Optimal Tariffs and FDI in the Presence of Political Pressure

In this paper, I modify an industry-specific partial equilibrium model featuring Bertrand competition and tariff-jumping FDI. The model examines how tariff jumping impacts the ability of the government to use temporary tariff protection to protect a sector struggling from import competition, both for sectors with political influence and without. I show that even if the temporary tariff increase leads to tariff-jumping FDI, there are still parameter values for which the government benefits from increasing the tariff temporarily. I also demonstrate that the presence of political economy pressure typically results in a higher temporary tariff rate (unless the tariff hits the upper limit for the remedy of a 50 percent increase). Finally, I show how exploiting observed tariff changes in the data could allow a researcher to calibrate the political economy weight for use in other analysis.