Globalization and Emerging Issues in Trade Theory and Policy: Volume 5

This edited volume has its genesis in a conference entitled New Paradigms in Economics of Welfare and Trade under Globalisation and Regionalisation. Held at the Coogee campus of the Australian School of Taxation (Atax), University of New South Wales (Sydney, Australia) from 8th to 10th August 2006, this conference brought together economic theorists from around the globe to celebrate Murray Kemp's 80th birthday. Conference participants and presenters included a former teacher, colleagues, co-authors, senior academics and many former students of Murray. After a two-year gestation period, the volume has finally been published. Half of the chapters in this book are derived from papers presented at the conference. The remaining half of the book consists of invited papers completed after the conference. All chapters in this volume were subjected to a formal reviewing and revision process.

Purpose − This chapter reconsiders the role of the WTO in the world economy, where regional free trade agreements have proliferated to threaten its basic rule of multilateral and non-discriminatory tariff reduction and the deepening of globalization has developed international concern about labor and environmental standards to challenge its conventional practice of tariff negotiation.

Methodology/Approach − This chapter employs the general equilibrium approach of welfare economics in its analysis.

Findings − It is shown that the WTO should reconfirm its target of expanding and securing the market access property rights of member countries and engage in the international coordination of tariffs and other trade policy instruments to achieve this target, while leaving other policy targets such as propagating labor and environmental standards to other appropriate international organizations.

Practical implications − The steady move towards multilateral free trade has come to an end. This chapter offers a clear argument for economists and policy makers to regain confidence in the traditional role of the WTO/GATT.

Purpose − This study explains a puzzle: most countries realize the mutual benefit of tariff cutting, but tariffs never become zero.

Approach − The method is decision-theoretic, and proves the results by example.

Findings − The Johnson tariff-ridden equilibrium may be unique, but not the free-trade equilibrium, and tariff cutting may cause a ‘decision problem under uncertainty’ (d.p.u.u.) of Luce, R.D., Raiffa, H. (1989), in which mutual tariff-cutting benefits both parties only up to some point.

Originality/value − This approach addresses a pragmatic problem with global analysis and suggests institutional rearrangement to avoid such conundrum.

Purpose – The present note shows the interaction between technological differences between countries and the level of trade costs as a determinant of trade patterns.

Methodology/approach – It takes the work of Kikuchi et al.'s (2008) Chamberlinian–Ricardian model as its point of departure, and extends the analysis to include both a continuum of industries, as did Dornbusch et al. (1977), and iceberg transport costs.

Findings – It will be shown that trade liberalization drastically changes the nature of trade patterns, particularly the emergence of intra-industry trade.

Originality/value – This present model extends the Chamberlinian–Ricardian model to include positive trade costs.

Purpose – The purpose of this chapter is to examine the issues of outsourcing and corresponding policy interventions by the government.

Design/methodology/approach – This chapter begins with a situation in which no government interventions are allowed, and examine the government of the North, when it is allowed to intervene, can choose one of the three options: (a) to limit the quantity of each type of variety of the foreign intermediate inputs to be imported; (b) to limit the number of varieties of the foreign intermediate inputs to be imported; and (c) to impose a tariff on the imported intermediate inputs.

Findings – For each policy, the optimal intervention is derived.

Originality/value – The analysis can be used to examine the argument for restricting outsourcing.

Purpose – In this chapter we study the welfare effects of relaxing government restrictions on bidding by foreign firms for government procurement contracts.

Methodology – We use a modified version of the Tullock model of rent contests. Firms spend resources to influence decisions of awarding contracts. We consider the case where firms are heterogeneous in terms of lobbying effectiveness.

Findings – The opening of the bidding opportunities to foreign firms can, under certain conditions, improve social welfare of the liberalizing country. The gain partly comes from reduced aggregate domestic lobbying efforts, which implies lower social waste, and partly from tax revenue on the profits of winning foreign firms.

Practical implications – Our analysis indicates that when negotiating on opening up trade in services, governments should take into account the effects of foreign entry on domestic lobbying costs.

Purpose – The chapter examines whether the well-known Kemp–Wan proposition about customs unions is valid for free trade associations (FTAs).

Methodology/approach – The chapter employs the assumption of perfect competition but with considerable generality.

Findings – It is shown that the Kemp–Wan proposition is valid for any form of FTA. It is also shown that sense can be made of the common conjecture that a customs union is more beneficial to the world economy than a comparable but distinct FTA.

Originality/value – The findings are of significance in view of the recent tendency of governments to prefer FTAs to customs unions.

Purpose – A free trade agreement (FTA) or a preferential trade agreement (PTA) is almost always negotiated without concessions to the non-member countries. This chapter studies the welfare effects of such an FTA or PTA on the non-member countries.

Methodology/approach – This chapter employs the revealed preference approach (e.g., Ohyama, 1972; Kemp and Wan, 1976; Deardorff, 1980).

Findings – Under such conditions that the initial levels of the tariffs are small, or that the effects on production efficiency dominate the effects on tariff revenue, or that the tax-subsidy scheme proposed by Bhagwati, Ramaswami, and Srinivasan is employed in all the countries, the formation of a PTA without any tariff concessions to the outside countries will harm the welfare of the outside countries.

Practical implications – In order to make a PTA beneficial not only for member countries but for the rest of the world, member countries need to grant some tariff concessions to the imports from the non-member countries.

Purpose – This chapter examines how preferential liberalization between a pair of countries affects the terms of trade and welfare of the liberalizing countries and on the rest of the world (ROW). We adopt a model with symmetric countries that generalizes previous work by relaxing assumptions on functional forms, which allows for the possibility that exports of member countries are complements for exports of the ROW.

Methodology/approach – This chapter uses general equilibrium welfare analysis for a three-country trade model.

Findings – We show that Kemp–Wan tariff adjustments require a decrease (increase) in the external tariff of members in a preferential trade agreement to accompany internal liberalization in the neighborhood of internal free trade when member goods are substitutes (complements) for non-member goods. However, the adjustment path of the external tariff to reductions in the internal tariff could be non-monotonic when preferences are not of the CES type.

Practical implications – Our results are of interest for the design of rules for multilateral trade agreements with respect to preferential liberalization, since they indicate how tariffs must be adjusted to eliminate negative impacts on non-member countries.

Purpose – This chapter suggests that the value of the extension to free trade areas (FTAs) of the Kemp–Wan (KW) theorem on necessarily welfare-improving customs unions is undermined by its very rationale – the greater popularity of FTAs over customs unions for ‘political’ reasons.

Methodology/approach – We discuss some intuition supported by partial equilibrium diagrammatic analysis and then present simulations of a global CGE model.

Findings – We argue that this sort of FTA will likely be unattractive to potential member countries. We then observe that the external tariffs here and in KW will be identical for many goods but illustrate, in a partial equilibrium setting, a context in which there might be some difference between them. Nevertheless, our analysis suggests that there are reasons to expect some harmonisation of tariffs between member countries in this sort of FTA.

Originality/value – We are the first to question the practical value of the extension of KW to FTAs. We also provide one of the few computable general equilibrium analyses of KW customs unions.

Purpose – We ask how far the Kemp–Wan Pareto-improving result can hold without inter-country transfers.

Methodology/approach – Assuming that the standard revenue and expenditure functions exist, we consider tariff adjustments for some group of countries such that they makes member countries better off without affecting non-member countries (a la Kemp–Wan).

Findings – Any group of countries can engage in a Pareto-improving non-discriminatory tariff reform without income transfers, if (i) there are more than two tradable goods and (ii) the initial tariff vectors of the member countries satisfy the non-proportionality condition. We then show that if these two conditions hold then countries can form a Pareto-optimal customs union. Depending on initial conditions, transfers may be necessary for the customs union to be Pareto-improving.

Originality/value of paper – The Pareto-improving result of this chapter is based on tariff reform only.

Purpose − The principal aim of this chapter is to present a comprehensive and critical review of Murray Kemp's contributions to the discipline of international trade and welfare economics.

Methodology/Approach − This chapter employs the critical literature review approach, including archival analysis and face-to-face interviews.

Findings − It is shown that Kemp has been a key player in the modernization of trade theory. In particular, he has extended the theorems of gains from trade in many different directions and under the most general conditions.

Practical implications − In surveying Kemp's research contributions this chapter provides a useful overview of the development of the normative theory of trade. It also examines a number of methodological issues that may prove to be useful to economic theorists.

Purpose − Instances of refusal to trade stand in contrast to the theorems on the gains from trade. Two paradigms, second-best and political economy, have been used to explain refusal to trade. Murray Kemp (1962) provided a foundation for the political economy paradigm when he noted that, in the absence of lump-sum redistribution, the theorems on the gains from trade are “true but irrelevant”. This chapter takes Murray Kemp's observation as a point of departure for a consideration of the relation between individual and group gains from trade. Paradigms in explaining refusal to trade are distinguished.

Methodology/Approach − This chapter examines ideas underlying explanations for refusal to participate in international trade.

Findings − Two different approaches are identified in modeling and explaining why the gains from trade are compromised by refusal of governments to allow free trade. The second-best approach suggests a justification for refusal to trade while the political economy approach with public-choice foundations proposes an explanation.

Practical implications − Ideology expressed in how governments are viewed can influence economic analysis.

Purpose – This chapter aims to examine trade patterns and gains from trade in a two-country general equilibrium model of increasing returns and oligopoly.

Approach – A general equilibrium model of increasing returns and oligopoly.

Findings – The determination of patterns of specialization and trade and gains from trade highly depends on the interaction between the degree of increasing returns and market power as well as the cross-country difference in factor endowments.

Originality – Unlike the existing literature, we endogenize the determination of specialization by using an allocation curve approach by Ethier (1982). To our knowledge, there is no comparable study that incorporates Ethier's (1982) approach to oligopolistic models of international trade.

Purpose – This chapter examines whether a small open economy in the presence of a nontraded good produced under a monopolistically competitive market and foreign capital inflow can raise its national welfare by adopting trade liberalization coupled with foreign economic aid.

Methodology/approach – The chapter employs a general equilibrium, comparative static analysis of a small open economy involving two factors and two industries.

Findings – It is shown that an import tariff can raise the welfare of a country or impoverish it, depending on the production and trade structures and preferences of the country, but foreign economic aid is always welfare enhancing. Thus, even when a tariff reduction reduces national welfare, the government still has an incentive to adopt the policy combination of trade liberalization and foreign economic aid.

Originality/value of paper – The results obtained explain a widely recognized fact that economic aid by developed donor countries, trade liberalization and capital market liberalization typically take place simultaneously in developing recipient countries.

Purpose – This chapter investigates the role of infrastructure aid to developing countries for determining the effect on national income and consumer welfare. The chapter further demonstrates the conditions for the Dutch disease effect by decomposing the output effects of infrastructure aid into the initial factor-saving effect, factor-substitution effect and nontraded good effect.

Methodology/approach – This chapter extends the Heckscher−Ohlin model to a 3×2 case with two traded goods and a nontraded good, and derives comparative static results on factor prices, the price of nontraded goods, foreign exchange rate, sectoral outputs, and national income and consumer welfare.

Findings – It is shown that for a recipient country, infrastructure aid to either the export or import sector necessarily raises national income and consumer welfare, whereas the same aid to the nontraded good sector does not affect national income but raises consumer welfare. Infrastructure aid may lead to a Dutch disease effect via its three effects on industrial outputs: the initial factor-saving effect, factor-substitution effect and nontraded good effect.

Research limitations/implications – This chapter considers infrastructure capital as a public input, but it is devoid of analysis of inter-industrial spillover effects that the infrastructure capital generates to other sectors.

Practical implications – This chapter reveals several aspects of infrastructure aid that the practitioners of aids must consider.

Purpose – This chapter shows that in the presence of tourism, the traditional policy prescription, free trade in goods and the standard Pigouvian tax on pollution, is not optimal for a small open economy.

Methodology/approach – The general-equilibrium analysis is employed to study environmental regulations for a small open economy with tourism.

Findings – Foreign tourists consume mainly local non-traded goods in the tourist-receiving economy. Inbound tourism converts formally non-traded goods into tradables, generating a tourism terms-of-trade effect. Owing to this favourable effect, positive tariffs and stricter pollution taxes can actually improve welfare of domestic residents. The optimal rates of tariffs and pollution taxes are derived and explained for the economy with tourism. These positive rates are confirmed by simulations.

Originality/value of chapter – The presence of tourism can alter the welfare implications of the traditional trade policy.