Firm Input Choice Under Trade Policy Uncertainty

Abstract

We examine the role of trade policy uncertainty in shaping the import decisions of firms. If the adoption of a new input requires a sunk cost investment, then the prospect of price increases in that input, e.g. due to trade barriers, reduces the adoption of that input (a substitution effect) and possibly other inputs (complementarity via lower profits). Thus trade policy uncertainty can affect a firm's entire input mix. We provide a new model of input price uncertainty that captures both effects and derive its empirical implications. We test these using an important episode that lowered input price uncertainty: China's accession to the WTO and the associated commitment to bind its import tariffs. We estimate large increases in imported inputs by firms from accession; the reduced uncertainty from commitment generates substitution effects larger than the reductions in applied tariffs in 2000-2006 and has significant profit effects.

Trade Policy and Exporters' Resilience: Evidence from Indonesia

“…per shipment of new import variety (as discussed above), they raise the cost of switching intermediate inputs. This is consistent with existing evidence of the impact of trade policy uncertainty on inputs' adoption (Handley et al, 2020a;Imbruno, 2019). Conversely, import tariffs raise the cost of the imported inputs proportionately to their value but they do not increase the uncertainty on the timing of input availability.…”

“…This paper relates to three strands of recent literature. The first is the literature on the economic effects of trade policy (Goldberg and Pavcnik, 2016;De Loecker et al, 2016;Amiti and Konings, 2007;Handley et al, 2020;Fan et al, 2015;Amiti et al, 2019;Handley et al, 2020b;Fajgelbaum et al, 2020) and non-tariff measures in particular (Ederington and Ruta, 2016;Fontagné et al, 2015;Grundke and Moser, 2019;Kruse et al, 2021). A key message from this literature is that, as NTMs have progressively replaced tariffs as a determinant of trade costs, an analysis focused on these measures is needed to precisely assess the impact of trade policy.…”

Inventory, Sourcing, and the Effects of Trade Costs: Theory and Empirical Evidence

“…Anecdotal evidence suggest that trade policy uncertainty has significant inventory effects. 21 There are a number of studies showing that reducing trade policy uncertainty increases trade (Crowley et al, 2018, Feng et al, 2017, Handley and Limão, 2017, affects a firm's input mix and sourcing (see Handley et al, 2020), and that the ensuing trade flow dynamics are consistent with inventory adjustments (Alessandria et al, 2021). But, at the firm level, does trade policy uncertainty have the same impacts as demand uncertainty?…”

“…(2018), Feng et al (2017), Limão (2017, 2015), or Handley et al (2020). We see our setup with demand uncertainty as a natural first step when considering inventory investment and international markets.…”

World Economic Outlook, April 2022

“…Existe un margen considerable para reducir, en particular, las barreras no arancelarias, lo que generaría importantes ventajas para el crecimiento a mediano plazo, sobre todo en mercados emergentes y países en desarrollo de bajo ingreso (Perspectivas económicas regionales: Asia y el Pacífico, octubre de 2021). Asimismo, una menor incertidumbre en cuanto a la política comercial, y el establecimiento de un régimen de política comercial abierto, estable y basado en reglas también pueden fomentar la diversificación (Handley et al, 2020;OCDE, 2021).…”