On production subsidies and import tariffs under uncertainty

This paper examines the welfare consequences of production subsidies and import tariffs in a differentiated Cournot duopoly under market demand uncertainty. Utilizing the import-competing framework, we show that the first best policy combines production subsidies and import tariffs. When the domestic government is limited to using only one policy instrument, the superiority of production subsidies over import tariffs depends on the international cost disparity between domestic and foreign firms. Moreover, Laissez-faire yields the lowest expected social welfare for the domestic country. Our results on policy rankings hold regardless of market volatility or the degree of product differentiation.