ChainWhat it assumes · how to break it
Start
The government imposes a tariff on imported steel, as the US did in 2018 when it placed a 25% tariff on most steel imports.
1
As a result, the price of imported steel to domestic buyers rises by up to the amount of the tariff.
tariff
tariff
Assumes: Importers pass the tariff on in full.
But: Foreign exporters may cut their prices to stay competitive, so the price to buyers rises by less than the tariff.
2
This means buyers switch to home-produced steel, so the volume of steel imports falls and spending on imports falls.
expenditure switching · PED
expenditure switching · PED
Assumes: Demand for imported steel is price elastic.
But: If domestic firms cannot supply enough steel or the right grades, demand for imports is price inelastic and import volumes fall little.
3
Therefore, if exports are unchanged, net exports rise and the deficit on trade in goods narrows.
current account · trade in goods
current account · trade in goods
Best link to attack
Assumes: Trading partners do not retaliate and exports are unaffected.
Assumes: Trading partners do not retaliate and exports are unaffected.
But: Partners often retaliate, as the EU did in 2018 with tariffs on US goods such as bourbon and motorcycles, and dearer steel raises costs for exporters that use it, so exports fall too.
End
Spending on imports falls, so the trade balance improves, as long as exports do not fall too.
Evaluation chain
- E1However, the improvement depends on trading partners not retaliating against the country's exports.
- E2Because tariffs are highly visible, partner governments face pressure to respond, and they often target exports that matter politically to the country imposing the tariff.
- E3As a result, export volumes fall, and steel-using exporters lose competitiveness from higher input costs at the same time.
- E4So the trade balance improves by much less than the fall in steel imports suggests, and in a trade war it may not improve at all.
Another way to attack it: A tariff on one good does not tackle the underlying causes of a trade deficit, such as weak productivity or high consumer spending. If buying fewer imports pushes up the exchange rate, other imports become cheaper and exports dearer, reversing part of the gain.
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Questions this answers
- Assess the effectiveness of tariffs as a way to reduce a current account deficit.
- Discuss the likely impact of protectionism on a country's trade balance.
- Explain why retaliation may limit the benefits of a tariff.
Diagram
Tariff diagram: world supply at Pw shifts up to Pw + tariff. Imports fall from (Q4 - Q1) to (Q3 - Q2). Trade data before and after the tariff make good evidence.
Reverse and related
Tariff removed → imports rise and the trade deficit widens, unless exports rise as partners cut their own tariffs.