Welfare computations and the optimal staging of tariff reductions in models with adjustment costs

This is an analysis of the second-best problem of choice of tariff level for period two given a positive tariff in period one. The models presented take the allocation of all factors of production except labor as fixed, and allow labor to transfer between industries at a positive cost. The period two tariff may then optimally be set to some positive level. Although these models involve voluntary unemployment, no adjustment to the goods market welfare triangle is necessary to compensate for the adjustment burden in computing the gains from tariff reduction. Lastly, it is shown that a staged reduction of tariffs may be preferred for income distribution reasons to a once-and-for-all reduction.     

Tariff wars in the Ricardian Model with a continuum of goods

This paper describes strategic tariff choices within the Ricardian framework of Dornbusch, Fischer, and Samuelson (1977) using CES preferences. The optimum tariff schedule is uniform across goods and inversely related to the import demand elasticity of the other country. In the Nash equilibrium of tariffs, larger economies apply higher tariff rates. Productivity adjusted relative size (≈ GDP ratio) is a sufficient statistic for absolute productivity advantage and the size of the labor force. Both countries apply higher tariff rates if specialization gains from comparative advantage are high and transportation cost is low. A sufficiently large economy prefers the inefficient Nash equilibrium in tariffs over free trade due to its quasi-monopolistic power on world markets. The required threshold size is increasing in comparative advantage and decreasing in transportation cost. I discuss the implications of the static Nash-equilibrium analysis for the sustainability and structure of trade agreements.     

Tariffs and formation of free trade agreements networks

This paper examines the formation of bilateral free trade agreements (FTAs) on the basis of country heterogeneity in the tariff level. We demonstrate that a country's unilateral incentive to form an FTA depends on the relative magnitudes of the (negative) market concession effect and the (positive) market expansion effect, both of which are determined by the tariff levels of the two FTA partner countries. Global welfare is maximised when all country pairs form FTAs. Two countries in equilibrium are more likely to form an FTA when their tariff gap is smaller or when their tariff levels are neither very high nor very low. This finding is robust to several extensions of the model. Our preliminary empirical analysis provides some evidence for the finding.     

Disagreement points in trade negotiations

This paper analyzes trade negotiations between two large countries in the framework of an alternating-offer bargaining model with endogenous interim disagreement actions. Despite of the flexibility in disagreement tariff selection, the countries would keep the status quo tariffs in disagreement periods as far as the country which benefits from keeping the status quo tariffs compensates for the other country’s foregone gains from deviating in disagreement actions. Each equilibrium outcome converges to a corresponding Nash bargaining solution whose disagreement point reflects the status quo tariff rates as well as the threat of raising the tariff to the Nash tariff rate.     

In Search of Optimised Regional Trade Agreements and Applications to East Asia

We quantitatively analyse the trade effects of enhanced trade facilitation with extended gravity equations. Our findings confirm that RTAs comprised of countries equipped with better trade facilitation are more likely to be trade‐creating, less likely to be trade‐diverting, and are thus more likely to lead the world economy toward global free trade. We also find that (i) the traditional gains from shallow integration through eliminating tariff barriers will be greater for South‐South RTAs in East Asia such as an ASEAN‐China RTA, provided that the tariff‐reducing schedule is strictly fulfilled, (ii) the gains from deeper integration through enhancing trade facilitation will be greater for North‐North RTAs in East Asia such as a Japan‐Korea RTA, and (iii) the gains from a combined trade liberalisation strategy through tariff reductions and enhanced trade facilitation will be greater for North‐South RTAs in East Asia such as a China‐Korea and an ASEAN+3 RTA.     

Tokyo round tariff reductions and the less developed countries

This paper presents new evaluations of the multilateral trade negotiations from the perspectives of (1) the objectives established by GATT signatories in the Tokyo Declaration, and (2) the LDCs’ goals for the negotiations. It also attempts to resolve some of the controversy over the gains and losses which MFN tariff reductions would generate for LDC exports, some but not all of which receive preferential access to advanced-country markets. The analysis indicates that even minor improvements in tariff preferences would have been superior to or have compensated for MFN tariff cuts.     

What's the Point of Reciprocal Trade Negotiations? Exports,Imports, and Gains from Trade

This paper explains why trade‐policy makers may prefer reciprocal trade negotiations (RTN) to unilateral tariff reductions (UTR) for economic reasons. It answers puzzles like ‘Why WTO reciprocity?’ and strengthens the unnecessarily weak case made for the WTO by those who downplay or dismiss benefits from foreign tariff reductions (FTR). RTN is superior to UTR because it provides economic benefits that UTR cannot – namely, FTR benefits which are clearer than potentially important UTR benefits: Whereas each policy offers efficiency gains, any terms‐of‐trade effect of UTR generally detracts from these gains, while any terms‐of‐trade effect of FTR is typically beneficial (especially for a small price‐taking country) with this benefit augmenting FTR's efficiency gains. Moreover, benefits from reductions in foreign barriers may come from several sources; they are not solely the result of terms‐of‐trade improvement – or economies of scale (the two benefits already noted in the literature, though often dismissed). For example, with foreign NTB elimination, possible home benefits are shown even with rising costs and terms‐of‐trade deterioration. RTN is also superior to UTR because, by eliminating protection in either NTB or tariff form, RTN provides an escape from not only a terms‐of‐trade prisoners’ dilemma, but many other previously unrecognised prisoners’ dilemmas, including one in international rent transfers, and several others with no economies‐of‐scale or terms‐of‐trade motivation. Of course, if superior RTN is not an option, UTR may well be desirable. If reciprocity is an option, but only in a narrower CU or FTA form, such reciprocity may still be superior to UTR, or it may be inferior; theory cannot unambiguously rank these.     

Trade Liberalisation and the Wage Skill Premium in Korean Manufacturing Plants: Do Plants’ R&D and Investment Matter?

This paper examines the effects of output and input tariff reductions on within‐plant wage skill premium in Korean manufacturing plants. We find evidence that output tariff reduction interacts differently with plants’ R&D and investment behaviours, respectively, to affect wage skill premium. More specifically, output tariff reduction increases wage skill premium mostly in R&D‐performing plants while reducing it mostly in plants making positive facility investments. While there is weak evidence that input tariff reduction increases wage skill premium, no such interactive effects are found. One story behind our results is that, although both R&D and facility investments may respond to changes in profit opportunities due to output tariff reductions, R&D raises the relative demand for the skilled workers while facility investment, an activity of increasing production capacity, raises the relative demand for the unskilled workers.     

An extension of Bale's labor displacement cost estimates

Bale (1976) failed to extend his labor displacement cost estimates to the more interesting question of whether these costs outweigh gains from trade liberalization. This note addresses that question by applying Bale's estimates to Magee's (1972) study of the welfare effects of U.S. trade restrictions. Our results indicate that gains far outweigh costs of tariff removal on imports directly competing with U.S. production.     

Can the Regional Comprehensive Economic Partnership minimise the harm from the United States–China trade war?

Using ex post tariff schedules for the first time, it was found that the global gains provided by the Regional Comprehensive Economic Partnership (RCEP) are not enough to overcome the negative impacts of the United States–China trade dispute. While trade tensions cause China's welfare loss to be more than twice as large as the United States, they provide some trade diversion to RCEP members. But of concern is if India successfully delays the conclusion of the RCEP even by a year, there will be a global loss of US$17.7 billion. The RCEP is also beneficial for the emerging economy of Vietnam and the high‐tariff‐imposing Korean economy. The results obtained here are, however, conservative as reduction in non‐tariff barriers and other positive spillover effects of trade liberalisation related to investment and productivity improvements due to competition or increased intra‐industry trade could not be accounted for.     

Tariffs and capacity utilization by monopolistically competitive firms

This paper examines the effect of a tariff imposed on a monopolistically competitive (MC) sector on firm output in a 2 × 2 × 2 model with nonhomothetic technology. If the MC sector is capital intensive, then a tariff will improve the terms of trade, lower home firm demand elasticity, but raise firm output relative to foreign firms. If the MC sector is labor intensive, then excess supply for firm output may be decreasing in price, so the tariff may worsen the home country's terms of trade. Home firm demand elasticity falls but firm output rises relative to the partner country. These results qualify conclusions based on single-sector and single-country models.     

Income distribution and unequal gains from trade

This paper studies welfare gains from trade in a tractable model with a nonhomothetic preference over product quality. We show that the welfare changes due to trade shocks are unequal across consumers and derive a parsimonious formula to measure these welfare changes as in Arkolakis et al. (2012, American Economic Review, 102, 94–130). We find that the welfare changes are larger for consumers with lower income. Moreover, this paper shows that the welfare implications are different between a change in (iceberg-type) variable trade cost and a change in tariff when tariff revenue matters. More importantly, we show that the difference varies across consumers with different income levels.     

Coordinating tariff reduction and domestic tax reform

A key obstacle to fundamental tariff reform in many countries is the revenue loss that it ultimately implies. This paper establishes and explores a simple and practicable strategy for realizing the efficiency gains from tariff reform without reducing public revenue, showing that for a small economy a cut in import duties (respectively, export taxes) combined with a point-for-point increase in domestic consumption taxes (production taxes) increases both welfare and public revenue. Increasingly stringent conditions are required, however, to ensure unambiguously beneficial outcomes from this reform strategy when allowance is made for such important features of reality as non-tradeable final goods and tradeable intermediate inputs.     

Welfare versus market access: The implications of tariff structure for tariff reform

We show that the effects of tariff changes on welfare and import volume are fully characterised by their effects on the generalised mean and variance of the tariff distribution, implying two “cones of liberalisation” in commodity price space. Because welfare is negatively but import volume positively related to the generalised variance, the cones do not intersect, which poses a policy dilemma. We present a new radial tariff reform rule, which implies new results for welfare- and market-access-improving tariff changes. Finally, we show that generalised and trade-weighted moments are mutually proportional when the trade expenditure function is CES.     

Market Access Liberalisation in the Doha Round: Scenarios and Assessment

The modalities of negotiation on market access for agricultural and non‐agricultural products are an important item of the Doha Development Agenda. The dispersion of tariffs remains very large, translating into sizeable economic distortions. In particular, tariff peaks are numerous and highly protective. This is why the choice of a formula of reduction in tariffs is a sensitive issue. Using the MAcMaps database, we apply various formulas excluding or including peaks at the most detailed level of information on tariffs, considering preferential schemes conceded so far. The resulting changes in tariffs are introduced in a CGE exercise using Mirage . We find that trade and welfare gains are halved when excluding peaks from the negotiations.     

Trick or Treat? Development Opportunities and Challenges in the WTO Negotiations on Industrial Tariffs

Negotiations on industrial tariffs in the current WTO work programme have turned out to be surprisingly difficult. On the one hand, developing countries, particularly in Africa, are concerned about the potential negative effect on their industrial development of developed country efforts to push them into deep cuts in applied tariffs: after the disillusion of the Uruguay Round, promises of welfare gains seem unconvincing. On the other hand, a number of the more complex formula proposals for tariff‐cutting make it difficult for participants to evaluate what they have to do compared with what they hope to receive. The developing countries may achieve greater exports and welfare gains from the more ambitious proposals, but computations show that these also imply greater imports, lower tariff revenues, some labour market adjustments and reduced output in some politically sensitive sectors. Some way of assisting the developing countries in coping with these adjustments is required to take advantage of the opportunities presented by the negotiations.     

Trade liberalization, product variety and growth in a small open economy: a quantitative assessment

We develop a numerical growth model that quantifies the welfare effects of trade liberalization. Additional intermediate input varieties provide the engine of growth and dramatically magnify the welfare gains from trade liberalization. In our central model, a 10% tariff cut leads to a 10.6% estimated gain in Hicksian EV. Systematic sensitivity analysis shows that there is virtually no chance of a welfare increase less than 3%, but a 6.6% chance of a welfare gain greater than 18%. We show that complementary reforms are crucial to fully realize the potential gains from the trade reform.     

Trade and growth in the presence of distortions

Abstract

Tariffs and other policy distortions typically lower real national income relative to what it otherwise would have been for any given rate of factor accumulation. Even so, policy distortions may raise an economy's real measured growth rate and, somewhat deceivingly, give the impression that national welfare has benefited from things like tariff protection. This would be an incorrect conclusion. This paper discusses the issue of how policy distortions can affect the rate of growth for a small, open economy. For example, in the presence of exogenously given factor accumulation, a tariff can either raise or lower an economy's growth rate (measured by the change in the value of output at world prices), relative to the no-distortion growth rate. We also discuss the relevance of this result for tariff uniformity, ‘tariff jumping’ foreign direct investment, and the empirical literature on trade and growth. Finally, we use a numerical simulation model of Egypt to assess whether the costs of its tax distortions have increased or declined over time.     

The NAFTA Preference and US‐Mexico Trade: Aggregate‐Level Analysis

This paper focuses on the US tariff preference afforded to Mexico relative to non‐NAFTA trading partners and evaluates the trade effects of NAFTA in a manner consistent with the idea behind a preferential trading agreement. The estimation technique exploits the time‐varying dimension of the tariff preference over 1989 to 2001. This is important because the tariff preference for Mexico into the United States market existed prior to NAFTA. Further, the NAFTA preference was phased in over time. We find that a higher US tariff preference for Mexico corresponds to increased US import demand for Mexican goods, and that a higher Mexican tariff preference for the United States corresponds to increased Mexican demand for US exports. Interestingly, import demand was more responsive to changes in the tariff preference once NAFTA was in place than it was on average.     

Policy choice: Theory and evidence from commitment via international trade agreements

Why do governments employ inefficient policies when more efficient ones are available for the same purpose? We address this puzzle in the context of redistribution toward special interest groups (SIGs) by focusing on a set of important policies: tariffs and non-tariff barriers (NTBs). In our policy choice model a government can gain by committing to constrain tariffs through international agreements even if this leads to the use of less efficient NTBs; commitment has political value because it improves the bargaining position of a government that is weak relative to domestic SIGs. Using detailed data we find support for several of the model's predictions including: (i) tariff commitments in trade agreements increase the likelihood and restrictiveness of NTBs but not enough to offset the original tariff reductions; (ii) tariff commitments are more likely to be adopted and more stringent when the government is weaker relative to a SIG. Thus, the results can explain the use of inefficient policies for redistribution and suggest that the bargaining motive is an important source of the political value of commitment in international agreements.