Trade-Promoting and Welfare-Enhancing Cartels?

Abstract

I present a model of two quantity-setting firms, each producing two goods in a different country, but enjoying a competitive advantage in only one of them. An international cartel can either shut down trade and manufacture both goods domestically or foreclose the inefficient plant and import the high-cost good from the firm that has a competitive advantage in it. Despite the cartel's exploitation of its market power, it can improve national welfare by generating efficiency gains. There always exists a set of marginal cost differences and transportation costs such that collusion weakly welfare-dominates competition for any degree of product substitutability. Further, collusion can promote trade relative to competition when each firm completely specializes in the production of its low-cost product and exports it, as long as the goods are sufficiently unrelated. Using novel data on international cartels, I find that the effect of multi-product cartels on trade is positive, significant and statistically larger than the effect of single-product cartels on trade. This positive and significant effect becomes more pronounced, the more distant substitutes the goods are.