Working Paper: NBER ID: w1236
Authors: Jonathan Eaton; Gene M. Grossman
Abstract: In this paper we provide an integrative treatment of the welfare effects of trade and industrial policy under oligopoly, and characterize qualitatively the form that optimal intervention takes under a variety of assumptions about the number of firms, their conjectures about the response of their rivals to their actions, the substitutability of their productsand the markets in which they are sold. We find that when no domestic consumption occurs optimal policy under duopoly with a single home firm depends on the difference between firms' actual responses to their rivals and the response that their rivals' conjecture. If conjectures are consistent ,free trade is optimal. A tax or subsidy is indicated depending on the sign of the difference between the conjectured and the actual reponse.With more than one home firm but still no domestic consumption, an export tax is indicated if conjectures are consistent. Production subsidies and export tax-cum-subsidies can raise national welfare in the presence of domestic consumption, because these policies can mitigate the extent of the consumption distortion implicit in the deviation of price from marginal cost.
Keywords: Trade Policy; Industrial Policy; Oligopoly
JEL Codes: F12; L13
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| conjectures are consistent (C62) | free trade is optimal (F10) |
| conjectures differ (D80) | tax or subsidy is indicated (H23) |
| Cournot competition (C72) | export subsidy raises domestic welfare (H53) |
| export subsidy (H20) | transfers industry profit to the domestic firm (F16) |
| Bertrand duopoly (D43) | export tax shifts profits to the home firm (F23) |
| domestic consumption (E20) | production subsidy enhances national welfare (H53) |
| production subsidy (H23) | reduces price faced by domestic consumers (F61) |
| reducing price faced by domestic consumers (D41) | addresses consumption distortions (H31) |