Free Trade Agreement Economic Meaning


Trade agreements are usually unilateral, bilateral or multilateral. Free trade policy may favour the following characteristics:[citation needed] Second, the multilateral removal of barriers to trade can reduce political opposition to free trade in each of the countries concerned. This is because groups that otherwise oppose trade reforms or would be indifferent could join the campaign for free trade if they saw opportunities to export to other countries in the trade deal. Therefore, free trade agreements between countries or regions are a useful strategy for the liberalization of world trade. Suppose Japan sells bikes for fifty dollars, Mexico sells them sixty dollars, and both should expect a US duty of twenty dollars. If tariffs on Mexican goods are removed, U.S. consumers will move their purchases from Japanese bicycles to Mexican bicycles. As a result, Americans will buy from a more expensive source, and the U.S. government will not receive customs revenue. Consumers save ten dollars per bike, but the government loses twenty dollars. Economists have shown that if a country joins such a “trade-orienting” customs union, the cost of that reorientation can outweigh the benefits of increased trade with other members of the customs union. The end result is that the customs union could make the country worse. Generally speaking, trade diversion means that a free trade agreement would divert trade from more efficient suppliers outside the area to less efficient suppliers within territories.

In contrast, the creation of trade implies that a free trade agreement creates trade that might not otherwise have existed. . . .