In: Economics
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Question. One reason for creating international organizations that facilitate trade negotiations is the assumption that although all countries benefit if everyone lowers trade barriers, each country has an incentive to deviate and increase its tariffs. The following two questions focus on this issue.
a) Mention two ways discussed during the course how the overall welfare of a country can increase because of higher import tariffs. Explain each mechanism.
b) Use the prisoners dilemma from game theory to explain why multilateral trade negotiations , are important.
Question a answered:
Tariff is a tax imposed on imported goods. It is generally done to protect domestic industries. Donald trump imposed tariff on many goods and washing machines, solar panels are to be named a few.
Impact of tariff on USA demand-supply, market equilibrium, consumer and producer surplus.
As shown in the figure below:
Before tariff: AT World price, domestic demand was Q4 and domestic supply was Q1, hence import was Q4-Q1
consumer surplus (below demand curve and above price) was a+b+c+d+e+f
producer surplus (above supply curve and below price) was g
After tariff, the price goes top and as per the law of supply, USA producers will supply more but domestic demand in USA will go down, : At World price plus tariff , domestic demand was Q3 and domestic supply was Q2, hence import was Q3-Q2
consumer surplus (below demand curve and above price) was a+b
producer surplus (above supply curve and below price) was c+g
hence deadweight loss is d+e+f but e is government revenue and hence welfare loss is d+f part as shown in figure below. Hence consumers are worse off as they higher price now, domestic producers are better off as they receive higher price now, It also creates more jobs and govt is better off as it collects revenue. To get all these benefits countries impose tariff and may not follow free trade agreements.