The Evolution of International Subsidy Rules

Why did countries achieve a consensus to restrict export subsidies and export-promoting domestic subsidies when the World Trade Organization (WTO) began in1995, but not decades earlier under the General Agreement on Tari¤s and Trade(GATT)? This question poses a challenge for the theory of trade agreements becauseexport promotion improves the terms of trade of importers, so subsidy restrictions re-duce the welfare of importing nations. This paper argues that cross-border externalitiesarising from political economy and pro t-shifting can explain the historical pattern ofsubsidy rules. Motives to restrict export promotion do not exist when trade policiesare chosen noncooperatively, because import tari¤ revenue neutralizes any motive forexport promotion. Once import tari¤s fall, as in the 1950s and 1960s, then motivesto restrict export promotion can arise. Governments prefer to protect domestic salesthrough international subsidy restraints rather than to allow consumers to bene t fromunfettered subsidization. Governments could in theory have eliminated the need forsubsidy rules by eliminating domestic intersectoral misallocation or by adjusting bothimport taxes and export subsidies consistent with the GATT principle of reciprocity,but I argue that in practice they have not done so. GATT documents and the WTOnegotiating history provide support for the theory that the WTO subsidy rules addressan international pro t-shifting problem.