Trade Policy and Global Sourcing: An Efficiency Rationale for Tariff Escalation

Import tariffs tend to be higher on final goods than inputs, a phenomenon referred to as tariff escalation. Despite its salience, existing research does not predict that tariff escalation increases welfare. We show that tariff escalation is usually welfare-improving when final-good production occurs under increasing returns to scale. In our vertical model, countries export inputs directly or by embodying them in final goods. The latter raises welfare if final-good efficiency is increasing in sector size, and a disproportionately high final-good tariff exploits this benefit. When tariffs are the only available instruments, this effect dominates input-tariff motives for most parameter values.