Tariff Wars in the Ricardian Model with a Continuum of Goods

Abstract:     
This paper describes strategic tariff choices within the Ricardian framework of Dornbusch-Fischer-Samuelson (1977) using CES preferences. The optimum tariff schedule is uniform across goods and inversely related to the import demand elasticity of the other country. In the Nash equilibrium of tariffs, larger economies apply higher tariff rates. Productivity adjusted relative size (≈GDP ratio) is a sufficient statistic for absolute productivity advantage and the size of the labor force. Both countries apply higher tariff rates if specialization gains from comparative advantage are high and transportation cost are low. A sufficiently large economy prefers the inefficient Nash equilibrium in tariffs over free trade due to its quasi-monopolistic power on world markets. The required threshold size is increasing in comparative advantage and decreasing in transportation cost. I discuss the implications of the static Nash equilibrium analysis for the sustainability and structure of trade agreements.

Number of Pages in PDF File: 14

Keywords: Optimum tariff rates, Ricardian trade models, WTO, Gains from trade

JEL Classification: C72, F11, F13

Accepted Paper Series