Working Paper: NBER ID: w17603
Authors: Nuno Limao; Kamal Saggi
Abstract: Developing countries now account for a significant fraction of both world trade and two thirds of the membership of the World Trade Organization (WTO). However, many are still individually small and thus have a limited ability to bilaterally extract and enforce trade concessions from larger developed economies even though as a group they would be able to do so. We show that this coordination externality generates asymmetric outcomes under agreements that rely on bilateral threats of trade retaliation. such as the WTO. but not under agreements extended to include certain financial instruments. In particular, we find that an extended agreement generates improvements in global efficiency and equity if it Includes the exchange of bonds prior to trading but not if it relies solely on ex-post fines. Moreover, a combination of bonds and fines generates similar improvements even if small countries are subject to financial constraints that prevent them from posting bonds.
Keywords: international trade; coordination externality; trade agreements; developing countries; financial instruments
JEL Codes: F13; F42; K33; O1; O24
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| coordination externality (D62) | asymmetric outcomes (C72) |
| asymmetric outcomes (C72) | less favorable welfare outcomes for smaller countries (D69) |
| extending trade agreements to include financial instruments (F30) | enhanced cooperation among countries (F55) |
| enhanced cooperation among countries (F55) | more equitable outcomes (D63) |
| exchange of bonds prior to trading (G12) | prevents deviations from cooperative tariffs (F13) |
| preventing deviations from cooperative tariffs (F13) | mitigates the coordination externality (D61) |
| mitigating the coordination externality (D61) | ensures large country faces credible threat (F52) |
| ensuring large country faces credible threat (F52) | incentivizes adherence to the agreement (F53) |
| agreements that include financial instruments (G29) | improved global welfare (D60) |
| agreements that include financial instruments (G29) | more symmetric outcomes compared to standard agreements (C78) |