Trading blocs and the world trade organisation (WTO)

Trade blocs are of three kinds – these are listed in order, weakest to strongest:

1. Free trade areas: these have no internal tariffs or quotas on trade between the members, but each country can set its own level of tariffs against the rest of world. Recent examples are the North American Free Trade Association (NAFTA) which joined together the USA, Canada and Mexico in 1994.

2. Customs unions: these also eliminate tariffs between members but in addition they set a common external tariff against rest of world that each member country must observe.

3. Common Markets: these cover much more than customs unions or tariffs and quotas. They can, and usually do:

a. Include laws that free up labour and capital movement between the members.
b. Harmonise taxes which means that one country cannot be too far out of line with the others.
c. Adopt some common monetary measures, such as all using the same currency. The Euro began in 2002 for most of the EU members but the UK has so far chosen not adopt it.
d. Set up a fixed exchange-rate between the members.

Really the members of a common market are moving in the direction of being one big economy, while retaining their own nationality.

Why set them up?

• To gain economies of scale.

• To compete with bigger nations, e.g., the EU against the USA.

• Political motivation (not our concern in this course).

There are two sorts of gains - static gain and dynamic gain

The static gain is the one-off benefit which a country usually obtains at the moment that it joins.

Trade creation versus trade diversion

Whenever any trading bloc is set up, or any country joins an existing bloc, there is a trade creation effect. This allows the most efficient producer to expand and sell its produce to the others, so all benefit to some degree. The producer gains a
larger market and can reap economies of scale. The consumers gain because the price will be lower and the quality probably higher than they previously enjoyed. This trade creation feature is always beneficial, and is often referred to as being a positive effect.

There is also a trade diversion effect. This is what occurs when the country joining ceases to buy from and sell to its traditional partners and starts to buy and sell within the group. Unlike trade creation, trade diversion can be either positive or negative. If a country previously imported from the best and cheapest producer in the world, but after joining the organisation is now only allowed to buy within the bloc, it has a harmful or negative effect.

So if a country joins a trading organisation it has to hope that both diversion and creation are positive, or else that the gains on trade creation are bigger than any losses on trade diversion! (Remember that these are all static gains).

The dynamic gain is the continuing benefit over time of more dynamism as a result of:

• the increased competition;

• the larger market allowing the economies of scale to run for ever;

• a more mobile and probably better motivated labour force;

• and increased capital flexibility.

• All of these lead to greater efficiency in production.

These dynamic gains are always positive, that is to say, continuing benefits will steadily be achieved.

The World Trade Organisation (WTO)

The WTO replaced the General Agreement on Tariffs and Trade (GATT) as a result of the Uruguay Round of negotiations (1986-94). You can see that it took eight years to gain international agreement!

The aim of the WTO is to increase the amount of world trade by means such as promoting tariff cuts, increasing and perhaps eliminating quotas, and minimizing, or better yet solving, disputes between members. The WTO holds occasional meetings to negotiate further reforms.

The WTO will not allow a nation in a recession to increase its tariffs or reduce the size of the quotas it sets. In other words, it is not allowed to increase the level of its protection. This rule is believed to have helped avoid the sort of harsh global economic slump that we saw in the 1930s.

Present contentious and unresolved issues are:

• Agricultural trade is still restricted by the developed world (which hurts many poor developing countries).

• Developing countries feel left out of the WTO progress and many believe that they are discriminated against by the rich developed countries. It is often seen in the third world as a sort of rich man’s club that has accepted poorer members but rather ignores them.

• The concern in the West about working conditions and human rights in some poor developing countries is a touchy issue. Poor countries usually want to get richer first, then worry about things like working conditions later. They often resent being lectured to by the rich club members and told that they should not do the things that earlier made the rich rich!

The WTO is attacked by radicals – often physically - at international gatherings, such as the one in Seattle in 1999.

The stated grounds for attack are that the WTO promotes globalisation and global capitalism. The extreme radicals dislike these for both political and socio-economic reasons:

The political views of the radicals (not economics but related to it)

• The radicals are strongly antagonistic towards capitalism as the preferred economic- political system.

• The radicals are usually anti the USA, which is seen as the leader of the system.

• Some radicals are against the banks generally and international banking in particular.

• And some radicals seem to be pro communism; or pro anarchy; or pro nature and going back to living in more primitive ways that are seen as natural rather than artificial.

The socio-economic views of the radicals,

Many believe that the process of globalisation has led to the world’s poor people and poor countries becoming even poorer, and therefore it is bad and must be resisted. They often argue that the world’s income distribution has altered in favour of the rich.

Actually, in many cases people in the poorer countries are wealthier absolutely, but they are poorer relatively to the rich. What often happens is that nearly everybody has got richer but the rich have got richer faster and so the gap is widening. Those at the bottom improve a bit but those at the top improve a lot more. It must be admitted that not everybody gains: a tiny minority who happen to be unlucky, situated in the wrong place in the country, or who are physically or mentally challenged always seem to lose. The only way they can improve their lot is for their government to step in and help them. Few governments in poor countries feel that they can afford to do this yet and it must wait until the country is more developed.

Where the people are absolutely poorer – and this does happen - it is almost always the result of one or two things (and sometimes both):

• Bad governments that have adopted poor economic policies (Zimbabwe, the
Sudan, Nigeria).
• Wars, rebellions, or coups (sadly common in much of Africa).

So it is often politics and people that cause it rather than capitalism or the rich nations.

The case that the weather causes the problems

Now and then the poverty and problems are the result of bad or changing weather conditions, which lead to drought or floods that in turn cause famine and death. But such severe results mostly occur in an area that is undergoing war, rebellion, or revolt.

More stable countries suffer from weather problems too but they can usually cope with them without major and long running disaster. It rather looks as if the military or political turmoil is the main factor involved where suffering is both intense and prolonged.

It is common and understandable for bad governments to blame freak weather, or global warming, or international capitalism, or indeed any thing they can think of to explain away their own mistakes.

Be warned that the cause of such problems is a contentious issue which is much debated. These views are mine, based on many years of living in third world countries, and decades of studying the problems. But I might be wrong! You should consider the evidence, think about it, and then make up your own mind.

Since I wrote the above paragraphs, the evidence of global warming has become stronger and clearer. There is still dispute, but the majority of scientists working in that area now appear to accept that global warming is a reality. Some dire warnings have appeared. Currently, the worst worst situations still occur where war, civil war or insurrection, or gross economic mismanagement raise their truly ugly heads.