Free Trade Agreements and External Tariffs (original) (raw)
2010, … Department of Economics Discussion Paper No. …
There has been a proliferation of preferential trade agreements within the last two decades. In this paper I analyze the effects of free trade agreements (FTAs) on external tariffs under a political economy setup. I extend the Grossman and Helpman (1995) model by determining tariff rates endogenously instead of assuming they are fixed during or after the formation of FTAs. I show that when an FTA is established, the tariff rates that apply to non-members essentially decline. More importantly, I investigate the interaction between endogenous tariff determination and the feasibility of an FTA. I find that the expectation of tariff reductions under endogenous tariffs makes an otherwise feasible FTA under fixed tariffs become infeasible. However, if domestic import-competing sectors are relatively smaller, an FTA with endogenous tariffs may be more likely to be feasible than an FTA with fixed tariffs.
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