Welfare gains by reducing transaction costs: Linking trade and innovation policy

Specialisation and trade are major sources of productivity increases, and therefore of welfare gains. With reference to the Netherlands this paper discusses how (international) fragmentation of production and outsourcing may enhance productivity. In order to promote further specialisation and trade, innovations which lead to lower transaction costs - trade innovations - are needed. When trading countries, which are likely to have a comparative advantage in reducing transaction costs, focus on the coordination function in the production chain, they are able to internalize part of the welfare gains from increased trade. Infrastructure and knowledge investments that reduce transaction costs, the so called trade capital, partly have the character of a public good. Moreover, trade innovations bring about positive externalities, which is another reason for government intervention and for linking trade and innovation policy. From this perspective the paper gives some policy recommendations.