International trade and fragmentation of production lead to increased trade in intermediate goods. Increased multi-stage production promotes the formation of free-trade agreements (FTA). In this paper, the relationship between intermediates trade and FTAs is examined with a two-step Pseudo Poisson Maximum Likelihood model. The analysis of a comprehensive dataset of pairwise trade-flow data of 70 countries from the years 1995-2011 shows a significant connection between trade in intermediates and the participation in free-trade agreements. A two-way relationship is identified: intermediates trade increases the probability to form a FTA and FTAs lead to an increase in intermediates trade.
free-trade agreements international trade intermediates trade multi-stage production fragmentation of production vertical linkages third-country effects gravity equations distance coefficients border effects