Answer to Question #121124 in Microeconomics for Aman

Question

What is protectionism? If Canadian government imposes a quota, explain using a diagram who are gainers and who are losers? If instead Canadian government imposes a tariff, explain using a diagram who are gainers and who are losers? What are the additional benefits of a tariff over a quota?

Answer 1

Protectionism is the practice of shielding a country's domestic industries from foreign competition by taxing imports. The process promotes domestic producers by boosting domestic production of goods and services through imposing tariffs or limiting foreign goods and services in the market.

Tariffs are taxes levied by the government on imports of a particular good. Protection is given to domestic producers when they raise the prices of imported goods relative to the prices of competing domestic products.

Quotas limit the quality of a good that is allowed into the country over a period of time.

In each part of the diagram, D and S represent the domestic market demand and foreign supply curves of goods for a country which takes the world price as given.

Imports are restricted to q1 with both imposing tariffs and quotas. A tariff raises domestic price to P1 and raises PoP1, mn government revenue. A quota raises the price quota q1, the supply curve becomes vertical at the quantity demanded. The market clearing price for quantity q1 is p1 where the new supply curve is S'' intersect the unchanged demand curve.

Under a tariff, the difference between the price p0 and p1 accrues to the government in the importing country as A revenue from the tariff. Under import quota, the government receives no revenue being an additional benefit of a tariff over a quota. The shortage resulting from the quota restriction forces up the market price so that importers are able to charge p1 for q1. A tariff benefits the exchequer in the country imposing the tariff while the quota benefits domestic importers.