Question

PA P world Tariff $20 $14 P world Quota . D (Thousands) 20 25 35 40 Answer the questions below based upon the above diagram. Note that Q is measured in 1,000s. a. With free trade, what is the total value ($) of imports? b. If the government imposes a tariff, derive the change in consumer surplus and producer surplus. c. How much revenue does the government earn from the tariff? d. What is the net national cost of the tariff? e. If government imposes a quota of 10,000 instead, is the net national cost of the quota the same as the tariff? If not, please explain and calculate the differences.

Answer 1

Part a) With free trade the reference price is $14 and total output is 40,000. Domestic production is 20,000 and import is equal to 40,000 – 20,000 = 20,000. The total value of import is given as

Total value of imports = 20,000 × 14

Total value of imports = $280,000

Part b) If the government imposes a tariff, then there will be decline in the consumer surplus. The consumer surplus will decline from the area of the triangle ABC to the area represented by ABDE. However, producer surplus will increase from area of the triangle FGH to area of the triangle HBD. In the present case tariff is equal to $6 per unit.

Part c) The area of the square DIJC represents the tax revenue from the tariff imposed by the government.

Part d) The national cost of the tariff is the deadweight loss represented by the area of triangle GID and area of the triangle CJK. Deadweight loss is the cost to the society due to the inefficiency created by market distortion through tools like tariff.

Price (P) Consumer Surplus .A s Toa Revenue 43 hworld trail B C $204 fa 97 I k pworld $14 H 20 85 35 40 (Thousands) Producer Surplus Deadweight loss

Part e) If the government imposes a quota of 10,000, then also net national cost of quota would be the same as that of tariff. It is shown in the following diagram.

Price Deadweight Loss Due Quote Purored - $14 D 25 20 35 Ho o (Thousands)