IS IMPORT TARIFF A RIGHT ANSWER TO NEGATIVE TRADE BALANCES?

Abstract

ABSTRACT On March 4, 2019, Trump administration announced that the US intended to terminate India's designations as a beneficiary developing country under the GSP program after determining that it had not assured the US that it would provide equitable and reasonable access to its markets. Subsequently, on March 8, 2019, the tariffs of 25% on steel imports and 10% on aluminum were also announced by the Trump administration. Since India is one of the countries exporting steel to the US, this announcement was another blow to India's exports to the U.S. Our study attempts to examine the effect of import tariffs on U.S. balance of trade with India. We test the presence of a J-curve like effect of an import tariff on US-India trade. Our dependent variable is BOT (balance of trade), which is defined as U.S. export to India minus US import from India. Independent variables, in this study, include RRGDP (ratio of US real GDP to India's real GDP), EX (U.S. dollar's exchange rate defined as amount of Indian rupees needed to purchase one USD), and RP (US relative price) defined as the ratio of US consumer price index to India's consumer price index. This study covers the period from 1988 to 2018. We estimated a vector error correction model (VECM). The finding implies that if U.S. imposes or raises a tariff on imports from India, its trade balance with India is likely to be unaffected both in the long run and in the short run. Keywords J-curve effect, export-to-import ratio, exchange rate, unit root, cointegration