Imports are the gap between domestic demand and domestic supply.
A tariff is a tax on imports. In a competitive small-country model, the world price is given and foreign supply is available at that price. If the world price is below the no-trade equilibrium, domestic demand exceeds domestic supply and imports fill the gap. A per-unit tariff raises the landed import price by the tariff while imports remain positive. At the higher domestic price, domestic producers supply more and consumers demand less, so imports contract from both ends. Draw domestic demand and supply, the world-price line and the tariff-inclusive line; mark both quantities at each price. Once a tariff is prohibitive, imports stop and the domestic price is determined by domestic equilibrium, rather than continuing to rise mechanically with the tariff.
- Tariff and model
- A tariff is a tax on imports; a per-unit tariff charges a fixed amount on each imported unit. A small country here is too small a buyer to change the world price, regardless of its physical size.
- Price and quantity
- P is price per unit; Q is quantity per period. Qd is domestic quantity demanded and Qs domestic quantity supplied. At a price below the no-trade equilibrium, imports fill the gap: Qd - Qs.
- Prohibitive tariff
- While imports continue, the tariff raises domestic price, reducing Qd and increasing Qs. A prohibitive tariff is high enough to stop imports. Domestic demand and supply then determine the price.
Label the diagram before calculating
Axes and curves
Vertical axis: price per unit. Horizontal axis: quantity per period. Draw downward domestic demand, upward domestic supply and a horizontal world supply price for the small country.
Import gaps
At each relevant price, mark domestic production on supply and total consumption on demand. Imports are the horizontal gap.
Prohibitive boundary
Use the world price plus tariff only while imports remain positive. Here the no-trade price is 6, so tariff 2 or more stops imports.
Model limits
The world price is fixed; no market power, transport costs, smuggling, retaliation or external benefits are included. Actual outcomes require those assumptions to be checked.
| Tariff/unit | Domestic price | Domestic Qs | Domestic Qd | Imports |
|---|---|---|---|---|
| 0 | 4 | 40 | 120 | 80 |
| 0.5 | 4.5 | 50 | 110 | 60 |
| 1 | 5 | 60 | 100 | 40 |
| 1.5 | 5.5 | 70 | 90 | 20 |
| 2 | 6 | 80 | 80 | 0 |
| 3 | 6 | 80 | 80 | 0 |
Worked example: A $1 tariff shrinks the import gap
Domestic demand is P = 10 - 0.05 Q and supply is P = 2 + 0.05 Q. The world price is $4 per unit. Quantity is units per day. There are no transport costs or other barriers; a $1 per-unit tariff is introduced.
- Without trade, set demand equal to supply: 10 - 0.05Q = 2 + 0.05Q, so 8 = 0.1Q and Q = 80. Substitution gives P = 6. The world price of 4 is lower, so the economy imports.
- At P = 4, demand gives Qd = (10 - 4)/0.05 = 120; supply gives Qs = (4 - 2)/0.05 = 40. Imports are 120 - 40 = 80 units per day.
- The tariff raises price to 4 + 1 = 5 while imports continue. Qd = (10 - 5)/0.05 = 100 and Qs = (5 - 2)/0.05 = 60. Imports fall to 100 - 60 = 40 units per day.
- A tariff 2 reaches the no-trade price 6: both quantities are 80 and imports are zero. A tariff 3 cannot force price 7 when domestic competition supplies equilibrium output at 6.
Watch out for this
A tariff reduces imports only by making consumers buy less.
It also encourages domestic supply. Calculate imports as Qd minus Qs at the new price.
Check your understanding
At a tariff-inclusive price, domestic demand is 110 and domestic supply 70. How much is imported?
- 110 units.
- 70 units.
- 40 units.