Working Paper: CEPR ID: DP335
Authors: Konstantine Gatsios; Larry Karp
Abstract: Partial cooperation in setting trade policy may be worse than no cooperation for countries who form a customs union. The paper investigates three situations where this is likely to occur. First, if the countries forming the union comprise too small a percentage of the non-competitive sector of the industry, their cooperation may be disadvantageous for essentially the same reason that a merger may be disadvantageous in oligopolistic industries. Second, even if the countries forming the union comprise the entire non-competitive sector of industry, cooperation on trade policy may be disadvantageous if industrial policy (e.g., investment subsidies) is chosen noncooperatively. Third, cooperation in choosing trade policies may encourage excessive investment by competitive importers and thus reduce the demand faced by the oligopolists.
Keywords: trade and industrial policy; imperfect competition; customs union
JEL Codes: 420; 422; 423
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| partial cooperation in trade policy (F13) | worse welfare outcomes for countries in a customs union (F55) |
| noncooperative behaviors in investment policies (F23) | excessive investment levels (G31) |
| excessive investment levels (G31) | negative externalities that reduce overall welfare (D62) |
| noncooperative investment decisions (G11) | excessive levels of investment that do not align with joint welfare maximization (E22) |
| cooperation in trade policy (F13) | excessive investment by competitive importers (F23) |
| excessive investment by competitive importers (F23) | reduced demand faced by oligopolists (D43) |