The concept of Effective Rate of Protection (ERP) in international trade is crucial for understanding how tariffs on intermediate and final goods influence domestic industry. By studying the impact of tariffs on value added, students preparing for economics exams can grasp how trade policies affect production costs, industrial protection, and economic outcomes effectively.
The concept emphasizes that tariffs not only on final goods but also on intermediate inputs can significantly affect domestic production value. By calculating ERP, economists can determine how trade policies impact the domestic industryโs added value compared to free trade scenarios.
ERP can be better understood through practical examples showing its impact on domestic production value.
Suppose a final good F has a world market price of Rs.4000, and it requires an intermediate good I priced at Rs.3000. Under free trade, value added (Vw) is Rs.1000. If a 25% tariff is imposed on the final good, the domestic price rises to Rs.5000. Now, value added (VT) becomes Rs.2000, resulting in an ERP of 100%, which is much higher than the nominal tariff of 25%.
Consider the same final good F with world price Rs.4000 and intermediate I at Rs.3000. If a 10% tariff is imposed only on I, the domestic price of I rises to Rs.3300. Consequently, value added (VT) decreases to Rs.700, producing an ERP of -30%. This negative ERP illustrates that excessive tariffs on intermediates can actually reduce domestic value added.
ERP depends on the relative price changes of final goods versus intermediates and their importance in production.
Despite its usefulness, ERP has practical limitations in calculation and applicability.
The Effective Rate of Protection highlights how tariffs on final and intermediate goods influence domestic industrial value added. By understanding ERP, students can see why certain trade policies may provide more or less protection than nominal tariffs suggest, and why excessive tariffs can sometimes reduce domestic production. This concept is key for analyzing the real impact of trade policies on domestic industries.
Please login to comment and rate.
