4. |Consider the US market for new silicon chips. To keep things simple. assume that new silicon chips constitute a homogenous good. The demand for silicon chips by US consumers is characterized by the following demand curve: QB = 4|] P. The supply of silicon chips by US producers is characterized by the following supply curve: Qs='r'iP5. US producers are operating under perfect competition. Silicon chips are produced and consumed in other countries around the world. and for simplicity assume that changes in the US silicon chip market do not affect the equilibrium price of silicon chips on the world market. Thus. the world price is fixed at F'w = SEQ. a} What would be the price of new silicon chips in the US in autarky? 11} i. Characterize the free trade equilibrium in the US. What is the price of silicon chips? What are the quantities of silicon chips consumed. produced and traded? Are silicon chips imported or exported? ii. How does total social surplus change with trade? Now assume that a specic tariff t is imposed on every silicon chip imported into the US. c) Describe the new equilibrium as a function of the tariff L What is the new price of an silicon chip? Compute the new equilibrium quantities. 11} i. Calculate the total social surplus after instituting this tariff. Remember that social surplus equals consumer surplus. producer surplus and tariff revenue. ii. Graph social surplus as a function of the tariff. iii. What is the tariff level that maximizes social surplus? You now find out that the US silicon chip industry generates benecial spillovers to the rest of the US economy [due to spillover of new production techniques and worker skills to other US manufacturing industries]. Specically. every silicon chip produced in the US generates a $6 spillover to the rest of the economy. This spillover represents an externality and the US silicon chip producers do not gain any part of this benet {unless there is government intervention]. Imported silicon chips do not generate this spillover. Continue with the assumption that tariff t is imposed on imported silicon chips. e} What is the new level of social surplus generated by the US silicon chip market that takes this spillover into consideration [as a function of tariff t)? i. Graph this new social surplus as a function of the tariff. ii. What is the tariff level that maximizes this new social surplus? iii. Is free trade {i=0} the policy that maximizes welfare? Why or why not? g} Given this externality would autarky be preferred from a welfare maximizing perspective to trade with an optimal tariff? Now consider the effects of production subsidy for the US silicon chip market that would replace the tariff. Specically. consider a subsidy s that would be paid by the govemment to US silicon chip producers for every silicon chip produced. The subsidy reduces the marginal costs of every unit produced by the amount of the subsidy. II} Describe the new equilibrium as a lnction of the subsidy s. assuming that s is low enough that silicon chips are still imported into the US. What is the new price of a silicon chip paid by US consumers? Compute as a function of the subsidy s. the new equilibrium quantities of silicon chips produced. consumed. and traded. i] What is the threshold level of the subsidy beyond which the US would become a silicon chip exporter? Assume that s is below this level. i) What are the new levels of consumer surplus, producer surplus, and total social surplus (including the subsidy payment by the government).k) Graph this social surplus as function of the subsidy. What is the subsidy level that maximizes social surplus? Is the surplus-maximizing subsidy non-zero? What is the intuition? 1) Looking at social surplus i. Compare the maximum level of social surplus under the subsidy with the maximum under the tariff. ii. Compare the quantities produced and consumed under these scenarios. lii. Which policy tool is more effective in maximizing welfare? Why