Consider a small country that exports steel. Suppose that a “pro-trade” government decides to subsidize the export of steel by paying a certain amount for each ton sold abroad. How does this export subsidy affect the domestic price of steel, the quantity of steel produced, the quantity of steel consumed, and the quantity of steel exported? How does it affect consumer surplus, producer surplus, government revenue, and total surplus? Is it a good policy from the standpoint of economic efficiency? (Hint: The analysis of an export subsidy is similar to the analysis of a tariff)
Answer
An export subsidy paid by the government to steel producers for each ton sold abroad will lead to the following effects:
• Increase in domestic price of steel and quantity produced, but decrease in quantity consumed.
• Increase in producer surplus and decrease in consumer surplus.
• Decrease in government revenue and uncertain effect on total surplus.
• Can lead to market distortion and harm both domestic consumers and foreign buyers, making it a potentially inefficient policy.
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