A dynamic model with import quota constraints

Finance

Working Paper

Basak S; Pavlova A

Anna Pavlova Suleyman Basak

2010

This paper develops a continuous-time two-sector model to study the economic effects of an import quota during the period of time over which it is imposed. One of the sectors is protected by a quota, which in our set up manifests itself as an integral constraint on the flow of imports of the protected commodity. In sharp contrast to the existing literature, our small open economy exhibits distinctly different economic behavior depending on whether the country is importing the protected good, exporting it or refraining from trade in it. The domestic price of the protected good exceeds the world price in import and no-trade regions, even when the quota is underutilized - in contrast, existing work predicts no economic effects of a quota unless it is binding. Within a general equilibrium world economy consisting of one quota-constrained and one unconstrained country, under logarithmic preferences, the constrained country becomes wealthier at the expense of the unconstrained. Moreover, the stock price of the protected industry increases in the quota-constrained and decreases in the unconstrained country.

Quota; International Economics and Finance; Asset Pricing; Integral Constraints

Working Paper

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