4.2.1—Tariffs

A tariff is a tax on imports that raises their domestic price and changes who buys, sells and receives income.

At the world price, consumers can buy the imported good cheaply. A tariff creates a wedge: the domestic price rises, quantity demanded falls, domestic supply rises, government collects revenue, and imports shrink.

Trace the price change first, then identify effects on consumers, producers, government and deadweight loss.

If the world price is 10 and a tariff of 2 is imposed, the domestic price tends toward 12 for a small open economy; buyers purchase less and local firms supply more.

A tariff is not paid only by foreign firms. Its incidence depends on elasticities and market power; domestic consumers often bear part of it.