Trade Policy and Industrial Concentration

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Graziano, Alejandro Gustavo
Limão, Nuno
I examine the interrelationship between industrial concentration, the CES industry price index and trade policy when a subset of firms in the market takes the effect of their decisions on industry aggregates into account. In the first chapter, I develop a hybrid model that augments the standard monopolistic competition approach in the international trade literature to include an oligopolistic margin: a set of foreign and domestic heterogeneous granular firms competing in quantities. This margin predicts novel effects of trade liberalization on trade, consumer welfare, and industrial concentration. Specifically, trade liberalization generates lower consumer gains when foreign firms are more concentrated than domestic, and higher domestic industrial concentration of granular firms. In the second chapter, I study the implications of hybrid competition for the gravity equation. I show that the trade cost elasticity is attenuated by foreign firm concentration and I test the novel oligopolistic margin using diff-in-diff variation from trade policy changes in Colombia. I find robust evidence for this margin. I also show that the aggregate impact of trade liberalization can be substantially reduced by oligopolistic behavior. Moreover, foreign concentration heterogeneity across origin countries suggests a highly heterogeneous impact of trade liberalization: imports from countries in the top decile of concentration had 13 log points lower growth on average than imports from countries in the bottom decile. In the third chapter, I explore the implications of the hybrid model when there is trade policy uncertainty. When firms are uncertain about future tariffs and exporting involves sunk investments, the value of waiting increases. In the setting I propose, potential entrants also consider the strategic reaction of oligopolistic competitors: when domestic granular firms are highly concentrated, the impact of trade policy uncertainty on foreign entry is mitigated since the eventual increase in tariffs is predicted to be partially offset by an increase in domestic markups. When foreign granular exporters are highly concentrated, the impact is amplified since the increase in tariffs is predicted to not be fully passed to the price index. I discuss an empirical application in the context of Brexit uncertainty and potential ways forward.