Quotas (HL IB Economics)

Revision Note

An Explanation of Quotas

A quota is a physical limit on imports e.g. in June 2022 the UK extended its quota on steel imports for a further two years in order to protect employment in the domestic steel industry
This limit is usually set below the free market level of imports
- As cheaper imports are limited, a quota raises the market price
- As cheaper imports are limited a quota may create shortages
Some domestic firms benefit as they are able to supply more due to the lower level of imports
- This may increase the level of employment for domestic firms

A quota on steel imports reduces the equilibrium quantity from Q₄ → Q₃ and raises the market price from P_w→ P_q

Diagram Analysis

The initial market equilibrium is at P_wQ₄
- Domestic firms supply up to Q₁and Q₄-Q₁ is imported
To support the domestic steel industry, the UK government limits the amount of imports by instituting a quota
- The domestic supply curve (S_d) shifts to the right by the size of the quota (Q₂-Q₁₎
- Where this curve crosses the domestic demand curve (Dd) it forms the new market equilibrium at P_qQ₃
- The quota has raised prices and reduced total output from Q₄→Q₃
- Domestic producers supply up to Q₁ PLUS Q₃-Q₂
- Foreign producers supply Q₂-Q₁(the quota)
Once governments announce the quota level, the market automatically prices in the reduced output
- This means that each unit of output is sold at the quota price (Pq)
- Both domestic producers and foreign producers receive a higher price for their steel

Examiner Tip

One of the main reasons that the quota diagram is confusing is because it appears that domestic producers supply up to Q₁, then take a holiday while the imports flood in until Q₂ is reached, after which they continue to supply up until Q₃. This is not how it works in reality.

The government announces the quota for the next 12 months
The market factors in the reduced supply and a new market price is established
Even while domestic firms are selling their products, importers continue to import the foreign product for as long as there i any quota allowance left
The government keeps track of the level of imports and once the quota level is reached, they will not allow any more imports of that product to enter the country

Worked Example

The diagram below illustrates United Kingdom's steel market. The UK implemented a quota on the market for steel. SD is UK domestic supply, DD is UK domestic demand, Sw is world supply and Squota is the world supply with the quota

ibdp-economics---calculating-quotas-from-a-diagram

Answer:

Using information from the diagram

a) Calculate the change in consumer expenditure as a result of the imposition of the quota [2]

Step 1: Calculate the consumer expenditure before the quota

= Pworld x world Ddomestic

= £30 x 180

= £5,400

Step 2: Calculate the consumer expenditure after the quota

= Pquota x Quota demand

= £52 x 140

= £7,280

Step 3: Calculate the difference between the two figures

£7,280 - £5,400 = £1,880

Consumer expenditure has increased by £1,880 as a result of the quota

[1 mark for any correct working and 1 mark for correct answer]

b) Calculate the change in domestic producer revenue as a result of the imposition of the quota [2]

Step 1: Calculate the domestic producer revenue before the quota

= Pworld x Sdomestic

= £30 x 60

= £1,800

Step 2: Calculate the domestic producer revenue after the quota

= £52 x 110 (60 + 50 units)

= £5,720

Step 3: Calculate the difference between the two figures

£5,720 - £1,800 = £3,920

Domestic producer revenue has increased by £3,920 as a result of the quota

[1 mark for any correct working and 1 mark for correct answer]

c) Calculate the change to foreign producer revenue as a result of the imposition of the quota [2]

Step 1: Calculate the foreign producer revenue before the quota

= Pworld x Worldsupply

= £30 x 120

= £3,600

Step 2: Calculate the foreign producer revenue after the quota

= £52 x 30

= £1,560

Step 3: Calculate the difference between the two figures

£3,600 - £1,560 = £2,040

Foreign producer revenue has decreased by £2.040 as a result of the quota

[1 mark for any correct working and 1 mark for correct answer]

Remember to check the units on the graph (and use them!).

An Evaluation of Quotas

Quotas can be beneficial in that they are a less confrontational method of protectionism than tariffs as there is less of a penalty for trading partners

The Impact of Quotas on Stakeholders

Stakeholder	Explanation of Impact
Domestic Producers	Before the quota, the domestic revenue was area g After the quota, domestic revenue is greater covering areas a+g+d+e+i
Foreign Producers	Before the quota, foreign producer revenue was area h+i+j After the quota, foreign producer revenue is less covering areas b+c+h Under the quota, they receive a higher price for all units sold at Pq but they sell fewer products
Domestic Consumers	Consumers pay a higher price (Pq) than previously (Pw) which reduces their disposable income Some consumers leave the market as they cannot afford the higher price (contraction from Q₄→Q₃)
The Government	They gain some favour with the industry they are protecting This policy may create jobs in the industry being protected and reduce the level of unemployment benefits required The government does not receive tax revenue as they do when using a tariff
Downstream Producers	Other producers who rely on the imported product as a raw material in their own production process, now have to pay more for it as prices are higher This increases their costs of production They may have to reduce output which could impact unemployment levels and government tax receipts in their industry
Efficiency	Global efficiency has worsened as less efficient domestic producers are producing at the expense of more efficient foreign producers (area e+f)

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