An Econometric Analysis of Trade Creation and Trade Diversion in Mercosur: the Case of Paraguay
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This paper analyzes the effects of Mercosur on Paraguayan import flows using detailed trade values
to identify patterns of trade creation and trade diversion at aggregate and disaggregate commodity
levels. It is well know that the share of foreign trade with respect to GDP is larger for small
countries. Consequently, the effects of a trade agreement between large and small countries are
likely to be larger in small economies. I use a variant of the gravity model employing a reparameterization
of the difference-in-difference estimator to analyze import flows over time from
member and non-member countries. Additionally, I explicitly include zero trade flows and
implement a Heckman sample selection correction along with country fixed effects. I find the
creation of Mercosur has increased average regional imports by 266% since 1995, which is evidence
of trade creation. The greatest import expansions have been in Beverages and Tobacco and Animal and
vegetable oils & fats. Finally, I do not find statistically significant evidence of trade diversion in any of
the ten commodity categories.