Mobile capital, optimal tariff, and tariff war.

Using an intra‐industry trade model with mobile/immobile capital, we revisit the characteristics of optimal tariffs and tariff wars. In contrast to folk wisdom on optimal tariffs, we show that when capital is freely mobile across countries, smaller countries impose higher tariffs, and they can win tariff wars. This occurs because tariffs have a strong impact on output expansion. Even if capital import taxes are available, small countries can win tariff wars, although larger countries may apply higher tariff rates. [ABSTRACT FROM AUTHOR]