unchanged.
These results have clear empirical implications. The results confirm the importance
of the trade-off between market access (lower marginal costs) and higher fixed costs, which
have been extensively analyzed in empirical work. They also point to two less familiar
issues. One is the effect of intra-union tariff cuts in encouraging plant consolidation by
foreign multinationals. The other is the set of determinants which may lead external firms
not to serve the union market. This may occur if both access and fixed costs are high, and,
especially when foreign competition is tough, may lead firms to withdraw from union markets
even as they are liberalised.
No explicit welfare analysis has been presented, but it is clear that consumers in each
country gain from lower prices, and that any losses to the local producer will be more than
compensated by the gains from greater competition. This gives countries an incentive to
compete in attracting foreign investment, even in the absence of employment effects or
spillovers to local firms.13
Further work is needed to explore other implications of liberalising trade between a
group of countries while maintaining external barriers. It would be desirable to allow for FDI
by domestic firms. Since FDI frequently takes the form of mergers and acquisitions rather
than greenfield investment, it would be even more interesting to allow for the effects of
integration in changing the incentives for firms to merge.14 It would also be useful to
explore the implications of allowing firms to make continuous rather than discrete investment
decisions. Finally, the analysis should be embedded in general equilibrium to investigate the
13 Oman (2000) documents the extent of such competition, and Barros and Cabral (2000) and
Haaparanta (1997) model its occurrence.
14 Falvey (1998) and Horn and Persson (2001) explore the impact of trade policy on merger
incentives in two-country models.
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