Preferential Trade Agreements, Unemployment, and the Informal Sector

What are the welfare and employment consequences of preferential trade agreements (PTAs) for developing and emerging countries? Standard quantitative models of international trade which are generally used to assess the impact of PTAs assume full employment and hence abstract from (net) employment effects. This paper presents a quantitative framework to study the welfare and employment effects of PTAs taking into account the key feature of labor markets in emerging economies: A large share of workers is employed in the informal sector which is characterized by low productivity and hence lower wages than those in the formal part of the economy. To illustrate, I apply this framework to a set of 13 Latin American and Caribbean countries to evaluate observed trade liberalization episodes since 1950, taking into account the general equilibrium trade diversion and income effects of PTAs which have been neglected in the literature so far.