Tightening or Loosening? The Effects of Uncertainty on the Design of Preferential Trade Agreements

What the paper says

Abstract To mitigate uncertainty, it is often assumed that governments negotiate ample flexibility provisions when entering new international treaties. Yet, the case of preferential trade agreements (PTAs) suggests that governments prioritize the more stringent commitments when faced with uncertainty. In this paper, we investigate the effects of uncertainty spikes occurring during negotiations on the design of 251 bilateral PTAs. Our theory proposes that sharp increases in uncertainty make governments more prone to signing deeper PTAs to emphasize their commitment to liberalization. In doing so, governments cater to firms’ demands for institutions protecting investment, upholding intellectual property rights, and promoting regulatory harmonization. We find robust evidence that PTAs are deeper when the contracting parties are faced with uncertainty spikes during negotiations. However, we do not find equally consistent evidence that countries also make PTAs more flexible. While much of the rational-design literature has focused on flexibility as a tool to cope with uncertainty, our findings suggest that countries rather tend to tighten their international commitments in turbulent times.