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Tariffs and Quotas: Effects on Imported Goods and Domestic Prices

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  • 0:01 Basics of Tariffs and Quotas
  • 2:06 Tariff Effects
  • 3:49 Quota Effects
  • 5:13 Additional Effects of…
  • 6:23 Lesson Summary
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Lesson Transcript
Instructor: Aaron Hill

Aaron has worked in the financial industry for 14 years and has Accounting & Economics degree and masters in Business Administration. He is an accredited wealth manager.

Explore what tariffs and quotas are and what effect they can have on the supply of imported goods. Find out how these two economic tactics can influence the prices you pay for many of the everyday items you may purchase.

Basics of Tariffs and Quotas

Every time you go shopping, you likely pay higher prices because of tariffs and quotas. It is hard to believe that some of the goods you may be purchasing cost you more than twice as much as they could because of these economic measures! Dairy products, vegetables, tobacco, wool clothes, auto parts, brooms, Chinese tires, leather shoes, peanuts, and chocolate are just some of the common items we pay more for because of tariffs or quotas.

Let's first review what tariffs and quotas are and then discuss the effects they can have on imported goods and the prices we pay. A tariff is a tax imposed on imports, which are goods coming into a country. The tax may range from a few percent of the cost of the good to well over 100% of the cost of the good! This tax is ultimately passed on to consumers, resulting in higher prices.

A quota sets a numerical limit on how much of a product can be imported into a country. This helps to protect producers of domestic products from facing too much competition and ultimately going out of business. Ultimately, quotas benefit and protect the producers of a good in a domestic economy, though the consumers end up paying more if the domestically produced goods are priced higher than imports.

There are many reasons that tariffs and quotas may be used. The most common reasons are often geared towards protecting newer or inefficient domestic industries that are seen as important to the American economy and the production of jobs. The government view is that by protecting these domestic industries, we can maintain jobs through increased sales of domestic goods. This ultimately can lead to higher tax revenue collected.

If we didn't protect some of our firms, other countries could dump thousands of products on our country at extremely low prices and potentially hurt many of our domestic businesses. Now, let's explore in more detail the effects of tariffs and quotas.

Tariff Effects

The additional tax, or tariff, on imported goods can discourage foreign countries or businesses from trying to sell products in a foreign country. The additional taxes make the foreign import either too expensive or not nearly as competitive as it would be if the tariff didn't exist. This can lead to fewer choices of goods and a lower quality for consumers. The amount of chocolate, fruits and vegetables, and automotive parts you have to choose from are all subject to the effects of tariffs.

Domestic producers benefit by ultimately facing reduced competition in their home market, which leads to lower supply levels and higher prices for consumers. As you can see from the graph below, S0 and D0 represent the original supply and demand curves, which intersect at (P0, Q0). St shows what the supply curve is with the introduction of the tariff. The market then settles at (Pt, Qt). Less of the good is produced, and consumers pay higher prices.

Graph showing tariff effect
chart of tariff effect

When a consumer does purchase a higher-priced imported good with a tariff imposed on it, the consumer now has less money to spend on other things. This forces consumers to either buy less of the imported good or less of some other good, ultimately lowering the purchasing power of consumers. It is important to remember that although consumers may pay higher prices because of tariffs and have limited options, the potential benefit is that domestic sales of goods can increase, ultimately leading to higher domestic sales and more jobs for companies inside the country.

Quota Effects

The numerical limits imposed on imported goods through quotas ultimately leads to higher prices paid by consumers. Essentially, the import quota prevents or limits domestic consumers from buying imported goods. The import quota reduces the supply of imports. This reduces the overall natural supply of goods in the domestic country and causes prices to rise above what many other countries may pay for a good where there are no artificially imposed limits on goods.

As you can see from the graph below, the market initially begins at (P0, Q0). The supply curve Sd + i0 represents the quantity supplied by both domestic and foreign producers before the quota is imposed on foreign imports. D0 is the domestic demand curve. After the quota, the supply curve looks like Sd + i1. The consumer ends up paying higher prices, while both the foreign and domestic producers benefit.

Graph showing quota effect
graph showing quota effect

While consumers pay higher prices and ultimately can't buy as much of a foreign import, both the domestic and foreign producers benefit from the limited supply. Because the supply is now smaller, consumers are willing to pay more for their product. This can lead to higher profit margins.

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