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Small Countries and Preferential Trade Agreements "How Severe is the Innocent Bystander Problem?"

  • M. Ayhan Kose
  • Raymond Riezman

This paper examines the welfare implications of preferential trade agreements (PTAs) from the perspective of small countries in the context of a multi-country, general equilibrium model. We calibrate our model to represent one relatively small country and two symmetric big countries. We consider two cases. In one case, the small country is an 'innocent bystander', that is, it is left out of a PTA between the two large countries. In the second case, the small country signs a PTA with one of the large countries. We simulate the model and calculate consumption allocations, prices, t rade volume, and tariffs in these two cases considering three different equilibria: Free Trade (FT), Free Trade Area (FTA), and Customs Union (CU). We find that free trade is the best outcome for the small country. If the large country PTA takes the for m of a CU then the cost of being an 'innocent bystander' is very large. If it is a FTA then the cost of being an 'innocent bystander' is relatively modest. In fact, the small country prefers to be an 'innocent bystander' to being a member of a FTA with one of the large countries.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 253.

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Date of creation: 2000
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Handle: RePEc:ces:ceswps:_253
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  1. Raymond RIEZMAN, 2013. "Customs Unions and the Core," World Scientific Book Chapters, in: International Trade Agreements and Political Economy, chapter 3, pages 33-43 World Scientific Publishing Co. Pte. Ltd..
  2. Raymond Riezman, 1999. "Can Bilateral Trade Agreements Help Induce Free Trade," Canadian Journal of Economics, Canadian Economics Association, vol. 32(3), pages 751-766, May.
  3. Harold L. Cole & Maurice Obstfeld, 1989. "Commodity Trade and International Risk Sharing: How Much Do Financial Markets Matter?," NBER Working Papers 3027, National Bureau of Economic Research, Inc.
  4. Kose, M Ayhan & Riezman, Raymond, 2000. "Understanding the Welfare Implications of Preferential Trade Agreements," Review of International Economics, Wiley Blackwell, vol. 8(4), pages 619-33, November.
  5. Ethier, Wilfred, 1996. "Regionalism in a multilateral world," Discussion Papers, Series II 314, University of Konstanz, Collaborative Research Centre (SFB) 178 "Internationalization of the Economy".
  6. John Kennan & Raymond Riezman, 2013. "Do Big Countries Win Tariff Wars?," World Scientific Book Chapters, in: International Trade Agreements and Political Economy, chapter 4, pages 45-51 World Scientific Publishing Co. Pte. Ltd..
  7. Paul Krugman, 1991. "The move toward free trade zones," Economic Review, Federal Reserve Bank of Kansas City, issue Nov, pages 5-25.
  8. John Kennan & Raymond Riezman, 1990. "Optimal Tariff Equilibria with Customs Unions," Canadian Journal of Economics, Canadian Economics Association, vol. 23(1), pages 70-83, February.
  9. Bond, Eric W. & Syropoulos, Constantinos, 1996. "The size of trading blocs Market power and world welfare effects," Journal of International Economics, Elsevier, vol. 40(3-4), pages 411-437, May.
  10. Jon D. Haveman, 1996. "Some Welfare Effects of Sequential Customs Union Formation," Canadian Journal of Economics, Canadian Economics Association, vol. 29(4), pages 941-58, November.
  11. Carsten Kowalczyk & Tomas Sjostrom, 1993. "Bringing GATT into the Core," NBER Working Papers 4343, National Bureau of Economic Research, Inc.
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