Working Paper: CEPR ID: DP13264
Authors: Emanuel Ornelas; John Turner; Grant Bickwit
Abstract: We develop a new framework to study the welfare consequences of preferential trade agreements (PTAs) under global sourcing, incomplete contracts and endogenous matching. We uncover several new channels through which PTAs affect global welfare. There are effects stemming from intensive margin changes---i.e., changes in investment and production in existing vertical chains---and from extensive margin relocations---i.e., due to the formation and destruction of vertical chains. In each case, there are potential trade creating, trade diverting and relationship-strengthening forces. The first two are reminiscent of the classical Vinerian approach, but take different forms under global sourcing. The third is entirely new in the regionalism literature and arises because PTAs affect the severity of hold-up problems in sourcing relationships. We characterize those forces and show circumstances when PTAs are necessarily welfare-enhancing or welfare-decreasing. In particular, we show that, because of the relationship-strengthening effect, PTAs can improve global welfare even when all types of trade creation forces are absent.
Keywords: regionalism; holdup problem; sourcing; trade diversion; matching; incomplete contracts
JEL Codes: F13; F15; D23; D83; L22
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| PTAs (J44) | Changes in investment and production in existing vertical chains (D25) |
| Changes in investment and production in existing vertical chains (D25) | Global welfare (I31) |
| PTAs (Z22) | Formation and destruction of vertical chains (D85) |
| Formation and destruction of vertical chains (D85) | Global welfare (I31) |
| PTAs (J44) | Severity of holdup problems in sourcing relationships (D86) |
| Severity of holdup problems in sourcing relationships (D86) | Investment in specialized inputs (E22) |
| Investment in specialized inputs (E22) | Global welfare (I31) |
| PTAs (Z22) | Trade creation by replacing inefficient suppliers with efficient ones (F12) |
| PTAs (Z22) | Trade diversion from productive suppliers outside the bloc to less productive ones inside (F12) |