Time{Consistent Protection of an Infant{Industry: The Symmetric Oligopoly Case

This paper discusses the design of an optimal, time{consistent tari to protect an infant{industry in the presence of learning e ects. Firms decide how much to produce, taking into account learning e ects induced by their current production and the tari policy, while the government decides on the level of tari protection. In order to ensure time consistency we solve the symmetric case without spillovers where learning leads to lower xed costs. Assuming that domestic and foreign products are imperfect substitutes for each other but perfect substitutes within each group, we use a complete linear demand system to represent domestic consumers' preferences. The analytic Markov Perfect Equilibria of this game is derived by solving a linear{quadratic di erential game. It is shown that in equilibrium, only a declining tari over time can be regarded as a time{consistent tari policy JEL: C73, F12, F13. y Department of Economics. Northwestern University. 2003 Sheridan Road. Evanston, IL 60208-2600, U.S.A. Internet: [email protected] ? I wish to thank Je rey Campbell, Kiminori Matsuyama, John Panzar, Robert Porter, and especially Kyle Bagwell and Pierre Regibeau for helpful comments and suggestions. I also thank Stephanie Lofgren for her assistance. An earlier version of this article was presented at the XIII Latin American Meeting of the Econometric Society, Caracas and the 1st Conference on Empirical Investigations in International Trade, Purdue University. Financial support from the Fundaci on Ram on Areces and the Ministerio de Educaci on y Ciencia, Spain is gratefully acknowledged. :/.../spring96/mcwp.tex