Supply Chains and FTAs

This study theoretically and empirically examines the effects of free trade agreements (FTAs) on the supply chains of multinational enterprises (MNEs). Data on Japanese overseas manufacturing affiliates indicate that Japanese MNEs develop their supply chain networks in the local and other countries’ markets instead of trading with parent firms in Japan. We develop a simple firm heterogeneity model and examine its implications to explain this finding and confirm whether FTAs encourage MNEs to construct those networks. Our theoretical model reveals that FTAs affect the sales of domestic and export firms through changes in status. However, our theoretical model cannot confirm if FTAs increase the firms’ sales in the local or other countries’ markets because the signs of exogenous variables such as fixed labor inputs for the activities to follow the rules of the FTAs, tariffs, and the number of FTA member states are ambiguous. Thus, we empirically analyze whether FTAs increase local sales or sales in other countries’ markets. Our results reveal that regional FTAs have positive effects on sales in other countries’ markets, whereas bilateral FTAs do not increase local sales. In addition, we find that FTAs between local governments and large markets have varying effects depending on the conditions of the large markets. Our results indicate that Japanese MNEs develop supply chain networks by effectively utilizing various FTAs.