Endogenous Formation of Customs Unions Under Imperfect Competition : Open Regionalism is Good

Consider an environment in which ex-ante symmetric countries can form customs unions freely. What are the welfare effects on member and nonmember countries of the formation of welfare-maximizing customs unions? What are the properties of stable customs-union structures? Is a symmetric customs-union structure stable? Can one design a rule of customs-union formation which supports global free trade as an equilibrium outcome? This paper shows that the formation or expansion of welfare-maximizing customs unions improve the aggregate welfare of the member countries but reduce the welfare of nonmember countries. Regional customs unions are stepping stones toward global free trade under the "Open Regionalism" rule but can be stumbling blocks against global free trade under the "Unanimous Regionalism" rule