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Abstract

In a world of two regions trading differentiated products, free trade may appear to be Pareto inferior to restricted trade. When one region imposes tariffs on its imported varieties of the differentiated good, the world price of all varieties may rise. The likelihood of this result is greater the higher is the degree of product differentiation. With free entry to the industry, the tariff-induced higher price induces more firms producing more varieties in both regions. Consumers with convex preference sets will benefit from such a move. Under some conditions, including a high degree of product differentiation, this utility gain may dominate and restricting trade may yield a greater welfare level for the world.

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