Trade creation and diversion effects in the Mediterranean area: Econometric analysis by gravity model

Since the early 1990s, the world has seen a proliferation of free trade agreements (FTAs). A major goal of free trade is to develop trade between its signatories. The gravity model is used to analyze the bilateral trade data against the variables of the relative size of the pair of countries involved in trade, distance, common border and language and dummies for each of the FTAs. This article focuses on the studying of the influence of the FTAs in the Mediterranean countries in which we integrate the role of the regional dummy EU-15, Economic and Monetary Union (eurozone), the Arab Maghreb Union and AGADIR Agreement (FTA between Jordan, Egypt, Tunisia and Morocco) in trade flows. In addition, this work aims to detect the impact of the global financial crisis on export flows between the FTAs in the Mediterranean region. The use of regional variables in gravity models designed to determine whether the FTAs contribute to the creation or trade diversion. This study examines a cross section and panel (static and dynamic) of 27 countries for 1980–2011. The results show the existence of a strong relationship between the factors of FTAs and trade flows.     

Trade Liberalisation: The Effects of Free Trade Agreements on the Competitiveness of the Dairy Sector

In recent years, preferential trade agreements (PTAs), free trade agreements (FTAs) in particular, have proliferated while WTO negotiations have stagnated. This paper contributes to the literature on trade liberalisation and the agricultural sector by analysing the effects of FTAs on the competitiveness of the dairy sector across 76 countries and over a 20‐year period from 1990 to 2009. With a longitudinal econometric model, the results demonstrate that when a country has a revealed comparative advantage in the dairy sector, FTAs positively influence several indicators of competitiveness in the dairy sector, such as production, market share and trade balance. The results also indicate that multilateral FTAs are more beneficial than bilateral FTAs. There is strong empirical evidence that FTAs are more beneficial to developed countries than to developing countries. There is no statistical evidence to support the hypothesis about a relationship between FTAs and farm‐gate price.     

‘Best Practices’ in Regional Trading Agreements: An Application to Asia

Regionalism in Asia, particularly in the form of free‐trade areas (FTAs), is a recent trend that is becoming increasingly important. This has been disturbing to many, given the significance of trade and investment in Asian economic growth and development and the region's key role in global commerce. In light of this trend, the goal of this paper is to develop a blueprint, or a set of 10 ‘best practices’, that can be used as a guide to FTAs in order to ensure that they approximate first‐best outcomes to the greatest extent possible. Next, the paper applies this framework to the existing FTAs between Asian countries and their regional and extra‐regional partners. The results suggest that the more advanced regional accords generally receive high grades, with the notable exception of rules of origin, which tend to be even more problematic in the context of accords in which an OECD country is a party.     

Computational Analysis of the Menu of US‐Japan Trade Policies

We have used the Michigan Computable General Equilibrium (CGE) Model of World Production and Trade to calculate the aggregate welfare and sectoral employment effects of the menu of US‐Japan trade policies. The menu of policies encompasses the various preferential US and Japan bilateral and regional free trade agreements (FTAs) negotiated and in process, unilateral removal of existing trade barriers and global (multilateral) free trade. The welfare impacts of the FTAs on the United States and Japan are shown to be rather small in absolute and relative terms. The sectoral employment effects are also generally small but vary across the individual sectors depending on the patterns of the bilateral liberalisation. The welfare effects on the FTA partner countries are mostly positive though generally small, but there are some indications of potentially disruptive employment shifts in some partner countries. There are indications of trade diversion and detrimental welfare effects on non‐member countries for some of the FTAs analysed. In comparison to the welfare gains from the US and Japan bilateral FTAs, the gains from both unilateral trade liberalisation by the United States, Japan and the FTA partners, and from global (multilateral) free trade are shown to be rather substantial and more uniformly positive for all countries in the global trading system. The US and Japan FTAs are based on ‘hub’ and ‘spoke’ arrangements. We show that the spokes emanate out in different and often overlapping directions, suggesting that the complex of bilateral FTAs may create distortions of the global trading system.     

Liberalisation and Protection under Overlapping Free Trade Agreements: Dynamic Interplay between Free Trade Agreements and Investment

Two decades into the most recent wave of regionalism many of its implications remain to be fully understood. A vast literature has explored the impacts of free trade agreements (FTAs) on investment flows, but less attention has been given to how existing patterns of investment alter FTA liberalisation. It is contended here that the dynamic interplay between overlapping FTA areas and the investment sunk in them shapes governments' and firms' positions regarding further FTA liberalisation. During trade negotiations, a country may decide to exclude a sector from FTA liberalisation to prevent (concession prevention) future FTA partners from making similar demands. Concession prevention could also occur when a foreign firm, holding a dominant market position in a host country, relinquishes liberalisation demands in an FTA between host and home countries to prevent its current position being eroded if the host country grants similar (or better) concessions to competing firms from other countries in future FTAs. Conversely, investment sunk into a country's sensitive sector in the territory of partners from previous FTAs could pre‐empt (concession pre‐emption) the protectionist position of that country when it subsequently negotiates FTAs with the investment‐source countries. These arguments were tested in the negotiations around the liberalisation of the automotive industry that Thailand and Malaysia had with Japan in their respective bilateral FTAs. The distinct interaction between investment and the FTAs in which these countries participate resulted either in entrenchment of protectionism in the sector or its liberalisation across subsequent FTAs.     

Free Trade Agreements and Governance of the Global Trading System

This article explores how far free trade agreements (FTAs) have strengthened or weakened global governance of the trading system. We open with an analysis of the altered political and economic context within which countries have come, in recent years, to assign a new importance to regional and bilateral trade agreements in their trade policies. We then consider each of the main provisions included in FTAs and comment on how these may separately affect the management of trade relations. We conclude with some observations of the broader trends affecting global governance that are associated with the spread of trade agreements as a whole.     

Regionalization of Textile Trade: Evidence from the EU,NAFTA, AFTA,and SAPTA

This study examines the integration effects of four regional trading agreements (RTAs) respectively the EU, NAFTA, AFTA, and SAPTA on textile fabric trade from 1990–2005. A modified gravity model for analyzing textile trade was first generated by the fixed-effects method. Regional dummy variables were then used to identify trade creation and trade diversion effects arising from the RTAs. The results indicated that neither trade creation nor trade diversion effects existed in the EU textile trade. Trade creation in terms of imports was identified in NAFTA and SAPTA. There is no indication of shifting textiles trade from the rest of the world to the member countries with the implementation of these two free trade areas (FTAs). On the contrary, trade diversion was recognised some years after AFTA's enactment. It represents a movement towards free trade and is beneficial for the welfare of the world. This article provides empirical evidence on how textiles trade influenced by the formation of RTAs and elimination of quotas on textiles products.     

Multilateral,Regional and Bilateral Trade‐Policy Options for the United States and Japan

We have used the Michigan Model of World Production and Trade to simulate the economic effects on the United States, Japan, and other major trading countries/regions of the Doha Round of WTO multilateral trade negotiations and a variety of regional/bilateral free trade agreements (FTAs) involving the United States and Japan. We estimate that an assumed reduction of post‐Uruguay Round tariffs and other barriers on agricultural and industrial products and services by 33 per cent in the Doha Round would increase world welfare by $686.4 billion, with gains of $164.0 billion for the United States, $132.6 billion for Japan, and significant gains for all other industrialised and developing countries/regions. If there were global free trade with all post‐Uruguay Round trade barriers completely removed, world welfare would increase by $2.1 trillion, with gains of $497.0 billion (5.5 per cent of GNP) for the United States and $401.9 billion (6.2 per cent of GNP) for Japan. Regional agreements such as an APEC FTA, an ASEAN Plus 3 FTA, and a Western Hemisphere FTA would increase global and member country welfare but much less so than the Doha multilateral trade round would. Separate bilateral FTAs involving Japan with Singapore, Mexico, Chile and Korea, and the United States with Chile, Singapore and Korea would have positive, though generally small, welfare effects on the partner countries, but potentially disruptive sectoral employment shifts in some countries. There would be trade diversion and detrimental welfare effects on some non‐member countries for both the regional and bilateral FTAs analysed. The welfare gains from multilateral trade liberalisation are therefore considerably greater than the gains from preferential trading arrangements and more uniformly positive for all countries.     

Free trade agreement and transport service trade

This study investigates the effects of free trade agreements (FTAs) on trade in transport services using OECD data from 2003 to 2006. Our analysis found that FTAs had a positive overall impact on transport services for multiple countries (i.e., 26 home and 56 partner countries). The resulting positive overall impact assures that, even with the challenges associated with different layers of services and the obstacles formed by generally low trade openness in the sector, the provisions in FTAs (e.g., national treatment and market access for goods and services) promote transport service trades. Our findings suggest that the provisions in FTAs encourage economic agents to increase engagement in transport services because of expanded openness of the physical movement of goods across international borders.     

Free Trade Areas in East Asia: Discriminatory or Non‐discriminatory?

The debates on regional trade arrangements in East Asia focus on whether the RTAs can be net trade creating or diverting, and whether they impede multilateral trade liberalisation or not. This paper attempts to answer these questions by quantitatively estimating the economic impact of possible East Asian free trade areas based on a bilateral gravity model, and evaluating the main characteristics of the proposed FTAs. We find that the trade creation effect expected from the proposed East Asian FTAs such as a China‐Japan‐Korea or an ASEAN plus three (China, Japan, Korea) FTA will be significant enough to overwhelm the trade diversion effect. We also judge that East Asian FTAs will likely be a building block for a global free trade.     

Do free trade agreements actually increase members' international trade?

For over 40 years, the gravity equation has been a workhorse for cross-country empirical analyses of international trade flows and — in particular — the effects of free trade agreements (FTAs) on trade flows. However, the gravity equation is subject to the same econometric critique as earlier cross-industry studies of U.S. tariff and nontariff barriers and U.S. multilateral imports: trade policy is not an exogenous variable. We address econometrically the endogeneity of FTAs. Although instrumental-variable and control-function approaches do not adjust for endogeneity well, a panel approach does. Accounting econometrically for the FTA variable's endogeneity yields striking empirical results: the effect of FTAs on trade flows is quintupled. We find that, on average, an FTA approximately doubles two members' bilateral trade after 10 years.     

Economic determinants of free trade agreements

The purpose of this study is to provide the first systematic empirical analysis of the economic determinants of the formation of free trade agreements (FTAs) and of the likelihood of FTAs between pairs of countries using a qualitative choice model. We develop this econometric model based upon a general equilibrium model of world trade with two factors of production, two monopolistically-competitive product markets, and explicit intercontinental and intracontinental transportation costs among multiple countries on multiple continents. The empirical model correctly predicts, based solely upon economic characteristics, 85% of the 286 FTAs existing in 1996 among 1431 pairs of countries and 97% of the remaining 1145 pairs with no FTAs.     

Chile's Trade and Regional Integration Policy: An Assessment

This paper examines the economics, politics and political economy of Chile's trade and regional integration (RI) policies, and reaches the following conclusions. First, Chile is likely to obtain static and dynamic benefits from a free trade agreement (FTA) with the US, though the benefits depend crucially on the extent to which its market access to the US improves and on the costs of implementing the intellectual property rights agreement and of enforcing the rules of origin. Second, potential benefits are more doubtful with respect to FTAs with MERCOSUR and the Andean Pact and Central American countries.Third, Chile should complement its ongoing negotiations with the EU by negotiating FTAs with key Asian countries.Fourth, Chile should bind all its tariffs at the WTO at the applied MFN uniform tariff rate. Fifth, the uniform MFN tariff should be reduced below six percent after 2003.     

Trade Policies in Southeast Asia in the Wider Asian Perspective

This paper takes stock of trade policies in Southeast Asia after the Asian crisis and in the wake of the current global economic crisis. It compares trade policies in individual Southeast Asian countries; places them in the context of regional and global economic integration; and particularly draws implications for the region from the rise of China and India. The first section looks at recent trade and FDI patterns in Southeast Asia. Then follows an overview of key trade‐policy trends, in the region overall and in individual countries. The next sections examine ASEAN countries in international trade negotiations and agreements: first in the WTO, especially in the Doha Round; then within ASEAN; and finally on cross‐regional FTAs. The paper concludes that ASEAN countries cannot rely on external tracks ‘from above’ for meaningful trade policy reform. Since the Asian crisis there has been a slowdown of reform momentum, and too much reliance on trade negotiations – especially FTAs. Rather, countries in the region have to rely on themselves –‘from below’ as it were. The engine of liberalisation and regulatory reform has to be home‐driven – as it was before the Asian crisis – with governments taking unilateral measures in response to internal and external conditions.     

Towards a New Trade Policy Between the USA and Middle‐East Countries:Estimating Trade Resistance and Export Potential

At the time of the conclusion of free trade areas (FTAs) between the USA and Middle‐East and North African (MENA) countries, there is a lack of literature concerning the measurement of the current US export position with regards to these countries, and the US export potential in this area. From recent developments of gravity models, this paper derives an estimable equation which includes various trade resistance variables, notably border effects, multilateral resistance as well as specific bilateral effects. The model is tested in order to scrutinise the impact of these variables on US exports to MENA countries, as well as the US export potential in this area. To that end, a selection of panel data specifications is proposed, mainly Hausman and Taylor models as well as Arellano and Bond dynamic models. Results unambiguously indicate that as compared to the other OECD countries, the USA suffers from a substantial trade integration deficit with MENA countries. This is reflected by the strongly negative values of the US‐MENA bilateral fixed effects, as well as the high bilateral border effects. In addition, the estimated actual/potential US export ratio to these countries is only 0.76. Therefore, implementing an FTA between the USA and MENA countries may allow the former to progressively improve its export position in this area. This would also help MENA countries diversify their supplying sources.     

Trade‐Policy Issues and Policy Options for Japan and the United States: Introduction and Overview

This symposium includes papers that analyse a number of issues that are likely to play a key role in the Doha Development Agenda (DDA) negotiations. These issues are analysed from the perspective of US‐Japanese economic relations. In these papers, the economic effects of the WTO negotiating options available to both countries are explored. A final paper examines the important issues raised by the free trade agreements (FTAs) that have or will soon be negotiated by the United States and Japan. Brief summaries of the papers are provided. With all the advantages that have accrued to Japan from the multilateral trading system, it is not surprising that for many years Japan, alone among the world's major economies, stayed aloof from regional trading arrangements. The very past success of the multilateral trading system has made further progress at this level far more complex and has pushed many countries, Japan included, to look to new and deeper regional trading agreements as a more productive path. But it should not be forgotten that while FTAs may be easier to conclude, their benefits are modest compared with what can be gained from a successful Doha Round, and the costs from new distortions imposed on regional trade can be very significant for some of the world's poorer economies. Every good reason remains for Japan to continue to wish to be a pillar of the WTO and of the new Doha Round.     

Free trade networks

The paper examines the formation of free trade agreements (FTAs) as a network formation game. We consider an n-country model in which (possibly asymmetric) countries trade differentiated industrial commodities. We show that if all countries are symmetric, the complete FTA network is pairwise stable and it is the unique stable network if industrial commodities are not highly substitutable. We also compare FTAs and customs unions (CUs) as to which of these two regimes facilitates global trade liberalization, noticing that unlike CUs, each signatory of an FTA can have another FTA without consent of other member countries.     

A strategic and welfare theoretic analysis of free trade areas

We construct a three-country model to determine how the formation of free trade areas (FTAs) affects optimal tariffs and welfare. We find that, at constant rest of the world (ROW) tariffs, the adoption of internal free trade induces union members to reduce their external tariffs below the Kemp-Wan [J. Int. Econom. 6 (1976) 95-97] level, and causes ROW's terms of trade to improve and its welfare to rise. When ROW also behaves optimally, its policy response to the formation of the FTA is to raise tariffs. Generally, FTA members prefer to liberalize internal trade partially and find regional integration appealing only if their collective size is sufficiently large. We also demonstrate how FTAs may undermine the attainment of global free trade.     

Skill classification does matter: estimating the relationship between trade flows and wage inequality

Empirical work must pay careful attention to how it measures the relative skill abundance of countries and the relative skill intensity embodied in trade flows. This paper compiles a new data set, using income levels, average education, manufacturing wages, and an index of these three variables, to classify countries and trade flows as relatively high skill or low skill. Then, in order to show the importance of skill classification, it uses a reduced-form fixed-effects model to estimate the relationship between trade flows and wage inequality. This specification not only controls for any time-invariant omitted variables, but also permits the inclusion of a large number of diverse countries. When more accurate skill rankings are utilized, results suggest that, in high-skill abundant countries, increased trade with lower-skill countries is correlated with an increase in wage inequality. This relationship is significant and highly robust and is driven by the negative relationship between trade and low-skill wages (instead of a positive relationship between trade and high-skill wages.) Results, however, are highly dependent on the skill classification utilized.     

Trade Creation and Diversion Effects of Regional Trade Agreements: A Product‐level Analysis

This paper examines the impacts of regional trade agreements (RTAs) on trade flows at product level, with a particular focus on trade creation and diversion. Based on estimation of the gravity equation, dealing with the zero trade flows and endogeneity bias problems, we analyse the impacts of various types of RTAs involving 67 countries for 20 products during the 1980–2006 period. We find that RTAs among developing countries tend to cause trade diversion compared with RTAs among developed countries. Taking the higher external tariff rates of developing countries compared with developed countries into consideration, our results suggest trade diversion is likely to be caused by remaining high tariffs on imports from non‐members. In addition, we find the trade creation effect for many products in the cases of Customs Unions and plurilateral RTAs. These results imply that trade creation would be caused by various factors besides the reduction in tariff rates. Based on these results, we draw a policy implication that external tariff rate reduction is an important factor in avoiding trade diversion in the formation of RTAs, in particular for RTAs among developing countries, while a large number of members and the common external tariff appear to be important for generating the trade creation effect.