The Optimal International Trade Agreement and its Enforcement Under Asymmetric Information
45 Pages Posted: 19 Jan 1998
Date Written: September 1997
This paper analyzes the role of the DSPs in collecting and disseminating information under uncertainty. The General Agreement on Tariffs and Trade (GATT) was designed to enhance global free trade. Over time, the GATT dispute settlement procedures (DSPs) were codified over broader issues and in more detail. The GATT rule of free trade -- assumed in most theoretical literature to be sustained bythe use of multilateral retaliation -- can increase the welfare of the countries in a perfect information world. In the asymmetric and imperfect information world, however, it can decrease the welfare level because it gives rise to the frequent use of nontariff barriers and periodic trade wars. With perfect monitoring, the GATT DSPs can sustain a free trade regime in which defection never occurs. With imperfect monitoring, however, a free trade regime is not likely to be feasible. Moreover, the defecting countries themselves may have incentives to investigate other countries, which would never occur in the perfect information world. The optimal DSP depends on the required monitoring cost. While multilateralism is one way of sustaining a more cooperative trade regime by aggregating sanctioning power, monitoring stipulated in the DSPs can avoid the misuse of multilateral sanction in the asymmetric information world as well as provide efficiency gains when multilateralism is not feasible.
JEL Classification: F13, F19
Suggested Citation: Suggested Citation