5 Steps to a 5 AP Microeconomics, 2014-2015 Edition

Elasticity, Microeconomic Policy, and Consumer Theory ‹ 91

Example:

The hypothetical domestic supply and demand for steel is pictured in Figure 7.16.

The domestic price is $100 per ton and the equilibrium quantity of domestic

steel is 10 million tons. Maybe other nations can produce steel at lower cost.

As a result, in the competitive world market, the price is $80 per ton. At that

price, the United States would demand 12 million tons but only produce

8 million tons, and so 4 million tons are imported. It is important to see that

in the competitive (free-trade) world market, consumer surplus is maximized

and no deadweight loss exists. You can see the consumer surplus as the triangle

below the demand curve and above the $80 world price.

If the steel industry is successful in getting a protective tariff passed through

Congress, the world price rises by $10, increasing the quantity of domestic

steel supplied and reducing the amount of steel imported from four million to

two million tons. A higher price and lower consumption reduces the area of

consumer surplus and creates deadweight loss.

Economic Effects of the Tariff

• Consumers pay higher prices and consume less steel.If you are building airplanes or door
  hinges, you have seen an increase in your costs.


• Consumer surplus has been lost.


• Domestic producers increase output.Domestic steel firms are not subject to the tariff, so
  they can sell more steel at the price of $90 than they could at $80.


• Declining imports.Fewer tons of imported steel arrive in the United States.


• Tariff revenue. The government collects $10 ¥2 million =$20 million in tariff revenue
  as seen in the shaded box in Figure 7.17. This is a transfer from consumers of steel to the
  government, not an increase in the total well-being of the nation.


• Inefficiency.There was a reason the world price was lower than the domestic price. It was
  more efficient to produce steel abroad and export it to the United States. By taxing this
  efficiency, the United States promotes the inefficient domestic industry and stunts the
  efficient foreign sector. As a result, resources are diverted from the efficient to the ineffi-
  cient sector.


• Deadweight loss now exists.

TIP

Sd

Dd

Quantity of Steel

(millions of tons)

$ per ton

Pd = $100

8

Pw = $80

$120

10 12

imports = 4

Figure 7.16