EC 380: Lecture 8

.title[
# EC 380: Lecture 8
]
.subtitle[
## Trade Policy: Tariffs, Quotas and Subsidies
]
.author[
### Philip Economides
]
.date[
### Winter 2024
]

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# Prologue

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# Recap

### Previously

* Trade openness appears to have had an affect on the compositional make-up of US industrial activity

* Effects are likely negative for .hi-pink[low income unskilled workers]

* Migration openness yields little evidence of wage change

### Today

* Effects of protectionism through .hi-pink[tariff rates and quotas]

* Inform ourselves on how interference with free trade impacts market

---

# Key Topics

<br>

* Use market theory to explain effects of tariffs on market outcomes

* **Compare tariff data on inputs and outputs to compare effective and nominal protection levels**

* Comparing the .hi-pink[impact of quotas] relative to tariff rate adjustments

* Highlight forms of protection .hi-pink[difficult to observe]

* New .hi-pink[unconventional methods] of protectionism

---

# Inputs & Outputs

<br>

Tariff protection can be undermined by domestic tariff protection policy in other goods

Intermediate input tariffs may limit how protected our final goods market is which relies on said imported input.

* US steel import tariffs put considerable pressure on US car manufacturers

Important to distinguish between .hi-pink[effective rate of protection] and .hi-pink[nominal rate of protection].

---

# Inputs & Outputs

<br>

.hi-pink[Nominal rate of protection]: The standard tariff rate measured as a % of imported good's value.

.hi-pink[Value-Added]: Price of a good minus the cost of intermediate imports used to produce the good.

.hi-pink[Effective rate of protection]: Considers level of protection on intermediate inputs of a good in adddition to nominal tariff on the given good. Measured as % change in domestic value-added after tariffs on intermediates and final good are applied.

`$$(\text{VA}^* - \text{VA})/ \text{VA}$$`
---

# Inputs & Outputs

How does tariff on inputs affect our .hi-pink[protection] of the final good?

<table class="table" style="margin-left: auto; margin-right: auto;">
 <thead>
  <tr>
   <th style="text-align:left;"> Variable </th>
   <th style="text-align:right;"> No Tariff </th>
   <th style="text-align:left;"> 10% Tariff: Final Good </th>
   <th style="text-align:left;"> 50% Tariff: Input Good </th>
  </tr>
 </thead>
<tbody>
  <tr>
   <td style="text-align:left;"> Price of Domestic Final Good </td>
   <td style="text-align:right;"> 1500 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Value of Imported Inputs </td>
   <td style="text-align:right;"> 250 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Domestic VA </td>
   <td style="text-align:right;"> 1250 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Effective Rate of Protection, % </td>
   <td style="text-align:right;"> 0 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
</tbody>
</table>

---

# Inputs & Outputs

Now consider a case in which the .hi-pink[final good] receives a .hi-pink[10% tariff rate]

<table class="table" style="margin-left: auto; margin-right: auto;">
 <thead>
  <tr>
   <th style="text-align:left;"> Variable </th>
   <th style="text-align:right;"> No Tariff </th>
   <th style="text-align:right;"> 10% Tariff: Final Good </th>
   <th style="text-align:left;"> 50% Tariff: Input Good </th>
  </tr>
 </thead>
<tbody>
  <tr>
   <td style="text-align:left;"> Price of Domestic Final Good </td>
   <td style="text-align:right;"> 1500 </td>
   <td style="text-align:right;"> 1650 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Value of Imported Inputs </td>
   <td style="text-align:right;"> 250 </td>
   <td style="text-align:right;"> 250 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Domestic VA </td>
   <td style="text-align:right;"> 1250 </td>
   <td style="text-align:right;"> 1400 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Effective Rate of Protection, % </td>
   <td style="text-align:right;"> 0 </td>
   <td style="text-align:right;"> 12 </td>
   <td style="text-align:left;">  </td>
  </tr>
</tbody>
</table>

The scale of protectionism rises.

---

# Inputs & Outputs

How does .hi-pink[key inputs tariff] affect protection on the final good?

<table class="table" style="margin-left: auto; margin-right: auto;">
 <thead>
  <tr>
   <th style="text-align:left;"> Variable </th>
   <th style="text-align:right;"> No Tariff </th>
   <th style="text-align:right;"> 10% Tariff: Final Good </th>
   <th style="text-align:right;"> 50% Tariff: Input Good </th>
  </tr>
 </thead>
<tbody>
  <tr>
   <td style="text-align:left;"> Price of Domestic Final Good </td>
   <td style="text-align:right;"> 1500 </td>
   <td style="text-align:right;"> 1650 </td>
   <td style="text-align:right;"> 1650 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Value of Imported Inputs </td>
   <td style="text-align:right;"> 250 </td>
   <td style="text-align:right;"> 250 </td>
   <td style="text-align:right;"> 375 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Domestic VA </td>
   <td style="text-align:right;"> 1250 </td>
   <td style="text-align:right;"> 1400 </td>
   <td style="text-align:right;"> 1275 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> Effective Rate of Protection, % </td>
   <td style="text-align:right;"> 0 </td>
   <td style="text-align:right;"> 12 </td>
   <td style="text-align:right;"> 2 </td>
  </tr>
</tbody>
</table>

Protection is eroded! Down from 12% to 2%.

---

# Inputs & Outputs

<br>

When targetting specific industries for protection, once needs to anticipate the interaction a variety of commodity-specific tariffs has.

This exercise, while limited, gives a very convenient way of perceiving this issue.

* In practice, value-added is difficult to measure

* Rate of protection can scale beyond the 0-100% range, making it confusing for some users

---

# Quota Analysis

<br>

Net results are the same:

* Less imports, 
* Fall in total domestic consumption and,
* Rise in domestic production

---

# Quota Analysis

__Types of Quotas__

* **Limitations:** specifies in terms of quantities product is counted in (e.g. number of cows, kg of ore)

* **Licensing requirement:** Forces importers to gain government approval with respect to importing a specific type of good. By regulating the number of licenses available, the government can impede import volumes.

* **Voluntary Export Restraint (VER):** Exporting country voluntarily agrees to limit exports for some period. This is usually a compromise made to avoid more extreme measures being levied by the importer country.

> While this latter tactic have been limited in use following the Uruguay Round agreement, cases of it still crop up.

---

# Quota Analysis

No tariff revenue, so where does this surplus go?

Positive spillovers for foreign exporter profits which we call .hi-pink[quota rents].

---

# Quota Analysis

Imports are now limited to `$\bar{Q}$` ( `$Q_2 - Q_1$` is not feasible anymore )

For market to clear, and imports to fall, price rises domestically to `$P_q$`, where the new `$Q^*_2 - Q^*_1 = \bar{Q}$`

---

# Quota Analysis

<br>

Compared to .hi-pink[tariff (small country) scenario], instead of Home keeping `$c$` through tariff revenue, income is captured by the foreign producer.

---

# Quota Analysis

<br>

Another important takeaway: .hi-pink[Domestic producers prefer quota to tariff]

In this scenario, circumstances are unchanged between introducing a tariff or quota

However, when `$D$` shifts to the right, `$\bar{Q}$` `$\implies$` `$Q_1*$` and `$P_q$` having to rise

* In .hi-pink[tariff scenario], `$D \uparrow$` completely serviced by unrestricted imports

This assumes we are examining small country outcomes where world price is not responsive to domestic trade policies.

---

# Quota: Empirics (MFA)

<br>

.hi-pink[GATT] - the General Agreement on Tariffs and Trade generally states that countries should not use quotas to restrict imports.

* Major exception allows .hi-pink[industrial countries] to restrict imports of textiles and apparels from .hi-pink[developing countries] ('74)

* Restrictions were usually very specific regarding each type of clothing

This .hi-pink[Multifibre Agreement] (MFA) had its days numbered, given the increasing appeal of trade liberalization and the associated welfare gains across countries.

---

# Quota: Empirics (MFA)

<br>

Under .hi-pink[Uruguay Round] of WTO negotiations ('86-'94), countries were able to negotiate an end to this system of import quotas.

* China posed to be the biggest provided of textile exports

* Other developing countries, possibly threatening their workers' livelihoods

* Importing country industries had similar concerns

---

# Quota: Empirics (MFA)

<br>

China experienced a major rise in clothing exports. For example in Jan, Feb 2005, EU saw

* 2000% increase in imports of Chinese tights and panthyhose

* 1000% increase in imports of Chinese pullovers and jerseys

* 300% increase in imports of Chinese trousers

---

# Quota: Empirics (MFA)

---

# Quota: Empirics (MFA)

---

# Quota: Empirics (MFA)

---

# Takeaway

<br>

Using price drop between 2004 and 2005, `$b+c+d$` area estimated to be worth 6.5bn-16.2bn USD

Dividing across 111 million US households, translates to $100 in spending saved

Welfare cost of MFA represented roughly 7% of average apparel household costs

_These gains were shortlived between June '05 and '08 then returned thereafter._

---

# Observing Protectionism

<br>

Many non-tariff measures function similarly to the quotas we have considered.

Economists divide these into two categories: Tariffs & NTBs (non-tariff barriers).

* NTBs can be subdivided into quotas and non-tariff measures

* NTMs are often hidden in that they are not presented as barriers even though they contribute a similar influence

---

# Observing Protectionism

<br>

One common example is with respect to .hi-pink[cholorinated chicken] imports from US to UK

* Poultry meat that has been washed with chlorine

*  Done to treat high levels of bacteria, a symptom of poor hygiene and low animal welfare conditions

* Practice of chlorine washing chicken is banned in the UK, but it is common practice in the US poultry industry

---

# Observing Protectionism

<br>

Why?

* Higher hygiene and animal welfare standards used when following this approach work to help combat the spread of bacteria, meaning chlorine washes are not necessary

---

# Observing Protectionism

Research from .hi-pink[Southampton University] finds that:

* Disease-causing bacteria like listeria and salmonella ‘remain active’ after chlorine washing

* Chlorine washing just makes it impossible to detect the bacteria in the lab, giving the false impression that the bacteria have been killed when it may still be present

Allowing for import compromises on UK/EU .hi-pink[animal welfare]

* On these US farms, chickens fed antibiotics to stop infection and chlorine-washed after slaughter to kill bacteria

* Doesn’t support good quality of life for chickens and reliance on antibiotics means lifesaving drugs are less effective for humans

---

# Coordinating Trade Policy

<br>

Most countries are part of the .hi-pink[World Trade Organization] and adhere to a default non-discriminatory .hi-pink["Most Favored Nations"] (MFN) tariff rate schedule that applies to each country they trade with.

An exception to this norm is the use of these .hi-pink[regional trade agreements] which apply updated (reduced) tariffs to the set of parties included in an agreement.

* Free Trade Agreement

* Preferential Trade Agreements

* Customs Unions

---

* Quotas similar to tariffs but yield greater economic losses

* Domestic producers tend to prefer quotas to tariffs

* Not every non-tariff measure is considered protectionist

Trade agreements, joint policy outcomes and assessing recent history with our new knowledge

---