Microsoft Word - ECP129.doc 0(5&2685�DQG�7UDGH�’LYHUVLRQ��:KDW�’R�7KH ,PSRUW�)LJXUHV�7HOO�8V" (FRQRPLF�3DSHUV�1 ������-XO\����� Nigel Nagarajan* $EVWUDFW Has MERCOSUR’s trade performance to date provided strong evidence that it has encouraged inefficient trade flows between its members? This paper evaluates the methodology suggested by Yeats (1997, 1998) to study trade flows within MERCOSUR. Yeats was motivated by the traditional concern of economists that regional trading arrangements can be welfare-reducing by fostering trade diversion (the replacement of efficiently produced goods from outside the arrangement by inefficiently produced goods from inside). His methodology was based on comparing shifts in intra-regional exports with a measure of relative efficiency in production. This paper argues that Yeats should have instead focused on imports. There has been a strong growth in intra-regional imports, but imports from third countries have also grown impressively. This reflects the increased multilateral openness of the MERCOSUR economies. If Yeats’ methodology is adapted to examine trends in imports, the evidence for significant trade diversion is less clear-cut than he suggested. It is difficult to have a clear idea about whether MERCOSUR producers are efficient suppliers of different goods. However, even for the cases where one may have some doubts, the growth in intra-MERCOSUR imports has been accompanied by growing trade with the rest of the world. In addition, the formation of MERCOSUR does not appear to have seriously compromised these countries’ imports of high technology products from the industrialized countries. * European Commission – Directorate-General for Economic and Financial Affairs. The author is grateful to André Sapir for many helpful conversations on this topic, and to Marco Buti, Ulrike Hauer and Jan Host Schmidt for comments on a previous version of this paper. The research assistance of Karin Granevi and Claudio Lettieri is also gratefully acknowledged.