Suppose the U.S is an importer of product X and that there are no trade restrictions. Let us assume that the U.S. consumers buy 1 million units of X each year, of which 400,000 are produced domestically and 600,000 are imported.
a) Suppose a technological advance in Japan causes the world price of X to fall by $100. Draw a graph to show how this change affects the well-being of U.S. consumers and U.S. producers of product X. (You can assume that the U.S. is a small country in the world market for product X.)
ii) After the fall in price, consumers buy 1.2 million units of X, of which 200,000 are produced domestically and 1 million are imported. Calculate the change in the consumer well-being and producer well-being from the price reduction. Which is larger? Why?
iii) If the U.S. government responded by imposing a $100 tariff on imported X, what would this do? Calculate the tariff revenue that would be raised and the deadweight loss of the tariff. Would the tariff be a good policy from the point of view of U.S. welfare? Who would support the tariff?
iv) Suppose the $100 price reduction is not due to a technological advance but to a $100 subsidy per unit of X produced in Japan. Would this additional information change your analysis or your conclusion regarding the desirability of the tariff? Explain.