12.  Preferential Trading and Welfare: The Small-union Case Revisited:  The welfare analyses of preferential trading arrangements have been characterized by generally inconclusive and messy results.  In this paper, I attempt to give order to the analysis of one important case: a union between two small countries.  The analysis has two key advantages over the existing literature.  First, the model employed is fully general in that it allows for goods that are exported and imported by both partners as well as those that are exported by one and imported by the other partner.  Second, the results are derived for finite changes in tariff rates rather than being limited to infinitesimally small changes.

      The main results of the paper can be summarized as follows.  First, assuming all goods to be normal in consumption, if two small countries form a free trade area or exchange some tariff preferences, their joint welfare falls or rises as their joint output, valued at world prices, rises or falls.  Second, if, in addition, the numeraire good uses only labor and all other goods use labor and a sector-specific factor, the exchange of preferences or free trade area necessarily lowers the union’s joint welfare.  Third, a union member is necessarily hurt by its own preferential liberalization.  The higher are its external tariffs and the larger its imports from the partner, the more it loses from extending the preferences.  Fourth, in the specific-factors case just mentioned, a union member necessarily benefits from the tariff preference it receives from the partner.  The more it exports to the partner and the higher the latter’s tariffs, the greater the gain.  Finally, in the specific-factors case, an FTA benefits a member more the larger its bilateral trade surplus with the partner and the lower its external tariffs relative to the partner.

11.  Free Trade Areas and Rules of Origin: Economics and Politics: (with Rupa Duttagupta) We incorporate intermediate inputs into a small-union general-equilibrium model and develop the welfare economics of preferential trading under the rules of origin.  Combining this analysis with the Grossman-Helpman political-economy model, we demonstrate that the rules of origin can improve the political viability of free trade areas (FTAs).  Two interesting outcomes are derived.  First, an FTA that lowered joint welfare of the union and was voted down in the absence of the rules of origin may become feasible in the presence of these rules.  Second, an FTA that increased joint welfare of the union but was voted down in the absence of the rules of origin may become acceptable in the presence of these rules but it may also turn welfare inferior to status quo.
10.  The Cost of Protection: Where do we Stand?: (AER Papers and Proceedings May 2002): The paper focuses on the static costs of protection and argues that the estimates based on the traditional neoclassical model are small because they typically measure the cost of low levels of protection.  The cost of high levels of protection can be very high. Alternatively, in the presence of scale economies, endogenous determination of product variety, X-efficiency effects and Directly Unproductive Profit-seeking activities, even low levels of protection can lead to high costs.  A longer version of the paper is available below under the title "Alternative Approaches to Measuring the Cost of Protection."
9.  Alternative Approaches to Measuring the Cost of Protection: (Prepared for presentation at the invited AEA session "Feuds over Free Trade," Jan 6, 2002.)  I make two broad points in the paper.  First, the view that traditional models based on increasing opportunity costs imply low costs of protection has resulted from estimates derived for cases with low levels of protection.  If the level of protection itself is high, traditional models can readily lead to costs ranging from 5 to 10 percent of the GDP.  The cost of autarky can be even higher. Second, low protection can also lead to high costs provided we allow for economies of scale in production, fixed costs of entering a market, directly unproductive profit-seeking (DUP) activities or X-efficiency.  I also provide a summary of the literature on the relationship between openness on the one hand and growth and productivity on the other.

8.  On Necessarily Welfare-Enhancing Free Trade Areas: (JIE 57(2), August 2002, 353-367)  (With Pravin Krishna) The well-known Kemp-Vanek-Ohyama-Wan proposition establishes that if two or more countries form a customs union (CU) by freezing their net external trade vector through a common external tariff and eliminating internal trade barriers, the union as a whole and the rest of the world cannot be worse off than before.  Owing to the fact that a Free Trade Area (whose member countries impose country specific external tariff vectors) does not equalize marginal rates of substitution across its member countries (in contrast to a CU), the literature has been unable to provide a parallel demonstration regarding welfare improving Free Trade Areas (FTAs). The present paper eliminates this gap. In extending the result to the case with intermediate inputs, the paper also sheds new light on the rules of origin required to support such necessarily welfare enhancing FTAs.  We show here that provided no trade deflection is permitted, all that is required by way of rules of origin is that the goods produced within the union —whether final or intermediate — be allowed to be traded freely. The proportion of domestic value added in final goods does not enter as a criterion in the rules of origin.

7.  Politics of Free Trade Areas: Tariffs versus Quotas: (JIE 58(2), December 2002, 413-427)  (with Rupa Duttagupta) In this paper we compare and contrast the political viability of bilateral Free Trade Area (FTA) Agreements in the presence of tariffs and quotas. Assuming that the government maximizes a weighted sum of welfare and producer profits, we show that whereas an FTA is unambiguously rejected by one of the countries under a tariff it may be endorsed by both trading partners under a voluntary export quota or import quota that provides the same level of protection as the tariff.

7*.  Did the Multi-fiber Agreement Make the NAFTA Politically More Acceptable? A Theoretical Analysis:  This is the longer version of #7 and spells out some of the results in greater detail.

6.  Preferential Trade Liberalization: The Traditional Theory and New Developments (Published: JEL 38, June 2000, 287-331).  This paper begins by systematically developing the “static” theory of preferential trade areas (PTAs) and showing that neither a large volume of initial intra-union trade nor geographical proximity can serve as a guide to welfare enhancing PTAs.  The paper then discusses the modern literature addressing the welfare effects of a simultaneous division of the world into many PTAs, the impact of a PTA on external tariffs and the “dynamic” time-path question of whether PTAs are building blocks or stumbling blocks towards multilateral freeing of trade.  A final substantive section discusses some key theoretical considerations in the empirical evaluation of PTAs.

5.  Evaluating the Factor-Content Approach to Measuring the Effect of Trade on Wage Inequality: (Published: JIE 50, 2000, 91-116) This paper addresses two questions: (i) can factor content of trade be used to measure the effect of trade on wage inequality in a given year, with tastes and technology constant; and (ii) can it be used to measure the contribution of trade to the change in wage inequality between two years, with tastes and technology allowed to change?  Deardorff and Staiger (1988) had shown that the answer to the first question can be given in the affirmative provided all production functions and the utility function are Cobb-Douglas.  I demonstrate, as does Deardorff (2000) independently, that the affirmative answer can be extended to the case when all production functions and the utility function take the CES form with identical elasticity of substitution.  I further demonstrate that we can answer the second question in the affirmative under the same conditions as the first.  I then examine critically the assumptions underlying these conclusions.  They include identical elasticities of substitution across all production functions and the utility function, absence of increasing returns and non-competing imports, homotheticity of demand, and no endogenous response of factor supplies to trade. I conclude that, taken as a whole, these assumptions are sufficiently strong to leave many analysts, including myself, skeptical of the estimates based the factor-content approach.

4.  Bhagwati and Ramaswami: Why it is a Classic?: (Unpublished) A recurring theme in trade theory until as late as 1950s is that domestic market failure can serve as a powerful basis for protection.  This is illustrated by the key contributions by G. Haberler (EJ 1950) who demonstrates that the Sanuelson gains from trade theorem breaks down in the presence of inter-sectoral differences in factor returns and Hagen (QJE 1958) who concludes that inter-sectoral wage differential provides a legitimate reason for trade interventions.  It is not until Bhagwati and Ramaswami (1963)--and well after the publication of James Meade's Trade and Welfare--that the case for free trade in the presence of domestic distortions is restored to its rightful position.  These authors show that once the domestic distortion is corrected at source, free trade remains the right policy for a small country.  In the specific case of inter-sectoral wage differential, they show that this prescription translates into an appropriate wage subsidy to the sector with higher wage.  For this and many other reasons discussed in the paper and consistent with Johnson's (1965) but contrary to Corden (1996), the Bhagwati and Ramaswami paper remains a landmark and classic in international trade.

3.  Trade Openness:  Consequences for the Elasticity of Demand for Labor and Wage Outcomes: (Unpublished) Leamer (1995), Rodrik (1997) and Wood (1995) have suggested, without qualification, that the demand-for-labor curve is more elastic when an economy is open than when it is closed.  I demonstrate that this proposition is not valid in general.  The proposition can be violated in both the 2x2 and specific-factors models.  Furthermore, many of the results obtained by Rodrik (1997), assuming the proposition to be true, fail to hold in general when we spell out the full structure of the model. Thus, within two most popular models of trade--the 2x2 and specific-factors models--, there is no guarantee that openness leads to a greater incidence of higher labor standards being borne by workers or to greater volatility in wage earnings as a consequence of shocks to the economy.  It is also not true in general that when openness lowers the bargaining power of workers, it contributes negatively to wages.  In the 2x2 model, exactly the opposite may happen.

2.  Injury Investigations in Anti-dumping and the Super-Additivity Effect: A Theoretical Explanation: (Unpublished) (with Poonam Gupta). The empirical literature on anti-dumping shows that ceteris paribus the probability of a positive finding in injury investigations  is higher when defendants are many and small than when they are few and large.  Stated precisely, holding the market share of defendant firms constant, “cumulation,” defined as the practice of aggregating over the exports of several countries, has a positive effect on the probability of an affirmative injury determination.  In this paper, we offer a theoretical explanation of this finding.  We show that the presence of many small exporters exacerbates the free-rider problem that accompanies multiple defendants.  Unlike the dumping margin, which must be determined separately for each defendant firm, the injury determination is common to all defendant firms: either all defendants are found guilty of causing injury to the domestic firm or all are acquitted. To the extent that defense may be costly, this fact inevitably gives rise to a free-rider problem.

1.  The “Gains” from Preferential Trade Liberalization in the CGE Models: Where do they Come From?: (Published in Sajal Lahiri, Regionalism and Globalization, London and New York: Routledge, chapter 3) (with Rupa Duttagupta).  In a series of papers, Bhagwati and Panagariya (1996), Bhagwati, Greenaway and Panagariya (1998) and Panagariya (1996, 1997a, 1998) have argued forcefully that a tariff preference by a country is likely to hurt itself and benefit its union partner. On the other hand, Robinson and Thierfelder (1999) argue, “The results from a large number of model-based empirical studies strongly support a few robust conclusions about RTAs [Regional Trade Agreements]: (1) they increase welfare of participating countries; (2) aggregate trade creation is much larger than aggregate trade diversion…”  In this paper, we subject the CGE models, based on conventional theory, to a critical examination.  We argue that when these models generate benefits to a country from its own preferential liberalization, they do so by recourse to models characterized by internally inconsistent assumptions.  And even within the wrong model structure, the gains are generated by choosing questionable values of some key parameters.