The Effectiveness of the Free Trade Policies - Case Study Example

Module: International Political Economy INM401 Does the free trade advance or retard development in poor countries? Submitted by: 28 March 2012 Lecturer: In the world today every economy is autonomous and it functions in accordance to the requirements of the modern world. Free trade has become an important practice between two nations these days, as it does not employ any restrictions for trading between the two respective nations. This free trade can help the countries to develop as a nation as the goods can be exchanged freely. Trade is an important part of the world today and free trade has become a necessity for the developing nations. The reason for such a necessity arises because of the elevated levels of globalization in this world. The following paper evaluates the effectiveness of the free trade policies as far as the betterment of the poor nations is concerned. It analyses the arguments in favor and against of free trade with references of the development of the developing nations or the poor trading partner in the equation. Free trade has become one of the debated topics around the economic world. The terminologies of globalization, free trade, liberalization, socialization are also discussed in this paradigm. Before the actual argument can be established, it is imperative to understand the different terms and concepts that can have an impact on the argument itself. GLOBALIZATION As the name suggests, globalisation refers to strengthening relationship between organisations, governments and individuals across geographical horizons. The term is generally used to regard economic globalisation. Economic globalisation can be explained as: increasing economic activities across the globe, through distribution of products or services by reducing international trade barriers. International trade barriers are placed by countries for various reasons. Some strong reasons could be to stipulate the use of local products, not compromising taxes, fear of rise in un-employments, pressure in maintaining budgets and dilution of long held customs and culture. Trade barriers can be tariff, import quotas, exchange rates, conflicting cultures and export fees etc. A dramatic increase in the process has been witnessed in the last decade. Technology has reduced the communication gaps between geographies. Travelling across national borders has been made easier and as a result doing business internationally has lesser complications in the modern age. The introduction and implementation of International Accounting Standards (IAS’s) and International Financial Reporting Standards (IFRS’s) has made comparisons between organisations appropriate. Comparable and understandable flow of financial information has developed greater trust amongst investors. Formation of European Union, African Union and the Arab League has further cracked open the case for globalisation. Similar laws and regulation prevailing through the Middle East, the common currency usage across Europe and the fusion of cultures has further escalated the pace of Globalisation. The common currency being used in Europe these days is known as Euro. Globalization is the process of escalating interdependence and development of systems of steady business deal among and through the boundaries of economies and countries all over the sphere. Thus globalization becomes the amalgamation of socio, economic, financial and political hubs. Globalization has turned this world into a global village and the world economy into a single marketplace. The fact that the world now is a single market has harper the concept of free trade. Globalization would be keenly discussed in this paper along with free trade which has proved to have both positive and negative impacts on the economy of the developing countries (Kaviraj. 2004). FREE TRADE Free trade is a trade between two economies or countries without any presence of restrictions and limitations (Bhattacharjea, 2004). It ends up in glorifying the importance of the market scheme of resource allocation and turns the world into a global market where the producers and buyers do not focus on their national markets, the producers can sell their products at the best quoted price throughout the globe and the buyers, likewise, can get the commodity they need at the best available price. World cannot survive without trade. It is impossible that a country is naturally endowed with all the resources of this world. The resources are randomly allocated in different parts of the world by the nature itself. Thus, it is essential that the countries trade in order to consume the resources with which they are not naturally bestowed. For example, Saudi Arabia is rich in oil, but it is not developed in technical and mechanical knowledge. Thus, it trades its oil in return with the machinery and mechanized products of the west. The free trade theory is driven by absolute and comparative advantages (O’Brien et al, 2007). Absolute advantage is when one country is endowed with one good and the other country is naturally blessed with any other good. The two countries then trade to gain access to each other’s products. The other theory, which is given by David Ricardo in the 19th century, is of comparative advantage, which states that two countries can trade even if one of those countries is naturally blessed in both the goods. This trade should be based on the principle of the least opportunity cost. The countries should specialize in those goods in which they has lowest opportunity cost than other countries. THE BENEFITS OF FREE TRADE Free trade has been termed as the perfect gate through which the poor countries can step forward from their state of deprivation into a state of development. Some of the advantages of free trade include growth in export and import as an outcome of the decline in or elimination of import charges, rise in rivalry from overseas to the local marketplace which will intensify competence and censor price thus avoiding national monopolies from keeping high prices. Moreover, it brings about ventures because of the import of goods and services from the foreign economies and this gets income into the economy. In subordinate nations, the only source of merit and public goods like education and health care is the government, which is the key administrative component in a state. The government can transform this upgrading in income into ventures in these public and merit goods whereby increasing the condition and availability to education, healthcare and other development projects, increasing communal standards (Bhagwati, 2004). The trade however should be governed with the rules and regulations to ensure proper following of the procedure and the protection of the rights of the trading countries. This protection is more commonly aimed for the poor countries to ensure their wellbeing. The organization, which is responsible for passing and implementing the rules of the trade is World Trade Organization (WTO). The World Trade Organization (WTO) is the worldwide global union, which deals with the regulations of the trade between nations. At its core are the contracts, exchanged and engaged by the majority of the globe’s trading states and approved in their assemblies. THE DILEMMA The advantages of free trade look so promising in theory that any thought of its shortcomings seems trivial. But if the practical situation of the world is analyzed, a completely new and astonishing story unfolds. The situation is that most of the poor countries are agro-based countries which mean that their competitive advantage lies in the agricultural products, whereas the developed countries have a clear advantage in mechanical and technology oriented products which have higher prices. Thus when the trade has no tariffs or barriers attached with it, the poor countries tend to have the import bill more than their export revenue. Not only this, the developing countries specialize in raw materials whereas the developed countries add value to those raw materials and export them back to the developing countries. Thus, if there is a trade transaction of, for instance, $100 then $90 goes to the developed country and the poor country only gets the 10% share (Chang 2002). The second point to be considered is that the free trade concept does not stop countries to impose barriers on trade if the trade itself carried out by compromising ethical and social measures. In fact, the ethical boundaries are considered the supreme most purpose of all the international organizations including the United Nations. The problem is that the majority of the developing nations sometimes face barriers and restrictions on its products because they sometimes use unethical ways to gain the competitive advantage. For example, Pakistan’s surgical products have always been in demand in the international market for their quality, but it also faces frequent restrictions and bans on its products because of the possible involvement of child labor in the production process of its products. The dilemma in this case is that the poor countries cannot use efficient and technological driven ways in manufacturing its products and this leads to the usage of unacceptable ways of production (Chang, 2002). Furthermore, the less developed countries may face extreme difficulty in coping up with structural changes in the demand and supply conditions. If the demand for the raw material in which they specialize gets reduced because of the introduction of new technology, the developing country may significantly suffer. This is also true if there is a seasonal calamity. If the agro-based country fails to produce significant amount of produce because of any reason, it can again suffer. This is because the poor countries deal in volume for their export because of low prices and if that volume is not maintained, the country can suffer. LIBERALIZATION VS SOCIALIZATION The debate comes down to the debate between the two extremes of economic world. It is essential that both of these points of view be discussed in order to fundamentally assess the utility of the free trade concept. The concept of liberalization states that the market should be held supreme and resource allocation should be based on the function of the market. This means that the producers and consumers should be freely allowed to interact and the mechanism of the market would ensure efficient allocation of resources. Those elements of the market, which cannot run along with the same speed of the market find themselves as outcasts. This type of mechanism prospers growth and development and the consumers have the greatest sovereignty. The socialists, however, believe that the growth of the society is more important than the efficient utilization of resources. Furthermore, this concept also answers to the questions posed by the inefficient elements of the society. The socialists do not target growth but rather target social wellbeing and equity of the general people. The concept does not allow the market for the resources; it gives this responsibility to the government, which equally allocates the resources to the people. If both of these concepts are scrutinized as far as the free trade theory and the well-being of the poor countries is concerned, the resulting argument is that the liberalization theory advocates the free trade and the countries which support liberalization also have to support free trade no matter whether they are benefitting or loosing from it. However, the countries, which follow socialists’ ideology do not need to engage in free trade. But the fact is that after the fall of Russia, the socialist ideology has lost its demeanor and the dominant ideology of liberalization has prospered. Thus, the poor countries are forced to engage themselves in the free trade even if it is economically and socially advisable for them to do so. The concept of free trade is an extension of the concept of globalization and liberalization that illustrate that the world is nothing more than a global market and it cannot prosper without indulging in free trade. The market is held supreme in this case and the resource allocation is carried out on the basis of efficiency. The inefficient elements of the society are crushed by the market operation. The free trade concept focuses on the boundary free trade and the tariffs and restrictions are abolished. The clear benefit of this concept is the natural growth of the trading partners, the increase in the overall production process and the employment opportunities as a result. It can be a way for the developing nations to move up the ladder. But there are some grave demerits also to go with the benefits. Firstly, the poor countries mostly deal in raw materials, which mean that because of the free trade, the import expense increases more than the export revenue. Also, many developing countries use some unacceptable ways of production, which results in embargos and restrictions being imposed on them. Furthermore, the fact that they are mostly agro-based and raw material producing countries mean that they have to rely on volume based sales and if this volume is disturbed, it can have significant impact on the poor country’s exports. Bibliography: 1. Bhattacharjea, A. (2004) ‘Playing by the Rules? Developing Countries in the World Trade Regime’, in Bromley, S., Mackintosh, M., Brown, W., and Wuyts, M. (ed.) A world of Whose Making? Making the International: Economic Interdependence and Political Order. London: Pluto. 2. Bhagwati, J. (2004) In Defense of Globalization. Oxford: Oxford University Press. 3. Chang, H.-J. (2002) Kicking Away the Ladder: Development Strategy in Historical Perspective, London: Anthem Press 4. Kaviraj. S (2004) ‘The Politics of Liberalization in India’, in Bromley, S., Mackintosh, M., Brown, W., and Wuyts, M. (ed.) A world of Whose Making? Making the International: Economic Interdependence and Political Order. London: Pluto Press. 5. O’Brien, R. and Williams, M. (eds.) (2007) Global Political Economy: Evolution and Dynamics. 2nd edition. Basingstoke: Palgrave. Read More