3 Tariffs and the Most Favoured Nation Principle
In the case of a prohibitive tariff, where imports are completely priced out of an importing country’s market, domestic producers are likely to price up to the tariff, consumers in these countries who remain in the market will pay more for the domestically produced goods than they otherwise would without the tariff, and some consumers will be priced out of the market (often referred to as a dead-weight social cost). Consumers in importing countries lose more than producers in these countries gain (by virtue of this dead-weight social cost), thus reducing domestic welfare. Adverse impacts on foreign exporters of these goods also make the tariff globally welfare-reducing. In the case of a non-prohibitive tariff, governments in the importing country collect some revenue from the tariff, but this is almost never sufficient to offset the negative impact of the tariff on domestic consumers or to produce a net welfare improvement in the importing country. Further, foreign exporters are adversely affected through changing the terms of trade.
The welfare effects of a tariff need to be considered relative to other protectionist instruments – in particular, quantitative restrictions and subsidies. In the case of quantitative restrictions, depending on how import quotas are allocated, domestic recipients of these quotas may realize scarcity rents from the quotas, or if the quotas are allocated to foreign exporters the latter are likely to realize scarcity rents from the quotas. However, as in the case of a non-prohibitive tariff, these benefits are highly unlikely to offset the...
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