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Tutorial 8: Answers

Question 1:
The following table summarizes two hypothetical situations in the market for shirts in a small economy. The first column depicts the situation in the presence of a $5 per unit tariff on imported shirts. The second column represents the situation in the absence of the tariff (i.e., under free trade). You may assume that transportation costs are zero and that demand and supply curves are linear.

| With $5 per unit Tariff | Free Trade | World price of shirts | $20 | $20 | Tariff per unit | $5 | $0 | Price per unit of shirts | $25 | $20 | Quantity of Shirts (‘000s) | 200 | 250 | Quantity of Shirts (‘000s) | 120 | 50 |

(a) Calculate the quantity imported under free trade and with the tariff.

Import quantity = domestic consumption – domestic production Under free trade: 250 – 50 = 200 With the tariff: 200 – 120 = 80 (b) Use a diagram to illustrate the effect of the tariff on prices and quantities in this case, and then calculate the changes in consumer surplus, producer surplus, and tariff revenue resulting from the tariff.

Changes in: Consumer surplus = -(a+b+c+d) = (200x5) + 0.5(50x5) = -$1,125,000 (loss) Producer surplus= a = (50x5) + 0.5(70x5)= $425,000 (gain) Tariff revenue = c = 80x5 = 400,000 (gain) Net national welfare = -(b+d) = -0.5[(70x5) + (50x50] = - $300,000 (loss)

P($) D S

25 Pw+t

a b c d 20 Pw

50 120 200 250

Question 2:
The following table summarizes two hypothetical situations in the market for T-shirts in a large economy. The first column depicts the situation in the presence of a $10 per unit tariff on imported T-shirts. The second column represents the situation under free trade. You may assume that demand and supply curves are linear.

| With t=$10 | Free Trade | World price | $45 | $50 | Domestic price |…...

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