Trade, Inequality, and the Political Economy of Institutions
54 Pages Posted: 23 Mar 2006
Date Written: February 2006
We analyze the relationship between international trade and the quality of economic institutions, such as contract enforcement, rule of law, and property rights. In our model, firms differ in their preferences for institutional quality, which is determined endogenously in a political economy framework. We show that trade opening can worsen institutions when it increases the political power of a small elite of large exporters who prefer to maintain bad institutions. The detrimental effect of trade on institutions is most likely to occur when a small country captures a sufficiently large share of world exports in sectors characterized by economic profits.
Keywords: International trade, heterogeneous firms, political economy, institutions
JEL Classification: F12, P48
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