Trade disputes, quality choice, and economic integration

Abstract

Recent work demonstrates the importance of developing high quality output in order to compete in export markets and other recent studies verify the prevalence of fixed and ongoing trade costs while participating in those markets. I consider the joint choice of quality and export promotion costs when trade relationships are subject to temporary disputes. When transparency is low and macroeconomic instability is high, disputes arrive more frequently and, therefore, firms may inefficiently choose lower levels of quality and export promotion. These, in turn, build shallower trading relationships with less trade volumes and higher tariffs, and generate greater trade reductions during the more common trade disputes. Several institutional features of the WTO dispute settlement mechanism that are generally lacking in preferential trade agreements such as improved transparency, dispute investigation, and the provision to recommend asymmetric continuation payoffs can ameliorate these inefficient quality choice outcomes. Hence, lower quality output and lower quality trading relationships may be more endemic to countries that depend on preferential trading areas as opposed to the WTO. JEL Classification: F13, F15, C73, K33.

Fast-track authority: A hold-up interpretation

“…11 On a smaller scale, Vineland Estate Wines Ltd. of Ontario launched a major marketing push in the US in early 1988 in anticipation of the agreement, holding numerous wine tastings in New York, Boston, and Philadelphia with a goal of exporting a quarter of its output to the US in the first year of the agreement; and Canadian consultant firms such as Samson Belair and Fasken Martineau Walker were doing brisk business advising firms on how to adapt to the new environment the agreement would create if ratified. 12 Of course, all such consultant fees are sunk investments.…”

Duration and Term Structure of Trade Agreements

“…Another related theme in the international economics literature is the effect of uncertainty on the structure of international trade agreements. The earlier papers by Bagwell and Staiger (, ), Riezman (), Rosendorff and Milner () and Chisik () consider trade agreements negotiated and enforced in the presence of uncertainty about either the trade volume or terms of trade. All of these studies point out that self‐enforcing trade agreements will unravel unless, to decrease their incentives to defect, countries implement more protectionist policies during periods of trade volume surges.…”

The impact of trade agreements on world export prices

“…Membership in trade agreements lowers trade barriers on imported goods, which decreases export prices through a cost‐reducing effect. In contrast, lower trade barriers might increase access to more variety and better quality products (see Amiti & Khandelwal, ; Fan, Li, & Yeaple, ), affect markups (Goldberg, Khandelwal, Pavcnik, & De Loecker, ) and firm decision over higher quality production (Chisik, ), leading to a positive impact on prices. Moreover, whereas tariffs capture an important part of the effect of trade agreements on prices, other mechanisms have been suggested by the literature, such as changes in the regulations and investment rules between members (see Baier & Bergstrand, ; Ossa, ) .…”

“…Finally, a literature on trade disputes has shown a positive relation between trade agreements and the decision over higher quality production. For instance, Chisik () provides a theoretical framework in which firms inefficiently choose lower levels of quality production when harmful trade disputes are more common. In this framework, deeper trade relationships coming from an environment of more transparency and macroeconomic stability affect the production of higher quality…”