4.1.5 Trading Blocs & The World Trade Organisation (WTO) Flashcards
Trade bloc
A group of countries that agrees to reduce/eliminate trade barriers among each other
Trade barriers
- tariffs
- quotas
- non-tariff barriers
Types of trade blocs
- preferential trade area
- free trade area
- customs unions
- common market
- economic union
- monetary union
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Preferential trade area
Members lower, but don’t eliminate, barriers
Free trade area
The elimination of trade barriers among themselves, but maintain their own restrictions/policies with other countries
- e.g NAFTA- a free trade area between Canada, US & Mexico
Customs union
Member eliminate internal barriers & agree on common external barriers (a common set of protectionist measures)
- e.g EU/Turkey or Russia/Kazakhstan/Belarus (2010)
- EU
Common market
They eliminate internal barriers & agree on common external barriers (a common set of protectionist measures) and allow the free movement of factors of production
Give an example of a common market
Mercosur (Argentina, Brazil, Paraguay, Uruguay & Venezuela)
Monetary union
They eliminate internal barriers & agree on common external barriers (a common set of protectionist measures) & allow the free movement of factors of production & adopt a common currency & central bank which controls the monetary policy of member countries
Bilateral trade agreement
Where two countries agree to have equal amounts of trade
- e.g ASEAN (China free trade area)
Free trade case study
- Britain’s first new deal since Brexit (after UK left the EU, lots of agreements are lost)
Benefits of negotiations
- Digital data
- Financial services
- British goods & foods
- Business mobility
What is a benefit of negotiations? (digital data)
- making it easier for UK tech companies to export & grow
- greater protection of data privacy
Benefits of negotiations (financial services)
Ensuring UK firms can secure licenses to operate in Japan
Benefits of negotiations (British goods & foods)
Tariff-free goods
Benefits of negotiations (business mobility)
Quicker visas & easier travel between the UK & Japan e.g a worker transferring from their UK will be allowed to bring their spouse/dependents for up to 5 years
Costs of trade blocs
- increases import tariffs
- transitioning costs
- increased interdependence
- loss of sovereignty
- increased influence of multinationals
- migration
Costs of trade blocs (increased import tariffs)
- joining custom union may lead to increased import tariffs = trade diversion
- countries reallocate trade to partners in their agreement
Costs of trade blocs (increased import tariffs) example
- e.g when the UK joined the EU customs union, it required higher import tariffs on imports from former Commonwealth countries.
- This led to a switch in demand towards higher cost European countries & caused loss of bsiness for Commonwealth countries
Costs of trade blocs (transitioning costs)
- can be expensive transitioning to a monetary union & firms may find it hard to adjust/change their menu prices
Costs of trade blocs (transitioning costs) evaluation
However, since there are no barrier to trade or no border control, it’s cheaper & simpler to trade
Costs of trade blocs (increased interdependence)
- increased interdependence on economic performance in other countries in trade bloc
- e.g If the Eurozone goes into recession, it will affect all countries in the Eurozone. However, this is almost inevitable even if countries are not formally in trading blocs due to close relationship between trade cycles in different countries
Costs of trade blocs (increased influence of multinationals)
- especially in bilateral deals between the US and South-East Asian trading blo
- free trade may come at the price of allowing free movement of capital. This can have benefits in terms of inward investment. But can also have costs for higher cost domestic producers.
- Free uncompetitive industries to newer industries
Costs of trade blocs (migration)
- by being a member of a Customs Union, the supply of labour is increased which could help fill labour shortages. However, this might mean some countries lose their best workers
Gravity theory of trade
Trade with countries in close proximity is the most important due to lower transport & similar cultural & economic ties
Benefits of trade blocs
- increased competition
- reducing transaction costs
- increased specialisation
- gives smaller countries
- trade creation
- less uncertainty surrounding trading costs & exchange rates
Benefits of trade blocs (increased competition)
- the removal of tariffs creates greater choice for consumers so domestic firms have a greater incentive to cut cost to remain competitive
- since firms operate in a more competitive market, they become more efficient & there’s a better allocation of resources. There could be long run benefits of dynamic efficiency
Evaluation: not always spread evenly
Benefits of trade blocs (reducing transaction costs)
Since there are no barrier to trade or no border control, its cheaper & simpler to trade
Benefits of trade blocs (increased specialisation)
- economies of scale: lower average costs from increased output
- more trade means firms can take advantage of a larger potential market in which to trade
- evaluation: structural unemployment
Benefits of trade blocs (increased specialisation) example
The EU has 500 million people to sell to. By specialising firms & countries can exploit their comparative advantage
Benefits of trade blocs (gives smaller countries a greater say)
- countries joining a rich trading bloc can benefit from inward investment & increased trade opportunities. Countries in Eastern Europe have made considerable progress in catching up with average income levels in Western Europe
Benefits of trade blocs (trade creation)
- improves efficiency & generates higher income
(Gravity)
Benefits of trade blocs (less uncertainty surrounding trading costs)
- a monetary union simplifies trading costs & provides pricing transparency
- there’s less uncertainty surrounding exchange rates as all members all use the same currency
Trade creation
Moving from a high cost producer to a lower cost producer cause an increase in economic welfare from joining a free trade area e.g customs union
Trade creation diagram
- there’s a reduction in tariff barriers to a lower price (lower cost producers) leading to an increase in consumer surplus & economic welfare
- At Wp, consumer surplus increases by 1+2+3+4 & only the producer surplus & tariff revenue of 1+3 is lost. The welfare gain is 2+4 as deadweight loss of tariff is removed. Inefficient domestic production of Q1 to Q2 is removed, domestic demand/productive and allocative efficiency increase
Trade creation (for the country removing trade barriers)
For this country, consumers have decreased prices & consume more. This can be allocatvely efficient if competition policy can effectively control the abuse of monopoly
Trade creation (for the country producing at world price)
The country who is producing at the world price have more output, more employment, specialisation, larger market, economies of scale. This can be productively efficient, if markets are contestable
Trade creation (for the workers in this country)
- Workers in this country who have good labour market mobility can move to this country’s own new growing, more valuable industries with improved wages
- Low natural rate of unemployment
Trade creation (for producers)
Producers who have flexible capital can move to high valued products in new fast growing global markets. Better productive efficiency, good supply side, competition from imports, improving trend rate of econ growth
labour & factor mobility
reduced structural problems & allowed dynamic gains in high value added industries
Define trade diversion
occurs when tariff agreements cause imports to shift from low-cost countries to higher-cost countries (trade shifts to a less efficient producer
Why is trade diversion considered undesirable?
Since it concentrates production in countries with a higher opportunity cost & lower comparative advantage
When does trade diversion happen?
When a country joins a free trade area with a common external tariff
Trade diversion diagram
- there’s a net loss from trade diversion in the EU if b+d (the net gain in consumer surplus) is greater than e (the loss of tariff revenue)
- imports are restricted to Q2 + Q3 (Wp + tariff), producer surplus increases by the green area & tariff revenue = yellow
- domestic demand is limited to Q3 & domestic consumers have to pay a higher price of P = loss of allocative efficiency
Trade diversion impact on consumers and producers
- tariff revenue = increased govt revenue but bad for consumers (encourages domestic consumption)
- introducing tariff means domestic producers are protected from low world price & govt can collect tariff revenue to support the domestic economy (good for producers and govt)
What is the WTO?
rules based organisation that promotes free trade between member countries through a series of trade negotiations (also resolving trade dispute between them)
- 164 members (98% of countries) - N Korea
- established in 1995
What is the “most favoured nation” principle?
- countries should treat all their trade partners equally (no one country should be “more favoured.”)
- If concessions are made between member states then the same concession must be made to all WTO members (trade promotion)
What is GATT?
- General Agreement on Tariffs and Trade
- a legal agreement between many countries to promote international trade by reducing trade barriers
- the WTO agreement can be abandoned if the face of National Security of Health & Safety (copout)
What is the ‘Like Treatment’ clause?
members can’t discriminate against imports
* all have to treat imported goods as domestically produced goods (retail)
* Case: Korean beef
What is a benefit of tariffs to the government?
Govt collect a high tariff revenue (can be spent on other things such as healthcare)
How might elasticity effect the impact of a tariff?
If demand curve is inelastic, deadweight loss decreases
What is the effect of tariffs on consumers?
They face a higher price (on imported goods). Domestic goods might seem cheaper
What is the European Union?
The European Union (EU) is a customs union that includes 27 countries in Europe.
- The EU has a common set of tariffs on imports from non-member countries and has eliminated tariffs on most goods and services among member countries.
What is the goal of a custom union?
to promote trade among member countries and to reduce the cost of importing goods from non-member countries by eliminating the need for multiple tariffs.
Give the benefit of joining a customs union
- trade creation: a step closer to economic integration and a single market
- increase competition since wider market
Evaluation of trade creation due to customs union
Trade diversion
Evaluation of increased competition due to customs union
- depends on how competitive the domestic economic is
- the more competitive it is = gain more benefits
- • Members of a customs union are also required to negotiate with non-member countries and organisations such as the WTO meaning that individual member countries are not free to negotiate their own deals.
What are the disadvantages of custom unions?
• Members of a customs union are also required to negotiate with non-member countries and organisations such as the WTO meaning that individual member countries are not free to negotiate their own deals.
• If a country wants to protect an infant industry in its market, it is unable to do so by imposing tariffs or other protective barriers due to the liberal trading policies.
• Similarly, if a country wants to liberalise its trade outside the union, it is unable to do this due to the common external tariff.
• Some argue that it has meant the UK has experienced higher food prices and reduced the welfare of low-income consumers who face higher prices.
