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The real option value of free trade agreements

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  • Gonzalo Cortázar

Abstract

This purpose of this paper is to analyze the effects of exchange rate risk in the value of bilateral and multilateral trade agreements. In order to value a bilateral trade agreement we initially consider a firm that must sell al its output in the local market. Then, we assume that the country in which the firm is located joins a bilateral trade agreement allowing the firm to redirect its output to another market whenever the level of exchange rates makes this optimal. The value of the bilateral trade agreement for the firm is then computed as the difference in firm value under both scenarios. Similarly, we value a multilateral trade agreement by computing the value of a firm that has the option to redirect its output to any among N countries. Our results indicate that volatility of exchange rates may be valuable and thus their stabilization may harm some firms. In particular it provides support to those who oppose eliminating all volatility by means of defining a single currency within these trade a

Suggested Citation

  • Gonzalo Cortázar, 1993. "The real option value of free trade agreements," Estudios de Economia, University of Chile, Department of Economics, vol. 20(2 Year 19), pages 413-427, December.
    • Handle: RePEc:udc:esteco:v:20:y:1993:i:2:p:413-427
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    Keywords

    Free trade agreements.;

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