Discretionary Trade Policy and Excessive Protection

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.

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