GEP Research Paper 02/10
Trade Liberalization and Compensation
C. Davidson and S. Matusz
Abstract
Trade liberalization harms some groups while generating aggregate net benefits. In this paper we investigate the best way to compensate those who lose from freer trade. We consider four labor market policies: wage subsidies, employment subsidies, trade adjustment assistance (i.e., unemployment insurance) and training subsidies. Our goal is to find the policy that fully compensates each group of losers at the lowest cost to the economy (in terms of deadweight loss). We argue that the best way to compensate those who bear the adjustment costs triggered by liberalization is with a temporary targeted wage subsidy while the best way to compensate those who remain trapped in the previously protected sector is with temporary targeted employment subsidies. Our analysis also indicates that the cost of achieving full compensation is relatively low.
Issued in September 2002.
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