Distorted Trade Barriers: A Dissection of Trade Costs in a “Distorted Gravity” Model

It is common in the trade literature to use iceberg transport costs to represent both tariffs and shipping costs alike. However, in models with monopolistic competition these are not identical trade restrictions. This difference is driven by how the two costs affect the extensive margin. We illustrate these differences in a gravity model. We show theoretically that trade flows are more elastic with respect to tariffs than transport costs and find a linear relationship between the elasticities with respect to tariffs, iceberg transport costs, and fixed market costs. We empirically validate these results using data on US product‐level imports.     

The Armington assumption and the size of optimal tariffs

There has been commentary on the seeming success of the world trading system in responding to the large shock of the 2008 financial crisis without an outbreak of retaliatory market closing. The threat of large retaliatory tariffs and fears of a 1930s style downturn in trade have been associated with numerical trade modelling, which projects post retaliation optimal tariffs in excesses of 100%. In the relevant numerical modelling, it is common to use the Armington assumption of product heterogeneity by country. Here, we argue and show by numerical calculation that the widespread use of this assumption gives a large upward bias to optimal tariffs, both first step and post retaliation, relative to alternative homogenous good models used in trade theory. The reason is that optimal tariffs equal the inverse of the foreign export supply elasticity and are negatively related to the elasticity of the foreign offer curve. The Armington assumption model has a much more bowed foreign offer curve, which generates unrealistic larger optimal tariffs.     

Trade,foreign direct investment or acquisition: Optimal entry modes for multinationals

We examine multinationals' optimal entry modes into foreign markets as a function of market size, FDI fixed costs, tariffs and transport costs. Our results highlight why large countries are more likely to attract acquisition investment, while intermediate sized countries may be served predominantly through trade, even in the presence of high tariffs. Small countries are most likely to experience either FDI or no entry. We also show how these results vary with the competition intensity in the host country.FDI fixed costs, tariffs and transport costs are crucial not only in determining whether to engage in FDI or trade, but they are also shown to influence the acquisition choice as trade and FDI threats influence the acquisition price. Finally, we explore the welfare implications of tariff reductions for both the local firm and the multinational and investigate political motives to impose endogenous tariffs that influence not only the welfare of a local firm, but also the entry mode of the multinational.     

Rising trade costs? Agglomeration and trade with endogenous transaction costs

Abstract.  While transport costs have fallen, the empirical evidence also points at rising total trade costs. In a model of industry location with endogenous transaction costs that seeks to replicate features from the machinery industry, we show how and under which conditions a decline in transport costs can lead to an increase in the total cost of trade. The subtle relationship between (endogenous) transport costs and the sensitivity of trade to distance is also explored.     

Market Integration and Competition in Environmental and Trade Policies

Recent empirics suggest the relevance of transport cost reductions for world trade growth along with eliminations in protectionist trade barriers. To address the welfare effects of trade cost reductions in a context of ??trade and the environment,?? we develop a two-stage game model where governments choose environmental and trade policies and firms play a Cournot-Nash game. We show that reductions in transport costs lead to lower emission taxes and higher tariffs. And, we find that the degree of pollution damage plays a central role in whether market integration is welfare-improving relative to autarky.     

Tariff effects on MNC decisions to engage in intra-firm and arm's-length trade

Abstract .  Using confidential firm-level data from the Bureau of Economic Analysis (BEA) on activities of U.S. multinational corporations (MNCs) and their Canadian affiliates, we study the dramatic growth of intra-firm and arm's-length U.S.-Canada trade over the 198495 period. We find that decisions to engage in intra-firm and arm's-length trade are essentially unrelated to tariff and transport cost reductions over this sample period. Thus, we find that the increase in trade occurred almost entirely on the  intensive  rather than the  extensive  margin. This is consistent with case study evidence in Keane and Feinberg (2006), where MNC executives consistently indicate that the modest tariff reductions of the 198495 period were not sufficient to justify fixed costs of overhauling international supply chains. Our results have important implications for recent influential models of international trade that rely on sensitivity of intra-firm trade to tariffs at the  extensive  margin to explain how small tariff declines could have led to the explosion of intra-firm trade since the 1980s. We also find that initial conditions (i.e., 1983 tariffs) are uncorrelated with whether firms engaged in intra-firm or arm's-length trade activity at the start of the sample period. This result is surprising as it implies that firms/industries with a greater propensity to engage in trade were not, in general, successful at lobbying for more favourable tariff treatment.     

Have Falling Tariffs and Transportation Costs Raised US Wage Inequality?

To gauge the effect of international trade on the rising US skill premium, the paper analyzes the sector bias of price changes induced by changes in US tariffs and transportation costs. It is found that, in both the 1970s and 1980s, cuts in tariffs and transportation cost levels were concentrated in unskilled‐intensive sectors. Despite this suggestive evidence, the authors estimate that price changes induced by tariffs or transportation costs mandated a rise in inequality that was mostly statistically insignificant. Thus, they do not find strong evidence that falling tariffs and transport costs, working through price changes, mandated rises in inequality.     

Cost relationships and globalization in the Australian clothing industry

Australia developed a substantial clothing industry with protectionist international trade policies, including prohibitively high tariffs, quotas, and subsidies. The industry became an important source of jobs, with over 6.5 per cent of total manufacturing employment at the close of the 1960s. As Australia has moved towards freer trade, employment in clothing production has fallen substantially. The question of whether the clothing industry can remain viable in its new environment became an important issue. Here, we examine two crucial economic considerations relating to that question: economies of scale and relations (substitute/complementary) between the various inputs, both domestic and outsourced foreign. The findings strongly indicate the presence of economies of scale and that the industry has reduced its unit costs over the period of study. The results also suggest that most of the inputs are substitutes for one another, although only the estimated cross price elasticities between capital and labour are highly statistically significant in both models utilized in the study. To be successful in the future, the Australian clothing industry will likely need to find market niches where it can offer superior products and/or service as well as further reduce its unit costs.     

The trade reducing effects of restrictions on liner shipping

The costs of shipping containerized cargo on liner vessels play a pivotal role in determining a country's integration into international trade. We examine how policy governing the liner shipping sector affects maritime transport costs and seaborne trade flows. Using a novel dataset of services trade policy information, we find that restrictions, particularly on foreign investment, significantly increase maritime transport costs. The cost-inflating effect ranges from 26% to 68%, and the resultant reduction in trade flows from 48% to 77%, depending on the level of restrictiveness. We estimate the elasticity of seaborne trade flows with respect to distance to be nearly unity, and are able to disentangle the direct effect of distance from the one that is operating indirectly through higher maritime transport costs. Since the bulk of global merchandise goods trade is seaborne, the magnitude of frictions identified in this paper and their spatial distribution have ramifications for connectivity and growth.     

Trade,transport costs and trade imbalances: An empirical examination of international markets and backhauls

The US trade deficit has been growing for over 25 years and has been accompanied by enlarging freight rate differentials. While traditional models of trade have ignored these gaps assuming symmetry across all bilateral trade costs, the specific linkages between trade imbalances and international transportation costs have remained unexplored. Given the current trade policies, the implications arising from the endogenous adjustment of bilateral transport costs to policy-induced changes in the US trade deficit are of particular importance. To break new ground on this issue, we develop and estimate a model of international trade and transportation that accounts for the effects of persistent trade imbalances. The theoretical results are supported by our empirical analysis and indicate that bilateral transport costs adjust to a country's trade imbalance. The implication is that a unilateral import policy, for example, will cause spillover effects into the bilaterally integrated export market. To illustrate, we use our empirical results to simulate the anticipated spillover effect from the Chinese ban on waste imports. We find that China's ban and the projected 1.5% rise in the US trade deficit will lead to not only a 0.77% reduction of transport costs charged on US exports to China but also a 0.34% increase in transport costs on US imports from China.     

Strategic Environmental Policies and the Gains from Trade Liberalization

The literature on strategic environmental policy has not fully addressed welfare effects of trade liberalization from autarky. In a reciprocal market model of duopoly with transboundary pollution, we study how reductions in transport costs and import tariffs affect the Nash‐equilibrium welfare of an environmental policy game as compared to any initial state including autarky. We show three patterns of gainfulness of trade depending on the interaction between marginal damage from pollution and the degree of transboundary pollution.     

Systematic Political Grass–Root Support for Tariffs

The leading political–economy–of–trade models are virtually silent on two fundamental questions raised by Rodrik in 1995. Why are trade policies systematically biased against trade? And why are tariffs rather than more efficient production subsidies adopted to redistribute income? This paper shows that systematic political grass–root support for trade–restricting and inefficient tariffs emerges when the government has a revenue goal and collecting taxes is costly. Even if no tax instrument enjoys an advantage with respect to collection costs and the factor ownership distribution is unbiased, more people support tariffs than import or production subsidies. More generally, the presence of tax–collection costs creates a grass–root support bias for taxes over subsidies as instruments to redistribute income.     

Whom to send to Doha? The shortsighted ones!

Analyses of the effects of trade policies focus on comparisons of two different steady states, restricting the investigation to the long run. In order to account for the adjustments and to capture the relevant transmission mechanisms of changes in trade costs, such as market size, entry and exit, as well as productivity changes of firms, we base our trade policy analysis on a dynamic new trade theory model. This approach has two advantages. (i) It allows us to take account of the transitional process after a change in tariffs. (ii) It allows us to take account of the shortsightedness of policy makers. We show that Nash-equilibrium tariffs based on a dynamic trade model are lower than Nash-equilibrium tariffs based on a static model. We also show that shortsighted politicians tend to set lower tariffs than politicians with a longer planning horizon.     

Economic integration and tax policy with endogenous foreign firm ownership

This paper analyses the impact of economic integration on tax policy in a model where corporate taxation is motivated by the desire to tax profits accruing to foreigners and the number of foreign owned firms is endogenous. Increasing economic integration is modeled as a decline in trade costs or tariffs. It turns out that declining trade costs lead to increasing profit taxes if the government may use import tariffs. If tariffs are not available, declining trade costs induce profit taxes to decline as well. A mandatory reduction in tariffs also triggers profit tax reductions. We conclude that the existence of foreign firm ownership may fail to prevent profit taxes from declining as economic integration proceeds.     

Misreporting trade: Tariff evasion,corruption, and auditing standards

Official international trade statistics report commerce between every pair of countries twice: once for the importing country and once for the exporter. In principle, the two values differ only by transport costs, but as has long been recognized, they also differ systematically with product‐level tariffs. We aggregate across products to construct a dataset of annual aggregate bilateral trade, separately for the importer and exporter reports. With these data, we show that the reporting differences also vary systematically with country characteristics aside from tariffs: incomes, auditing standards, corruption, and trade agreements.     

Structural gravity equations with intensive and extensive margins

Abstract .  Recent trade models with heterogeneous firms have changed the interpretation of gravity equations. Chaney (2008) shows that the effect of distance on the number of exporters and average exports depends on key parameters characterizing the elements of market structure. We use firm-level export data to estimate the structural parameters of Chaney's model. Controlling for the fixed costs of exporting, our estimated parameters match, for 28 out of 34 industries, the model's theoretical predictions. Our industry parameters allow us to evaluate separately the effect of transport costs and tariffs on trade, without having to resort to detailed data on trade frictions.     

The core periphery model with asymmetric inter-regional and intra-regional trade costs

We generalize the model of Krugman (J Polit Econ 99(3):483–499, 1991) to allow for asymmetric trade costs between regions and for (asymmetric) trade costs that are internal to the regions. We find that industrial activity, in a region, is enhanced by higher costs of importing and lower costs of exporting (more precisely, by a higher ratio between the two trade costs). This suggests that countries may impose tariffs on imported goods and seek to remove the import tariffs in other countries (unilateral protectionism) in order to foster industrial activity. Industrial activity is also promoted by lower domestic internal trade costs and higher foreign internal trade costs (more precisely, by a lower ratio between the two trade costs).     

How trade politics affect invasive species control

Trade has become the main mode of transport for many invasive species, including diseases and agricultural pests. Most species are brought to their new homes unintentionally, which constitutes a market failure rooted in international trade. Unless it is practical to drive invasion risk to zero, the external costs may justify a tariff. In this paper, we analyze the political process likely to govern the formation of tariffs so justified using a straightforward incorporation of an invasive species externality into Grossman and Helpman's (GH) well-known political economy model. We show that our measure of disguised protectionism—the gap between the optimal tariff and that set in the equilibrium of the political economy game—is equal to the tariff that would be set if there were no invasive species and no international disciplines on trade policy. The informational needs required to distinguish disguised protectionism from legitimate public-goods protection are formidable.     

A Stackelberg Game Model of Trade in Renewable Resources with Competitive Sellers*

We model international trade in renewable resources between a single buyer and competitive sellers as a Stackelberg differential game. The buyer uses unit and ad valorem tariffs to indirectly encourage conservation of the renewable resource under study. First, we show that the efficacy of these trade policy instruments in promoting conservation depends fundamentally on whether harvesting costs are stock dependent or independent. When harvesting costs are stock independent, the optimal open‐loop tariffs are dynamically consistent. In contrast, when harvesting costs are stock dependent, the optimal open‐loop tariffs are dynamically inconsistent. Secondly, we point out that whether the terminal value of the resource stock is higher with the stock independent or the stock dependent cost function cannot be resolved unambiguously. Thirdly, we show that it does not make sense for the buyer to use both tariffs simultaneously. Finally, we discuss the implications of these and other findings for renewable resource conservation in general.     

The Impact of Input and Output Tariffs on Firms' Productivity: Theory and Evidence

This paper studies the impact of trade liberalization on productivity. It shows that when intermediate inputs are not highly differentiated, lowering input tariffs leads to a rise in within‐firm productivity and wages, and lowering output tariffs has the opposite effect. When intermediate inputs are highly differentiated, the conclusions reverse. These predictions are supported by the data, given by the industrial survey from INEGI (Mexico's Insitituto Nacional de Estadistica Geografia e Informacion) in the period 1984–90. The paper yields estimates for the elasticity of substitution among intermediate inputs, which are useful in determining the direction of the impact of trade liberalization. These estimates can be used to assess the gains from trade liberalization.