Who 'pays' the tariff?
Monday, 7 June 2010
M A Taslim
Bangladesh has persistently demanded duty-free access to the prized US market. Virtually all developed countries have granted duty-free access to the export products of the least developed countries (LDCs) in line with several resolutions in multilateral bodies such as the World Trader Organisation (WTO). However, the USA did not comply; it denied duty-free access to most of the exports from the least developed countries (LDCs), especially of Asia, under its Generalised System of Preference (GSP) scheme. Less than 5.0 per cent of the exports of Bangladesh to the USA receive duty-free treatment, mostly on an or most favoured nation (MFN) basis.
What is particularly galling is that the duty rates on Bangladeshi products are much higher than that on products from the richest countries. The US government collected $563 million in import tariffs on imports of goods of only $3.7 billion from Bangladesh in 2009 - an average duty rate of 15.2 per cent. During the same year, import of goods worth over $47 billion from the UK attracted import duties of only $285 million, an average rate of only 0.6 per cent. The inequity of the US tariff structure is deplorable, it hurts the well-being of the poor countries of Asia.
These issues were discussed in a recent seminar. One of the speakers mentioned that Bangladesh "paid" the above-mentioned disproportionate duties on its exports to the USA. The US ambassador, who was one of the invited special guests, contradicted this oft-repeated statement. He said tariffs on imported goods are actually paid by the American importers, and not by foreign exporters. Hence, the claim that Bangladesh "paid" the import duties is patently false. Another invited guest rebutted the ambassador's argument by pointing out that when a tariff is imposed on a product, the importers pay a lower price to the exporters such that the incidence of the tariff eventually falls on the exporters.
If anyone was confused by these conflicting claims and sought to clarify matters with an economist, he would be farther confused since the economist would in all likelihood respond " Well, it depends …"!
Indeed, the incidence of a tariff depends on the market demand and supply conditions. One would get dramatically different answers depending on the market situation. If the supply carve for the export product is vertical, then the entire tariff on the product will be borne by the exporters, i.e. the export price will decline by the full amount of the tariff. In this event, the claim that Bangladesh "pays" the tariff will be entirely justified.
If the supply curve is horizontal, i.e. the industry is of the constant cost variety, the incidence of the tariff falls entirely on the importers. The market price in the USA will rise by the full amount of the tariff. The claim of the US ambassador would be quite justifiable in such a situation.
In the case the supply curve has the normal upward slope, the incidence of the tariff falls on both the exporters and the importers. The export price of the product will decline to some extent and the US market price will rise to some extent such that both groups will share the burden of the tariff.
Hence, the question who "pays" the tariff boils down to which of the above is the most likely market condition in the case of the export products of Bangladesh.
The vertical supply curve is an extreme case, which can prevail in the very short-term when the product has been already produced, and consequently the quantity cannot be varied. The exporters will sell at whatever price they get. This sort of situation sometimes arises when the apparel exporters suffer from stock lots. Prices are often drastically reduced to clear the stock lots.
However, tariff changes are not a short-term phenomenon; indeed tariffs are fixed over a fairly long period of time, especially in the developed countries such as the USA. Exporters have adequate opportunities to adjust to the tariff rates. Thus, the description of the very short-term does not apply to the tariff incidence question. Consequently, it would seem that the unconditional claim that Bangladesh "pays" the tariffs is not correct.
A constant cost industry is not an unknown phenomenon. If the industry can supply any amount of the export product at the current price, the supply curve would be horizontal.
However, in the current economic situation of Bangladesh this seems unlikely. Extreme gas/electricity shortages, management inadequacies and labour problems strongly suggest that costs will rise with greater production. Hence, our export industries are more likely to be increasing cost industries. The US ambassador's assertion will not be tenable in the case of such industries.
If our export industries exhibit increasing costs, and consequently have upward sloping supply cures, any tariff will be borne partly by the exporters and partly by the US consumers. Hence, both the claims that "Bangladesh pays" and "US Pays" would be valid, but only partially. The actual division of the burden of the tariff between the two will depend on the relative slopes of the supply and demand curves.
The controversy over "who pays" clouds a far more important issue from the perspective of the overall economy of Bangladesh. This is the loss of exports/output due to the high tariffs. If the supply curve is horizontal or upward sloping, any tariff on a product will reduce the volume of exports, and hence, the output of the export industry. To illustrate the matter consider the case of the volume of exports to Canada. Canada granted duty free access to the LDCs in 2003 complemented by quite liberal rules of origin. During the five-year period preceding the granting of duty-free access to the LDCs, the value of exports from Bangladesh to Canada stagnated at slightly over $100 million per year. During the next seven years, exports to Canada increased by more than five hundred per cent.
Without the duty free access, this tremendous growth in exports would not have been possible. It is arguable that if Bangladesh had obtained duty-free access to the US market at about the same time, exports to USA would have been closer to the $8.0-10 billion mark. This would have translated into more than a million jobs in the RMG industry alone; and perhaps an equal number in other support industries. More than two million families would have been able to escape the vices of poverty with good steady jobs. All the aid projects of the US put together perhaps did not have such an effect on poverty reduction in Bangladesh.
Ironically, the loss of export/output is greater when the supply curve is horizontal. When the US consumers bear more of the tariffs than the local exporters, the contraction of export is greater, and hence a greater number of people in Bangladesh must go jobless. What the US government is essentially doing is imposing monetary penalty on the US consumers who purchase Bangladeshi goods by raising the prices through tariffs. Such penalties force the US consumers to consume less of Bangladeshi goods such that the exports of Bangladesh to the USA contracts. The tariffs paid by the US consumers eventually translate into real loss income and employment in Bangladesh.
If any exporter is unhappy about being discriminated by the US government, he may take solace from the fact that it is actually quite even-handed about discriminating against the poor; it does not make much of a distinction between a poor sod in a poor country such as Bangladesh and a relatively poor resident of the USA itself. It is not just that poor Asian countries pay much higher tariffs than the very rich countries; the poor US residents also pay much higher tariffs than their rich compatriots.
For example, a rich US woman on a shopping binge pays tariffs of 4, 2.7, 8.5 and 3.3 per cent respectively on the purchase of expensive imported cashmere sweaters, silk bras, leather shoes and silver spoons. However, a poor working woman who buys only an inexpensive acrylic sweater, polyester bra, cheap imported sneakers, and steel spoons pays tariffs of 32, 16.9, 48 and 14 per cent respectively on her purchases. The US trade policy does not seem to have much sympathy for the poor! (The writer can be reached at e-mail: m_a_taslim@yahoo.com)
Bangladesh has persistently demanded duty-free access to the prized US market. Virtually all developed countries have granted duty-free access to the export products of the least developed countries (LDCs) in line with several resolutions in multilateral bodies such as the World Trader Organisation (WTO). However, the USA did not comply; it denied duty-free access to most of the exports from the least developed countries (LDCs), especially of Asia, under its Generalised System of Preference (GSP) scheme. Less than 5.0 per cent of the exports of Bangladesh to the USA receive duty-free treatment, mostly on an or most favoured nation (MFN) basis.
What is particularly galling is that the duty rates on Bangladeshi products are much higher than that on products from the richest countries. The US government collected $563 million in import tariffs on imports of goods of only $3.7 billion from Bangladesh in 2009 - an average duty rate of 15.2 per cent. During the same year, import of goods worth over $47 billion from the UK attracted import duties of only $285 million, an average rate of only 0.6 per cent. The inequity of the US tariff structure is deplorable, it hurts the well-being of the poor countries of Asia.
These issues were discussed in a recent seminar. One of the speakers mentioned that Bangladesh "paid" the above-mentioned disproportionate duties on its exports to the USA. The US ambassador, who was one of the invited special guests, contradicted this oft-repeated statement. He said tariffs on imported goods are actually paid by the American importers, and not by foreign exporters. Hence, the claim that Bangladesh "paid" the import duties is patently false. Another invited guest rebutted the ambassador's argument by pointing out that when a tariff is imposed on a product, the importers pay a lower price to the exporters such that the incidence of the tariff eventually falls on the exporters.
If anyone was confused by these conflicting claims and sought to clarify matters with an economist, he would be farther confused since the economist would in all likelihood respond " Well, it depends …"!
Indeed, the incidence of a tariff depends on the market demand and supply conditions. One would get dramatically different answers depending on the market situation. If the supply carve for the export product is vertical, then the entire tariff on the product will be borne by the exporters, i.e. the export price will decline by the full amount of the tariff. In this event, the claim that Bangladesh "pays" the tariff will be entirely justified.
If the supply curve is horizontal, i.e. the industry is of the constant cost variety, the incidence of the tariff falls entirely on the importers. The market price in the USA will rise by the full amount of the tariff. The claim of the US ambassador would be quite justifiable in such a situation.
In the case the supply curve has the normal upward slope, the incidence of the tariff falls on both the exporters and the importers. The export price of the product will decline to some extent and the US market price will rise to some extent such that both groups will share the burden of the tariff.
Hence, the question who "pays" the tariff boils down to which of the above is the most likely market condition in the case of the export products of Bangladesh.
The vertical supply curve is an extreme case, which can prevail in the very short-term when the product has been already produced, and consequently the quantity cannot be varied. The exporters will sell at whatever price they get. This sort of situation sometimes arises when the apparel exporters suffer from stock lots. Prices are often drastically reduced to clear the stock lots.
However, tariff changes are not a short-term phenomenon; indeed tariffs are fixed over a fairly long period of time, especially in the developed countries such as the USA. Exporters have adequate opportunities to adjust to the tariff rates. Thus, the description of the very short-term does not apply to the tariff incidence question. Consequently, it would seem that the unconditional claim that Bangladesh "pays" the tariffs is not correct.
A constant cost industry is not an unknown phenomenon. If the industry can supply any amount of the export product at the current price, the supply curve would be horizontal.
However, in the current economic situation of Bangladesh this seems unlikely. Extreme gas/electricity shortages, management inadequacies and labour problems strongly suggest that costs will rise with greater production. Hence, our export industries are more likely to be increasing cost industries. The US ambassador's assertion will not be tenable in the case of such industries.
If our export industries exhibit increasing costs, and consequently have upward sloping supply cures, any tariff will be borne partly by the exporters and partly by the US consumers. Hence, both the claims that "Bangladesh pays" and "US Pays" would be valid, but only partially. The actual division of the burden of the tariff between the two will depend on the relative slopes of the supply and demand curves.
The controversy over "who pays" clouds a far more important issue from the perspective of the overall economy of Bangladesh. This is the loss of exports/output due to the high tariffs. If the supply curve is horizontal or upward sloping, any tariff on a product will reduce the volume of exports, and hence, the output of the export industry. To illustrate the matter consider the case of the volume of exports to Canada. Canada granted duty free access to the LDCs in 2003 complemented by quite liberal rules of origin. During the five-year period preceding the granting of duty-free access to the LDCs, the value of exports from Bangladesh to Canada stagnated at slightly over $100 million per year. During the next seven years, exports to Canada increased by more than five hundred per cent.
Without the duty free access, this tremendous growth in exports would not have been possible. It is arguable that if Bangladesh had obtained duty-free access to the US market at about the same time, exports to USA would have been closer to the $8.0-10 billion mark. This would have translated into more than a million jobs in the RMG industry alone; and perhaps an equal number in other support industries. More than two million families would have been able to escape the vices of poverty with good steady jobs. All the aid projects of the US put together perhaps did not have such an effect on poverty reduction in Bangladesh.
Ironically, the loss of export/output is greater when the supply curve is horizontal. When the US consumers bear more of the tariffs than the local exporters, the contraction of export is greater, and hence a greater number of people in Bangladesh must go jobless. What the US government is essentially doing is imposing monetary penalty on the US consumers who purchase Bangladeshi goods by raising the prices through tariffs. Such penalties force the US consumers to consume less of Bangladeshi goods such that the exports of Bangladesh to the USA contracts. The tariffs paid by the US consumers eventually translate into real loss income and employment in Bangladesh.
If any exporter is unhappy about being discriminated by the US government, he may take solace from the fact that it is actually quite even-handed about discriminating against the poor; it does not make much of a distinction between a poor sod in a poor country such as Bangladesh and a relatively poor resident of the USA itself. It is not just that poor Asian countries pay much higher tariffs than the very rich countries; the poor US residents also pay much higher tariffs than their rich compatriots.
For example, a rich US woman on a shopping binge pays tariffs of 4, 2.7, 8.5 and 3.3 per cent respectively on the purchase of expensive imported cashmere sweaters, silk bras, leather shoes and silver spoons. However, a poor working woman who buys only an inexpensive acrylic sweater, polyester bra, cheap imported sneakers, and steel spoons pays tariffs of 32, 16.9, 48 and 14 per cent respectively on her purchases. The US trade policy does not seem to have much sympathy for the poor! (The writer can be reached at e-mail: m_a_taslim@yahoo.com)