Does Trade Policy Explain Total Factor Productivity Differences Across Countries?

This study examines whether variations in restrictiveness of trade policy on the flow of international trade explain Total Factor Productivity (TFP) differences across countries. The study employs Trade Restrictiveness Indices (TRIs) to measure trade policy. The TRIs are aggregated using data at the tariff line level, which enable the study to overcome the aggregation bias characterizing the commonly used trade policy measures such as average tariff and import-weighted average tariff. TRIs for Non-Tariff Barriers on imports (NTB), import tariffs and export restrictions are used to show the relative restrictiveness of various types of trade policy on TFP. In line with the political economy literature, the trade restrictiveness measure based on NTB is instrumented using past trade shares while identifying the former’s effect on TFP. Using IV regression, the study shows that trade restrictiveness based on NTB explains a significant variation in TFP across countries while trade restrictiveness based on import tariff or export restrictions does not have a significant effect on TFP. Hence, countries should reduce NTBs on their imports to allow a gain in TFP associated with trade. Besides, the findings suggest that countries should substitute the more restrictive and less transparent trade policy, i.e., NTBs with the less restrictive and more transparent trade policy, i.e., Tariffs.