Home’s demand curve for widgets is D = 5000-20P, where D is quantity demanded and P is the competitive price. Home’s competitive supply curve is given by MC = 100 + S/10, where S is quantity-supplied. In a competitive market, P = MC.
Go back to the widget market in (1), but assume Home is a very small country and the world widget price is $180. Graph this.
a) Calculate the effects of a $10 tariff on imported goods. Relative to free trade, what is the change in imports, producer surplus, consumer surplus, and government revenue? Is Home better off overall?
b) Assume that Home has signed a trade agreement that prevents it from imposing tariffs. Instead, it sets an import quota of 300 units, and the government auctions off import licenses to the highest bidder. Calculate the effects of this quota. Relative to free trade, what is the change in imports, producer surplus, consumer surplus, and government revenue? Is Home better off overall? In what other ways would the quota be different from the tariff?
c) Calculate the effects of a $10 subsidy for domestic firms on each widget produced. Relative to free trade, what is the change in imports, producer surplus, consumer surplus, and the government budget? Is Home better off overall?
d) How would your answers to (a) and (c) be different if Home had a learning spillover (i.e., a positive production externality) of $10 per unit produced?
e) Calculate the effects of a $10 consumption tax for each widget domestic buyers purchase. Relative to free trade, what is the change in imports, producer surplus, consumer surplus, and government revenue? Is Home better off overall?
f) How would your answers to (a) and (e) be different if Home had a negative consumption externality (e.g., from pollution the widget creates) of $20 per unit consumed?