Question

You are watching the nightly news. A political candidate being interviewed says, "I'm for free trade, but it must be fair trade. If our foreign competitors will not raise their environmental regulations, reduce subsidiaries to their export industries, and lower tariffs on their imports of our goods, we should retaliate with tariffs and import quotas on their goods to show them that we wont be played for fools!"

PART A. If a foreign country artificially lowers the cost of production for its producers with lax environmental regulations and direct subsidiaries and then exports the products to us, who gains and who loses in our country, producers or consumers?

PART B. Continuing from the previous question, does our country gain or lose? Why?

PART C. If a foreign country subsidizes the product of a good exported to the United States, who bears the burden of their mistaken policy?

PART D. What happens to our overall economic well-being if we restrict trade with a country that subsidizes its export industries? Explain.

PART E. Is it a good policy to threaten trade restrictions in the hope that foreign governments will reduce their trade restrictions? Explain.

Answer 1

A. The consumers gain as they get cheaper products. The producers lose as they cant compete with the prices of the foreign country.

B. Our country will gain as the surplus to consumers is higher than the loss to producers.

C. The taxpayers of the foreign country will bear the burden since the government will subsidize the production through tax revenue only.

D. The producers will gain and the consumers will lose, except the loss to the consumers would be higher than the gain of the producers. This will result in deadweight loss.

E. Depends on how the other country reacts. Usually its not a good policy since if other country does not budge after the threat, then the home country either acts on its threats and hence reduces the trade or backs down. Both of these results are undesirable.