_value added in domestic final goods_ . Second, the home country earns income by supplying home value-added inputs to foreigners. We refer to these payments as DVA, or _domestic value added in foreign final goods_ . Foreshadowing the key mechanism below, note that DVA and FVA depend on final goods prices, via value-added input prices. Because tariffs influence these prices, trade policy affects income in a non-standard way in our model.

**Political Economy** We assume the government’s objective function is given by the sum of national income, consumer surplus, and the weighted sum of quasi-rents in production:

where _ζ_ ( _⃗p_<sup>_i_</sup> ) _≡_<sup>�</sup> _s_<sup>[</sup><sup>_us_(</sup><sup>_ds_)</sup><sup>_−p_</sup> _s_<sup>_ids_]isconsumersurplusand</sup><sup>_{δ_</sup> _s_<sup>_i, δ_</sup> _s_<sup>_i_</sup> _∗_<sup>_, δ_</sup> _si_<sup>_∗}_arepoliticaleconomy</sup> weights (relative to aggregate welfare) attached to various sources of rents.

This objective function augments standard political economy assumptions to recognize the potential political influence of foreign and domestic supply chain interests. The first two terms measure the indirect utility of the representative consumer (aggregate welfare). The remaining terms capture political economy influences: _δs_<sup>_i_istheweightthatthegovernment</sup> puts on total rents from domestic final goods production, _δs_<sup>_i_</sup> _∗_<sup>istheweightplacedonrents</sup> from domestic production that accrue to foreign value-added inputs ( _FV A_<sup>_i_</sup> _s_<sup>),and</sup><sup>_δ_</sup> _si_<sup>_∗_isthe</sup> weight placed on rents accruing to domestic value-added inputs used in foreign final goods production ( _DV Asi_ ). We do not impose a priori restrictions on the weights, but standard arguments would imply positive values for politically active constituencies.<sup>15</sup>

# **1.3 Optimal Bilateral Tariffs**

We are now ready to characterize unilaterally optimal bilateral tariffs. Given the partial equilibrium setting, we can characterize optimal bilateral tariffs one good at a time, as each is independent of the other goods’ prices or tariffs.

> 15These weights reflect a range political economy forces. The restriction _δsi_<sup>=</sup><sup>_δ_</sup> _s_<sup>_i_</sup> _∗_<sup>=</sup><sup>_δ_</sup> _si_<sup>_∗_= 0 yields a national</sup> welfare maximizing government. Standard protection-for-sale lobbying would imply _δx_<sup>_i>_0forapolitically</sup> active industry [Grossman and Helpman (1994)]. Similarly, _δxi_<sup>_∗_wouldbepositiveifdomesticvalue-added</sup> input suppliers advocate for better market access on behalf of their foreign downstream buyers. To the extent that the government responds to the interests of foreign value-added input suppliers, _δs_<sup>_i_</sup> _∗_<sup>wouldalso</sup> be positive. For instance, foreigners could lobby directly over trade policy [Gawande, Krishna and Robbins (2006)]. Alternatively, foreign value-added inputs suppliers could be represented in domestic politics by their downstream buyers, as in tariff jumping foreign investors that earn political goodwill [Bhagwati et al. (1987)] and advocate on behalf of their upstream affiliates located abroad. Finally, we implicitly assume that the home government affords zero consideration to foreign value-added inputs in foreign production, though this assumption could also easily be relaxed.

10