The number of preferential trade agreements has greatly increased over the past two decades, yet most existing bilateral arrangements take the form of free trade areas, and less than ten percent can be considered to be fully fledged customs unions. This paper develops a political economy model of trade policy under imperfect competition to provide a positive explanation for the prevalence of free trade areas. In a three-country setting, a representative from each prospective member is elected to determine the tariffs to be applied on imported goods. Under a customs union, the necessity to coordinate tariffs leads voters to strategically delegate power to more protectionist representatives. Contrary to most of the existing literature, we show that strategic delegation may imply that free trade areas increase welfare compared to customs unions. Moreover, the model also indicates that free trade areas are more likely to be politically viable than customs unions.
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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number
CESifo Working Paper No. 2426.
Find related papers by JEL classification: F10 - International Economics - - Trade - - - General F11 - International Economics - - Trade - - - Neoclassical Models of Trade F13 - International Economics - - Trade - - - Trade Policy; International Trade Organizations
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