POLI 354 Lecture Notes - Lecture 14: Preferential Trading Area, Stumbling Block, Trade Diversion
13 May 2018
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Poli%358%Lecture%14-%Preferential%trade%agreements-%building%block%or%stumbling%block?%
1st%March%2018!
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Table%of%contents%
- Stumbling!block!arguments%
- Building!block!arguments%
- Convergent/divergent!comparative!advantages%
%
Recap:%features%of%new%regionalism%%
- The!majority!of!PTAs!are!free!trade!areas%
o FTA-%external%tariffs%are%different;%custom%union-%external%tariffs%are%the%same%%
- Many!PTAs!are!bilateral!agreements!between!north-south!countries%
- Many!intercontinental!PTAs%
- Many!PTAs!include!trade!related!provisions!like%IPR-%WTO+%provisions-!i.e.,!deep!
regionalism!%
- Economics!(gravity!model)!variables%
o Geographical%distance%(low%transportation%costs),%larger%countries%sign%more%–%
larger%liberalizing%effect,%liberalize%according%to%comparative%advantage%(EU%is%an%
exception).%%
- Economies!of!scale-!related%to%MNCs%and%exporters%
- MNCs-!investing%abroad-%want%to%move%products%to%sell%in%north%rich%markets%–%low%tariff%
help-%lowers%production%costs.%%
- Importance!of!global!value!chains-!i.e.!vertical!FDI%
%
Trade%creation%vs%trade%diversion%
- Trade!creation:!occurs!when!the!formation!of!a!preferential!trading!agreements!leads!to!
the!replacement!of!high-cost!domestic!production!by!low!cost!imports!from!other!
members.!%
o Trade%agreement%that%makes%sense%form%an%economic%point%of%view%–%able%to%
produce%at%a%cheaper%price%
- Trade!diversion:!occurs!when!the!formation!of!a!preferential!trading!agreements!leads!to!
the!replacement!of!low-cost!imports!from!non-members!with!higher-cost!imports!from!
member!nations.%
o Doesn’t%make%economic%sense%not%liberalizing%with%the%most%efficient%market-%other%
reasons%why%you%sign%these%sub-optimal%agreements%
%
Example%
- Free!trade!choices%
o US!shoes:!15!euro!%
o Morocco!shoes:!13!euro%
o Tunisia!shoes:!12!euro%
o Algeria!shoes:!11!euro!%
- Trade!diversion!(after!Morocco-US!PTA)%
o US!shoes:!15!euro%
o Morocco!shoes:!13!euro!=!13%
o Tunisia!shoes:!12!euro!+!3!euro!tariff=!15!euro!%
o Algeria!shoes:!11!euro!+!3!euro!tariff!=!14%
%
Concerns%about%PTAS%
- is!preferential!liberalization!really!a!free!trade!policy?%
o social!welfare!à!government!should!sign!trade!creating!agreements!to%reduce%
prices%for%consumer%and%increase%welfare%
o political!interest!à!governments!may!sign!agreements!that!cater!to!specific!
interests,!i.e.,!trade!diverting!agreements.!Remuneration%for%policies%%
o If!trade!diversion!dominates!over!trade!creation,!PTAs!are!more!about!
protectionism!than!liberalization%
o If!diversion!dominates!over!creation,!PTAs!may!empower!protectionist!groups!
grant%them%a%protection%thy%wouldn’t%have%with%multilateral%liberalization.%%
o If!diversion!dominates!creation,!PTAs!of!against!multilateral!liberalization-!
preferential!tariffs!make!it!more!difficult!to!further!cut!external!MFN!tariffs%
o This!is!the!stumbling!block!effect!if%all%these%things%happen-%PTAs%go%in%opposite%
direction%to%multilateral%agreements%
%
Trade%diverting%agreements%(Krishna%1998)%
- Framework-!oligopolistic!firms,!homogenous!goods%
o More%than%one%firm%producing%similar%goods%
- Governments!form!agreements!based!only!on!their!impact!on!the!profits!of!the!domestic!
firms-!campaign!contribution%
o Do%I%benefit%the%domestic%firms%to%keep%me%in%power%%
- If!no!trade!diversion,!higher!market!share!(and!profits)!in!the!other!member’s!market!but!
lose!the!domestic!profits!since%exporters%in%the%PTA%market%can%get%a%share%of%profits%
- If!trade!diversion,!FTA!surely!enhances!profits!for!all!members’!firms,!at!the!expense!of!
outsiders!both%countries%increase%trade%at%the%expense%of%other%excluded%countries.%%
- Bottom!line:!FTAs!are!likely!to!be!politically!viable!exactly!when!they!are!socially!
understandable%
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Trade%Creating%PTA%
%
- Tariffs%go%down!
- Country%c%can%still%export%to%A%and%B!
- Increase%in%sales%and%profit%can%diminish%because%both%
countries%have%increased%access%and%are%still%competing%with%
country%C!
- Not%politically%viable-%domestic%firms%don’t%benefit!
%
%
%
Trade%diverting%PTA%
%
- Diverts%from%C%to%A%and%B-%C%cant%export%to%A%and%B%
because%of%large%external%tariffs!
- A%and%B%steal%market%share%from%C-%becomes%politically%
viable!
!
!
%
Document Summary
The majority of ptas are free trade areas: fta- external tariffs are different; custom union- external tariffs are the same. Many ptas are bilateral agreements between north-south countries. Many ptas include trade related provisions like ipr- wto+ provisions- i. e. , deep regionalism. Economics (gravity model) variables: geographical distance (low transportation costs), larger countries sign more larger liberalizing effect, liberalize according to comparative advantage (eu is an exception). Economies of scale- related to mncs and exporters. Mncs- investing abroad- want to move products to sell in north rich markets low tariff help- lowers production costs. Importance of global value chains- i. e. vertical fdi. Free trade choices: us shoes: 15 euro, morocco shoes: 13 euro, tunisia shoes: 12 euro, algeria shoes: 11 euro. Trade diversion (after morocco-us pta: us shoes: 15 euro, morocco shoes: 13 euro = 13, tunisia shoes: 12 euro + 3 euro tariff= 15 euro, algeria shoes: 11 euro + 3 euro tariff = 14.
