Let’s look at trade—and trade restrictions—using tools that you are already familiar with: demand and supply.

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Figure 19.1 shows a domestic demand curve and a domestic supply curve for semiconductors. If there were no international trade, the equilibrium would be, as usual, at P^{No trade}, Q^{No trade}. Suppose, however, that this good can also be bought in the world market at the world price. To simplify, we will assume that the U.S. market is small relative to the world market, so U.S. demanders can buy as many semiconductors as they want without pushing up the world price. In terms of our diagram, the world supply curve is flat (perfectly elastic) at the world price.

Given that U.S. consumers can buy as many semiconductors as they want at the world price, how many will they buy? As usual, we read the quantity demanded off the domestic demand curve so at the world price, U.S. consumers will demand semiconductors. How many semiconductors will be supplied by domestic suppliers? As usual, we read the quantity supplied off the domestic supply curve so domestic suppliers will supply units. Notice that > , so where does the difference come from? From imports. In other words, with international trade, domestic consumption is units; of these units are produced domestically and the remainder, – , are imported.

Many countries, including the United States, restrict international trade with tariffs, quotas, or other regulations that burden foreign producers but not domestic producers—this is called protectionism. A tariff is simply a tax on imports. A trade quota is a restriction on the quantity of foreign goods that can be imported: Imports greater than the quota amount are forbidden or heavily taxed.

Figure 19.2 shows how to analyze a tariff. The figure looks imposing but it’s really the same as Figure 19.1 except that now we analyze domestic consumption, production, and imports before and after the tariff. Before the tariff, the situation is exactly as in Figure 19.1: units are demanded, units are supplied by domestic producers, and imports are – .

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The tariff is a tax on imports so—just as you learned in Chapter 3—the tariff (tax) shifts the world supply curve up by the amount of the tariff. For example, if the world price of semiconductors is $2 per unit and a new tariff of $1 per semiconductor is imposed, then the world supply curve shifts up to $3 per unit.

At the new, higher price of semiconductors, two things happen. First, there is an increase in the domestic production of semiconductors as domestic suppliers respond to the higher price by increasing production. In the diagram, domestic production increases from to . Second, there is a decrease in domestic consumption from to as domestic consumers respond to the higher price by buying fewer semiconductors. Since the quantity produced by domestic suppliers rises and the quantity demanded by domestic consumers falls, the quantity of imports falls. Specifically, imports fall from – to the smaller amount – .

Figure 19.2 illustrates one more important idea. A tariff is a tax on imports so tariffs raise tax revenue for the government. The revenue raised by a tariff is the tariff amount times the quantity of imports (the quantity taxed). Thus, in Figure 19.2 the tariff revenue is given by the blue area.