy apples at the world price ($200 per ton) and resell them in Kazakhstan at$400 per ton. The quota rents equal the price difference (the height of the tan rectangle) times the quantity of apples imported (the base of the tan rectangle):
 Quota RentQuota Rent =  = (Price with Quota−Free Trade Price)×QuotaPrice with Quota−Free Trade Price×Quota =  = ($400 per ton−$200 per ton )×80,000 tons$400 per ton−$200 per ton ×80,000 tons =  = $16,000,000$16,000,000
The equivalent import tariff for Kazakhstan’s apple import quota is

$200 per ton of apples. Points: 1 / 1 Close Explanation Explanation: The equivalent tariff for an import quota is the tariff that would lead to the same domestic price and quantity of imports as the quota. In this case, if Kazakhstan’s government imposed a tariff of$200 per ton of apples, then the price would rise to $200 per ton+$200 per ton=$400 per ton$200 per ton+$200 per ton=$400 per ton, which is the same price as with the quota. At this price, the quantity of apples demanded is 130,000 tons, and the quantity supplied by domestic producers is 50,000 tons, so the imports are 130,000 tons50,000 tons=80,000 tons130,000 tons−50,000 tons=80,000 tons, which is the same as the import quota.
If Kazakhstan’s government auctions off the quota licenses in a well-organized, competitive auction, Kazakhstan experiences a deadweight loss of

$8,000,000 . (Hint: Select a shaded region to see its area. Be sure to adjust for the units on the quantity axis.) Points: 1 / 1 Close Explanation Explanation: In a well-organized, competitive auction, the Kazakhstan government collects revenues equal to the value of the quota rents; that is, the government receives the same amount from auctioning the licenses as it would from the equivalent tariff. Because the quota rents contribute to Kazakhstan’s welfare in the form of government revenue, the deadweight loss caused by the quota is equal to the efficiency losses in Kazakhstan’s production and consumption of apples:  Deadweight LossDeadweight Loss = = Protective Effect+Consumption EffectProtective Effect+Consumption Effect = = (12×(50,000 tons−20,000 tons)×($400 per ton−$200 per ton))+(12×(180,000 tons−130,000 tons)×($400 per ton−$200 per ton))12×50,000 tons−20,000 tons×$400 per ton−$200 per ton+12×180,000 tons−130,000 tons×$400 per ton−$200 per ton = =$3,000,000+$5,000,000$3,000,000+$5,000,000 = =$8,000,000

## 4. A graphical comparison of tariffs and quotas

Borzia and Ardon are small countries that protect their economic growth from rapidly advancing globalization by limiting the import of rugs to 40 million. To this end, each country imposes a different type of trade barrier when the world price (PWPW) is $2,000. In Borzia, the government decides to impose a tariff of$2,000 per rug; in Ardon, the government implements a quota of 40 million rugs.
Assume that Borzia and Ardon have identical domestic demand (D0D0) and supply (SS) curves for rugs as shown on the following graph. Under these conditions, the price of rugs is $4,000 per rug in each country. Suppose that in both countries, demand for rugs rises from D0D0 to D1D1. Assuming Borzia keeps the tariff at$2,000 per rug, complete the first row of the following table by calculating each of the values given this increase in demand. Assuming Ardon maintains a quota of 40 million rugs, complete the second row of the table by calculating each of the values given this increase in demand.
Country
Price
Quantity Demanded at New Price
Imports
(Dollars)
(Millions of rugs)
(Millions of rugs)
Borzia (tariff = $2,000) 4,000 90 60 Ardon (quota = 40 million rugs) 5,000 80 40 Points: 1 / 1 Close Explanation Explanation: tariff is a tax levied on a product when it crosses national boundaries. The most widespread tariff is the import tariff, which is a tax levied on an imported product. A quota is a limit on the import of a particular product. In this case, Borzia imposes a tariff, whereas Ardon chooses a quota. In Borzia, a$2,000 tariff increases the price of rugs from $2,000 to$4,000. When demand for rugs rises from D0D0 to D1D1, the price of rugs does not change, but the quantity demanded rises to 90 million rugs (far above the original 70 million rugs). This is because the tariff does not restrict the quantity of the imported product, and nothing prevents domestic consumers from buying more of the rugs at the price of $4,000 per rug. In this case, imports increase from 40 million rugs to 90 million rugs30 million rugs=60 million rugs90 million rugs−30 million rugs=60 million rugs. In Ardon, however, the increase in demand leads to a different outcome because there is no limit on the extent to which the price can rise above$4,000, only on the import quantity. Therefore, with an import quota, an increase in demand induces an increase in the price of rugs. The price increase leads to a rise in domestic production and a fall in consumption of the rugs, while the level of imports remains constant. Hence, adjustment occurs in domestic prices rather than in the quantity of rugs imported. Specifically, the domestic price of rugs rises to $5,000, the point at which the increased production (40 million rugs) plus the fixed level of imports (40 million rugs) satisfy the domestic demand. So the new domestic quantity demanded equals 80 million rugs. The following graphs summarize the economic situation for each country under their respective trade barriers when demand increases to D1D1: True or False: The increase in demand helps domestic producers but hurts domestic consumers in Ardon. Points: 1 / 1 Close Explanation Explanation: In Ardon, domestic producers enjoy a ceiling on imports. At the new price of$5,000 per rug, imports remain at 40 million rugs, which is the difference between 80 million rugs demanded and 40 million rugs supplied. Because Ardon chooses a quota, its domestic producers remain well protected—even under unfavorable market conditions—which is not enough of an incentive to stay competitive. The quota often results in a lower product quality and higher product prices. This benefits domestic producers but hurts domestic consumers who have to buy domestically produced rugs at a higher price than under an equivalent tariff. Therefore, this statement is true.
Which of the following explain why a quota is a more   restrictive trade barrier than an equivalent tariff. Check all that apply.
Points:
0.5 / 1
Close Explanation
Explanation:
A quota is more restrictive than a tariff because it imposes an absolute limit on the imported good. Even if the domestic industry’s comparative disadvantage grows more severe, the quota prohibits consumers from switching to the imported good. Thus, a quota assures the domestic industry a ceiling on imports regardless of changing market conditions.
As a result, member countries of the World Trade Organization have decided to phase out import quotas and replace them with tariffs—a process known as tariffication.

## 5. Agricultural export subsidies in a small nation

The following graph shows the market for wheat in Canada, where DCDC is the demand curve, SCSC is the supply curve, and PWPW is the free trade price of wheat. Assume that Canada is a relatively small producer of wheat, so changes in its output do not affect the world price of wheat. Also assume that Canada is currently open to free trade, and domestic consumers are able to purchase wheat at the world price with negligible transportation costs.
Suppose a subsidy of $40 per ton is granted to exporters in Canada, allowing them to sell their products abroad at prices below their costs. Assume that trade restrictions are also put in place in order to prevent domestic consumers from buying wheat abroad at the world price. Use the grey line (star symbols) to indicate the world price of wheat plus the subsidy on the following graph. Then use the black point (plus symbol) to indicate the price of wheat in Canada and the quantity demanded at that price. Finally, use the tan point (dash symbol) to indicate the price of wheat received by Canadian producers with the subsidy and the quantity of wheat they will supply at that price. Points: 0.6 / 1 Close Explanation Explanation: The world price of wheat with the subsidy equals$200 per ton+$40 per ton=$240 per ton$200 per ton+$40 per ton=$240 per ton. Because Canadian farmers receive$240 for each ton of wheat exported, they won’t accept a price less than $240 for their domestic sales as well. Also, you were told to assume that new trade restrictions prevent consumers in Canada from buying imported wheat at a cheaper price. Thus, the price of wheat in Canada rises from$200 to $240. At this price, domestic consumers demand 300 tons of wheat, and domestic producers supply 900 tons of wheat. Therefore, 600 tons of wheat are now exported as a result of the export subsidy. Export subsidies result in a welfare loss to the home country due to the protective and consumption effects. In order to determine the magnitude of these effects, you must compare the change in consumer and producers surplus against the cost of the subsidy. On the previous graph, use the green quadrilateral (triangle symbols) to indicate the loss in consumer surplus due to the export subsidy. Then use the purple quadrilateral (diamond symbols) to indicate the gain in producer surplus as a result of the export subsidy. Close Explanation Explanation: Consumer surplus is the difference between a buyer’s willingness to pay and the price the buyer actually pays. Graphically, consumer surplus is the area above the price paid, below the domestic demand curve, and to the left of the quantity of wheat demanded at that price. Therefore, the loss in consumer surplus as a result of the export subsidy is the quadrilateral area representing the decrease in the quantity demanded as well as the increase in the price consumers pay on the wheat they now consume at a higher price. Producer surplus is the difference between the price a seller actually receives for an item and the lowest price at which the seller would be willing to provide the item. Graphically, producer surplus is now the area below$240 per ton, above the domestic supply curve, and to the left of the quantity of wheat supplied by domestic producers at a price of $240. Therefore, the gain in producer surplus as a result of the export subsidy is the quadrilateral area representing the increase in the quantity supplied as well as the higher price producers receive on all wheat sold domestically as well as abroad. The taxpayer cost of the export subsidy equals$24,000

.

Points:
1 / 1
Using all of the previous information, compute the value of deadweight loss in Canada as a result of the export subsidy.
 Deadweight LossDeadweight Loss =  = Loss in Consumer Surplus+Cost of Subsidy−Gain in Producer SurplusLoss in Consumer Surplus+Cost of Subsidy−Gain in Producer Surplus =  = $6,000 Points: 1 / 1 Close Explanation Explanation: The taxpayer cost of the export subsidy equals the per unit subsidy times the quantity of wheat exported:  Taxpayer CostTaxpayer Cost = = Per-Unit Subsidy×ExportsPer-Unit Subsidy×Exports = =$40 per ton×600 tons$40 per ton×600 tons = =$24,000$24,000 Graphically, it is represented by the rectangular area with a height equal to the subsidy and a width equal to the quantity of imports: Deadweight loss arises because of the increasing domestic cost of producing additional wheat (the protective effect) and the lost consumer surplus because the price has increased (the consumption effect). Therefore, deadweight loss is equal to the change in producer surplus plus the change in consumer surplus minus the amount of the subsidy since those funds come from domestic taxpayers:  Deadweight LossDeadweight Loss = = Loss in Consumer Surplus+Cost of Subsidy−Gain in Producer SurplusLoss in Consumer Surplus+Cost of Subsidy−Gain in Producer Surplus = =$15,000+$24,000−$33,000$15,000+$24,000−$33,000 = =$6,000$6,000 The following graph shows the consumption and protective effects in the Canadian market for wheat in the presence of an export subsidy of$40: