A Simple Theory of Deep Trade Integration

Abstract

Abstract Which countries should aim for regulatory cooperation, and to what extent should they pursue it? We develop an imperfectly competitive trade model that accounts for differences in technology and regulatory preferences regarding local consumption externalities across countries. Each country sets unique product standards, and firms incur costs when tailoring products to different markets. Trade occurs when the benefits of comparative advantages outweigh the desire for asymmetric regulations. Our findings indicate that regulatory cooperation, defined as the cooperative setting of standards, is most advantageous for countries with moderate differences in regulatory preferences. Shallow integration, however, falls short of achieving the optimal planner’s solution. Countries with strong comparative advantages in distinct externality-generating goods can pursue deeper regulatory cooperation through mutual regulatory concessions. Additionally, when regulatory preferences are highly dispersed, international cooperation tends to form regulatory blocs.

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