Suppose S-land imports beef. S-land is a small country on the world market - they face a fixed world price, Pw that their import marketing firms pay for imported beef. Historically, S-land has limited beef imports, because they have some usable but high cost grazing land, and a tradition of cattle and beef production.
a. Initially (in period 0), S-land maintains an import quota. The agriculture department sets an import quota quantity, M*, and allocates licenses for the designated quota in proportion to the number of importing agents, who are all of the queen's first or second cousins. Imports beyond level M* are strictly forbidden.
i. Graphically show and explain the initial equilibrium in domestic supply, demand, and prices. Also show and explain import and price determination on the world market - it might help to use 2 side-by-side graphs.
b. After completing the Uruguay GATT round, S-land decided to conform to WTO. They implemented a tariff-quota. That is, a tariff, t, was defined as the exact difference between the domestic price, Pd, and the world price, Pw, immediately before implementing the new policy in period 0. S-land maintains the import quota, but now allows imports above the qouta to enter after the tariff is paid.
Suppose 5 years pass, and import demand grows - assume that the new import demand curve shifts out, increasing import quantity by about 25% at any given price along the import demand curve.
ii. Graphically show the period 0 and year 5 equilibrium for imports, and prices - be sure to indicate the effective import supply curve in terms s of world and domestic prices with the tariff quota in place.
iii. Assuming that the tariff quota stays in place, graphically identify the new trade surplus, quota rent, tariff revenues, and net welfare.
iv. How does net welfare compare to what it would have been in year 5, if the import quota had been maintained instead.