Abstract
Krishna [89] shows that quotas may act as facilitating devices by relaxing price competition. We extend her analysis by considering the following stage game : a domestic government chooses an import quota, then a domestic and a foreign firm choose the quality of their product before engaging a price competition. Because it relaxes price competition, the quota deeply affects quality choices : when costs for quality do not rise too quickly , both firms end up choosing the same highest available quality for a wide range of quota values. It is then shown that the optimal policy for the government consists in choosing the quota level which is just sufficient to induce product imitation. Once its effects on quality choice is taken into account, the quota may thus hurt the foreign firm and increase domestic welfare.
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