Quantitative Restrictions in the Presence of Cost-Based Informational Asymmetries

Abstract

This study introduces a cost-based informational asymmetry into a two-period model where a domestic (incumbent) firm's behavior in the first period affects the entry decision of a foreign firm in the second period. The effects of import quota policy within this environment are examined and compared to the standard, full-information effects. When quota quantities are set exogenously, the standard effects of quota policy may be significantly altered depending on whether or not policy induces the domestic firm to signal cost structure. For example, higher quotas may discourage foreign entry because of the induced signaling effects of quota policy. Recognition that incomplete information is the rule rather than the exception when decisionmakers interact in an international setting has stimulated an emerging literature on the effects of trade policy in the presence of informational failures. Particularly germane to the present study are those papers that introduce an informational asymmetry into an international model of imperfect competition. The majority of this literature examines the sensitivity of optimal strategic trade policy to information failures within a Brander-Spencer (1985) model where the domestic and foreign firms compete for export sales to a third market and either the domestic or foreign government employs export subsidies (Collie and Hviid 1993; Qiu 1994; Maggi 1995; Brainard and Martimort 1997; Wright 1998). Collie and Hviid (1994), on the other hand, allow for domestic consumption, and consider optimal import policy in the presence of a foreign monopolist. Analysis that focuses on the positive effects of trade policy in the presence of informational failures is more limited. One such example is a study by Hartigan (1994), which considers the effects of antidumping duties.' To date, however, there has been no analysis of how (and whether) the introduction of an informational failure alters the effects of quantitative restrictions to trade. The aim of the present study is to extend the existing literature by examining the effects of a quantitative restriction to trade in the presence of a cost-based informational asymmetry within a standard two-period entry model.2 During the initial time period, a domestic firm supplies the home market and