Trade Liberalization and Technology Adoption

We analyze the effect of trade liberalization on technology adoption and social welfare in a world economy consisting of two countries. Before trade liberalization, due to prohibitively high tariffs, one domestic firm in each country behaves as a monopoly. With trade liberalization, each firm can export to the other country with zero tariffs. Each firm produces the final product by combining an input supplied by an international monopoly and the other input supplied in the competitive market., Our results show that with trade liberalization, the technology with a lower Marginal cost and higher fixed cost is adopted. Since marginal cost becomes lower, the market price decreases and the output increases. With trade liberalization, the profit of the firm that supplies the monopoly input and the consumer surplus increases. With a sufficiently larger market, the profit of the firm that produces the final goods decreases, but the social welfare increases.