8. Tariffs

Suppose the nation of Isoland is an importer of textiles and is looking for a way to raise government revenue. The following graph shows the effect of a tariff on textile imports.

The graph shows the market for textile. Price is on the vertical axis and quantity is on the horizontal axis. The free market equilibrium is where the upward sloping supply curve and a downward sloping demand curves cross. The world price line labeled P_w is lower than the equilibrium price. It crosses the supply curve at a quantity labeled Q_s one and it crosses the demand curve at a quantity labeled Q_d one. The price with tax line is labeled P_w plus T is above P_w and the below the equilibrium price. It crosses the supply curve at a quantity labeled Q_s two and it crosses the demand curve at a quantity labeled Q_d two. The quantity Q_s two is greater than Q_s one, whereas the quantity Q_d two is lower than Q_d one. The area above the P_w plus T line and to the left of the free market equilibrium is labeled A. A triangle above P_w plus T line and below the free market equilibrium is labeled B. A trapezoid between P_w and P_w plus T and to the left of the of the supply curve is labeled C. A triangle to the right of the supply curve and above P_w is labeled D. A rectangle between P_w and P_w plus T and between Q_s two and Q_d two is labeled E. A triangle to the left of the demand curve and between P_w and P_w plus T is labeled F. A triangle to the left of the supply curve and below P_w is labeled G.

Price of TextilesQuantity of TextilesDemandSupplyPWPW+TABCDEFGQS,1QS,2QD,2QD,1

Having rejected a tariff on textiles (a tax on imports), the president of Isoland is now considering the same-sized tax on textile consumption (including both imported and domestically produced textiles).

Under a textile consumption tax, the quantity of textiles consumed in Isoland will be the quantity consumed under a tariff, and the quantity produced in Isoland will be the quantity produced under a tariff.

The following table shows the effect of an import tariff on the nation of Isoland.

Complete the remaining columns of the following table by indicating the effect of the same-sized tax on textile consumption.

	Before Tariff or Tax	Under Tariff	Under Consumption Tax
After	Change	After	Change
Consumer Surplus	A+B+C+D+E+FA+B+C+D+E+F	A+BA+B	(C+D+E+F)C+D+E+F
Producer Surplus	GG	C+GC+G	+C+C
Government Revenue	None	EE	+E+E
Total Surplus	A+B+C+D+E+F+GA+B+C+D+E+F+G	A+B+C+E+GA+B+C+E+G	(D+F)D+F

Compared to the tariff, the consumption tax raises revenue for the government and has deadweight loss associated with it