Section $2$: Trade Policies Under Perfect Competition

Import Tariff $-$ Small Country

Let us consider a small open economy at time period $1.$ At time period $2,$ this country decides to implement an import tariff $t($in US dollars$)$ to protect its sugar industry where products are sold at world prices $P^W($in US dollars$).$ The impact of this tariff on the domestic economy can be shown in Figure $2.$ The impact of this tariff on world markets can be shown in Figure $3.$

Pw

t

$1$

Figure $1$: Impact of the tariff on domestic markets Figure $2$: Impact of the tariff on world markets

What is the economic meaning of a small economy?

Let us conduct a welfare analysis. Before the tariff is adopted, what is the consumer surplus $($CS$)?$ What is the producer surplus $($PS$)?$ What is the government surplus $($GS$)?$ What is total welfare? No explanations are needed.

After the tariff is adopted, what is the consumer surplus? What is the producer surplus? What is the government surplus? What is total welfare? No explanations are needed.

In Figure $2,$ which depicts the effect of the tariff on world markets, what do the areas $g$ and $h$ represent? Do they correspond to any specific areas in Figure $1?$

What is the effect of the tariff on domestic welfare? Explain.

What is the effect of the tariff on foreign welfare? Explain.

$2$