Free trade

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Free trade is an economic concept referring to the selling of products between countries without tariffs or other trade barriers. Free trade is the absence of artificial (government-imposed) barriers to trade among individuals and firms in different nations. International trade is often constricted by different national taxes, other fees imposed on exported and imported goods, as well as non-tariff regulations on imported goods; theoretically, free trade is against all these restrictions. In reality, trade agreements that are labelled as "free trade" by their proponents may actually create their own barriers to a free market. Some critics of such trade agreements see them as protecting the interests of corporations. See also fair trade.

Some international organizations, such as the European Union and MERCOSUR, have implemented free trade in some forms between their member nations (customs union). However, there is continuing debate whether free trade would help third world nations with different economic problems and whether free trade is good for the developed world.

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Arguments for and against free trade

Many economists argue that free trade increases the standard of living through the theory of comparative advantage and economies of scale. Others argue that free trade allows developed nations to exploit developing nations and to destroy local industry in addition to circumventing social and labor standards. Conversely it has also been argued that free trade hurts developed nations because it causes jobs from those nations to move to other countries as well as producing a race to the bottom which causes a general lowering of health and safety standards.

Some descriptions of comparative advantage rest on a necessary condition of "capital immobility." If financial (or labor) resources can move between countries, then the comparative advantage theory erodes, and absolute advantage dominates. Given the liberalization of capital flows under free trade agreements of the 1990s, the condition of capital immobility no longer holds. As a consequence, it can be argued that the economic theory of comparative advantage no longer supports free trade theory. However, as economist Paul Krugman has noted, the 19th century economic theorist David Ricardo who formulated the well-known simple model of the comparative advangage doctrine lived himself in a period of high capital mobility. Some take this to mean that the assumption of capital immobility in early models of the theory was merely an expositional convenience that is not essential to the principle. More complicated modern models of comparative advantage do include capital mobility (i.e. international borrowing, lending, and labor movement) and often posit movement of capital as analogous to the movement of goods.

In addition, the current implementation of free trade has been criticized by advocates of free trade itself. One complaint is that developed nations tend to insist that developing nations open their markets to industrial products from the developed world, yet refuse to open their markets to agricultural goods from the developing world. Furthermore it has been noted that the current concept of free trade supports the free movement of products and employers, which favors the developed nations, but not the free movement of employees (i.e., labor), which would favor the people of developing nations. (See also: Immigration.)

Some have argued that many of the alleged problems in the current free trade system, such as the race to the bottom and restriction of the movement of labor, would be eliminated by having a single world government with one law and no borders. This idea however is highly offensive to many people on both sides of the argument and is thus rarely posited as a true solution.

Some suggest that free-trade changes living conditions and careers too fast. Economic disruptions used to happen slowly enough that natural attrition, such as deaths and retirement, took care of the changes. One could finish his/her life as a farmer, yet his/her children could take up mining or manufacturing instead of farming. Now, changes happen on a sub-generation level, quicker than a natural-attrition rate, making coping very difficult, especially for those entering middle-age and the elderly.

Economic Rationale of Free Trade

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Figure 1: With a tariff

With a tariff in place the price of a good is at P1 and the quantity produced in the country is at Q1. As illustrated by the graph above (Figure 1).


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Figure 2: Without a tariff

The international price of the good is lower than the domestic one, however. Internationally the price is P2. If the tariffs are removed the domestic price of the good falls to meet the international one. At the lower price fewer domestic manufacturers would wish to make the good, thus the quantity produced domestically falls to Q2A. However, at the new lower price far more consumers would be able to buy the good, and thus quantity of the good purchased would increase to Q2B, with the difference between Q2A and Q2B being made up by imports.

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Figure 3: Decrease in Producer Surplus

Since less of the good is being made in the country producer surplus will shrink. Companies will either be forced to reduce production, or some of them will have to close. Figure 3 shows the amount producer surplus will decrease by.

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Figure 4: Increase in Consumer Surplus

However, the lower price will increase consumer surplus. More consumers would be able to own the good in question and general quality of life of the inhabitants will increase.

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Figure 5: Net Societal Gain

The increase in consumer surplus will be larger than the decrease in producer surplus, producing a net societal gain as illustrated in Figure 5. This assumes full employment and that the workers who lose jobs because of the decrease in the amount produced will find jobs in other industries that can better compete internationally, but this model does not take into account the short range transition costs of this upheaval.

Intellectual property and free trade

Historically, the free trade movement was skeptical and even hostile to the notion of intellectual property, regarded as monopolistic and harmful to a free, competitive economy. Indeed, during the late 19th century, free trade advocates succeeded in reducing the length of the patents available in many European countries. The Netherlands even abolished its patent system (temporarily, as it turned out).

The 19th century anti-patent cause failed largely because the recession of 1874 discredited the free trade movement of the time (and also because patent advocates used a public relations campaign which was remarkably sophisticated for its time).

It is thus quite remarkable (some would even say ironic) that corporations lobbying for expanded intellectual property privileges have succeeded in including TRIPS, a very strong treaty on intellectual property rights, as a membership requirement for the World Trade Organization, the international organization dedicated to furthering the cause of free trade.

See also

References

  1. Fritz Machlup & Edith Penrose, "The Patent Controversy in the 19th Century", Journal of Economic History, 10 (1) pp 1-29, 1950.

Links

Pro-free trade/free-market

Opponents of "free trade"

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