Week 6 - Chapter 10: Arguments for and against protection Flashcards
Arguments for tariffs
Protecting domestic production industries
Protecting employment in the import competing industry
Protecting domestic consumers from low quality products
Increased government revenue
If its is desirable to enhance the incomes of factors used intensively in the import computing industry
First best world
All private incentives are aligned perfectly with the benefits and costs to society as a whole, there are no positive or negative externalities that are unaccounted for
Based on the first best world, what does price equal to?
Price (P) = Buyers’ private marginal benefit (MB) = Social marginal benefit (SMB) = Sellers’ private marginal cost (MC) = Social marginal cost (SMC)
The realistic world of second best
We live in a second best world, one that includes distortions resulting from gaps between private and social benefits or costs of an activity. Private actions will not lead to the best possible outcomes for society
Sources of distortion for the realistic world of second best
Market failures
Government policies
Market failures
When private markets fail to achieve full economic efficient
Government policies can distort by:
Can distort an otherwise economically efficient private market
Types of distortion
External costs
External benefits
Monopoly power
Monopsony power
Distorting tax
Distorting subsidy
External costs
Too much is supplied because suppliers make and sell extra units for which the social costs exceed the price
External benefits
Not enough is demanded, demanders receive only private benefits equal to the price, not the full social benefits
Monopoly power
Not enough is demanded because the monopoly sets the price too high
Monopsony power
Not enough is supplied because the monopsony sets its buying prie too low
Distorting tax
Not enough his demanded because the tax makes the price to buyers exceed the revenue per unit received by supplies
Distorting subsidy
Too much is demanded because the subsidy makes the price to buyers lower than the revenue per unit received by suppliers
Tax or subsidy approach
Suggests to spot distortions in people’s and firms’ private incentives and have a wise government policy correct the incentives with taxes or subsidies
Specificity rule
States that it is usually more efficient to use the government policy tool that acts as directly as possible on the source of the distortion separating private and social benefits or costs
Pros of a tariff to promote domestic production or employment
Local production of this product produces spillover benefits because other firms and industries benefit form the production know how or management techniques introduced by the firms in the is industry
Employment in this industry provides new worker skills and attitudes which workers can carry with them when they switch jobs
Infant industry argument
Asserts that a temporary tariff is justified because it costs down on imports while the infant domestic industry leans how to produce at low enough costs
In which cases is government policy needed?
There are imperfections in the financial markets
The benefits form the early business investments do not accrue to the firms making these early investments
There are imperfections in the financial markets
Financial institutes such as banks and stock markets may be underdeveloped and therefore unwilling to take on any sort of risk
