Chapter 2- Trade in the Global Economy

Introduction
Trade is imperative to emerging markets and hence the emergence
of global economy. It increases production, wealth and affiliations
(between developed and developing economies). The tools for trade
are mostly done via trade agreements (typically free trade
agreement FDA).
What is FTA?
It is the free exchange of good and services between nations
without barriers or regulation imposed by the government. The
technique used is comparative advantage (produce what you
specialize or good at e.g Australia = agriculture and Japan =
technology).
Advantages of free trade
Enables country to input good and services that they cannot
produce themselves. Moreover to some extent they allow the
country that is lacking capacity to produce those kinds of good
and services to start to produce their own goods and services.
E.g India obtained technology importation from US.
Ie free trade transfer resources
Comparative advantages
Improve efficient allocation of resources (because of
comparative advantages)
Achieve economies of scale ie reduce cost as production
increase
Increase international competitiveness and hence increase
quality increase efficiency in the domestic market.
Innovation process ie increase flow of technology across the
world
Increase living standard because of low price, high quantities
and more varieties (obtain from other economies)
Disadvantages of free trade
Increase unemployment rate for structural unemployment
for short term only because of over competitiveness of
imports however the domestic economy will adjust itself
naturally.
Discouraged new industries domestically if no support from
foreign competitor
The dumping of production surpluses (there are regulations
against dumping) it occurs when products are too cheap
causing domestic companies to bankrupt
Reasons for protection:

What is protection?
A government intervention to subsidies domestic producers to
compete against foreign competitors in a domestic market

A/ Infant industry
The aim is to protect newly established businesses for short term
only. It allows infant industry to have a chance to compete or adjust
itself with the market. Ie buy more time to create efficiency.
B/Prevention of dumping
What is dumping?
When foreign competitors attempt to sell their goods at a price
below domestic price. Their aim is to dispose their surpluses and
establish a place in the foreign market.
Consequences of dumping
-Domestic firms cannot compete and hence bankrupt
-Increase unemployment
-Reduce productive capacity eg the common countries are India and
China
C/ Protection of domestic employment
That is a decrease in cheap imports - increase the demand for goods
and services increase employment rate however it may distort the
allocation of resources because it moves towards less efficient
production which has an adverse affect on employment.
D/ Defense and self-efficiency
Arguments of defense
-Be independent of countries military production
-Arguments of self-sufficiency
-be able to produce good and services incase of blockades
E/Other factors in favour of protection
Social factors:
-Decrease exploitation of cheap labour
-Increase environment awareness
-Limits the skewer effect

Methods of protection
A/ Tariffs

Definition: When government imposes tax on input of goods

The aim is to stimulate domestic production and employment
ie to make domestic producer supply more
Domestic resources will be allocated heavily towards
protected industry (this is not good because of misused
resources and misallocation)
Consumer will incur higher price
Government will be able to increase their revenue
Government revenue = price of tariff x quantity of imports
- However if tariff is to be applied 100% successfully then
government would not be able to receive tariff revenue as
they will use it to spend on the economy to benefit both
domestic and foreign producers
High tariff will cause foreigners to impose tariffs back on
Australia.
High price -> inflation -> loss of real income

Resources will be allocated to local producer who improve

their welfare at the expenses of consumers (societal loss)

B/ Quotas

Definition: to control the volumes of imports over a period of

time. This enables domestic producer to have a share of
domestic profits
Differences between tariff and quota
i/ Quotas doesnt provide tax revenue for the government
ii/Import licenses are the requisite demand for quota by the
government (this is a form of revenue for the government)
iii/ Tariff quotas = goods imported up to the quota pay the
standard tariff rate (ie the higher the quota the higher the tax
rate)

C/ Subsidies (increases supply)

Definition: financial assistance to domestic producers which

enables them to decrease price and increase competitiveness
(ie the government assist in part of the input cost which
subsequently increases the supply)
The benefit of subsidies is that it can be removed easily
because it is an expenditure to the government (which make it
a favorable technique for the government)

An increase in supply will decrease in price and hence

decrease inflation however an increase in supply decrease in
price and hence increase inflation
It distorts resource allocation if given to inefficient industries
(ie the government could be using these resources toward
infrastructure instead but they cant)
Redistribute income from taxpayers to a small sector of the
economy as well as raise government expenditure and
increase tax burden
Increase real income for consumer as prices are lower
Increase demand due to increase supply because of low price
Subsidies is more preferable to tariff because it has been paid
by income tax which is subject to regular reviews and hence
lead to a lower price

D/ Other methods of protection

i/ Local content rules = a percentage of goods must be
made locally i.e. tariffs will be applied on goods that does not
have minimum percentage of locally made parts.
Ii/ Export incentive = the government encourage exporter
providing special grants, loans and technical advices to assist
domestic businesses to become more competitive
Iii/Voluntary export restraint = the country voluntarily
restrict the export in exchange for other concessions
Trade agreements
Trade agreements aim to provide trade liberalization (to reduce
barriers to entry). Agreements comes in different form; bilateral and
multilateral which are all under the umbrella of free trade
agreements
a) Types of agreements
i/ Trading bloc = a number of countries joined together in a
preferential trading agreement. Eg EU 27 members and NAFTA
3 members
ii/ Free trade agreements (FTA) -> aims to break down all
barriers by all nations
iii/ Trade agreements are
a. Global agreements eg WTO
b. Regional agreements EU NAFTA APEC
c. Bilateral agreements (eg CERTA: closer economic relation
trade agreement)
-it is an agreement between two countries which involves
reduction and protection Australia has always been working
towards bilateral agreements (because of the bargaining
power and the rise of international organizations after the
event unfolded from BREXIT which has given more reason for
Australia to push these kind of agreements going forward).

-E.g ANZ CERTA (Australia and New Zealand which was

created 1983) note during this period Australia experience
deregulations and the floating of AUD. The specifications are
It removes 18% of tariffs between two countries
It accelerate free trade in goods
It accelerate investment by 2014 was worth over $130
billion
It increase labour mobility
It covers over 20% of Australian trade goods and
services
Particular Agreements
i/ Asian Pacific Economic Corporations (APEC)
a) They make up 50% of GWP (which intensifies United States to
join APEC after it was US that discriminated against APEC
members especially for agricultural products)
b) It support WTO principles which is a non discriminatory
grouping
Ii/ European Union (EU)
The largest trading bloc with 27 members (due to BREXIT)
High tariff against non members
Members are subject to one single fiscal policy (controlled by
Brussels) ie members are physically responsible for each other
Non members can still enjoy some benefits from EU but they
must pay a fee annually
Members must use one standard currency (euros)
Iii/ NAFTA
Established in 1994 between US, Canada (specialized in
Minerals) and Mexico (specialized in Agricultural)
It is purely a commercial agreement where members are not
subject to one single currency and not be physically
responsible for each other.
It completely discriminates against agriculture (which is the
reason why APEC was formed)
Iv/ Bilateral trade agreements eg ANZ CERTA which also undermine
the principle of WTO
V/ ASEAN Association of South East Asian Nation
It is a counter weight to APEC
Remarks/
1. Key FTAS (HSC)
a/ Australia and USA
It carries duties on more than 97% of US nonagricultural product lines (excluding textiles and
clothing) which is worth 6.5 billion in 2003 and became
duty free in 2004

Over 66% of agricultural tariff will remove completely

and by 2008 it became 9% - a reduction in beef dairy
and horticulture
It allows US investors to operate and allow Australia to
fulfill foreign investment policies. These two ways
investment scheme has more than doubled from 640 B
in 2004 to over 1.3 Trillion in 2014
b/ Australia and Singapore FTA
It is Australias first free trade agreement with an
Asian country in 2003 which eliminated tariff/improve
market access for services, exporters e.g.
telecommunications financial professional services,
(it also covers areas such as education)
This agreement has increased trade in investment;
Singapore is Australia top 3 largest trading partner
until today (value at 31 billion AUD annually). Service
export in2008 totaled 3.8B AUD and export value at
4.7B AUD. Moreover investment between Singapore;
22B AUD and from Singapore 43B AUD.
2. Multilateral FTA
Tran specific partnership agreement TPP
It involves 12 countries Australia, Brunei, Canada, Chile,
Japan, Mexico, Peru, New Zealand, Singapore, Vietnam
and possibly US
The aim is to promote growth, support the creation and
retention of jobs, enhance innovation, productivity and
competitiveness, raise living standard and reduce
poverty, promote transparency, good governance and
enhance labor and environmental protection
TPP aim to lower trade barriers such as tariff, new
market access opportunities for Australian exporter of
goods and services as well as investors that are
additional to existing FTAs
Criticism of TPP
a/ restricting copy right and intellectual property laws
(for example Australia is not allowed to replicate iPhone)
b/ Corporation can bring legal preceding against
government
c/ Increase price hike of medical drugs due to patent
extensions
3.International organization
WTO
IMF (a bank which lend out money with very high interest rate
and expect to use its own currency of SDR) countries who are
indebted to IMF often pay back to debt by selling national
asset to IMF

World Bank lends money with low interest rates providing the
borrowers meet the criteria of spending on infrastructure only
transportation, education and health
G8
UN
UNCTAD