Are rules of origin protective measures under preferential trade agreements?

Purpose – Rules of origin (ROOs) are often cited as major trade barriers even after tariff barriers are removed with the formation of preferential trade agreement (PTA) as shown in a survey result that a large number South Korean firms in the textile industry give up utilizing tariff-free exports to the USA after the bilateral Free Trade Agreement (FTA) due to ROOs. The purpose of this paper is to examine the impact of ROOs on the equilibrium FTA regime and the welfare effects. Design/methodology/approach – The authors determine the impact of ROOs on the equilibrium FTA regime based on an oligopolistic model where there are asymmetry in production technologies of intermediate goods and the capacity of outsourcing intermediate goods. Findings – The authors demonstrate that ROOs are used as a protective trade policy against the FTA member country with an outsourcing option for technologically dominant intermediate goods. Practical implications – The non-cooperative features of ROOs found in this paper necessitates the introduction of an international coordination mechanism to avoid the prisoners’ dilemma-type implementation of ROOs. Originality/value – This paper provides a theoretical frame to analyze the protective effects of ROOs under PTAs.