The World Bank: Policy Research Working Paper Series
: WPS 903
Environmental economics & policies, TF054105-DON or Funded Operation Administration Fee Income And Expense Account, Economic theory & rsearch, Markets and market access
By increasing the costs of imports, minimum unit import reference prices not only generate the usual distortions one expects from tariff protection but add new ones that a pure tariff system would not generate. Reference prices substantially reduce the price gap between imports with prices above and below the reference price. By making cheap imports relatively more expensive than expensive imports, reference prices affect quality in three ways that appear not to have been analyzed before: 1) they can induce foreign firms to shift toward more expensive exports to the country with reference prices; 2) they can induce domestic producers in that country to shift production toward lower-quality, cheaper goods; and 3) because this decreases the relative price of the expensive varieties, domestic consumers may lean toward buying more expensive goods. Using the case of Uruguay, the authors estimate what protection the reference price procedures provide for Uruguayan industries and analyze how this protection affects Uruguay's economy. The authors show that the reference and minimum export price procedures impose floor prices on imports that cover more than a third of value added in Uruguayan manufacturing. These systems jeopardize trade liberalization efforts by creating the impression that tariff cuts are greater than they really are. These systems also create massive distortions between the relative domestic prices of imported goods above and below the floor prices.