Trade policy under monopolistic competition with firm selection

Kyle Bagwell; Seung Hoon Lee

doi:10.1016/j.jinteco.2020.103379

Trade policy under monopolistic competition with firm selection

Kyle Bagwell, Seung Hoon Lee

Department of Economics

Research output: Contribution to journal › Article › peer-review

9 Citations (Scopus)

Abstract

We analyze unilateral, efficient and Nash trade policies in a symmetric, two-country version of the Melitz-Ottaviano (2008) model. Starting at global free trade, we show that a country gains from the introduction of (1) a small import tariff; (2) a small export subsidy, if trade costs are low and the dispersion of productivities is high; and (3) an appropriately combined small increase in its import and export tariffs. The welfare of its trading partner, however, falls in each of these three cases. The market may provide too little or too much entry, depending on a simple relationship among model parameters. Correspondingly, global free trade is generally not efficient, even within the class of symmetric trade policies. We also provide conditions under which, starting at the symmetric Nash equilibrium, countries can mutually gain by exchanging small reductions in import tariffs, export tariffs or combinations thereof. More generally, we show that Nash equilibria are inefficient while “politically optimal” policies are efficient, indicating a central role for the terms-of-trade externality. We also discuss why the model's implications for the treatment of export subsidies in trade agreements differ from those that obtain in a model with CES preferences for the differentiated-goods sector.

Original language	English
Article number	103379
Journal	Journal of International Economics
Volume	127
DOIs	https://doi.org/10.1016/j.jinteco.2020.103379
Publication status	Published - 2020 Nov

Bibliographical note

Funding Information:
☆ Previous draft: September 6, 2018. We thank two anonymous referees, Matilde Bombardini, Arnaud Costinot, Dave Donaldson, Robert Feenstra, Matt Grant, Oleg Itskhoki, Giovanni Maggi, Kalina Manova, Marc Melitz, Andres Rodriguez-Clare, Robert Staiger and especially Alan Spearot for helpful comments and conversations. We also thank seminar participants at the Econometric Society Meetings (Summer 2017), the Geneva Trade and Development Workshop, Georgetown, Georgia Institute of Technology, Indiana, Stanford, University of California at Davis and Yale. Bagwell thanks CASBS at Stanford for support and hospitality. Previous draft: September 6, 2018. We thank two anonymous referees, Matilde Bombardini, Arnaud Costinot, Dave Donaldson, Robert Feenstra, Matt Grant, Oleg Itskhoki, Giovanni Maggi, Kalina Manova, Marc Melitz, Andres Rodriguez-Clare, Robert Staiger and especially Alan Spearot for helpful comments and conversations. We also thank seminar participants at the Econometric Society Meetings (Summer 2017), the Geneva Trade and Development Workshop, Georgetown, Georgia Institute of Technology, Indiana, Stanford, University of California at Davis and Yale. Bagwell thanks CASBS at Stanford for support and hospitality.

Publisher Copyright:
© 2020 Elsevier B.V.

All Science Journal Classification (ASJC) codes

Finance
Economics and Econometrics

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10.1016/j.jinteco.2020.103379

Cite this

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title = "Trade policy under monopolistic competition with firm selection",

abstract = "We analyze unilateral, efficient and Nash trade policies in a symmetric, two-country version of the Melitz-Ottaviano (2008) model. Starting at global free trade, we show that a country gains from the introduction of (1) a small import tariff; (2) a small export subsidy, if trade costs are low and the dispersion of productivities is high; and (3) an appropriately combined small increase in its import and export tariffs. The welfare of its trading partner, however, falls in each of these three cases. The market may provide too little or too much entry, depending on a simple relationship among model parameters. Correspondingly, global free trade is generally not efficient, even within the class of symmetric trade policies. We also provide conditions under which, starting at the symmetric Nash equilibrium, countries can mutually gain by exchanging small reductions in import tariffs, export tariffs or combinations thereof. More generally, we show that Nash equilibria are inefficient while “politically optimal” policies are efficient, indicating a central role for the terms-of-trade externality. We also discuss why the model's implications for the treatment of export subsidies in trade agreements differ from those that obtain in a model with CES preferences for the differentiated-goods sector.",

author = "Kyle Bagwell and Lee, {Seung Hoon}",

note = "Funding Information: ☆ Previous draft: September 6, 2018. We thank two anonymous referees, Matilde Bombardini, Arnaud Costinot, Dave Donaldson, Robert Feenstra, Matt Grant, Oleg Itskhoki, Giovanni Maggi, Kalina Manova, Marc Melitz, Andres Rodriguez-Clare, Robert Staiger and especially Alan Spearot for helpful comments and conversations. We also thank seminar participants at the Econometric Society Meetings (Summer 2017), the Geneva Trade and Development Workshop, Georgetown, Georgia Institute of Technology, Indiana, Stanford, University of California at Davis and Yale. Bagwell thanks CASBS at Stanford for support and hospitality. Previous draft: September 6, 2018. We thank two anonymous referees, Matilde Bombardini, Arnaud Costinot, Dave Donaldson, Robert Feenstra, Matt Grant, Oleg Itskhoki, Giovanni Maggi, Kalina Manova, Marc Melitz, Andres Rodriguez-Clare, Robert Staiger and especially Alan Spearot for helpful comments and conversations. We also thank seminar participants at the Econometric Society Meetings (Summer 2017), the Geneva Trade and Development Workshop, Georgetown, Georgia Institute of Technology, Indiana, Stanford, University of California at Davis and Yale. Bagwell thanks CASBS at Stanford for support and hospitality. Publisher Copyright: {\textcopyright} 2020 Elsevier B.V.",

year = "2020",

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doi = "10.1016/j.jinteco.2020.103379",

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N1 - Funding Information: ☆ Previous draft: September 6, 2018. We thank two anonymous referees, Matilde Bombardini, Arnaud Costinot, Dave Donaldson, Robert Feenstra, Matt Grant, Oleg Itskhoki, Giovanni Maggi, Kalina Manova, Marc Melitz, Andres Rodriguez-Clare, Robert Staiger and especially Alan Spearot for helpful comments and conversations. We also thank seminar participants at the Econometric Society Meetings (Summer 2017), the Geneva Trade and Development Workshop, Georgetown, Georgia Institute of Technology, Indiana, Stanford, University of California at Davis and Yale. Bagwell thanks CASBS at Stanford for support and hospitality. Previous draft: September 6, 2018. We thank two anonymous referees, Matilde Bombardini, Arnaud Costinot, Dave Donaldson, Robert Feenstra, Matt Grant, Oleg Itskhoki, Giovanni Maggi, Kalina Manova, Marc Melitz, Andres Rodriguez-Clare, Robert Staiger and especially Alan Spearot for helpful comments and conversations. We also thank seminar participants at the Econometric Society Meetings (Summer 2017), the Geneva Trade and Development Workshop, Georgetown, Georgia Institute of Technology, Indiana, Stanford, University of California at Davis and Yale. Bagwell thanks CASBS at Stanford for support and hospitality. Publisher Copyright: © 2020 Elsevier B.V.

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N2 - We analyze unilateral, efficient and Nash trade policies in a symmetric, two-country version of the Melitz-Ottaviano (2008) model. Starting at global free trade, we show that a country gains from the introduction of (1) a small import tariff; (2) a small export subsidy, if trade costs are low and the dispersion of productivities is high; and (3) an appropriately combined small increase in its import and export tariffs. The welfare of its trading partner, however, falls in each of these three cases. The market may provide too little or too much entry, depending on a simple relationship among model parameters. Correspondingly, global free trade is generally not efficient, even within the class of symmetric trade policies. We also provide conditions under which, starting at the symmetric Nash equilibrium, countries can mutually gain by exchanging small reductions in import tariffs, export tariffs or combinations thereof. More generally, we show that Nash equilibria are inefficient while “politically optimal” policies are efficient, indicating a central role for the terms-of-trade externality. We also discuss why the model's implications for the treatment of export subsidies in trade agreements differ from those that obtain in a model with CES preferences for the differentiated-goods sector.

AB - We analyze unilateral, efficient and Nash trade policies in a symmetric, two-country version of the Melitz-Ottaviano (2008) model. Starting at global free trade, we show that a country gains from the introduction of (1) a small import tariff; (2) a small export subsidy, if trade costs are low and the dispersion of productivities is high; and (3) an appropriately combined small increase in its import and export tariffs. The welfare of its trading partner, however, falls in each of these three cases. The market may provide too little or too much entry, depending on a simple relationship among model parameters. Correspondingly, global free trade is generally not efficient, even within the class of symmetric trade policies. We also provide conditions under which, starting at the symmetric Nash equilibrium, countries can mutually gain by exchanging small reductions in import tariffs, export tariffs or combinations thereof. More generally, we show that Nash equilibria are inefficient while “politically optimal” policies are efficient, indicating a central role for the terms-of-trade externality. We also discuss why the model's implications for the treatment of export subsidies in trade agreements differ from those that obtain in a model with CES preferences for the differentiated-goods sector.

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ER -

Trade policy under monopolistic competition with firm selection

Abstract

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