Question

7. Use the following information to work Problems (a) and (b). Show all your workings. Suppose that in response to huge job losses in the New Zealand textile industry, the government of New Zealand imposes a tariff of 100 percent on imports of textiles from China.

1. Explain how the tariff on textiles will change the price that New Zealand pays for textiles, the number of textiles imported, and the quantity of textiles produced in New Zealand.
2. Explain how the New Zealand and Chinese gains from trade will change. Who in New Zealand will lose and who will gain?

Answer 1

The graph:

As seen in this graph, domestic equilibrium price is P*, world price (imports from China) is Pw and price after tariff is Pt. At Pw, domestic producion is Q2 and demand is Q1. The difference (Q1 - Q2) is imported. When tariff is imposed on imported goods, price = Pt. Domestic demand decreases to Q3; domestic production increases to Q4. Imports reduce to Q3 - Q4.

(a) When tariff is imposed, the price of goods in New Zealand increases by the amount of tariff. Number of textile imported will decrease as domestic producers produce more goods now due to increased price and the incentive to produce created thereby.

In the graph, price increases from Pw to Pt. Pt is the price consumers pay now in New Zealand. The import decreases from Q1 - Q2 to Q3 - Q4. Demestic producers increase production from Q2 to Q4.

(b) Gains from trade in China: The Chinese producers lose as their expots are reduced to the extent of (i) increase in domestic production an (ii) decrease in domestic consumption due to increased price (iii) tariff revenue that goes to New Zealand government. (the area of e+f+g).

Gains from trade to New Zealand: Domestic welfare decreases. Producers gain as they produce more. Producer surpls increases from h to h+d. Consumers lose, as demand decreases (from Q1 to Q3) because of higher prices. Consumer surplus decreases by d+e+f+g. Governemnt revenue in the form of tariff revenue is the area of f. Most of all tariff leads to deadweight loss seen in the area of e+g.