PUBLIC FINANCE (ECU_08606)

LECTURES

By
Dr. MNAKU H. MAGANYA
Department of Economics and Tax
Management

1
 6. TRADE TAXES
1. Impact of Import Duties
Tariff without domestic production
Tariff with domestic production
2. Impact of Export Tax
3. Methods of Trade Protectionism
• Quota System
• Import Tariff
• Government Subsidies
2
 Impact of Import Duties
Tariff without domestic production

Pd

DWL
P1=Em*Pw(1+t)M A

P0=Em*Pw N B C

0 Q1 Q0 Output

3
 Impact of Import Duties
Tariff without domestic production
Before After Change
1) Domestic Em*Pw Em*Pw(1+t) Increases
Price
2)Quantity Q0 Q1 Decreases
Demanded
3)DWL Zero ABC Imposed
4) Tax Zero NMAB Increases
Revenue

4
 Impact of Import Duties
Tariff with domestic production

Pd S

P1=Em*Pw(1+t) B E
P0=Em*Pw G
A C F
D
Q2 Q4 Q3 Q1 Output

5
 Impact of Import Duties
Tariff with domestic production
Before After Change
1) Price Em*Pw Em*Pw(1+t) Increases
2)Demand Q1 Q3 Decreases
3) Domestic Q2 Q4 Increases
Production
4) Imports Q1-Q2 Q3-Q4 Decreases
5) Tax Zero CBEF Earned
Revenue
6) DWL Zero ABC+EFG Imposed

6
 Impact of Export Tax
Diagrammatical illustration of the impact export
tax:
Pd S

P0=Em*Pw A B E F
P1=Em*Pw(1-t) C G

D
Q2 Q4 Q3 Q1 Output

7
 Impact of Export Tax
Summary of Changes Occurred due to export tax:
Before After Changes
1) Domestic Q1 Q3 Decreases
Production
2)Demand Q2 Q4 Increases
3) Exports Q1-Q2 Q3-Q4 Decreases
4)Tax Revenue Zero CBFE Earned
5) Efficiency Zero ABC+EFG Imposed
Loss

8
 Trade Protectionism
Trade protectionism is a policy that protects
domestic industries from unfair competition
from foreign ones. The five primary tools are
tariffs, subsidies, quotas, standardization
and currency manipulation.
Protectionism is a politically motivated
defensive measure. In the short run, it
works. But it is very destructive in the long
term. It makes the country and its industries
less competitive in international trade.
9
 Methods of Trade Protectionism
1. The common protectionist strategy is to
enact tariffs that tax imports. That
immediately raises the price of imported
goods. They become less competitive when
compared to local goods. This method
works best for countries with a lot of
imports, such as Tanzania.
2. Quota System: Sometimes quotas are fixed
for imports and licenses or permits are
issued for importing goods vs the quota.
10
Trade Protectionism - Quota

11
 Tariffs vs Quota
Although the supply curves in a Quota system and
an import tariff are different, the net effects of
both these instruments on the domestic price,
domestic production, efficiency loss, and the
reduction in imports are identical.
There are, however, two main differences.
1. In the quota system the license/ permit holder
receives the quota rent whereas in the import
tariff, the government receives the revenue.
2. If the demand of the good increases with time and
the quota is fixed, imports do not increase.
12
 Method of Trade Protectionism
3. Standardization: the government of a
country may require all foreign products to
adhere to certain guidelines. For instance,
Tanzania government may demand all
imported shoes be of leather.
4. Currency manipulation, it is a deliberate
attempt by a country to lower its currency
value. This currency manipulation would
make its exports cheaper and competitive.

13
 Methods of Trade Protectionism
5. Subsidizing: Governments also frequently
subsidizing local industries to help them
compete in the global market. Subsidies
come in the form of tax credits or direct
payments.
The most commonly used are farm subsidies
in order to help farmers. Subsidies work
even better than tariffs.

14
Subsidy to Domestic Producer

15
 Subsidy to Domestic Producer
Before After Change
a)Domestic Em x Pw Em x Pw No change
Price
b)Domestic Q2 Q3 Increase
Production
c)Imports Q1 – Q2 Q1 – Q3 Decrease
d)Forex (Q1 – Q2)Pw (Q1 – Q3)Pw Decrease

e)Subsidy Zero S x Q3 Paid

f)DWL Zero Area ABC Imposed
16
 Methods of Trade Protectionism
Advantages
1. If a country is trying to grow strong in a new
industry, tariffs will protect it from foreign
competitors. That gives the new industry’s
companies time to develop their competitive
advantages.
2. Protectionism also temporarily creates
jobs for domestic workers. The protection of
tariffs, quotas, or subsidies allows domestic
companies to hire locally.
17
 Method of Trade Protectionism
3. Discourage consumption of harmful
products and hence protect welfare of
people.
4. Lower imports: Protectionism policies help
reduce import levels and allow the country
to increase its trade balance.
5. Higher GDP: Protectionism policies tend to
boost the economy’s GDP due to a rise in
domestic production.

18
 Methods of Trade Protectionism
Disadvantages
1. In the long term, trade protectionism weakens the
industry. Without competition, companies within
the industry do not need to innovate. Eventually,
the domestic product will decline in quality and be
more expensive than what foreign competitors
produce.
2. Increasing Tanzania protectionism will further
slow economic. It would cause more layoffs, not
fewer. If Tanzania closes its borders, other
countries will do the same.

19
 Methods of Trade Protectionism
3. Increase in prices (due to lack of
competition): Consumers will need to pay
more without seeing any significant
improvement in the product.
4. Economic isolation: It often leads to
political and cultural isolation, which, in
turn, leads to even more economic isolation.
(danger of retaliations from other countries)

20
 Methods of Trade Protectionism
Protection Provided by Tariff
1. Nominal rate of protection (NRP) The nominal
rate of protection due to a tariff is the same as the
tariff rate. Say price is $100 at world market and
tariff is 5%. Domestic price will be $105. Then
nominal rate of protection is 5%.
2. Effective rate of protection (ERP) Generally,
there is a tariff not only on the imported final good
but also on the imported inputs or raw materials
used in the domestic production of that final good.

21
 Protection Provided by Tariff
Computation of Effective Rate of Protection
(ERP)
D W
WVA  VA
ERP  W
VA
D W
VA  VA
D
ERP  D
VA

22
 Protection Provided by Tariff
Computation of ERP in some specific cases
Case I Case II Case III
ti=0 tj=0 ti=40% tj=0 ti=40 tj=40
Sales Price 100 140 140
Traded input 50 50 50*1.4=70
Non-traded input 10 10 10
VA(WP) 100-60=40 100-60=40 100-60=40
VA(D) 100-60=40 140-60=80 140-80=60
VAD-VD(WP) 0 40 20
ERP(W) 0% 100% 50%
ERP(D) 0% 50% 33%
23
 THANK YOU
FOR
YOUR ATTENTION!!.

24