A marked trend in world affairs since the 1980s has been a series of bilateral and regional free-trade agreements, or FTAs, in Australasia, the Americas and Asia, not to mention Europe. Japan, having largely stayed out of these, is now at least contemplating the idea with some selected trade partners. Why this trend, and what might be the possible gains, costs and risks? According to the classic liberal theory of economic exchange, two trading partners benefit when each specializes in goods it can produce cheaply, while acquiring through trade those goods produced at a higher cost, relative to the other.
Of course, the real world is not quite as simple as this. The flow of goods and services is subject to politics. Globalization has diminished the salience of national frontiers and produced growing interdependence among consumers, producers, suppliers and governments. It has forced many governments to rethink domestic industrial policies, and many industries (automobile, commercial aircraft, television, semiconductors) to restructure and become truly global. Low-wage countries are used to make components requiring unskilled labor, while high-skill jobs are concentrated in highly industrialized countries.
In such a world, trade barriers generate inefficiencies, while free trade permits the realization of economies of scale and other benefits of specialization by the exploitation of comparative advantages. Against this backdrop, the motives behind FTAs include domestic, foreign, political and economic calculations:
* To develop and expand mutually beneficial trade and economic ties under fair, competitive conditions;
* To eliminate trade barriers under timetables, with minimal disruption;
* To protect existing trading levels by having an FTA serve as an institutional hedge against mood swings to more protectionism in important markets;
* To enhance economies of scale for one’s own domestic industry;
* To compel sheltered domestic companies and sectors to become more efficient through the discipline of foreign competition within the FTA, thus preparing them for competition in the global marketplace and enhancing their long-term growth prospects;
* To generate additional employment opportunities; and
* To strengthen, or prevent damage to, the broader political relationship between partner countries.
Economically, an FTA brings some loss of policy autonomy. Some options are ruled out for domestic decision-makers: Consultations with and approval from FTA partners may be mandatory if one wishes to legislate restrictions on foreign investment, nationalize an existing industry or establish a new public monopoly.
Conversely, political independence can come at an economic cost. Would not Canada and New Zealand benefit economically by abandoning their separate national identities and merging into political unions with Australia and the United States, respectively? Of course, such a question is primarily one of national identity, not simply economic logic.
Economic nationalists, the harshest critics of FTAs, contend that while their social and political costs are high, the offsetting economic opportunities are few, minor and conditional. Proponents respond that they reduce national vulnerability by strengthening the economy.
Proponents argue that FTAs lead to growth in economic output and jobs; opponents respond that they cost jobs. The economic benefits tend to be medium-to-long term and nonspecific: a leaner, more efficient and more competitive economy after a period of adjustment involving rationalization and specialization. The costs are more immediate and tangible: job losses resulting from rationalization and foreign takeovers of domestic industries.
For example, many Canadians feared that duty-free trade would simply encourage U.S. companies to close their Canadian branch plants and service the Canadian markets from bigger plants located south of the border. The structural upheaval and loss of jobs would cancel out the gains from lower prices to the consumer. Ironically, many Americans feared that the North American Free Trade Agreement would drain a lot of U.S. manufacturing jobs into low-wage Mexico.
FTAs may be easier to attack than defend in the smaller and weaker countries. Free trade pits the weak and vulnerable in unequal combat with the strong and ruthless. Export-led growth exacerbates existing structural weaknesses, producing rises in productivity and incomes in the internationally competitive sectors of the economy. The national economy becomes even more skewed between a few capital-intensive industries that become more export-oriented and a larger number that become more import-dependent. Disparities are heightened within the nation too: between the modern international and domestic sectors, the economically prosperous and laggard regions, and the yuppies and the marginalized, low-wage workers. Should not increased competitiveness result from abilities to innovate and restructure rather than from the continual lowering of tariff barriers?
Economic efficiency is not a sufficient foundation for public policy. Free trade is a logical consequence of belief in free enterprise, in the elevation of market forces over state regulation. In such a view, labor should follow jobs as a matter of course. But others argue that jobs should be relocated to where labor is to promote regional development.
In an integrated market, nationalists fear that their economic fate will be determined by foreign tycoons. They suspect a hidden agenda to alter fundamentally the existing social contract between the state, business and labor. Unrestricted investment rights can effectively create a common market in social and economic policy that is driven by the investment criteria of foreign capital rather than by domestic political or social policy.
The removal of trade barriers against imports from just one country diverts trade toward that one country. This is an economic loss for all countries whose products face disproportionately higher tariff walls. But it is an economic loss for the importing country as well, for it is prevented from replacing inefficient domestic production with the most efficient imports available worldwide.
To coin a phrase, there is no such thing as free trade. International trade is not a self-regulating activity. All governments accept the need to manage trade, to cushion their markets against global economic shocks. The practical policy question for governments is not whether they should manage trade, but how and to what extent.
If the world keeps dividing into regional FTAs, and the World Trade Organization talks keep collapsing under differences between developing and industrial countries differences, many isolated countries will lose out significantly on scale economies, enhanced efficiencies and productivity gains from growing competition.
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