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Optimal tariffs, retaliation, and the welfare loss from tariff wars in the Melitz model

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  • Felbermayr, Gabriel
  • Jung, Benjamin
  • Larch, Mario

Abstract

This paper characterizes analytically the optimal tariff of a large one-sector economy with monopolistic competition and firm heterogeneity in general equilibrium, thereby extending the small-country results of Demidova and Rodríguez-Clare (JIE, 2009) and the homogeneous firms framework of Gros (JIE, 1987). The optimal tariff internalizes a mark-up distortion, an entry distortion, and a terms‐of-trade externality. It is larger when the dispersion of firm-level productivities is higher, and the country's relative size or relative average productivity is bigger. Furthermore, in the two-country Nash equilibrium, tariffs turn out to be strategic substitutes. Small or poor economies set lower Nash tariffs than large or rich ones. Lower transportation costs or smaller fixed market entry costs induce higher equilibrium tariffs and larger welfare losses relative to the case of zero tariffs. Similarly, cross-country productivity or size convergence, and higher firm-level productivity dispersion increase the global welfare loss due to non-cooperative tariff policies. These results suggest that post WWII trends have increased the relative merits of the WTO.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of International Economics.

Volume (Year): 89 (2013)
Issue (Month): 1 ()
Pages: 13-25

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Handle: RePEc:eee:inecon:v:89:y:2013:i:1:p:13-25

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Web page: http://www.elsevier.com/locate/inca/505552

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Keywords: Optimal tariffs; Tariff wars; Heterogeneous firms; World Trade Organization;

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Citations

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Cited by:
  1. Felbermayr, Gabriel J. & Larch, Mario & Lechthaler, Wolfgang, 2012. "Endogenous labor market institutions in an open economy," International Review of Economics & Finance, Elsevier, vol. 23(C), pages 30-45.
  2. Jasmin Gröschl, 2012. "Neuer Protektionismus – Gefahren für den Freihandel," Ifo Schnelldienst, Ifo Institute for Economic Research at the University of Munich, vol. 65(15), pages 35-39, 08.
  3. Paul S. Segerstrom & Yoichi Sugita, 2013. "The Impact of Trade Liberalization on Industrial Productivity," CESifo Working Paper Series 4365, CESifo Group Munich.
  4. Felbermayr, Gabriel & Jung, Benjamin, 2012. "Unilateral trade liberalization in the Melitz model: A note," University of Tuebingen Working Papers in Economics and Finance 30, University of Tuebingen, Faculty of Economics and Social Sciences.
  5. Arnaud Costinot & Dave Donaldson & Jonathan Vogel & Ivan Werning, 2013. "Comparative Advantage and Optimal Trade Policy," NBER Working Papers 19689, National Bureau of Economic Research, Inc.
  6. Mario Larch , & Wolfgang Lechthaler, 2011. "Whom to Send to Doha? The Shortsighted Ones!," Kiel Working Papers 1695, Kiel Institute for the World Economy.
  7. Gabriel J. Felbermayr & Benjamin Jung & Mario Larch, 2013. "Icebergs versus Tariffs: A Quantitative Perspective on the Gains from Trade," CESifo Working Paper Series 4175, CESifo Group Munich.
  8. Fabrice Defever & Alejandro Riaño, 2013. "China's Pure Exporter Subsidies," FIW Working Paper series 121, FIW.
  9. Gabriel J. Felbermayr & Benjamin Jung, 2011. "Home Market Effects and the Single-Sector Melitz Model," CESifo Working Paper Series 3695, CESifo Group Munich.
  10. Hübler, Michael & Pothen, Frank, 2013. "The optimal tariff in the presence of trade-induced productivity gains," ZEW Discussion Papers 13-103, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
  11. Felbermayr, Gabriel & Jung, Benjamin & Larch, Mario, 2012. "Tariffs and welfare in new trade theory models," University of Tuebingen Working Papers in Economics and Finance 41, University of Tuebingen, Faculty of Economics and Social Sciences.
  12. Fabrice Defever & Alejandro Riaño, 2012. "China's pure exporter subsidies," LSE Research Online Documents on Economics 48929, London School of Economics and Political Science, LSE Library.

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