Department of Economics, UCSD

This paper presents a theory of dynamic trade agreements in which external institutions, such as the WTO, play a central role in supporting credible enforcement. In our model, countries engage in ongoing negotiations, and as a consequence cooperative agreements become unsustainable in the absence of external enforcement institutions. By using mechanisms such as delays in dispute resolution and direct penalties, enforcement institutions can restore incentives for cooperation, despite the lack of any coercive power. The occurrence of costly trade disputes, and the feasibility of mechanisms such as escape clauses, depend on the adaptability of enforcement institutions in their use of information.