Working Paper: NBER ID: w2261
Authors: Sweder van Wijnbergen
Abstract: Using a standard complete specialization model of a small open economy within a rigorous intertemporal optimization framework with contract- based wage rigidity, we show that permanent tariffs may lead to a current account deterioration and a fall in employment, contradicting most of the literature of macro-economic effects of import tariffs. I show that this will always be the case if the economy is small enough. The crucial factor in this complete reversal of standard results is the impact of tariffs on domestic real product wages via wage indexation. Temporary tariffs will have less of a negative impact on the CA or potentially even a positive impact, because they increase the consumption rate of interest (the terms at which future consumption can be traded for current consumption) and so increase private savings. Extensions towards incorporating a more general production structure, investment and the use of tariff revenues to provide wage subsidies are presented.
Keywords: Tariffs; Employment; Current Account; Real Wages; Protectionism
JEL Codes: F13; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| permanent tariffs (F13) | deterioration of the current account (F32) |
| permanent tariffs (F13) | reduction in employment (J63) |
| permanent tariffs (F13) | increase in domestic real wages (J39) |
| increase in domestic real wages (J39) | reduction in employment (J63) |
| increase in domestic real wages (J39) | lower output (E23) |
| temporary tariffs (F19) | improvement in the current account (F32) |
| temporary tariffs (F19) | increase in the consumption rate of interest (E21) |
| increase in the consumption rate of interest (E21) | enhancement of private savings (D14) |