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Optimal tariffs, tariff jumping, and heterogeneous firms

  • Matthew T. Cole
  • Ronald B. Davies

The majority of research to date investigating strategic tariffs in the presence of multinationals finds a knife-edge result where, in equilibrium, all foreign firms are either multinationals or exporters. Utilizing a model of heterogeneous firms, we find equilibria in which both pure exporters and multinationals coexist. We utilize this model to study the case of endogenously chosen tariffs. As is standard, Nash equilibrium tariffs are higher than the socially optimal tariffs. Unlike existing models with homogeneous firms, we find that non-cooperative tariffs promote the existence of low-productivity firms relative to the socially optimal tariffs. This highlights a new source of inefficiency from tariff competition not found in models of homogeneous firms. In addition, we find that in many cases the Nash equilibrium tariff when FDI is a potential firm structure is lower than when it is not. As a result, FDI improves welfare by mitigating tariff competition.

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File URL: http://hdl.handle.net/10197/2617
File Function: First version, 2009
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Paper provided by School of Economics, University College Dublin in its series Working Papers with number 200919.

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Date of creation: Oct 2009
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Handle: RePEc:ucn:wpaper:200919
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  7. Marc J. Melitz, 2003. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," Econometrica, Econometric Society, vol. 71(6), pages 1695-1725, November.
  8. Jan G. Jorgensen & Philipp J. H. Schröder, 2005. "Tariffs and Firm-Level Heterogeneous Fixed Export Costs," Discussion Papers of DIW Berlin 496, DIW Berlin, German Institute for Economic Research.
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  17. Svetlana Demidova & Andrés Rodríguez-Clare, 2007. "Trade Policy under Firm-Level Heterogeneity in a Small Economy," NBER Working Papers 13688, National Bureau of Economic Research, Inc.
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  20. Mario Larch, 2008. "Endogenous Tariffs in the Presence of Multinationals," Journal of Institutional and Theoretical Economics (JITE), Mohr Siebeck, Tübingen, vol. 164(3), pages 534-567, September.
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