STRATEGIC TRADE POLICY WITH ENDOGENOUS PRODUCT DURABILITY

Abstract

Using a simple two-period linear durability choice trade model, we examine strategic trade policy in terms of taxes or subsidies levied on duopolistic firms in sales markets. In contrast to earlier parametric durability studies we show that the optimal export policy is not necessarily a tax when product durability is endogenously determined. Our analysis indicates that with endogenous adjustment of durability either a tax, subsidy, or laissez-faire policy (zero subsidy) may be optimal. In addition, we find that any trade policy (tax or subsidy) has the unforeseen effect of changing the firms' product durability. For example, future expected subsidies tend to decrease the domestic firm's product durability while increasing the foreign firm's chosen durability.