ESSAY: evaluate using a diagram whether joining a customs union will benefit an economy

Question 1

Definition of a customs union

Answer 1

A customs union is a trade bloc comprising of countries with a unified set of tariffs on its external borders

Question 2

Benefits of joining a customs union

Answer 2

Trade creation- the economic welfare associated with a country joining a trade bloc/ free trade area
-this results in the removal of tariffs with other member countries, allowing lower priced products to be traded with one another
-this will increase consumer welfare as they benefit from lower priced imports
-economic welfare is gained as well
Diagram= trade creation with tariff price above non tariff price
-easier trade may also be Able to help balance of payments problems or pursue a range of other objectives

Question 3

Drawbacks of joining a customs union

Answer 3

Trade diversion- the movement of production from a low cost country to a higher cost country
-considered undesirable because it concentrates production in countries with higher opportunity cost and lower comparative advantage
-depending on the deal the country had with other countries not in a trade bloc before joining the customs union, its possible they will see higher prices due to the higher cost country producing the goods and the lower cost country becoming relatively more expensive due to the external tariff
-benefit is the increase in domestic producer surplus, but at the extent of consumer surplus
Diagram= trade diversion diagram with 3 supply lines

Question 4

What it depends on?

Answer 4

• How much more expensive the goods are in the high cost customs union compared to the low cost country
• how much the country can exploit their new tariff free trading partners
• the size of the decrease in price with other members of the customs union being joined relative to before