On the robustness of the trade-inducing effects of trade agreements and currency unions

Regional trade agreements (RTAs) and currency unions (CUs) are potentially endogenous trade cost proxies in equations estimating their effects on bilateral trade. In case of both, this problem is magnified by the paucity of reliable instruments. Instead of resorting to the oft-employed alternative of panel data to address selection on just the time-invariant unobservables, this paper assesses the extent to which a positive association between CU or RTA membership and bilateral trade can be considered causal. In addition, it attends to recent concerns over the extensive margin of trade (at the country-level) and the issue of zero trade observations in log-linearized gravity models by relying more on a bivariate probit analysis. Despite not identifying point estimates, striking results are obtained. While most cross-sections exhibit a positive association between both RTAs and CUs and trade, the evidence in favor of a robust causal effect is strong mainly for CUs. However, the magnitude of the CU effect is still sensitive to the amount of selection on unobservables. Moreover, selection into RTAs (CUs) is mostly found to be positive (negative). Finally, the presence of spillovers across the policy regimes is also detected. Copyright Springer-Verlag Berlin Heidelberg 2014