59719_appendix04.qxd

20/8/05

16:16

Page 1

CHAPTER 4 APPENDIX 4–3
Static Effects of a Customs Union on World’s Welfare
In Figure A4-3.1 assume that Sa and Da are the internal supply and demand curves in country A for a given product. Sb and Sc are the exportsupply curves of countries B and C to country A, with C being a more efficient producer than B. Sbt and Sct are the same two supply curves subject to a 100 percent tariff imposed by country A. Curve St indicates total supply of the commodity in country A (Sa Sbt Sct). Price P1 is established. Country A produces Qa domestically and imports Qb and Qc from countries B and C, respectively. When countries A and B form a customs union to the exclusion of C, the relevant supply curve in country B becomes Sb, while Sct remains in effect in country C.2 Total supply in country A’s market becomes Scu, consisting of Sa Sb Sct. The price in country A drops to P2; domestic supply declines to Qa1; imports from country B rise to Qb1; and imports from country C diminish to Qc1. These changes can be quantified in terms of their effect on producers’ surpluses in all three countries, and on consumers’ surpluses and government tariff revenue of country A. The following observations relate to each panel of the diagram: (a) Country A enjoys an increase of consumers’ surpluses of BAP1P2 and suffers a reduction of producers’ surpluses amounting to BAYZ. There is a gain of ZYP1P2. (b) Country B enjoys a gain in producers’ surplus of HGCD. Country A faces a loss in government tariff revenue of CDEF. Since area DCHI is common to both, we obtain in part (b) a loss of EHIF and a gain of ICG. (c) Tariff revenue of country A declines from RPLM to NOKJ. Subtracting the area NOSM, common to both, we get a loss of RNOP POSL and a gain of MJKS. At the same time, producers’ surpluses of country C decline by MJKL. Thus Figure A4-3.1c yields