Question

Explain the output and balance of payment effects of an import tariff under fixed exchange rates. What would happen if all countries in the world simultaneously tried to improve employment and balance of payments by imposing tariffs?

Answer 1

if the fixed exchange rate system is there and an import tariff is imposed then the import will go down causing the net export (export minus import) to go up and hence the total output (GDP wise) will increase. as GDP=consumption+investment+government spending+net export

as the import goes down, the trade balance will become more positive hence current account will become more positive(less negative).

but if all countries simultaneously do this then the import of all country has to go down this would be only possible when the export of all the countries has to go down. this will reduce the output of all countries and the world's output as a whole will go down.

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