On the Relationship between Preferential and Multilateral Trade Agreements

In this paper we study the consequences of regional free trade agreements (FTAs) for global free trade. In the context of a three-country, two-good general equilibrium trade model, we derive stable Nash equilibria of two coalition formation games of trade liberalization: One in which FTAs are ruled out, and another in which countries have the option to form FTAs. Our analysis reveals that there exist circumstances under which the option to form FTAs may facilitate the attainment of global free trade (“building blocks”). However, there also exist circumstances under which FTAs stand in the way of global free trade (“stumbling blocks”). Two important determinants of these possibilities are relative country size and the structure of comparative advantage. ∗I am grateful to Professor Constantinos Syropoulos and Professor Yoto V. Yotov for their guidance and support.