Growth and Welfare Implications of Tariff Protection―Location Versus Allocation Effects

Abstract

This paper analyzes the link between ad valorem tariffs and growth in a North-South framework, in which tariff liberalization exerts both U-shaped allocation effects (concerning the distribution of inputs across sectors) predicted by symmetric (North-North) R&D-based models, and monotonic pro-growth location effects (concerning the distribution of firms across countries) highlighted by economic geography literature. It is shown that, regardless of parameters, at sufficiently high tariffs allocation effects prevail. Thus, the equilibrium tariff-growth relationship is non-monotonic in this North-South setting as well. Numerical solutions suggest that such nonlinearities may be relevant and a potential source of misspecification bias in empirical work neglecting them. Tensions between allocation and location effects extend to the tariff-welfare link. This may be non-monotonic as well, depending on parameters. Due to static location effects, full tariff liberalization may not maximize welfare. However, this is the likely outcome under plausible parameter values.