A theory of trade concessions

Abstract

We present a model of tariff disputes and concessions consisting of an infinitely repeated game under bilateral incomplete information. Given potential agreements to be reached through unilateral or reciprocal concessions, we find that an agreement involving reciprocal concessions is reached immediately if the discount factor is large and/or the volume of trade is small. Otherwise prior beliefs about country type matter: when both countries hold pessimistic priors, immediate reciprocal concessions still occur. Very different prior beliefs lead to an immediate unilateral concession of the pessimistic country, whereas optimistic priors coupled with low discount factors may generate delayed agreements. (C) 1997 Elsevier Science B.V.