The effect of free trade agreements revisited: Does residual trade cost bias matter?

This paper revisits a prominent gravity model‐based empirical literature on the effects of free trade agreements by accounting for a potential bias caused by unobservable trade costs that operate through general equilibrium constraints. It embeds state‐of‐the‐art panel estimation techniques in a rec...

Full description

Saved in:
Bibliographic Details
Published in:Review of international economics 2019-02, Vol.27 (1), p.367-389
Main Author: Kharel, Paras
Format: Article
Language:English
Subjects:
Agreements
Bias
Economic models
Equilibrium
Free trade
Gravity
Trade agreements
Trade flows
Citations: Items that this one cites
Items that cite this one
Online Access:Get full text
Tags: Add Tag
No Tags, Be the first to tag this record!
Description
Summary:This paper revisits a prominent gravity model‐based empirical literature on the effects of free trade agreements by accounting for a potential bias caused by unobservable trade costs that operate through general equilibrium constraints. It embeds state‐of‐the‐art panel estimation techniques in a recently proposed two‐step remedy that features a constrained ANOVA‐type estimation. Using a dataset on manufacturing trade flows in eight sectors in 40 countries and a rest‐of‐the‐world aggregate for the period 1990–2002, it finds evidence of significant residual trade cost bias. The direction and magnitude of bias vary across sectors, with the standard one‐step approach used in the literature overestimating or underestimating the partial effect of free trade agreements by up to 110 percent. Overall, coefficients on trade costs variables are jointly significantly different between the standard method and the two‐step method. The biases in partial effect estimates translate into biases in general equilibrium effects.
ISSN:0965-7576
1467-9396
DOI:10.1111/roie.12380