Growth, Specialization, and Trade Liberalization

Abstract

This paper examines a two-way interaction between trade liberalization and economic growth. Through increasing returns to specialization, international trade can increase world growth rates. But growth alters patterns of comparative advantage, changing the incentives to levy tariffs in a dynamic tariff game between governments. Two types of equilibria are analyzed. In a Tariff War equilibrium, growth rates are low, tariffs are high and rising, the ratio of exports to income, the trade ratio, is low, and falls to zero asymptotically. In a Trade Liberalization equilibrium, growth rates are high, tariffs are low and falling, the trade ratio is higher, and is increasing over time.