Technology Gaps and Economic Effects of Minimum Quality Standards

Technical barriers to trade (TBTs) refer to regulations or systems that build unnecessary obstacles to international trade in terms of technical requirements for goods to be traded and comprise the largest proportion of NTMs in terms WTO notifications. The TBTs erected by Korea’s trading partners increase the export costs of Korean firms, and thereby function much as classical trade barriers. Since the Korean economy depends highly on trade, there is a need for the Korean government to understand TBTs and to find a way to cope with its trading partners’ TBTs. The technology gap is a critical issue in vertical-norm TBTs. The vertical-norm TBTs erected by technologically advanced countries make it difficult for less-advanced countries to penetrate advanced countries’ markets, since many of them do not have the technology to satisfy TBT requirements, causing international disputes. In addition, vertical-norm TBTs are established predominately in developed countries, such as the U.S. and the EU, for purposes of safety, health, environmental protection, and so on. Our analysis thus focuses on vertical-norm TBTs set by developed countries. There are two kinds of vertical-norm TBTs: barriers that limit the maximum values, such as emission standards, and others that establish minimum values, such as fuel economy standards. We concentrate on Minimum Quality Standards (MQS). In view of the above-mentioned characteristics of TBTs, we employ a two-country, vertically-differentiated duopoly model in which a technologically advanced firm competes against a less-advanced firm in quality and price in the domestic market. The government of the technologically advanced country chooses its MQS policy endogenously. Under this structure, we examine the economic effects of MQS and drive the optimal MQS policy of the technologically advanced country considering technological differences. To gain further insight, using the obtained optimal MQS policy of the technologically advanced country, we examine what strategies the government of the less advanced country might employ in response.