Trade creation and trade diversion resulting from bilateral trade agreements: An empirical analysis of European Association Agreements

This research paper aims to examine the potential harm of bilateral trade agreements imposed on external nations which do not take part in the agreement. In order to shed light onto this matter, an empirical assessment of the trade relations after the implementation of three European Association Agreements will be made. More specifically, the analysis will study this by looking at the origin of imports for Israel, Macedonia and Chile, countries which all signed a trade agreement with the EU, during the period 1995-2013. The analysis will be conducted by using an application of Tinbergen’s Gravity Model. It will be preceded by an extensive overview of the theoretical as well as empirical literature on the subject of trade diversion. Despite the fact that no significant decrease in the imports of the three countries mentioned above from nations outside the European Union was found in this research, this constitutes insufficient evidence to unequivocally rule out trade diversion. In the final discussion, it will be explained as to why it remains a challenging task to provide a conclusive verdict in this matter, which is mainly due to all the potentially distorting time-varying variables. 1