How Do Import Tariffs Affect Aggregate Prices? Theory and Evidence from Canada

By how much do import tariffs raise aggregate prices? We develop a simple decomposition that separates the aggregate price effect of a tariff into three channels—cost pass-through, markup adjustments, and consumer substitution across varieties—and calibrate an oligopolistic competition model with endogenous markups to firm-level market shares for Canadian domestic producers, U.S. exporters, and rest-of-world suppliers. A 25% counter-tariff on U.S. imports raises Canada's aggregate price index by 0.66—well below the 1.25% that direct cost pass-through alone would predict. The dominant offsetting force is consumer substitution toward non-U.S. varieties, which reduces the price effect by 0.47 percentage points; markup adjustments, holding fixed pre-tariff market shares, contribute a further 0.26 percentage point decrease. The gap between cost pass-through and the true price effect widens sharply with the tariff rate: at a 50% tariff, cost pass-through alone predicts more than twice the true price effect.