Trade Creation and Diversion Effects of Regional Trade Agreements: A Product‐level Analysis

Abstract This paper examines the impacts of regional trade agreements ( RTA s) on trade flows at product level, with a particular focus on trade creation and diversion. Based on estimation of the gravity equation, dealing with the zero trade flows and endogeneity bias problems, we analyse the impacts of various types of RTA s involving 67 countries for 20 products during the 1980–2006 period. We find that RTA s among developing countries tend to cause trade diversion compared with RTA s among developed countries. Taking the higher external tariff rates of developing countries compared with developed countries into consideration, our results suggest trade diversion is likely to be caused by remaining high tariffs on imports from non‐members. In addition, we find the trade creation effect for many products in the cases of Customs Unions and plurilateral RTA s. These results imply that trade creation would be caused by various factors besides the reduction in tariff rates. Based on these results, we draw a policy implication that external tariff rate reduction is an important factor in avoiding trade diversion in the formation of RTA s, in particular for RTA s among developing countries, while a large number of members and the common external tariff appear to be important for generating the trade creation effect.