How Do Terms-of-Trade Effects Matter for Trade Agreements?

Abstract

Do negotiated tariffs under the WTO deviate significantly from the first-best agreement? If so, why? To answer these questions, we consider two potential causes of deviation from the first-best in WTO negotiations: (i) a free-riding problem that may be caused by the WTO's nondiscrimination requirement, and (ii) asymmetric information about government preferences. Theories based on the above two causes generate starkly different predictions about the relationship between import market power and negotiated tariffs. Using WTO tariff data, we find that the pattern of negotiated tariffs is consistent with the implication of a negotiation model under asymmetric information. The free-riding problem appears to have a weak effect.