Free Trade Networks with Imperfect Competition

Using an oligopolistic international trade model, which consists of three countries (A, B, and C) and three goods (two differentiated oligopoly goods and the numeraire), we examine (i) the structures of the countries’ incentives to form free trade agreements (FTAs); (ii) the pairwise stability of some trade networks. One of the differentiated oligopoly goods is assumed to be produced in both countries A and B, while the other one is assumed to be produced only in country C. Main findings of the paper are: (i) the complete free trade network (which corresponds to the worldwide free trade) can be pairwise stable; and (ii) a trade network in which only countries A and B form an FTA while country C is isolated can also be pairwise stable. If two goods are highly substitutable, global free trade is the unique efficient trade network.