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IV
3.4
Estimation and Results ... 28
3.4.1
Single sectors estimation using Importer-Exporter-Dummies ... 28
3.4.2
Pooled and aggregated Regression using PPML ... 30
3.4.3
Comparison of aggregated / pooled regression results with
literature ... 33
3.5
Calculation of AVEs... 34
4
Concluding Remarks... 38
5
References ... 39
Appendix: Calculation of Weighted AVEs ... 43
V
List of Tables
Table 1: Results of Single Sector PPML and OLS Estimations ... 29
Table 2: Results of Pooled an Aggregated PPML Regressions ... 32
Table 3: Comparison of Pooled Regression Results ... 34
Table 4: Implied Ad-valorem Equivalents of Border Barriers (%) ... 35
Table 5: Unexplained Part of Implied AVEs ... 37
VI
List of Abbreviations
CEPII
EU
EU-27
GATT
GDP
GTAP
FTA
NLS
OECD
OLS
PPML
QLME
RTA
TUR
USD
WTO
Centre d'Etudes Prospectives et d'Informations
Internationales
European Union
European Union including all current 27 member nations
General Agreement on Tariffs and Trade
Gross Domestic Product
Global Trade Analysis Project
Free Trade Agreement
Non-Linear Least Squares
Organisation for Economic Co-operation and
Development
Ordinary Least Squares
Poisson Pseudo-maximum Likelihood
Quasi-maximum Likelihood Estimation
Regional Trade Agreements
Turkey
United States Dollar
World Trade Organization
1
1
Introduction
1.1 Why research Non-Tariff Barriers to Trade
Ever since David Ricardo came up with his "Law of Comparative Advantage"
(Ricardo 1817) it has been a central argument for the establishment of free trade
agreements around the world. It states that even if one of two countries is less
efficient in the production of each of its goods than the other one, it will still gain from
trade with the other country as long as the two differ in their relative efficiency of
producing different goods.
Probably the most notable international free trade agreements were reached within
the World Trade Organisation (WTO) and its predecessor, the General Agreement on
Tariffs and Trade (GATT), which was founded in 1947. By 1994, the GATT had a
total of 124 member countries (WTO 2012) that agreed to lower international tariffs
on trade. For instance, between 1947 and 1994 the average tariff on industrial
products traded between the members was lowered from 40% to 3.8% (Past et al.
2007, p. 6).
No longer able to apply tariffs, many nations resorted to an alternative way of
impeding international trade in order to protect their less competitive industries,
namely Non-Tariff Barriers to Trade (hereafter NTBs) (Past et al. 2007, p.3).
NTBs can be defined as "any measure (public or private) that causes internationally
traded goods and services [...] to be allocated in such a way as to reduce potential
real world income" (Baldwin 1970, p.5). While various ways of classifying NTBs can
be found in literature, Baldwin (1970) divides them into twelve groups:
x Quotas and restrictive state-trading policies
x Export subsidies and taxes
x Discriminatory government and private procurement policies
x Selective
indirect
taxes
2
x Selective domestic subsidies
x Restrictive
customs
procedures
x Antidumping
regulations
x Restrictive administrative and technical regulations
x Restrictive business practices
x Controls
over
foreign
investment
x Restrictive immigration policies
x Selective monetary controls and discriminatory exchange-rate policies
The WTO prohibits the introduction or retention of NTBs (Past et al. 2007, p.15).
However, proving the existence of an NTB is not easy (Past et al. 2007, p. 7). This is
one of the reasons why there is a rising amount if international literature on how to
detect and scale NTBs.
1.2 Structure
of
the
Thesis
After this overview in part one on what NTBs are and how they can be measured in
general, part two will deal with the border effect approach as a means of estimating
NTBs in particular. In part three, I will apply the border effect approach to agricultural
trade between Turkey and the EU, before drawing some conclusions in part 4.
1.3 Ways of capturing NTBs
1.3.1 The Price Gap Method
The method shows by how much NTBs within a country have lifted the domestic
price of a good above the international price. This allows to take the "workings of
policies" into account as well as to convert results into tariff equivalents. However,
not only may price data availability be problematic, it is difficult to determine whether
one of the prices is fully affected by an NTB whilst the other is completely unaffected.
This method is sometimes called a handicraft, because it can literally be done
manually with pen and paper. (Ferrantino 2006, p. 9.)
3
1.3.2 Price-based Econometric Methods
Price-based econometric methods extend the price-gap method to many countries
and products at a time while taking systematic price differences into account,
showing how much of a price difference may be attributable to NTBs. They enable us
to compare how NTBs affect different countries or product groups. Price data
unavailability as well as the method's incapability to make use of "product- and policy
specific detail", which may cause the results to differ from those of a case specific
analysis, as well as the influence of econometric specifications on results, are
problematic. (Ferrantino 2006, p. 9.)
1.3.3 Quantity-based Econometric Methods
Data on traded quantities are not only better available internationally than price data,
but also more standardised, which may make it possible to see how NTBs affect
trade flows. Three types of models can be distinguished:
- Gravity models: explain trade by size of countries, distance between them and
other factors
- Factor-content models: explain trade by different resource availability between
countries
- Mixtures
of
the
previous
two
A significant amount of research is carried out to improve these methods. The non-
includability of country- and product specific information and the influence of
econometric specifications on results may be more problematic than with price-based
methods. To convert results into tariff equivalents or price gaps, additional
information and / or assumptions are required. (Ferrantino 2006, p. 10.)
NTBs are often introduced primarily to reduce trade flows, which lowers domestic
supply and only secondarily leads to an increase in prices, along with a range of
other factors that may influence prices. These other factors will not bias quantity-
based methods (Ferrantino 2006, p. 21, point 64).
4
Therefore, I will apply a quantity-based approach and in particular a gravity model in
this thesis when examining agricultural trade between Turkey and the EU.
1.3.4 Simulations Methods
Simulating the effect of changes in tariffs and other border barriers on trade, price
and other economic variables can be done either in a partial (to focus on specific
products or sectors) or general equilibrium setting. To simulate the effects of the
introduction or removal of a NTB, a tariff equivalent (TEV) of the NTB must have
been estimated by one of the above methods in order to implement it into the
simulation. It is possible to perform sensitivity analyses to see which assumptions
influence the simulation outcome by how much; simulations are also capable of
explaining causal relationships. (Ferrantino 2006, p. 10)
1.4 The Gravity Equation in Physics and Economics
This thesis will focus on gravity models as a quantity-based econometric method to
measure NTBs. In physics, the Newtonian gravity model predicts the force with which
two objects will pull at each other by using the formula:
=
(1)
where: F: Absolute value of the gravitational force
G: Gravitational Constant
,
: Masses of two globular objects
r: Distance between the centres of the two objects
G: Gravitational Constant
(Hammer et al. 2001)
Tinbergen (1962) was the first to apply the formula to predict trade flows between
countries. In his work, F becomes the monetary measure of a trade flow between two
5
countries,
and
represent the GDPs of the countries, and r is the distance
between them.
While there is a variety of applications of the gravity model in economics, I will follow
the development of the border effect approach as a particularly promising and
researched way to capture the effect of NTBs.
6
2
The Border Effect Approach
A first attempt to apply the gravity equation to estimate the trade impeding effect of a
border was carried out by McCallum (1995) when he compared Canadian
interprovincial trade to international trade between Canada and the U.S. With this
new methodology and his finding that without the border trade flows between Canada
and the U.S. would be 2200% larger, he caused widespread interest in the topic and
a large amount of related research to be carried out.
Improvements to the approach focused somewhat on the used data (McCallum did
not take U.S. interstate trade into account), but mainly on the specification of the
gravity equation and found still significant, if lower, border effects looking at the same
data as McCallum.
The Border Effect Approach is particularly interesting when trying to quantify the
effect of non-tariff barriers. If it was possible to get a consistent estimate of the total
border effect, then deducting the known effect of tariffs from it would leave us with an
estimate of the effects of non-tariff barriers.
Thus, chapter 2 will look into the original approach by McCallum and its most
significant advancements by later contributions in order to obtain a consistent
approach for the analysis of agricultural trade between Turkey and the EU.
2.1 The Original Approach by McCallum
In his 1995 paper "National Borders Matter: Canada-U.S. Regional Trade Patterns",
McCallum conducts a widely noted application of the following gravity equation to
examine the determinants of international trade patterns:
= +
+
+
+
+
(2)
where
7
:
, :
DUMMY:
:
Shipments from country i to country j
GDPs of country i and j
Dummy variable that takes the value one for intra-national
and zero for international trade
Error Term
As apparent from equation (2), McCallum has logarithmised it in order to enable a
standard ordinary least squares (hereafter OLS) estimation. He uses the equation to
compare 1988 data on trade between Canadian provinces to trade between
Canadian provinces and U.S. states in order to show the effect of the U.S.-Canadian
border. Notably, 1988 is the year that the FTA, a free trade agreement between the
U.S. and Canada, was signed. McCallum assumes that FTA did not yet impact the
effect of the border during the examined year. Data on interprovincial trade flows
between all ten Canadian provinces as well as trade between those provinces and
the 30 U.S. states that account for 90% of U.S.-Canadian trade are taken into
account. This means that the author did not include intra-national trade flows
between U.S. states, the potential effect of which will be discussed in section 2.2.
This leads to a total of 690 observations, out of which 7 are zero-values, the
logarithm of which cannot be taken, which is why McCallum does not include them in
the estimation. The potential bias arising from this neglect of zero-values will be dealt
with in section 2.3.
The equation is then estimated by OLS. Assuming that the border effect for Canada
can be expressed as the exponential of the coefficient of DUMMY, it results that
trade is expected to be an average of 22 times larger between two jurisdictions that
are not separated by a border. McCallum also identifies a number of potential
econometric problems to this approach. For one, he acknowledges the biasing effect
heteroskedasticity may have on results. To test if it does, he estimates the gravity
equation three more times, once by only using data from large jurisdictions with
large GDP, once again by using all available data but weighing the regression
towards jurisdictions with large GDP, and finally by using all data and substituting
minimal trade flows for the zero-values. Also, he realises the problem that the
8
dependent variable (exports) is a component of one of the regressors (GDP), the
latter of which will thus be correlated to the error term. To find out about the
disturbing effect of this, he estimates the gravity equation two more times, once while
using the logarithm of population as instruments of GDP, and once by replacing the
logarithms of GDPS with logarithms of population altogether. In none of these
additional regressions do the results defer significantly from the original ones, from
which McCallum concludes that neither heteroskedasticity nor the correlation of
exports and the error term have lead to a biased estimate of the border effect.
Furthermore, results also remain stable when the following aspects are incorporated
into the model:
x Distance represented as logarithm, natural number or square of the natural
number
x Province-specific constant terms (indicator of a province's overall exports) and
province-specific coefficients (indicators of the degree to which each
province's trade is biased towards exports to other provinces)
x Provinces' production structures (share of agriculture and manufacturing in
GDP)
x Interaction term between DUMMY and the other explanatory variables, or the
squares of y
i
, y
j
and dist
All in all, McCallum finds a significant hindering effect of the U.S.-Canadian border on
trade flows.
2.2 Multilateral
Resistance
Terms
Anderson and van Wincoop (2003) argue that the paper of McCallum (1995) and
related literature lack a theoretical foundation of the gravity equation, which has two
negative implications: Firstly, an omitted variable bias can be expected and secondly,
comparative static exercises, e.g. to show the effects of removing a trade barrier,
cannot be conducted conclusively, because a countries resistance to trade with a
bilateral partner also always depends on its resistance to trade with all other
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