Article XXIV of the GATT: Good, Bad, or Both?

Preliminary draft — comments welcome. Article XXIV of the General Agreement on Tariffs and Trade (GATT) provides an important exception to Article I (most favored nation clause) by permitting countries to enter into preferential free trade agreements (PTAs). Does the existence of Article XXIV under-mine multilateral trade liberalization? Would aggregate world welfare be higher if PTAs could not be formed? To answer these questions, this paper endogenizes the formation of free trade agreements (FTAs) in a three-country oligopoly model of intraindustry trade where coun-tries are asymmetric with respect to market sizes and production costs. Two tariff games are contrasted: one where countries have the option to form FTAs and another where they do not. We show that free trade is less likely to occur as an equilibrium outcome under the FTA option game and that the FTA option lowers world welfare when countries are relatively symmetric. Also, the country with the largest market (and/or the highest cost) always benefits from the existence of the FTA option