Working Paper: CEPR ID: DP17463
Authors: Meredith A. Crowley; Lu Han
Abstract: How does trade policy affect competition? Using the universe of product exports by firms from eleven low and middle-income countries, we document that tariff reductions under trade agreements have strong pro-competitive effects -- they encourage entry and reduce the (tariff exclusive) price-cost markups of exporters. This finding, that markups fall with tariff cuts, contradicts a core prediction of standard oligopolistic competition models of trade. We extend a workhorse international pricing model of oligopolistic competition to include multiple countries and a rich preference structure. Our preference structure allows for fierce competition among firms from the same country and less intense competition among firms from different countries. We show a firm’s optimal markup after a tariff cut can rise or fall depending on the parameters of the preference structure and tariff-induced reallocation of market share among firms and across countries.
Keywords: trade agreements; variable markups; markup elasticity; trade elasticity; competition policy; firm level data
JEL Codes: F13; F14; F15
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| 10% preferential tariff reduction (F19) | 41% decrease in the tariff-exclusive markups of incumbent exporters from a preferred origin (F14) |
| entry of new exporters from the same origin (F10) | lower markups (D43) |
| across-origin effect (C92) | increases overall market share of the origin in the destination market (F61) |
| within-origin reallocation effect dominates when elasticity of substitution is high (F16) | net effect on markups (D43) |
| demand elasticity faced by individual exporters changes with competitive landscape (F14) | influences markup adjustments (L11) |