International Cross-Ownership, Tariff Simplification, and Welfare Superiority

Abstract

This study examines the welfare effects of tariff simplification—a shift from a specific to an ad valorem tariff—in an import trade model featuring a domestic and a foreign firm with international cross-ownership. We find that in the absence of cross-shareholdings, tariff simplification increases tariff revenue and domestic social welfare without affecting the domestic firm's profit. However, when cross-shareholdings are present, tariff simplification induces an output-reallocation effect, which shifts some output from the foreign firm to the domestic one, and thus may reduce both firms’ profits, tariff revenue, domestic social welfare, and global welfare. Consequently, an ad valorem tariff can be Pareto-inferior to a specific tariff under international cross-ownership. Extending the model to a reciprocal dumping framework with symmetric linear demands in both countries, we find that with symmetric cross-ownership, tariff simplification harms (benefits) the country with a more (less) efficient domestic firm. Furthermore, when firms have asymmetric production efficiencies, tariff simplification reduces global welfare.