3. This question is about taxes and international trade. You can use the simple model of international trade we described in class (which assumes perfectly elastic supply of the good from the world market). (a) Explain, using a diagram, the impacts of a constant tariff of $T per unit on imports. [5 marks] (b) Assume instead of a tariff that the government imposes a constant tax of $T per unit on both imports and local production of the good. Show using a diagram the equilibrium in this situation. Explain your answer and contrast it with the tariff situation. [5 marks] (c) Compare the welfare implications of the tariff from part (a) of this question with the tax from (b) of this question. Briefly explain. [5 marks

Answer:

Impacts of a Constant Tariff on Imports

A constant tariff is a set fee that is imposed on imports of a good. It is used to protect domestic producers from foreign competition. The impact of a constant tariff on imports can be visualized with a diagram. The diagram will show that when a constant tariff of $T per unit is imposed on imports, the domestic price of the good increases to the price of the world market plus the tariff, while the quantity of imports decreases.

Impacts of a Constant Tax on Imports and Local Production

When a government imposes a constant tax of $T per unit on both imports and local production of a good, the market equilibrium will shift. The domestic price of the good will increase to the price of the world market plus the tax, while the quantity of imports and local production will decrease. This is due to the increase in the cost of production, resulting in a decrease in the supply.

Comparison of Tariff and Tax

The welfare implications of a tariff compared to a tax can be seen in the impact on the domestic price of the good. With a tariff, the domestic price of the good increases to the world market price plus the tariff, whereas with a tax, the domestic price increases to the world market price plus the tax. The welfare implications of the tax are more significant than the tariff, as the domestic price of the good is higher when a tax is imposed.

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