Article Review of

R&D in the Network of International Trade:

Multilateral versus Regional Trade Agreements

Author
Mariya Teteryatnikova

European University Institute

November 10, 2008

Article Review Done by

Satishkumar Deshpande
Roll No. : 85
EPGDIB 2010 Batch

1 of 14 Article Review Submitted by Satishkumar Deshpande Roll No.85 EPGDIB - 2010

 Table of Contents

1. Motivation Behind the Article

2. The Model

3. Results

4. Policy Implications

5. Comments

6. References

7. Abbreviations

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Motivation Behind the Article :

Research and development was the confined to few select countries in the past. Most of
the R&D work was carried out by the G7 countries and rest of world had little
involvement in industrial R&D. The developed world made few noses about copying the
R&D carried out in their countries but it really did not affect their market. This has
however changed after the trade liberalization process. To remain competitive and to
increase the welfare of human race at large R&D will continue to have a major role in
future development. With the implementation of multilateral and regional trade
arrangements R&D is mode to take a new turn.

Recent empirical evidence has shown that trade liberalization promotes innovation and
productivity growth in individual firms. This paper argues that different types of trade
liberalization – multilateral versus regional – may lead to different R&D and productivity
levels of firms. Trade agreements between countries are modeled with a network: nodes
represent countries and a link between the nodes indicates the existence of a trade
agreement. In this framework, the multilateral trade agreement is represented by the
complete network, while the overlap of regional trade agreements is represented by the
hub-and-spoke trade system. Trade liberalization, which increases the network of trade
agreements, reinforces the incentives for firms to invest in R&D through the creation of
new markets (scale effect) but it may also dampen these incentives through the
emergence of new competitors (competition effect). The joint action of these two effects
within the multilateral and the regional trade systems gives rise to the result that, for the
same number of direct trade partners, the R&D effort of a country in the multilateral
agreement is lower than the R&D effort of a hub but higher than the R&D effort of a
spoke. This suggests that productivity gains of regionalism versus those of
multilateralism depend heavily on the relative number of regional trade agreements
signed by countries. If a country signs relatively large number of trade agreements within
the regional system (core country), then its R&D and productivity are higher than R&D
and productivity of a country in the multilateral system. At the same time, a country that
signs a relatively small number of trade agreements within the regional system (periphery

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country) has lower productivity gains than a country in the multilateral system.
Additionally, the paper finds that the aggregate level of R&D activities within the
multilateral trade agreement exceeds that in the star, the simplest representative of the
hub-and-spoke trade system.

The developments in WTO has unprecedented impact on RTA the above figure shows
the growth in RTA’s over the period of time.

 Study how MTAs and RTAs differ in terms of R&D and productivity level of a
Firm

 Propose a theoretical framework to study the impact of different types of trade

liberalization and its possible impact on R&D

 It is natural to assume that MTA and RTA have different effect in welfare GDP
growth in status of IPR in the countries involved.

 Both the trade arrangements have different impact on scale and competition both
at firm and country level.

The Model

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The paper uses the model framework of Goyal and Joshi (2006) the model says that N
countries i.e participants of TA form a network of countries participating the trade the
line between the countries forms the net work of courtiers.

This class of networks captures the basic characteristics

of the so-called hub-and-spoke trade system, where some countries (hubs) have relatively
large number of direct trade partners as compared to other countries (spokes), which are
mainly involved in trade agreements with hubs. According to a number of contributions
on regional trade agreements, the hub-and-spoke trade arrangement has become a typical
outcome of the regional trade liberalization

Production, R&D and demand in each country.

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The model is analyzed in the assumption that one firm in every country produces one
goods and sells its goods in the domestic market and in the markets of direct trade
partners. The above diagram shows a simple case of net works amongst few countries.

The model is based on the fact that intra industry trade occurs between directly linked
countries. Investment in R&D basically takes places to increase the productivity.

The model is based on the Oligopolistic competition between firms in two stages and
involved in non –cooperative game.

The first sate : In the first stage the firm chooses the choice of R&D effort to reduce its
cost.

Second Stage : In the second stage the choice of production quantities in every market is
decided.

The assumption is that as the firm sizes increase the spend in R&D also goes up.

There are two effects on trade due to formation of TA

1) Scale Effect and 2) Competition Effect.

On the one hand, a new trade agreement creates an additional market for each firm (scale
effect). This amplifies the return to productivity-enhancing investment, increasing the
equilibrium R&D effort of each firm. On the other hand, the new agreement opens the
markets of both countries to a new competitor (competition effect). This has two opposite
effects on R&D. The enhanced competition dampens the return to R&D through a
reduction in the domestic market share of each firm (market share effect of competition);
yet, it also increases the return to R&D through a depreciation of markups, which
expands the domestic market (markups effect of competition). Thus, overall trade
opening between two countries has an ambiguous effect on their equilibrium R&D
efforts.

Results :

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Case I : Multilateralism :

A multilateral arrangement can be considered as a complete newt work of all

countries having TA with each other and neither country has a TA with third party
in such a increase in R&D results in positive effect of the scale effect and a negative
effect of market share, overall this results in price reducing effect of competition
and hence promotes R&D.

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Case II : Regionalism i.e HUB and Spoke trade system.

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The effects of hub and spoke are as follows :

and spokes create:

– Two layers of discrimination:

• The hub enjoys access to each and every spoke on a preferential basis: as most hubs are
developed countries, it is to them that the bulk of the gains have gone

•Each spoke enjoys preferential access only to the hub

•Each hub and each spoke discriminates against non-members

–Complex rules of origin
–Forces for RTAs to coalesce into regional blocs
–Increased discrimination against excluded countries, particularly developing and least-
developed countries.

Some examples of Hub and Spoke are

Single star

Two Star

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Stars Sharing Spokes

In the asymmetric hub-and-spoke structure, the negative component of the competition

effect of trade liberalization (market share effect of competition) is generally not
compensated by the positive scale effect. Therefore, a priori, the impact of trade
liberalization on R&D in the hub-and-spoke system is ambiguous.

The impact of trade liberalization on R&D is ambiguous i.e

Negative market share effect Positive scale effect.

The net impact might be increase in R&D activity in the accessible markets but there will
be a reduction in number of competitors in these markets.

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Comparison of I & II in Graphical form

Aggregate R& D Effort

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Policy Implications

Following are the policy implications

 Productivity gains of regionalism versus those of multilateralism depend heavily
on the relative number of RTA signed by the country
o For a strong negotiator or for core country like USA R&D and
productivity gains are higher in RTA than in MTA.
o A weak negotiator or a country with not so strong economy Ex Nepal
R&D and productivity will be lower than in a MTA.
o R&D in autarky < R&D in MTA always
o R&D in autarky < R&D in RTA as long as the market size of trade
partner is not too small.
o For a small economy R&D prospects in the MTA may be better than R&D
prospects in the RTA with one or more potential hub.
o WTO expansion or consolidation of small plurilateral blocks has positive
impact on R&D of all countries.

Comments

While the paper provides a perfect frame work for theoretical understanding of R&D in
RTA and MTA it misses few of the important features of international trade.
 Effect of IPR in multilateral and regional trade arrangements. R&D and IPR
related issues are interconnected . While it is theoretically correct to say that
multilateral arrangement is better for R&D but the it not the same when it come to
IPR related issues. IPR issues can be better handled in regional trading
arrangements. The matter is discussed to some degree in “ Implications of
Regional and Mutilateral Agreements for Intellectual Property Rights by Keith E.
Masjus Policy paper No. 97/10 University of Adelaide”

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  RTA effectiveness varies on the type of RTA i.e there is a huge difference
between a Free trade Agreement and say Economic Integration. It would have
been beneficial for the industry if the effects were segmented further.
 The understanding of the article would have been better if the theoretical frame
work was supported by few examples.

References

1.R&D in the Network of International Trade: Multilateral versus

Regional Trade Agreements _
Mariya Teteryatnikova†
European University Institute
November 10, 2008

2. Implications of regional and multilateral agreements for intellectual

property rights.

3. RTA notes by Dr. Katti

Abbreviations
RTA : Regional Trade Agreements

WTO : World Trade Organization

MTA : Multilateral Trade Agreements

R& D : Research & Development

IPR : Intellectual property Rights

TA : Trade Agreements

USA : United States of America.

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14 of 14 Article Review Submitted by Satishkumar Deshpande Roll No.85 EPGDIB - 2010