the auto industry — tariff cuts included in the agreement are of major importance; tariff differences generate big trade differences in the industry and import duties on cars are exceeding 30% in three major TPP markets.
Nevertheless, we concur that TPP contains much more than just tariff reductions. These ‘deeper integration’ policies have major implications for multinational car-makers. This is in line with Baldwin’s (2011) assessment that the ‘basic bargain’ underlying agreements has changed from “exchange of market access” to “foreign factories for domestic reforms”. For example, one of the most compelling arguments heard in Canada for TPP was that without it, Japanese car-makers would stop investing in Ontario plants.
Figuring out how to quantify the impact of deeper integration poses a challenge. In a recent paper (Head and Mayer 2015), we extend recent models of multinational production to incorporate three frictions, one for trade flows (called ‘τ frictions’), and the other two for technology transfer (referred to in the literature as ‘γ frictions’) and marketing (denoted as ‘δ frictions’). The γ friction comprises costs of managing of overseas affiliates, such as the expenses involved in transferring technology, controlling quality, and shipping inputs to faraway plants. The δ frictions involve the costs of maintaining distribution networks abroad and customising cars to suit local regulations. These frictions allow us to pinpoint how deeper integration changes the predicted impact of TPP on producers and consumers. Let us turn first to the traditional τ friction in its most classic form – tariffs.