The World Economy

Global Trade Policy 2010

David Greenaway

• Publisher: Wiley-Blackwell
• Year: 2011
• ISBN:
  9781444343977
• Edition: 1
• Topic: Economia
• Subtopic: Teoria economica

This is the seventeenth volume in an annual series in which leading economists provide a concise and accessible evaluation of major developments in trade and trade policy.

• Examines key issues pertinent to the multinational trading system, as well as regional trade arrangements and policy developments at the national level
• Provides up-to-date assessments of the World Trade Organization's current Trade Policy Reviews
• A vital resource for researchers, analysts and policy-advisors interested in trade policy and other open economy issues

• Analyses global trade policy in Turkey, China and The Dominican Republic, and a survey by Tarlok Singh questions whether international trade does cause economic growth
  
  

• Includes chapters exploring WTO issues, and a section on regional trading agreements
  
  

4

Modelling the Extensive Margin of World Trade: New Evidence on GATT and WTO Membership

Gabriel Felbermayr and Wilhelm Kohler

1. INTRODUCTION

THE World Trade Organization (WTO) is commonly regarded as epitomising a transparent and predictable world trading environment that features open markets. Although its practical importance is sometimes questioned, most people would agree that, overall, it plays an important role for securing gains from trade liberalisation and avoiding harmful protection.¹ The cornerstones of this environment are: (i) most-favoured nation treatment, (ii) national treatment of foreign goods, services and intellectual property rights, (iii) multilateral negotiations on reciprocal reductions of trade barriers, (iv) fair competition rules related to dumping and subsidies, including a mechanism of dispute settlement and (v) preferential treatment of developing countries.² Formal WTO membership implies that countries adhere to these principles, which is also seen as a key vehicle to enhance the growth and development perspectives of less developed countries.

Established in 1994 and put into effect in 1995, the WTO grew out of the General Agreement on Tariffs and Trade (GATT), which had served as an institutional backbone of multilateral trade liberalisation ever since the end of the Second World War. In 1947, there were 23 founding signatories of the GATT. Presently, as many as 153 countries are members of the WTO. The GATT/WTO was remarkably successful in reducing the level of trade barriers through eight successive rounds of multilateral negotiations. On average, the import tariffs applied by GATT/WTO members have fallen to levels that are a mere quarter of what they were after the Second World War.³ Thus, there has been a widening, as well as deepening, of trade liberalisation throughout the six decades that the GATT/WTO has been in existence. This was paralleled by a remarkable increase in world trade, relative to world production. Between 1950 and 2005, the average annual growth rate of the volume of world exports was 6.2 per cent (7.5 per cent for manufactures), compared with a real gross domestic product (GDP) growth of 3.8 per cent.⁴ The GATT and the WTO almost routinely receives credit as a causal factor for this.

Somewhat surprisingly, however, when Rose (2004a) set out to quantify the trade-enhancing role of WTO membership in an econometric study of world trade based on the gravity equation, he ended up concluding that ‘we currently do not have strong empirical evidence that the GATT/WTO has systematically played a strong role in encouraging trade’. In a companion paper, Rose (2004b) has studied the trade policies pursued, concluding that WTO member countries also do not follow more liberal trade policies than non-members. These papers have drawn a lot of attention, questioning the conventional view of the GATT/WTO as an important trade-promoting institution.

However, subsequent literature has readdressed the issue, adding pieces of revisionist evidence more in line with received wisdom. Thus, Subramanian and Wei (2007) have shown that WTO membership appears to be a more effective vehicle of trade creation for industrial countries than for developing countries. Tomz et al. (2007) have argued that WTO membership does come out as a strong driving force of trade, if defined to include non-formal (or de facto) compliance with GATT/WTO rules, in addition to formal membership status. However, doubts remain. Rose (2007) points out certain puzzles that cast doubt on the trade-promoting role of non-formal membership. Eicher and Henn (2008) question the findings of Subramanian and Wei (2007) on the grounds of a more comprehensive treatment of preferential trade agreements alongside WTO membership, as well as on econometric grounds.⁵

By restricting his sample to country pairs where trade is strictly positive, Rose (2004a) has ignored the possibility that WTO membership may be important for whether or not two countries trade with each other at all. This is the so-called extensive margin of world trade, as opposed to the intensive margin relating to how existing trading relationships evolve through larger or smaller quantities traded. Felbermayr and Kohler (2006) present detailed evidence on the relative importance of these two margins, concluding that the post-war increase of world trade took place through both, larger quantities traded (the intensive margin) and an increase in the number of country pairs that engage in trade (extensive margin). The question then is whether WTO membership comes out as a stronger trade-promoting force, if movements at the extensive margin of trade are adequately taken into account. Evidence pointing in this direction is presented in Felbermayr and Kohler (2006), Helpman et al. (2008) and in Liu (2009).

This chapter contributes to the literature in several ways. First, we review open theoretical and methodological issues related to the gravity model, which researchers have invariably used to explore the trade-promoting power of WTO membership. Second, we present a new strategy for estimating the gravity model that is fully grounded in theory and accounts for the extensive margin of trade, yet is intuitive and easy to implement. We identify WTO membership effects on both the intensive and extensive margins of trade. We show that such effects arise in a direct way, but also indirectly through the so-called multilateral trade resistance terms of the gravity equation.

Based on our ‘corner-solutions’ version of the gravity model, we then reexamine the empirical evidence on WTO membership and trade, with special attention to disentangling the extensive and intensive margins, respectively, of world trade. We estimate our model using a Poisson approach, to deal with the inherent non-linearity of any gravity model of bilateral trade that involves zero trade relationships, as with the extensive margin of trade. Our empirical strategy duly addresses the concerns raised in Subramanian and Wei (2007) about appropriate country pooling, as well as the issue of informal participation in the GATT/WTO raised by Tomz et al. (2007). However, our dataset includes more recent observations up to 2008, and we slice our sample in line with the formative subperiods of GATT history, covering successive rounds of trade liberalisation.

We find that GATT membership was successful on the extensive margin of world trade but not on the intensive margin. For the recent WTO episode (1995–2008), we find consistent and robust evidence for a substantial tradecreating role of membership. This is an important result which is new to the literature. It strongly suggests that forming the WTO, with the new agreements on services and intellectual property rights added to the GATT, and with a more effective dispute settlement mechanism, has ushered in a new era, where being a formal member of the multilateral trading system is a more powerful driving force of trade than in earlier episodes of the GATT. Interestingly, and in stark contrast to Subramanian and Wei (2007), this holds true also, indeed more strongly, for developing countries than for industrial countries. Moreover, it holds for formal membership and does not rely on informal compliance, as suggested in Tomz et al. (2007). Also, it is driven primarily by the intensive margin, and not the extensive margin. On average, WTO membership results in higher bilateral trade of about 40 per cent.

The structure of the chapter is as follows. In Section 2, we discuss the present state of the literature, focusing on open methodological questions. In Section 3, we develop our ‘corner-solutions’ version of the gravity model that highlights zero bilateral trade between certain country pairs as an equilibrium outcome, determined among other things by GATT/WTO membership. In Section 4, we discuss our database for econometric estimation, including some preliminary descriptive exploration that guides our estimation strategy. Section 5 takes a Probit look at the extensive margin of trade, whereas Section 6 presents results from a comprehensive estimation of the non-linear gravity model. Section 7 will summarise and draw conclusions from our findings.

2. STATE OF THE LITERATURE: OPEN ISSUES

Given the aforementioned consensus view of the GATT/WTO, it is not surprising that Rose’s (2004a) finding has caught a great deal of attention. It seems to cast doubt on the GATT/WTO as a ‘success story’ that exemplifies the virtues of multilateral trade liberalisation. But perhaps one should not be too surprised. It is well known that the GATT/WTO was only partly successful in delivering trade policies towards freer trade. There were sectoral exemptions, most notably in agriculture and textiles, and there were country exemptions as well. For instance, up until 1995 developing countries were facing little demand for liberalisation when...