Tariffs vs. Quotas as Revenue Raising Devices Under Uncertainty

Abstract

This article examines the relative merits of tariffs and quotas as revenue raising devices in the presence of economic uncertainty. It has long been recognized that, provided the government auctions off the quota, the optimum pure tariff and the optimum pure quota are equivalent in a competitive world with no uncertainty. However, in such a world the equivalence is between a pure tariff and a pure quota that are both functions of the state of nature. The border policies that are most commonly resorted to by governments are fixed tariff rates and fixed quantity restrictions. They are often regarded as polar forms of trade restrictions. They have different very different effects: a fixed tariff on a commodity stabilizes its domestic price in the face of random domestic demand and supply but a fixed international price; while a quota stabilizes its domestic price if its international price is random but its domestic demand and supply functions are fixed. Results of the study reveal that under the conventional criterion of maximizing the expected value of net consumer's surplus, the optimum fixed tariff is superior to the optimum fixed quota. The result continues to hold if instead the maxi-min criterion is followed.

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