Political Commitment Theory of Trade Agreements

The political commitment theory of trade agreements argues that trade agreements arise due to the desire of the government to signal to private investors that they wish to pursue pro-growth policies. If announced unilaterally, this signal is not binding and so may not induce investors to invest, as they may not be confident that the government will stick to its announcement. However, when signalled via the signing of an international treaty, this may increase confidence that the government will stick to its promise, because the punishment from breaking its international commitments is much higher than if it broke a unilaterally declared promise. This theory therefore complements are understanding of why governments sign-up to trade agreements, and more importantly, explains why small countries enact tariff reductions when they don’t benefit from reductions in the terms of trade externality, due to their economic size.