THE THEORY OF VARIABLE LEVIES *

Abstract

SINCE early 1970's there has been a vast increase in of world trade and a dramatic rise in of world prices of most agricultural products, particularly cereals. FAO estimates indicate that coefficient of variation of world price of wheat rose from 3.6 percent in 1960's to 30 percent in 1970's and of rice from 17.5 percent to 39 percent. The major factor responsible for growing instability in world price, including turbulence in 1972-1974, appears to be mounting interventions of governments in both developed and developing countries to restrict free trade. D. Gale Johnson (1975) and Josling ((1977) and (1980)) warned that trade restrictions have become primary cause of increased instability in world markets of agricultural produce. Shei and Thompson (1977) demonstrated that during 1970's more and more countries prevented world price signals from being reflected across their borders into domestic market by imposing various trade controls, thereby causing rise in of world market price. Zwart and Meilke (1979) showed that destabilizing effects of these policies made even small variations in world supply to be magnified to large changes in world price. Sarris and Freebairn (1983) estimated that with free trade of world price would have declined by 35 percent. Blandford and Schwartz (1983) concluded that the tendency towards a high degree of domestic market insulation coupled with substantial domestic transmission of instability is a major determinant of potential price variability (p. 309). Although trade restrictions through variable levies have become perhaps most important element in agricultural and food distribution policies of many countries, and cornerstone of Common Agricultural Policy (CAP) of European Economic Community, only little attention has been given in economic literature to their effects on world trade and welfare. The various rounds of Multilateral Trade Negotiations, have also generally ignored these policies. The purpose of this paper is to develop an analytical framework for evaluating policy of variable levies and assessing its effects on country's trade, balance of payments, werfare, income distribution and fiscal budget. The analysis in paper indicates that instability inherent in supply and prices of agricultural products may justify some measure of government interventions and trade restrictions. It shows that some trade controls through appropriately designed variable levies will not only insulate economy from external instability but may also raise country's