Discretionary Trade Policy and Excessive Protection

TLDR

The paper proposes a positive theory of tariff formation that argues optimal trade policy can be time inconsistent. The model assumes a benevolent government with redistributive goals that may offer unexpected protection because unanticipated policy yields larger redistributive effects. The analysis shows that a time‑consistent equilibrium requires excessive protection, with tariffs dominating production subsidies and reversing the traditional normative ordering of trade instruments. © 1987 American Economic Association.

Abstract

This paper proposes a positive theory of tariff formation based on the idea that the optimal trade policy may be time inconsistent. A benevolent government, with redistributive goals, may have an incentive to provide unexpected protection, since the redistributive effects of trade policy are larger if the policy is unanticipated. The suboptimal, but time consistent, policy involves an excessive amount of protection. Furthermore, in a time-consistent equilibrium, tariffs may dominate production subsidies. Thus, the requirement of time consistency can lead to a reversal of the traditional normative ordering of tariffs and subsidies as instruments of trade policy. Copyright 1987 by American Economic Association.