On potential Pareto gains from free trade areas formation

Abstract

This paper extends the results of Grinols and Silva to free trade areas with rules of origin requiring a minimum national content. In our model, producers of a member country may decide not to comply with rules of origin and to pay tariffs to export to other members. To ensure trade gains, firms in any member country must be allowed to export to other members paying tariffs not higher than before signing the agreement if they do not comply with rules of origin. The specific tariff revenue is rebated lump-sum to consumers, ensuring they can afford their status quo consumption plans.