Consumer Surplus with Tariff? The world price of rice is currently $450 per metr

Question

Consumer Surplus with Tariff?

The world price of rice is currently $450 per metric ton. Assume that South Korea is currently charging a $100 per metric ton tariff on imported rice. Assume that currently South Korean rice consumption is three million metric tons, South Korean rice production is 2.9 million metric tons, and South Korean rice imports are 100,000 metric tons. Economic analysts predict that if South Korea eliminates the $100 per metric ton tariff, then South Korean consumption of rice will rise to four million metric tons, and South Korean rice production will fall to two million metric tons. Analysts also believe that if South Korea removes the tariff, that will cause the world price of rice to rise from $450 per metric ton to $475 per metric ton. Use this information to answer the first seven questions.

1.) First, what is the current price of rice (per metric ton) in South Korea? What will it be if S. Korea eliminates the tariff?

I know it is $550 ($450 + 100), but why? Isn't the $100/metic ton tariff only imposed on the 100,000 metic tons that are imported? Why does it get tacked on to the overall price in general? Also, if the tariff is eliminated, why is the answer $450? The question states that analysts believe the price would rise to $475 without the tariff, right?

2.) Calculate the change in consumer surplus if the tariff were to be eliminated

3.) Calculate thechange in producer surplus if the tariff were to be eliminated

4.) Calculate the change in tariff revenue if the tariff were to be eliminated

I confuse myself too much when calculating surplus change. How do I calculate this? And what is the best way to remember how to solve problems like this? Unforunately, the textbook and lecture notes have not helped me much with this :/

Explanation / Answer

(1)

(a) When a tariff is imposed, it is imposed on the imported good itself when it enters the importer country. As a result, importers have to pay a higher price (= $550 in this case), and they pass on the increased tariff to the consumers (this is equivalent to an excise tax imposed on producers, who pass the tax incidence to consumers). Of course, in real-life, if tariff is $X, importers cannot pass on the full tariff amount of $X to consumers, but in simplistic models like this, it is assumed that importers are able to pass on the entire tariff burden to consumers. Therefore, consumers have to pay higher price, leading to an increase in price of the good itself, in importing country's market.

(b) The $475 mentioned in question is what analysts "believe". This is effectively an assumption by the analysts which may or may not hold to be true (a "normative" statement!). However, analysis is to be done on basis of given facts only ("positive" statement basis), so we cannot base our calculations on basis of what analysts believe about prices.

(2)

With tariff, domestic consumption = 3 million MT (with price = $550).

Without tariff, domestic consumption = 4 million MT (with price = $450).

Change in consumer surplus = (1/2) x Unit tariff x (Domestic consumption with tariff + Domestic consumption without tariff)

= (1/2) x $100 x (3 + 4) million

= $50 x 7 million

= $350 million

(Note that a tariff decreases consumer surplus, so elimination of tariff increases consumer surplus)

(3)

With tariff, domestic production = 2.9 million MT (with price = $550).

Without tariff, domestic production = 2 million MT (with price = $450).

Change in producer surplus = - (1/2) x Unit tariff x (Domestic production with tariff + Domestic production without tariff)

= - (1/2) x $100 x (2.9 + 2) million

= - $50 x 4.9 million

= -$245 million

(Note that a tariff increases producer surplus, so elimination of tariff decreases producer surplus)

(4)

After tariff is imposed, Imports (million MT) = Domestic consumption - Domestic production

= 3 - 2.9

= 0.1

Tariff revenue = Unit tariff x Imports = $100 x 0.1 million = $10 million

Therefore, if tariff were eliminated,

Change in tariff revenue = -$10 million

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