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International Finance Discussion Papers
The International Finance Discussion Papers logo links to the International Finance Discussion Papers home page On the Dynamics of Trade Diversion: Evidence from Four Trade Blocs
Caroline L. Freund; John McLaren
1999-637  (June 1999)

Abstract:  This paper studies the dynamics of trade reorientation experienced when a country joins a regional trade bloc. We find that the joining country's trade orientation toward bloc countries typically rises along an `S'-shaped path. We estimate the size, speed, and timing of this adjustment path for a `typical' joining country, for four trade agreements. We find that, in the European Union (EU), the incumbent bloc countries' share of the joining country's trade typically rose by eighteen percentage points over the course of the adjustment; that this took twelve years; and that the adjustment began four years before the date of accession. MERCOSUR shows a similar pattern in progress, but NAFTA and EFTA are more idiosyncratic. We argue that the data provide strong evidence of anticipatory sunk investments made to prepare for accession.

Full paper (289 KB PDF)

Regionalism, sunk costs

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