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CA Foundation · Business Economics · International Trade

When a small open economy imposes an import tariff on a good, which of the following correctly describes the usual effect on the domestic market?

An import tariff raises the domestic price of the good above the world price. Domestic producers respond by producing more, while consumers buy less, so consumption falls and imports decline. The government also collects duty revenue on the imports that still come in.

  1. ADomestic price falls, domestic production falls and consumption rises
  2. BDomestic price rises, domestic production rises and consumption fallsCorrect
  3. CDomestic price rises, domestic production falls and consumption rises
  4. DDomestic price stays unchanged, but government revenue rises

Explanation

The tariff raises the domestic price above the world price. Higher price encourages domestic producers to produce more and discourages consumers, so consumption falls. Imports decline and the government earns revenue on the remaining imports. The option showing a price fall is the reverse of the effect.

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