What’s it: Import tariff is a tax imposed on the price of imported goods. The government usually charges tariffs as a percentage of the price of imported goods. Alternatively, the tariff is levied as a fixed cost for each unit of goods imported, for example, $500 per tonne of imported steel.
The main reasons for charging a tariff include:
- Limiting imports of goods and services by raising prices
- Protecting domestic producers
- In retaliation for unfair trade practices by partner countries.
Import tariffs have pros and cons. It benefits importing countries because tariffs generate revenue for the government. Tariffs can also be an opening point for negotiations between two countries and an instrument for creating a friendly competitive environment for domestic companies.
But, for domestic consumers, tariffs reduce their benefits. The price of imported goods is becoming more expensive.
Import tariff purposes
The purpose of tariffs is to increase import costs for certain goods. For domestic consumers, this reduces the demand for imported goods because they are more expensive. For exporters, tariffs make their products uncompetitive in the markets of the destination country.
The government also imposed higher tariffs as a retaliatory reaction. Trading partners may try to use unfair competitive practices such as dumping, to the detriment of domestic producers.
Tariffs increase the price of imported goods. That makes it less attractive to domestic consumers. For domestic producers, tariffs reduce competitive pressures on the market. The hope is that consumers will switch to domestic products.
A switch from imported products to domestic products should spur domestic industries to expand. It benefits the economy as a whole because it creates more jobs and income.
Well, I’ll go into detail about some of the reasons or goals for the government to impose higher import tariffs.
- Protecting domestic consumers. Some imported goods are cheap but may be harmful to consumers and environments. By making goods more expensive, the government tries to reduce the consumption of such goods.
- Protecting domestic producers. Increased imports have increased pressure on domestic producers. The pressure will be more significant if imported products are priced lower than the domestic market prices. By raising import duties, the government is trying to reduce such pressure. That should spur the domestic industry to expand and create more jobs.
- Protecting national security. Some products may be considered threatening national security because they are a way to obtain political and military information. For example, the Donald Trump administration began an investigation into the grid’s import, suspected of endangering national security in early 2020.
- Protecting infant industries. Tariffs can protect infant industries. The government may have relaxed tariffs if the industry had grown and was more competitive. This kind of reason is known as the infant industry argument.
- Retaliation. The government imposes tariffs on partner countries for engaging in unfair trade practices, such as dumping. Foreign producers deliberately sell at a lower price than in their markets. Such practices are, of course, detrimental to domestic producers because they violate fair competition principles.
Different between import tariffs and import quotas
Tariff limits imports by increasing the price of imported goods. Say, if the government sets a 10% tariff, the price of imported goods will increase by 10% than the original price when they enter the domestic market.
Meanwhile, quotas limit the quantity of goods imported. For example, the government reduced the import quantity from 400 tonnes to 300 tonnes. This reduces supply in the domestic market, thereby pushing domestic prices up, unless domestic producers can supply the difference that was lost due to quotas (100 tons = 400 tons – 300 tons).
Unlike tariffs, import quota doesn’t generate revenue for the government. However, it can be effective because it is not affected by exchange rate movements.
For example, suppose the exchange rate has appreciated by about 10%. That makes imported goods cheaper. And, if the government increases the import tariff by 10%, it will not affect the selling price of imported products in the domestic market.
Furthermore, the government might combine tariffs and quotas to limit imports (tariff-rate quota). In that case, the government sets a limit on the quantity of goods imported. The government still allows a higher import quantity, but imposes a higher tariff for each additional import.
Types of import tariffs
Two types of import tariffs:
- Ad valorem tariff – the calculation is based on a fixed percentage of the imported product’s price. Therefore, the nominal tariffs paid will vary according to the trend of prices for imported products on the international market.
- Specific rates – the calculation is based on a fixed amount of money and does not vary with the goods’ price.
For example, ABC Company imports soybean oil from China and buys it at $100 per tonne. Say, the Indonesian government sets an ad valorem rate of around 20%. In that case, the company must pay the government $20 per tonne. If the price drops to $80 per tonne, the company will pay a lower nominal value, $16 per tonne.
Meanwhile, specific rates involve a fixed nominal value. Say, the government imposes an import tariff of $25 per tonne. Regardless of the price of soybean oil, $100, or $80 per tonne, the company will still pay $25 per tonne to the government.
Import tariff advantages
Some of the advantages of import tariffs are:
- Source of government revenue. Tariffs primarily benefit governments in importing countries. Of course, by setting it, they get income apart from taxes.
- Forcing fairer competition. Tariffs are a way to prevent unfair competition in international trade.
- Starting point of international negotiations and agreements. Tariffs may be the last option. The government will probably negotiate with partner countries the best course of action for both parties. That opens up another trade agreement space.
- Encouraging domestic production growth. Imports raise prices and should reduce the demand for imported goods. Consumers shift the demand for domestic goods. Increased demand encourages domestic producers to increase output. That will ultimately create more income and jobs for the domestic economy. Such support is essential, especially in strategic and emerging industries.
Import tariff disadvantages
Proponents of free trade criticize import tariffs for having several drawbacks, including:
- Consumers bear higher prices. Tariffs increase the selling price of imported products in the domestic market. That makes consumers have to pay higher prices for imported products.
- Raises deadweight loss. Tariffs create inefficiencies on the consumption and production side. On the production side, inefficient domestic producers can still operate even though their production costs are higher than those of imported goods. On the other hand, consumers can no longer enjoy low prices.
- Trigger retaliation from partner countries. Partner countries have an interest in their industry because it provides employment and income. Tariffs suppress their industrial performance, prompting partner countries to retaliate. Such a situation might lead to a trade war.
Trigger a trade war
Attempts to pressure partner countries through tariffs can turn into a cycle of unproductive retaliation, commonly known as a trade war.
The recent trade war between the United States and China is a good example. President Donald Trump, in 2018, began imposing tariffs and other trade barriers on China to force it to make fundamental changes to what the US says are unfair trade practices.
Trump stated that the United States would charge a 25% tariff on $50 billion of Chinese exports. A total of $34 billion will begin on July 6, 2018, with the remaining $16 billion starting later.
China then became inflamed. In August 2018, China announced 25% tariffs on $16 billion in US goods, including vehicles and crude oil, in response to US policy.