The Theory of Distortions

The theory of tariffs serves as a convenient point of departure for the theory of distortions. The major policy implication of the interpretation is that, given these same economic conditions, there must exist some tariff arrangement, free trade included as a special case, that can maximize potential welfare in the community subject to the technical constraints. The pertinency of the theory of distortions critically depends on whether the use of aggregate concepts of economic well-being is acceptable to the community-at-large. The government must be able to identify distortions in the economy and to accurately specify their quantitative extent. If a closed economy is assumed, the problem of the 'first-best' intervention in the presence of a distortion in domestic commodity markets is greatly simplified since a tax on production is equivalent in effect to a tax on consumption and vice versa.