Heterogeneous effects of economic integration agreements

Abstract

It is now widely accepted that economic integration agreements (EIAs) and other trade-policy liberalizations contribute to nations' economic growth and development and help alleviate poverty. However, the economic effects of such policies vary across countries' economic structures; for instance, developing countries face higher fixed trade costs (partly due to higher government border-crossing costs and weaker port infrastructures). We offer three potential contributions. First, we extend a standard Melitz general equilibrium trade model with firm heterogeneity to show how variable-cost and fixed-cost “trade elasticities” associated with trade liberalizations are heterogeneous and endogenous to levels of country-pairs' bilateral policy and non-policy, variable and fixed trade costs – even allowing for CES preferences and an untruncated Pareto distribution of productivities. Using associated comparative statics, we provide several explicit predictions of the heterogeneous (variable- and fixed-cost) bilateral extensive-margin, intensive-margin, and trade elasticities. Second, we provide empirical support for the theoretical hypotheses. Trade elasticities vary across particular settings. Third, we demonstrate the relevance of these theoretical and empirical results for ex ante trade-flow predictions of potential EIAs. For instance, we show that a 10 percent lower average per capita income of a country-pair is associated with a 60 percent higher partial EIA effect. Moreover, we show empirically that 95–99 percent of the welfare (or probability) estimates of EIA liberalizations between 1,358 North-North, North-South, and South-South country-pairs can be explained by our heterogeneous EIA partial treatment effects.