Free Trade Agreement Negotiations between Australia and China - Case Study Example

Running Head: Australia-China Trade Relations Free Trade Agreement negotiations between Australia and China Name Institution Date Australia-China Trade Relations According to Mai et al, (2005) Australia and China have established strong business relations. Both governments are interested in expanding the existing relationship in order to achieve a sustainable performance in trade and investments in both countries. The commitment was evident when the two countries signed a Trade and Economic Framework in 24 October 2003. Besides the Framework, Australia and China are negotiating on establishing a Free Trade Agreement (FTA). Both countries realize that FTA involving import and export of products will help promote closer relations and their mutual interests. The reason why the two countries are negotiating on a FTA is to liberalize trade and investment between Australia and China. They believe that it is the best mechanism for achieving regional economic development. Australia’s Merchandise imports from China include clothing, toys, footwear, furniture, computers and telecommunications among others (Antkiewicz and Whalley, 2005). For the purpose of this essay, focus is on the importation of products from the textile industry. Free Trade Agreement as one of the levels of economic integration leads to differential in treatment for the members of the agreement. When the FTA is implemented between Australia and China, economic changes are expected to take place within the two countries due to the abolition of tariffs imposed on the imports. When the tariffs on the textile products are eliminated, the prices of those particular imports from China will also go down in Australia with almost the same amount of the import duties imposed. Similarly, china will have to import goods from Australia at a considerable low price (Siriwardana, 2006). Adjustment of prices in both countries as Mai et al, (2005) argues will affect pricing, which eventually enhances resource reallocation. The implication for this agreement is differential treatment for Australia and China as opposed non-members. In particular, both Australia and China will be required to remove the bilateral tariffs, and at the same time maintain the tariffs imposed on non-members to FTA, hence discrimination. Table1: Import Tariffs of Australia and China Merchandise Trade in percentage From the bilateral tariff rates shown above, Australia’s tariffs on most of the imports from China are below five percent apart from wearing apparels and textile products. The table also indicates that most of China’s imports have higher tariff rates as compared to Australia’s despite the fact that china imports have been liberalized since 1990s (Siriwardana and Yang, 2007). In order to understand the impact of free tariff in economic integration, the tariffs in the above Table 1 are decreased to zero in the policy of simulation. The simulation tariff policy was presented in the report carried out within the time frame of GTAP. Given that the trade regions have the same rates of returns and the capital is mobile, investment will take place in every region when the tariffs are reduced. The effect of this scenario is that the regional investment will be in line with the variations in the global savings. Also, the total employment will remain fixed and the actual wage will alter in accordance with the changes in trade (Siriwardana and Yang, 2007). Therefore, the long-run effects of FTA between Australia and China will affect the labour market, by only changing the actual wage and not the aggregate employment. Since FTA between Australia and China will change hoe trade is conducted between two countries and other countries who are not members to the deal, the impact of the trade can be well interpreted based on individual country. Economic integration leads to movement towards free trade for the member countries for this case Australia and China, while at the same time it mat result to diversion of trade from countries that are not part of the agreement (Appleyard et al, 2010). This leads to formation of two static effects, normally referred to as trade creation and trade diversion. Figure 2: Trade creation and welfare Assume Country A is Australia and Country B is China Before country A and B entered economic integration, the price of product in country A is $ 1.50 which represents the price in country B inclusive of imposed tariff of $ 50. After integration, the tariff is eliminated and country A imports 150 units and not 40 units from country B. The additional 60 units displaced what was previously produced domestically. The 50 units represent increased consumption at a reduced price of $ 1.0 in country A. Therefore, the impact of the welfare is represented by the total areas b and d (Appleyard et al, 2010). Mai et al, (2005) asset that economic integration may results to change in the origin of a product from the domestic production where the costs of production are high to being produced by a member country where the same product is produced at less cost. This kind of formation is referred to as trade creation. The shift symbolizes the movement of the countries in the agreement to the direction of free-trade distribution or resources, which is seen to be important for welfare. On the other hand, trade diversion occurs when the product origin moves from a being produced by non-member country at a low cost to being produced by a member country at high cost. The shift according to Appleyard et al, (2010) clearly indicates how countries move away from the requirements of free-trade distribution of resources, which reduces welfare. Both Australia and China will be faced with the two scenarios. Both trade creation and diversion occur during economic integration, and this leads to the problem of second best. The reason why this happens is that economic integration does not represent fully movement to free trade. Assuming that Australia imports textile products from a single supplier in China, then such a scenario can be illustrated from figure 2. Let the demand curve for Australia’s consumers for textile products be DA and the supply curve for Australia’s domestic producers as SA. Assuming that Australia imports the textile products from China and at the same time produces it domestically before the Free Trade Agreement. If Australia is a price taker in the global market at a price of $ 1.00 per product from China and the tariff imposed of the product is 50%, the local price for Australia will be $ 1.50 per unit, consumption will be 200 units while the supply quantity will be 160 units. The amount of imports by Australia from China will be 40 units. When China removes tariffs from the textile products due FTA, the price of the product in Australia reduces up to $ 1.00, the consumption increases to 250 units, domestic production falls to 100 units and the imports increases to 150 units (Appleyard et al, 2010). Despite Australia and China having experienced increase in trade and investment, there still exist major barriers and restrictions to the flow of business between the two countries. The barriers and restrictions include protection of the border on merchandise trade, service trade restrictions and investment flows restrictions. Protection of the border on merchandise trade between Australia and China include tariffs and non-tariff barriers, which are restrict the flow of merchandise trade. The estimates of these barriers were first reported by the GTAP in 1997 (Mai et al, 2005). Through the support of the Productivity Commission in Australia, the Ministry of Finance from China and the World Trade Organization, the GTAP data on tariff and non-tariff barriers estimates were further updated in 2005. The estimates considers the current unilateral tariff reduction in Australia, more so for clothing, footwear and textile. However, estimates of tariff rates for China's products are operational due to the commitment of China to enter the WTO and its sourced data. As mentioned earlier, despite liberalizing its imports as early as 1990s, the tariffs that existed in 2005 remain higher compared to Australia's (Jiang, 2008). This is more applicable for agricultural industry and agricultural products. In fact, it is because Australia is the main supplier of food and agricultural products that is enjoys less order protection for such products apart from the dairy products. Trade restrictions on the flow of investment come in different forms. They comprise of restricted direct entry, restricted business operations freedom for foreign investors, inequity between foreign and domestic investments and unclear standards and regulations that makes the costs of compliance to be high (Mai et al, 2005). These barriers and restrictions are applicable in both Australia and China. For instance, foreign investment especially in service sector are exposed to serious checks by the Australian Foreign Investment Review Board before allowed to invest in the country. Quotas and tariffs are a barrier to free trade no matter how compelling trade logic is. This is the reason Australia government of recent have entered in too many free trade agreements. These free trade agreements abolish most tariffs and quotas to facilitate trade between the two countries. Tariffs are a form of tax imposed on imported goods for the purpose of generating revenue and discouraging importation of commodities in order to protect the local firms. Quotas are trade restrictions on the amount of commodity that should be imported to a country. Importers can import up to ascertain limit of their goods. This is also meant to protect the local and infant firms in order to grow. Australia currently has no official free trade agreement with china though the two governments have plans underway to enter in to free trade agreements (Calculation, 2000). As Carter, 2009 argues protective tariffs make prices of some products to rise above the world prices (the right price of the product). The producers charge high price because of a variety of the product for the consumer to choose from. The local producers are in a position to produce and sell more products at a high price. Tariffs and quotas prevent the foreign exporters to sell more products making local producers to take advantage of the tariffs. The tariffs also make the foreign products to be expensive (to cover the tariffs). Though high prices discourage consumption, local companies make big profits. The tariffs injure the consumers. According to Mcconnell, (2011) domestic producers push the government to impose quotas and tariffs for them to benefit from making huge sales. These tariffs and quotas discourage importation of products while openly promoting the growth of unproductive industries which doesn’t have comparative benefit and indirectly cause the contraction of relatively efficient industries which doesn’t have comparative benefit. Generally, free trade tends to favour business sector where production that is resource based. Most of the sectors in Australia realize increase in their outputs. However, the manufacturing sectors like textiles and wearing apparels are the most affected. Both Australia and China will benefit from the FTA sine it increases the GDP of the two countries (Antkiewicz and Whalley, 2005). It is also argued that the free trade agreement with strengthen the existing trade relationship, which will enable them have a comparative advantage. The removal of trade barriers will favour China's manufacturing companies while in Australia the beneficiaries will be the resource based firms and the agricultural sector. This makes the countries to re-energize their respective sectors prior to FTA implementation. The negotiators in the FTA are majorly interested in the development of trade, more so the exports, and are also focused on reducing the structural adjustment costs which are likely to occur due to increase in the quantity of imports from member country. Australia s projected to have surplus trade and this means that the FTA will help boost its exports, resource based sectors will help in increasing its competitive advantage further (Mai et al, 2005). While Australia' products from the agricultural sector and those from resource based sectors will have a large market share in Australia, China will increase the export of manufactured products to Australia. Unrestricted flows of trade will enhance bilateral trade and investment between the two counties, hence furthering expansion in trade. In evaluating various business markets, especially a competitive market, it is important to understand its effect on economic efficiency. Economic efficiency is where there is maximization of total consumption and producer surplus. Markets should be regulated in order to ensure efficiency, and also to reduce consumer exploitation. Unregulated markets sometimes lead to market failure. Therefore, suppose Australia imports textile products from a company in China that is competitive, it is likely to import at high price, especially when such an industry is not regulated by the Government in China. This will be a disadvantage to Australia. In conclusion, the on-going negations between Australia and China for a possible FTA would be beneficial to both countries. As indicated above, when the trade barriers will be eliminated, Australia's agricultural sector and resource-based industries will be the most beneficial as applies to Chinese manufacturing industries. The two countries have already established strong business relationships, and the FTA will see them cooperate further for the attainment of respective comparative advantage. References Antkiewicz, A., & Whalley, J. (2005). China's new regional trade agreements. The World Economy, 28(10), 1539-1557. Appleyard, Dennis R., Field, Alfred J., Cobb, Steven L. (2010). Economic integration" In: International economics 7th ed. Boston : McGraw-Hill Irwin, 392-417 Calculation, M. O, (2000). Tariffs. Tokyo: International Trade and Industry. Caltex, X.L, (2009). The impacts of tariff-rate import quotas on market access. Kansas city: Department of Agriculture Economic, Kansas State University. Jiang, Y. (2008). Australia-China FTA: China's domestic politics and the roots of different national approaches to FTAs. Australian Journal of International Affairs, 62(2), 179-195. Mai, Y., Adams, P., Fan, M., Li, R., & Zheng, Z. (2005). Modelling the Potential Benefits of an Australia-China Free Trade Agreement. Canberra: Department of Foreign Affairs and Trade. McConnell, (2011). Trade barriers. New York: Micro economics. Siriwardana M., & Yang, J, (2007). Economic Effects of the Proposed Australia-China Free Trade Agreement. Center for Contermporary Asian Studies Doshisha University. Siriwardana, M. (2006). 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