Question

Suppose the United States could import footwear from Thailand at the price of $20 per pair or from Mexico at $24 per pair. The domestic price of footwear in the United States is $35. Suppose prior to NAFTA, the U.S. imposed a 50% tariff on all footwear entering the country. a. Prior to NAFTA, would the United States import footwear? If yes, from which country? (3 points)

b. Suppose the US demand for footwear is given by Q = 100 – 2P. Assume US producers face a constant MC = $35. What is the welfare effect of joining the NAFTA for the US if doing so requires eliminating the tariff on Mexican made footwear? (7 points)

Answer 1

Solution

Given that the domestic price of footwear in the U.S is $35 and the marginal cost of the US producers is also $35

Before NAFTA ,there was a tariff of 50% on all footwear entering the country.So the price of the footwear :

Mexico

Original price of footwear = $24 per pair

Final price of footwear after tariff = $24 +50% tariff i.e., $36 per pair

The US demand for footwear Q =100 - 2 P i.e., Q = 100 - 2 (36)

Q = 28 pairs

Thailand

Original price of footwear = $20 per pair

Final price of footwear after tariff = $20 +50% tariff i.e., $30 per pair

The US demand for footwear Q =100 - 2 P i.e., Q = 100 - 2 (30)

Q = 40 pairs

a.Yes,prior to NAFTA,the US will import footwear from Thailand as this price is less than that of Offered by the US producers (i.e., $35 per pair)

After NAFTA,there will be no TARIFF on the imported footwear

Mexico

Price of Footwear = $24 per pair

The US demand for footwear Q =100 - 2 P i.e., Q = 100 - 2 (24)

=> Q = 52 pairs

Thailand

Price of Footwear = $20

The US demand for footwear Q =100 - 2 P i.e., Q = 100 - 2 (20)

=> Q = 60 pairs

Welfare effect is the net profit / benefit for the US as a country for joining the NAFTA

Gain to the US consumers - By implementing the NAFTA,the price of the footwear has reduced by 50% in comparison to their previous final price.So,they are able to consume more of this commodity

Loss to The U.S Govt. - The govt.will loose the taxes it use to get in the form of tariffs imposed on the footwear imported from the other countries - i.e., $ 336 ($12 * 28 ) from Mexico and/or $400 ($10 * 40) from Thailand

Loss to the US Producers - In all the cases,as it is the price offered by US producers is $35 which is more than that of the price offered by the foreign footwear manufacturers ,the NAFTA will not have any positive impact; in fact it worsens their situations as the prices offered by their foreign competitors is further reduced.Before NAFTA is imposed there can be chance for the US producers to grab the US market in case the US govt. had banned the imports from Thailand.This is because the price from the other country Mexico would be $36 which is $1 more than the price offered by the US Producers (i.e.,$35 )

Hope this solution helps!!