Sub-national Differentiation and the Role of the Firm in Optimal International Pricing

We illuminate the relationship between optimal firm pricing and optimal trade policy by exploring a generalized model that accommodates product differentiation at both the national and sub-national (firm) levels. We assume monopolistic competition in the differentiated products at the sub-national level. When the national and sub-national substitution elasticities are similar we find little opportunity for small countries to improve their terms of trade through trade distortions, because firms play an important preemptive role in optimally pricing unique varieties. We contrast this with standard applications of perfect-competition Armington models, which exhibit high optimal tariffs--even for relatively small countries.

A Discussion on Armington Trade Substitution Elasticities

Applied partial and general equilibrium models used to examine trade policy are almost universally sensitive to trade elasticities. Indeed, the Armington elasticity, the degree of substitution between domestic and imported goods, is a key behavioral parameter that drives the quantitative, and sometimes the qualitative, results that policymakers use. While standard transparent approaches to econometric estimation of these elasticities have been offered for the last 30 years, the estimates are viewed as too small by many trade economists. A few robust findings emerge from the econometric literature: (1) more disaggregate analyses find higher elasticities, (2) long-run estimates are higher than short-run estimates, and (3) time series analyses generally find lower elasticities relative to cross-sectional studies. We offer simulation results to illustrate the sensitivity of general equilibrium models to Armington elasticites. We conclude with remarks on the current challenges that remain in determining these important parameters.International Relations/Trade,

Services liberalization in preferential trade arrangements : the case of Kenya

Given the growing importance of commitments to foreign investors in services in regional trade agreements, it is important to develop applied general equilibrium models to assess the impacts of liberalization of barriers to multinational service providers. This paper develops a 55 sector applied general equilibrium model of Kenya with foreign direct investment and Dixit-Stiglitz productivity effects from additional varieties of imperfectly competitive goods or services, and uses the model to assess its regional and multilateral trade options, focusing on commitments to foreign investors in services. To assess the sensitivity of the results to parameter values, the model is executed 30,000 times, and results are reported as confidence intervals of the sample distributions. The analysis reveals that a 50 percent preferential reduction in the ad valorem equivalents of barriers in all business services by Kenya with its African partners would be somewhat beneficial for Kenya. If a preferential agreement with African partners is combined with an agreement with the European Union, the gains would more than triple the gains of an Africa only agreement. Multilateral reduction of services barriers, however, would yield gains about 12 times the gains of an agreement with the Africa region alone. These results suggest that preferential liberalization in the region is a valuable first step, but wider liberalization, with larger partners and liberal rules of origin or multilaterally, will yield much larger gains due to providing access to a much wider set of services providers. The largest gains would come from domestic regulatory reform in services, as this would almost triple the gains of multilateral liberalization.Economic Theory&Research,Emerging Markets,Public Sector Corruption&Anticorruption Measures,Transport Economics Policy&Planning,Free Trade

International Trade Policy: Insights from a General-equilibrium Approach

IT IS easy to convince Iowa farmers that the trade war with China has substantial costs, as current agricultural commodity prices reflect reduced export demand. Rather than bear the burden of retaliatory tariffs, China moved toward other sources and substitutes for soybeans (see related article by Chad Hart and Lee Schultz in this issue of the APR) . The adverse export-demand shock is absorbed within the US market by inventory (and eventually production) adjustments and price reductions, and farm revenues fall as a result. This narrative might well outline the primary mechanism by which many Iowa farmers feel the pain of the trade war, but it is woefully incomplete

A Discussion on Armington Trade Substitution Elasticities

Applied partial and general equilibrium models used to examine trade policy are almost universally sensitive to trade elasticities. Indeed, the Armington elasticity, the degree of substitution between domestic and imported goods, is a key behavioral parameter that drives the quantitative, and sometimes the qualitative, results that policymakers use. While standard transparent approaches to econometric estimation of these elasticities have been offered for the last 30 years, the estimates are viewed as too small by many trade economists. A few robust findings emerge from the econometric literature: (1) more disaggregate analyses find higher elasticities, (2) long-run estimates are higher than short-run estimates, and (3) time series analyses generally find lower elasticities relative to cross-sectional studies. We offer simulation results to illustrate the sensitivity of general equilibrium models to Armington elasticites. We conclude with remarks on the current challenges that remain in determining these important parameters.Computable general equilibrium; International Trade; Armington; elasticity

Economic Impacts of Investment Facilitation

After the successful adoption of the Trade Facilitation Agreement (TFA) in 2014, investment facilitation is gaining importance as the next policy priority for a plurilateral agreement under the World Trade Organization (WTO). In fact, more than 110 WTO Members aim to conclude the negotiations on the Investment Facilitation for Development (IFD) Agreement by mid-2023 after only three years of formal negotiations. Investment facilitation refers to actions taken by governments designed to attract foreign investment and maximize the effectiveness and efficiency of its administration through all stages of the investment cycle. The IFD agreement focuses on allowing investment to flow efficiently for the greatest benefit, particularly to developing and least developed member countries, with the aim of fostering sustainable development. The flow of efficiency is improved through transparency, predictability, and efficient frameworks with streamlined procedures. In addition, the agreement aims at improving intra-governmental coordination and international cooperation on investment matters. To provide policymakers with essential information for ongoing negotiations and to fill an existing research gap on investment facilitation, we examine the economic impacts of a potential IFD agreement. Generally, quantifying such impacts is predicated on an assessment of current frictions that limit investment on an international basis and the mechanism by which policy impacts these frictions

Trade and Welfare: Does Industrial Organization Matter?

Many contemporary theoretic studies of trade over geography reduce to an ex- amination of constant-elasticity reactions to changes in iceberg trade costs. These impacts are readily analyzed in simple constant-returns models based on the Arm- ington (1969) assumption of regionally differentiated goods. Following the line of reasoning suggested by Arkolakis et al. (2008) one can reach the surprising conclu- sion that industrial organization does not matter. In the present paper, we show that this finding is fragile, and with a minor elaboration of their model, the rich industrial-organization features of the popular Melitz (2003) model do, in fact, gen- erate important differences for trade and welfare.Variety effects, Heterogeneous firms, Gains from trade

Structural Estimation and Solution of International Trade Models with Heterogeneous Firms

We present an empirical implementation of a general-equilibrium model of international trade with heterogeneous manufacturing firms. The theory underlying our model is consistent with Melitz (2003). A nonlinear structural estimation procedure identifies a set of core parameters and unobserved firm-level trade frictions that best fit the geographic pattern of trade. Once the parameters are identified, we utilize a decomposition technique for computing general-equilibrium counterfactuals. We first assess the economic effects of reductions in measured tariffs. Taking the simple-average welfare change across regions the Melitz structure indicates welfare gains from liberalization that are nearly four times larger than in a standard trade policy simulation. Furthermore, when we compare the economic impact of tariff reductions with reductions in estimated fixed trade costs we find that policy measures affecting the fixed costs are of greater importance than tariff barriers

Structural Estimation and Solution of International Trade Models with Heterogeneous Firms

We present an empirical implementation of a general-equilibrium model of international trade with heterogeneous manufacturing firms. The theory underlying our model is consistent with Melitz (2003). A nonlinear structural estimation procedure identifies a set of core parameters and unobserved firm-level trade frictions that best fit the geographic pattern of trade. Once the parameters are identified, we utilize a decomposition technique for computing general-equilibrium counterfactuals. We illustrate this technique using trade and protection data from the Global Trade Analysis Project (GTAP). We first assess the economic effects of reductions in measured tariffs. Taking the simple-average welfare change across regions the Melitz structure indicates welfare gains from liberalization that are nearly four times larger than in a standard policy simulation model. Furthermore, when we compare the economic impact of tariffs with reductions in estimated fixed trade costs we find that policy measures affecting the fixed costs of firmentry are of greater importance than conventional tariff barriers.

Modeling services liberalization : the case of Kenya

This paper employs a 55 sector small open economy computable general equilibrium model of the Kenyan economy to assess the impact of the liberalization of regulatory barriers against foreign and domestic business service providers in Kenya. The model incorporates productivity effects in both goods and services markets endogenously, through a Dixit-Stiglitz framework. It estimates the ad valorem equivalent of barriers to foreign direct investment based on detailed questionnaires completed by specialists in Kenya. The authors estimate that Kenya will gain about 11 percent of the value of Kenyan consumption in the medium run (or about 10 percent of gross domestic product) from a full reform package that also includes uniform tariffs. The estimated gains increase to 77 percent of consumption in the long-run steady-state model, where the impact on the accumulation of capital from an improvement in the productivity of capital is taken into account. Decomposition exercises reveal that the largest gains to Kenya will derive from liberalization of costly regulatory barriers that are non-discriminatory in their impacts between Kenyan and multinational service providers.Transport Economics Policy&Planning,Economic Theory&Research,Banks&Banking Reform,Emerging Markets,Debt Markets