The Value of Multilateral Trade Liberalization and the Need for Third-Party Sanction

Trade policies such as tariffs are often featured by the prisoner's dilemma. One country's trade liberalization is vulnerable to the opportunism of another country. This problem is more serious in cases where a country behaving opportunistically can only be punished by the victims. In a trade model with three countries, we show that \circular concessions" are the only way to have any Pareto-improving trade liberalization. The circular nature of the concessions implies that if punishment can be carried out only by the victim of opportunistic behavior, multilateral trade liberalization cannot be sustained. Our results have implications for rule design in multilateral trade systems such as the WTO.