Trade Costs and Multimarket Collusion

Abstract

This paper explores the implications of reciprocal trade liberalization for implicit collusion and welfare in the context of a symmetric, homogeneous goods duopoly model with multi-market contact and quantity competition. One of our principal findings is that collusive conduct does not necessarily entail geographic separation of markets and cessation of intra-industry trade. Our analysis also reveals that, when trade costs and discount factors are not too high, efficient cartel agreements that involve the cross hauling of goods are easier to sustain because they circumscribe deviation incentives. As a consequence, for a certain range of discount factors, welfare is higher when there are no trade costs than when trade costs are so high that they eliminate trade. This establishes an important sense in which trade liberalization is pro-collusive in the neighborhood of unimpeded (i.e., free) trade. In contrast, reductions in trade costs are welfare-improving when they are high enough to eliminate trade flows in the efficient cartel agreement. The analysis examines both tariffs and transport costs and compares their effects on welfare. The model is also extended to consider the presence of more than one firm per country and to study the implications of imperfect substitutability in demand.