Trade Creation and Diversion under the Thailand-Australia Free Trade Agreement (TAFTA)

Abstract

This paper examines the impact of the Thailand-Australia Free Trade Agreement (TAFTA) on bilateral merchandise trade flows between Australia and Thailand. Using aggregated data, an augmented gravity model is estimated in an attempt to quantify the trade creation and/or diversion effects of the agreement. The model includes 178 countries and is estimated using panel data over the period 1998 to 2012. The inclusion of three variables describing TAFTA membership (i.e. intra-TAFFTA trade creation, exporter diversion and importer diversion) allows for the correct identification of Vinerian trade creation and trade diversion effects. The estimation method accounts for country heterogeneity, endogeneity and potential selection bias through the use of time-invariant, time-varying, country-specific and country-pair effects. Diagnostic checks indicate the presence of heteroscedasticity and serial correlation, which are controlled for in a fixed effects model with robust standard errors. The results indicate that the Thailand-Australia Free Trade Agreement has had modest trade creation effects, with little evidence to suggest that this is at the expense of trade diversion. The findings of the study have obvious policy implications.

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