Chapter 7 A Free Trade Area and its Neighbor's Welfare: A Revealed Preference Approach

Purpose – A free trade agreement (FTA) or a preferential trade agreement (PTA) is almost always negotiated without concessions to the non-member countries. This chapter studies the welfare effects of such an FTA or PTA on the non-member countries. Methodology/approach – This chapter employs the revealed preference approach (e.g., Ohyama, 1972; Kemp and Wan, 1976; Deardorff, 1980). Findings – Under such conditions that the initial levels of the tariffs are small, or that the effects on production efficiency dominate the effects on tariff revenue, or that the tax-subsidy scheme proposed by Bhagwati, Ramaswami, and Srinivasan is employed in all the countries, the formation of a PTA without any tariff concessions to the outside countries will harm the welfare of the outside countries. Practical implications – In order to make a PTA beneficial not only for member countries but for the rest of the world, member countries need to grant some tariff concessions to the imports from the non-member countries.