ABSTRACT

This chapter explores the theoretical basis and determinants of trade, and the role of trade alliances. The earliest theory of trade was mercantilism which implied dominance of weak countries and colonies through trade and restricting the colonies to expand through trade. At a highly aggregated level, the primary factors governing exports are gross domestic product (GDP) of the importing country and the exchange rate, such as the Real Effective Exchange Rate (REER), of the exporting country apart from trade costs. Foreign trade agreements are expected to impact trade. Among the major works in this area, a study on the impact of NAFTA and the Canada-United States Free Trade Agreement (CUSTA) on international trade used data for 5,000 commodities. The panel includes data for sectoral bilateral imports, sectoral preferential tariff rates, GDP and free trade agreement (FTA) participation. Models to understand the impact of FTAs mostly use dummy variables for the FTA and include the tariffs in the multilateral resistance terms.