Preferences, rent destruction and multilateral liberalisation: the building block effect of CUSFTA

Tobias D. Ketterer, Daniel Bernhofen and Chris Milner

The growth of preferential trade agreements (PTAs) has raised concerns about whether PTAs are a “building block” or a “stumbling block” to multilateral trade liberalisation. The theoretical literature has suggested that both relationships are possible. Similarly empirical studies have found evidence of both relationships, but in the context of different types of trading partners. 

This Nottingham School of Economics working paper, in the Journal of International Economics, investigates this relationship in the context of two major industrial countries. Chris Milner and his co-authors explore Canada’s multilateral tariff cuts following the formation of the Canadian US Free Trade Agreement (CUSFTA), and find evidence for a building block effect. The empirical finding is explained in terms of the exchange of market access that motivated the agreement between these two industrial countries. In this context, protectionist benefits to domestic import-competing industries from lobbying are eroded or lost as a result of the PTA and domestic industries’ resistance to cutting multilateral tariffs is reduced. By destroying rents, this PTA allowed trade policy makers in Canada to be more aggressive in cutting multilateral tariffs in the subsequent Uruguay Round of multilateral trade negotiations than they would have been in the absence of the PTA. Of course, the outcome of the Uruguay Round in the presence and the absence of CUSFTA cannot be observed, so the authors use multilateral tariff changes on Canadian imported products not receiving preferences under the FTA as the counterfactual for tariff changes in the absence of the FTA and compare them with the tariff changes associated with products subject to preferences under the FTA. Using a variety of specifications to control for other influences, allows to find that Canadian preferences under CUSFTA had a statistically and economically significant effect on Canada’s tariff reductions during the Uruguay Round, with tariff cuts of on average 2.2 percentage points greater on FTA than non-FTA products.

Journal of International Economics, “Preferences, rent destruction and multilateral liberalisation: the building block effect of CUSFTA” by Tobias D. Ketterer, Daniel Bernhofen and Chris Milner.

http://dx.doi.org/10.1016/j.jinteco.2013.10.011

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