i.e., Armington elasticities. Finally, the size of Harberger’s triangles also depends on the ability of agents to reallocate production towards more efficient sectors following trade reform, i.e., factor mobility. In our model, capital is freely mobile across sectors, but labor mobility across farm and non-farm segments is limited by a migration function. While we believe that this migration function is a more accurate representation of labor market rigidities in Honduras, as compared to an assumption of freely mobile labor, the consequence of this setup is smaller welfare gains (or, in this case, a loss) due to limited factor mobility.

On the other hand, lower tariffs in the United States are unambiguously welfare-enhancing for Honduras. Higher export prices raise producer incomes, which allows the households to increase their consumption levels since the direct tax rates remain virtually unchanged relative to _BaU_ . Therefore, this decomposition helps explain the modest overall welfare gains under the _CBL_ scenario. Due to a relatively low initial level of protection in the US, the removal of tariff barriers does not translate into a large increase in export volumes in Honduras. At the same time, the lowering of tariffs in Honduras requires an increase in taxes that dampens growth in disposable incomes, which prevents consumers from taking full advantage of lower import prices. The welfare gains reported above are significantly below the estimates provided in the earlier CGE literature on DR-CAFTA. There are several reasons for this outcome: the gains are specific to Honduras (rather than Central America in general), the tariff data are much more recent (the base year is 2004 rather than 2001 or 1997), the impact of liberalization of service sectors is not taken into account, the reform is revenue-neutral, and tariffs are removed gradually rather than all at once. The last point is not trivial, but a sensitivity test in which all protection with respect to the United States is removed immediately yields welfare gains of 331 million in 2016, which is still considerably below the estimates in the earlier literature. This suggests that the other factors mentioned above contribute significantly to the difference with other studies, although their relative importance is difficult to ascertain.

The _CBL_<sup>_hi_column of Table 6 shows the results of implementing the same pattern of liberalization</sup> as the _CBL_ simulation, but under the assumption of a higher income elasticity for imports than for domestic goods. As a result, both imports and exports grow faster than in the previous simulations, and the trade-to-GDP ratio in the final year is almost 7 percentage points higher than in the _CBL_ scenario. The welfare gains in the _CBL_<sup>_hi_simulationaremorethantwo-and-a-halftimeshigherthan</sup> in _CBL_ , reaching 0.2 percent of GDP in the final year. In this case, increased orientation toward imports drives down the Armington prices enough to slow the growth in the aggregate price level relative to the _CBL_ scenario (as measured by the household CPI). Consumer gains from access to cheaper goods outweigh producer losses from increased import competition and, despite further losses in tariff revenue, lead to (slightly) faster growth in disposable incomes and larger improvement in welfare. In terms of the remaining macro variables, the differences between this scenario and _CBL_ are not very large, confirming that the choice of elasticity values is not likely to have a large impact on the results when the relative price changes are mild.

The results of the _CML_ simulation offer a significant contrast to the previously discussed scenarios. Welfare gains in this scenario are much larger at 0.7 percent of GDP in the final year, and account for 37 percent of the improvement in welfare that could be expected from full multilateral trade liberalization.<sup>30</sup> Imports from the CACM partners and the Dominican Republic rise by more than the imports from the US: in 2016, import volumes are 10,626 and 9,802 million lempiras above _BaU_ , respectively. At the same time, the increase in export volumes to CACM and Dominican Re-

> 30Assuming high Armington income elasticities for the full (multilateral) DR-CAFTA implementation raises the welfare gains further to 2,202 million lempiras or almost 1 percent of GDP in the final year.

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