Endogenous domestic market structure and the effects of a trade cost reduction in a unionised industry

a r t i c l e i n f o JEL classification: F12 J50 L11 Keywords: Free entry Labour union Trade cost In contrast to the existing partial equilibrium literature considering the effects of a trade cost reduction on unionised wage under a given market structure, we show the effects by determining the domestic market structure endogenously. A lower trade cost reduces the number of active domestic firms, but it increases unionised wage in the active domestic firms under decentralised unions. Although a lower trade cost increases wage in the active domestic firms, it reduces domestic employment and total union utility at the free entry equilibrium. So, a trade cost reduction benefits domestic employed workers by increasing the unionised wage, but its effect on the total domestic workers is not favourable. If there is a centralised union, a lower trade cost reduces the number of active domestic firms, unionised wage, domestic employment and union utility. Government policies and/or technological progress are reducing trade costs 1 significantly in recent decades. While the general belief is that a trade cost reduction benefits the consumers and increases welfare of the importing country, there is concern about its adverse effects on wages. While the earlier literature has focused on competitive labour markets (Stolper and Samuelson, 1941), 2 recent literature uncovers the effects on the unionised wage also. This concern is more severe in Europe, where the presence of labour unions is prominent in many countries. As documented in OECD (2004), the proportion of workforce under union agreements was 67% in Europe, while it was 14% in the USA. Rodrik (1997) points out that globalisation reduces the power of the trade unions and creates an adverse wage effect. As documented in Niblett (2005), the negative perception in the European Union towards increased globalisation is an important reason for the rejection of the European Constitution by French and Dutch voters. The theoretical results of Huizinga (1993) and Sørensen (1993) confirm this concern, yet there are other views suggesting that a trade cost reduction may increase the unionised wage. The factors attributed so far to the beneficial wage effect of a trade cost reduction are two-way trade cost reduc-The theoretical papers with partial equilibrium analysis provide interesting insights on this topic, yet they are restrictive by considering a given market structure. 5 We offer a new perspective by considering free entry in the domestic country, thus …