Stibora, Joachim and de Vaal, Albert (2006) Does preferential trade benefit poor countries? A general equilibrium assessment with nonhomothetic preferences. (Discussion Paper) Kingston upon Thames, U.K. : Faculty of Arts and Social Sciences, Kingston University. 43 p. (Economics Discussion Paper, no. 2006/6)
Abstract
We study the effects of preferential trade agreements (PTA) in a model where income matters for consumption patterns. We develop a three-country Ricardian trade model in which goods are ranked according to priority and where economies differ in their income level. The poorest (richest) country has a comparative advantage in the production of lowest-ranked (highest-ranked) goods, specializing in goods with low (high) income elasticities in demand. The medium rich country specializes in the production of the intermediate-ranked commodities. We find that being a nonmember of PTA leads to a terms of trade deterioration for a poor country, and a terms of trade improvement for the high-income country. Becoming a member of a PTA also does not guarantee welfare gains for the low income country, unless it is so poor that it cannot import the higher-ranked goods that the rich country produces.
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