International Trade Theory and Policy
by Steven M. Suranovic

Trade 110

Trade 110

Trade Problem Set 110 2-4

1. Consider the following trade policy game between two large country governments, US and EU.  The policy choices for each government are to choose either free trade on all imports or to place an optimal tariff on all imports.  The national welfare payoffs for each country when both choose free trade are given as (50, 50).  The first term is the US national welfare, the second is the EU’s. 

 

 

(US, EU)

EU

US

 

Free Trade

 

Optimal Tariff

 

Free Trade

 

(50,50)

 

(40, 55)

 

Optimal Tariff

 

 

     

    1. Based on the tariff analysis for a large importing country and assuming symmetry between the two countries, complete the empty two cells in the table above. 
    2.  

    3. Among the four outcomes, which would the US most prefer? … which would the EU most prefer?

    4.  

    5. Identify which cell corresponds to the Nash (or non-cooperative) equilibrium.

    6.  

    7. Which cell corresponds to the cooperative equilibrium?

    8.  

    9. Yes or No?  Does this game help justify a trade liberalization organization like the WTO?   

    10.  

    International Trade Theory and Policy - Chapter 110: Last Updated on 2/28/08