Will Institutional Reform Enhance Bilateral Trade Flows? Analyses from Different Reform Aspects in Emerging Markets

Abstract

Emerging market policy makers have intended to promote international trade, as trade is an important component of the long-run economic growth, through different ways such as liberalizing trade, joining the World Trade Organization (WTOs), and forming regional trade arrangements (RTAs). In our study, we argue that trade can be effectively encouraged by a significant improvement in domestic institutions. However, the positive effect of institutional reforms on trade depends on the various types of institutions and whether reforms are transitional or permanent. We examine three types of institutional reformsdemocratic political system, legal, and administrative reforms. We find that all three types are important in enhancing bilateral trade flows and the benefit of institutional reforms on trade is observed only if the reforms are permanent. During the year the reforms are implemented or a transition period of reforms, trade flows may decline due to the uncertainty of the success of reforms. We also examine whether the effect of permanent institutional reforms complements the effect of RTAs in promoting trade.