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Free trade is promoted and expected to benefit parties on both sides of the supply chain. International agreements are made to enhance the trade between countries. Some examples are the North American Free trade Agreement (NAFTA), European Union (EU), Southern Africa Development Community (SADC) and Asian Pacific Economic Cooperation (APEC). As is so often the case though, there are two sides of the coin. Free trade creates benefits indeed but it also destroys. It gives and takes away. By increasing competition, free trade lowers the price of imported goods and raises the demand for quality goods produced locally. Sales will increase and profits will rise. It is clear that consumers of imported goods and producers of exported goods are benefiting. But some groups are harmed as well. Domestic producers of goods that are also imported are the most obvious groups to lose out. Their market share declines and their profit falls. This is when governments sometimes intervene and come to protect domestic producers by passing protectionist legislation. There are several forms of such legislation like tariffs, quotas and qualitative trade restrictions.
Tariffs are taxes on goods moving across borders. They can be imposed on imports, exports or on goods in transit. The tariff on imports is the more common one. They tend to raise the price of imported goods and thereby protect domestic industries from foreign competition. They also generate income for the government. The foreign seller may however lower prices to offset any tariff increase. As a result, the government continues to earn income from the import tariffs but there is little additional protection for domestic producers.
Quotas are limits on the amount of goods that can be imported into a country. Quotas increase prices by directly restricting trade. This is a form of protection for domestic producers. Once a quota has been reached, goods no longer enter the market, even if sellers lower their price. It is the consumer now who loses most. Instead of imposing quotas, countries also make agreements to share markets by limiting foreign export sales.
Then there are the so called no- tariff barriers, which include a wide range of charges, requirements and restrictions such as surcharges at border crossings, licensing regulations, performance requirements, government subsidies, health & safety regulations, packaging and labelling regulations, and size & weight requirements. These kinds of barriers are the most difficult as they are subject to subjective interpretation. And do they protect domestic producers or discriminate against foreign producers? Restrictions dealing with public health and safety are certainly legitimate, but the line between social wellbeing and protection is a fine one.
Are US automobile safety standards unfair to foreign carmakers? Are chickens slaughtered in the US unfit for the European market because a different process is used to clean them? Governments also subsidise local producers, which can make it very difficult for foreign producers to enter the market. This happens most in the agricultural sector, where Western European and US farmers receive subsidies from their governments. As a side-effect, they dump their underpriced overproduction on weaker markets, making it very difficult for domestic farmers to compete against below-production prices.
Because of the harmful effects of protectionism, the General Agreement on Tariffs and Trade (GATT) was formed in 1948. Through regular trade rounds or negotiations, GATT served as the major forum for the liberalization and promotion of non-discriminatory international trade between participating countries. In practice, this resulted in bargaining among countries to lower their tariffs. GATT policy was for countries to replace non-tariff barriers by tariffs, assuming that non-tariff barriers do more harm to trade than do tariffs. Tariffs reduce uncertainty and are clear, so they are easier to negotiate. During its existence, GATT effectively reduced trade restrictions and minimized price distortions. It also reduced qualitative trade barriers, curtailed dumping–selling abroad at a cost lower than the cost of production–and discouraged government subsidies.
GATT was replaced in 1995 by the World Trade Organization (WTO), which continues to pursue tariff reductions as well as liberalization of trade in agriculture and services. With 144 members in 2002 and many more that want to join, amongst others Ethiopia, the WTO is the global watchdog for free trade.
WTO also faces new challenges, which comprise foreign investment policies, competition and labour standards. Although most countries want foreign investment, developing economies still set terms of entry for foreign investors. And while many countries favour labour standards, such as a ban on child labour and freedom for trade unions, some developing countries argue that low labour costs are the basis of most of their exports. To be a member of WTO will obviously be of benefit to tackle some of the barriers faced in exporting goods. To become a member of WTO also requires that policies and practices conform to global standards.