Question

Please provide short statements to explain:

1. An Optimal Tariff

as used/applied in the economics of international trade. In some cases, it may be more useful to illustrate with diagrams or both.

Answer 1

Answer:

The optimum tariff benefits the citizens of tariff imposing country as it maximizes the real income and satisfaction subject to the condition the opposite country does not retaliate. Further a tariff can improve the terms of trade of imposing country only if the offer curve of the opposite country is less than perfectly elastic. Technically speaking, the optimum tariff implies that rate of tariff which intersects the opposite country’s offer curve at a point which is tangent to the tariff imposing country’s community indifference curve as it can be seen in Figure-1 given below.

Figure-1 W T1 E CCI2 CCI 1T Wine C Cloth The optimum tariff

The pre-tariff curves are OE and OP for Country-1 (suppose England) and Country-2 (suppose Portugal) respectively and the terms of trade are expressed by the slope of OT line CCI₁, CCI₂ are community indifference curves of England and Portugal. At point ‘g’ England has CCI₁ commodity indifference curve. Now CCI₂ is the highest possible community indifference curve which is tangent to Portugal’s offer curve at point ‘h’. Hence, England should impose a tariff such that her new distorted offer curve (OE₁) will intersect at point’ h’ so that the new terms of trade are expressed by the line OT₁. Such rate of tariff which produces this condition is termed as optimum tariff. Indeed, any rate in tariff beyond this optimal rate will though mean an improvement in terms of trade; it will not lead the country to the highest community indifference curve, as net gain will deteriorate due to contraction in the volume of trade.