Free Trade Zones, Tariffs and the Real Exchange Rate
The GHT model can be adapted for a wide variety of applications and this chapter reinforces its flexibility by extending it to include a Free Trade Zone (FTZ) in the urban region. The FTZ sector produces a good that uses domestic, foreign capital, labour and an intermediate good. The urban region now consists of three sectors: an urban manufactured good, X U ; an urban non-traded good X NU ; and the FTZ sector X E . For welfare purposes the disaggregation of national income into urban and rural is maintained. In this extended framework we examine the consequences of changes in final and intermediate good tariffs on the following important variables: regional welfare, structural adjustment, urban unemployment and the real exchange rate. Unlike previous contributions to this literature we do not argue a case for setting up a FTZ. The analysis concentrates on the effects of parametric changes on the above variables in the presence of a FTZ. The pioneering work of Hamada (1974) was concerned with the analysis of the various implications of establishing duty free zones in developing countries which were seen as an attempt at trade liberalization as they did not impose tariffs on final goods1. Our emphasis is different from that of Hamada and others who followed the same tradition.
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- 1.The initial contributions in this area were made by Hamada (1974) and Rodriguez (1976). Recently this area has been explored by Beladi and Marjit (1992) and Miyagiwa (1993). In contrast to this type of analysis Young (1987) and Young and Miyagiwa (1987) analysed FTZ’s as a product of the elimination of tariffs on imported intermediate goods — again FTZ emerging as a substitute (imperfect) for trade liberalisation. Miyagiwa (1993) also examined the issue of optimal location of an FTZ in a HarrisTodaro framework.Google Scholar
- 2.The incorporation of an intermediate good tariff into the real exchange rate was first introduced by Hazari and Sgro (1996).Google Scholar
- 3.We shall assume that τ is fixed by the existing distribution of income between mral and urban regions. There may be other ways of choosing τGoogle Scholar
- 4.The intermediate good tariff revenue has been ignored, because it makes the analysis too complex.Google Scholar
- 5.See for example, Batra (1973) and Yu (1982).Google Scholar
- 6.The sign of the change in the rural income is ambiguous.Google Scholar