Impact of FTAs on International Trade - Assignment Example

Impact of FTAs on International Trade Lecturer’s Question- what are the impacts of FTAs on International trade Introduction In the past decades, there has been a proliferation of regional agreements of trade that include FTAs free trade agreements and customs unions. FTAs proliferation has been considered to affect the economic conditions in many countries among the members and the non-members. Trade diversion and trade creation are the associated benefits of FTAs. Trade creation effects are essential in the improvement of resource allocation as well as enhanced economic welfare in the member countries. Members and consumers of FTAs agreements benefits as the agreements enables them to buy imports at lower prices. However, the country is bound to lose if the government tariff revenue losses overwhelm the consumer gains. Impact of FTAs on International Trade Free trade agreement is considered to be an effective way for introducing the foreign markets to the exporters of any country. Trade agreements are a source of reducing the barriers concerning exports, while protecting the interest of the countries and also enhancing the law in the countries that are FTA partners. The reduced barrier in trade as well as the creation of a stable and a transparent investment and stable trading has made it easier and cheaper for countries to do their businesses. Companies in the countries have the ability of exporting their services and products through their trading partner markets (Mölders & Volz, 2011). Free trade agreements have created competition levels in the existing international market that has engenders continual levels of innovation and has led to better products, introduction of new markets, better paying jobs as well as increased savings and investments. Free trade is essential, as it has enabled more products and services to reach the consumers at affordable low prices, thereby increasing the standard of living among the people. However, the benefits of free trade have shown to extend beyond the household levels. Free trade agreements (FTAs) are important in spreading the value of freedom reinforcing the rule of law and fostering economic development among the poor countries (Baier & Bergstrand, 2007). The positive effects of free trade agreements and open markets are clearly evident in the growth of the U.S economy in the last decades. From 1990, the economy of the United States has grown by more than 23 percent bringing an addition of $2.1 trillion to the country’s gross domestic product (Hur, Alba, & Park, 2010). As a result, FTAs have led to increased rise of wealth of the average American citizen by $5,500. Benefits of Free Trade Agreements (FTAs) Free trade promotes innovation and competition in the international market. As a result of free trade, it helps in reduction of the amount of time that is spent in products of goods and services. It would cost too much time and money to produce products that can be relatively acquired in the open market with relative ease. The scale of cost and practicality is applicable in the international market. It is easier to purchase a product from another producer who has specialized in the production of a commodity for a lesser cost rather than spending time in manufacturing the commodity (Taneja, 2004). Access to more varieties of services and goods is the purpose of any trade relation. Free trade is the only type of true fair trade. This is because the type of trade offers the consumers with the most choices as well as the best opportunities of improving the standard of living. It enhances the completion among the countries thus spurring the companies to innovate and develop better goods and services bringing more products in the market, keeping the prices products low while the quality is high thus increasing the market share. Free trade spurs innovation and development as completion in the market enhances innovation. A country’s greatest weapon and advantage lie on the ability to innovate and to building the continually expanding bases of knowledge. A country competitive advantage is largely derived from the countries open market practices (Ornelas, 2005). Free trade is important in promoting innovation because, despite the production on new goods and services, the flow of trade is important in circulating and production of new ideas. Since enterprises and companies must compete with their overseas counterparts, they take note of all the successes and failures taking place in the global marketplace. The consumers are the major beneficiaries because the companies in the freely competing market needs to keep up with the leader in order for them to retain their consumers and innovate to create a better advantage (Dai, Yotov, & Zylkin, 2014). Free trade generates economic growth in the international market. By fostering opportunities, free trade is important in rewarding risk taking. This is achieved through increasing sales, market share as well as the profits margins. Enterprises and companies have the ability on building on the profits by expanding on the operations, creating better jobs as well as entering in new market sectors. This can be achieved through enhancing free trade agreements (FTAs). However, countries and opponents of free trade agreements fear that that is removing the barriers to foreign completion results to loss of jobs among the citizens especially in the manufacturing sector. The nature of employment has evolved away from manufacturing type of employment to high technology and service oriented jobs. Thus, free trade agreements have is not associated with loss of jobs. In the United States, with the introduction of the free trade agreements, the unemployment rate has dropped from previous 6 percent to 3.9 percent with more than 14 million jobs being reported (Taneja, 2004). Free trade offers special benefits for the developing nations as it helps in poverty reduction. Poor countries have the ability of trading for capital rather than having to rely on funds and ineffective assistance programs that are subjects to fraud and waste. Thus, foreign investment is essential for allowing the domestic industries to develop and provide better opportunities for employment of the local workers (Baier & Bergstrand, 2007). Free trade agreements foster economic freedom. The ability of trading freely is important in increasing opportunities, choices, as well as the standards of living. Today countries have adopted a capitalist model of economic development by remaining open to international trade. Free trade policies are essential in fostering economic development as well as raising the level of economic level of freedom in the country. Individuals have the ability of making choices and exercising direct control over their own lives as economic growth occurs. With a sound ground that is based on assured property rights, free flow of capital, economic freedom and fair systems of law taxation, countries creates environments that are friendly to trade as well invites foreign investors (Baier & Bergstrand, 2004). Economic theory for my topic An application of the gravity model The gravity model has been used extensively in the analysis of bilateral internal trade flows. The early pioneers in applying the model are Tinbergen and Poyhonen when studying trade flows and since then, numerous analyses utilizing the model have been conducted (Martinez-Zarzoso, 2003). The gravity model has attracted a lot of attention in the analysis of international trade due to renewed interest in the economic geography. It has been utilized in the analysis of bilateral internal trade flows such as WHO and trading agreements such as FTAs as well as currency unions. It is used in explaining the cross-sectional variation in trade flow of countries in terms of the countries bilateral distance, incomes and dummy variables for common land borders for the absence or presence of an FTA. The equation has surfaced a dominant empirical framework used for analyzing trade flows because of the associated strong explanatory power that ranges between 60 to 80 percent. However, when determining the potential correlation between the gravity equation error term, it is essential to consider the likelihood determinants between a pair of countries (Spies & Marques, 2009). In light with rapid expansion of FTAs, an increasing number of research studies have been conducted examining the impacts of FTAs by applying the gravity model. Kepaptsoglou, Karlaftis and Tsamboulas, (2010) examined the effects of FTAs i.e. the NAFTA, EU and the AFTA and found on significant positive effects of the free trade agreements. Stack, (2009) analyzed the trade creation and trade diversion effects of the LAFTA, CMEA and EEC. Positive effects were identified, but the effects were found to be diminishing. FTAs dummies were considered as endogenous variables and showed that free trade agreements on trade flows are quadrupled. FTAs were considered to generate a significant increase in trade relations. However, the FTAs effects are different among different FTAs. Although the trade creation effects of free trade agreements are significant in many instances, the magnitude of the effects is determined by the period and other circumstances. The impact differs depending on the products. According to Sun and Reed, (2010) the natural trading blocs in East Asia existed in the manufacturing as well as the merchandise sectors as a result of the effects of major FTAs. In light with the results of other studies, the paper extends further analyses in order to deepen further understanding on the impacts of FTAs on trade flows and international trade. Research hypothesis its relation to the theoretical model. My research hypothesis for the study is “FTAs impacts on International Trade.” The theoretical model I am utilizing is the “gravity model” that has been utilized extensively in the analysis of bilateral internal trade flows. The model has been used extensively in the analysis of bilateral internal trade flows. It is used in explaining the cross-sectional variation in trade flow of countries in terms of the countries bilateral distance, incomes and dummy variables for common land borders for the absence or presence of a FTAs membership. Conclusion Countries that foster free trade policies create their own economic dynamism thus foster a wellspring of opportunities, freedom as well as prosperity that is beneficial to their citizens. The United States has illustrated the power of free trade agreement principle. Free trade policies are important in enabling even the most impoverished countries to create their own dynamism towards prosperity. However, the opponents of free trade agreements will continue to embrace the argument that “jobs created by globalization and free trade agreements are less secure and sustaining.” References Baier, S. L., & Bergstrand, J. H. (2004). Economic determinants of free trade agreements. Journal of International Economics, 64, 29–63. doi:10.1016/S0022-1996(03)00079-5 Baier, S. L., & Bergstrand, J. H. (2007). Do free trade agreements actually increase members’ international trade? Journal of International Economics, 71, 72–95. doi:10.1016/j.jinteco.2006.02.005 Dai, M., Yotov, Y. V., & Zylkin, T. (2014). On the trade-diversion effects of free trade agreements. Economics Letters, 122, 321–325. Hur, J., Alba, J. D., & Park, D. (2010). Effects of Hub-and-Spoke Free Trade Agreements on Trade: A Panel Data Analysis. World Development, 38, 1105–1113. Kepaptsoglou, K., Karlaftis, M. G., & Tsamboulas, D. (2010). The Gravity Model Specification for Modeling International Trade Flows and Free Trade Agreement Effects: A 10-Year Review of Empirical Studies. The Open Economics Journal, 3, 1–13. Martinez-Zarzoso, I. (2003). Gravity model: An application to trade between regional blocs. Atlantic Economic Journal. doi:10.1007/BF02319869 Mölders, F., & Volz, U. (2011). Trade creation and the status of FTAs: Empirical evidence from East Asia. Review of World Economics, 147, 429–456. Ornelas, E. (2005). Endogenous free trade agreements and the multilateral trading system. Journal of International Economics, 67, 471–497. doi:10.1016/j.jinteco.2004.11.004 Spies, J., & Marques, H. (2009). Trade effects of the Europe agreements: A theory-based gravity approach. The Journal of International Trade & Economic Development. Stack, M. M. (2009). Regional integration and trade: Controlling for varying degrees of heterogeneity in the gravity model. World Economy, 32, 772–789. Sun, L., & Reed, M. R. (2010). Impacts of free trade agreements on agricultural trade creation and trade diversion. American Journal of Agricultural Economics, 92, 1351–1363. doi:10.1093/ajae/aaq076 Taneja, N. (2004). Informal Trade in the SAARC Region: Implications for FTAs. Economic and Political Weekly, 39, 5367–5371.  Read More