Customs unions: Theory and estimation (1976)
AuthorsMcCann, Ewen Bruce Macphersonshow all
[i] General Equilibrium Theory: World excess demand functions for two goods may be written as a function of their relative price in one country and the tariff rates of the three countries. The condition for dynamic stability allows one to unambiguously determine the direction of the change in that price in the normal case on the formation of a customs union. New and conclusive results on trade diversion versus trade creation, the terms of trade, and welfare are then obtained. Subsequently the customs union facing fixed terms of trade is examined. A new condition on Trade Indifference surfaces is derived as a consequence of the restrictions necessary on individual utility functions for community indifference curves to exist. This information provides new and simple results for the small two member union which are generalised to small unions with an arbitrary number of members for tariff adjustments of any magnitude. It is proved that the composite goods theorem holds under distortions and may be applied to the many good small customs union. With many goods thereby reduced to two the results of the previous paragraph apply. [ii] Estimation: A general equilibrium model of the effect of tariff changes upon national income at factor cost is set up and estimated. Forecasts are made of the effects of a modification to NAFTA should New Zealand eliminate tariffs on certain Australian goods. Subject to error a small increase in income generated in the NZ manufacturing sector IS predicted, It is concluded that the protectionists' case is not sustained and that NZ could adopt an across the board approach to renegotiations of NAFTA instead of tariff by tariff procedures.