Gains from Restricted Openings of Trade

The magnitude of trade flows between a country and each of its trading partners varies a great deal, even if the latter are of similar size and possess similar production and consumption characteristics. The objective of this paper is to provide an explanation of what determines the identity of a country's major trading partners. The paper adopts a transactions cost approach which postulates that the setting-up of trading relations requires country-specific expenditures. It is quite obvious that these expenditures are lower when the importing country is geographically near and culturally similar, making it a primary candidate for being a major trading partner. This paper, however, focuses on a far less obvious explanation of the major trading partner phenomenon. One country may become the leading export market even if export set-up costs are the same in several potential foreign markets. It is shown to be in the interest of a country to establish stronger trading relations with a limited number among numerous equally suitable potential trading partners. A country is always better off by opening trade gradually, starting with just one or a few other countries, rather than opening trade to all countries at the same time. In this case, the trade volume with early traders tends to be permanently larger than with latecomers. It is even possible that a country gains by limiting its trade to a few partners permanently,and not just temporarily.