Bilateralism and Free Trade*

Abstract

We study a setting with many countries; in each country there are firms that can sell in the domestic as well as foreign markets. Countries can sign bilateral free-trade agreements that lower import tariffs and thereby facilitate trade. We allow a country to sign any number of bilateral free-trade agreements. A profile of free-trade agreements defines the trading regime. Our principal finding is that, in symmetric settings, bilateralism is consistent with global free trade. We also explore the effects of asymmetries across countries and political economy considerations on the incentives to form trade agreements.

Preferential versus multilateral trade liberalization and the role of political economy

“…Second, when the degree of political motivation is su¢ ciently low, free trade is a unique CPNE under both trade regimes. This result converges to the main …nding by Goyal and Joshi (2006), who analyze endogenous formation of trade agreements in the oligopoly model of trade where countries pursue PTAs only and governments have no political biases. While they interpret this result as compatibility of bilateralism and free trade, we show that it may break down if governments have political motivations.…”

“…In the second stage countries choose import tari¤s under a given trade policy regime, and in the 4 Earlier literature on the building versus stumbling bloc discussion has taken trade agreements exogenously and focused on the incentives of countries to participate in multilateral free trade (see Grossman and Helpman, 1995;Krishna, 1998;Ornelas, 2005a,b). More recent studies, including Goyal and Joshi (2006), Aghion et al (2007), Furusawa and Konishi (2007), and Seidman (2009) use endogenous formation of PTAs but ignore the possibility of trade liberalization on an MFN basis, and view PTAs as building blocs so long as their pursuit eventually leads to global free trade. 5 Similarly, we argue that PTAs are stumbling blocs if the freedom to pursue bilateral FTAs hampers multilateral free trade that would have been obtained if countries were to pursue trade liberalization only multilaterally.…”

“…The relative e¤ect of an FTA and an MA between a pair of countries on a third 7 In examining endogenous formation of PTAs, Goyal and Joshi (2006) and Furusawa and Konishi (2007) employ the concept of pairwise stability in a network formation game developed by Jackson and Wolinsky (1996). Unlike CPNE, the concept of pairwise stability implies two constraints.…”

Under-connected and over-connected networks: the role of externalities in strategic network formation

“…13 The co-author model introduced in Jackson and Wolinsky (1996) is mentioned above. Goyal and Joshi (2006a) present a model of free trade agreements that satisfies negative externalities. In order to apply Theorem 2 we need concavity, which only holds on a restricted domain,G := {g ∈ G | d i (g) ≥ 1 ∀i ∈ N }.…”

“…Examples for positive externalities include the provision of a pure public good and a model of market sharing agreements (both introduced in Goyal and Joshi 2006b); and the connections model (Jackson and Wolinsky 1996). Examples for negative externalities include the model of patent races (Goyal and Joshi 2006b), a co-author model (Jackson and Wolinsky 1996), and a model of free trade agreements (Goyal and Joshi 2006a). This paper is organized as follows: The subsequent Sect.…”