A free trade agreement is a form of economic integration, and exists when geographic regions group together to create what is known as a free trade area. Some well known examples are the European Union (EU) and the North American Free Trade Agreement (NAFTA). A free trade area is free from all barriers to trade. Members of a free trade agreement maintain common trade barriers for nonmembers, so membership in a free trade agreement has its benefits.
A major benefit of membership in a free trade agreement is trade creation. Trade creation occurs when one country benefits from the ability to trade a product or service freely with other members of a free trade area. For example, if before Spain entered the EU, the United States and Spain both provided wheat to EU countries, they would both be subject to the same tariffs. However, once Spain became an EU member, wheat from Spain would become much cheaper than wheat from the United States. The flow of trade would be altered as a result, creating trade opportunities for Spain.
Reduced Import Prices
Reduced import prices are another benefit of free trade agreements, which are experienced two ways. First, when countries enforce tariffs on imports, the price consumers pay for the imported goods increases. Members of a free trade agreement, however, are not subject to the same import tariffs as nonmembers, resulting in lower prices for consumers.
Second, if just one country imposes a tariff on imports, the price of the imported goods will increase in that particular country, resulting in lower demand for the product. However, if an entire free trade area imposes the tariff, the resulting drop in demand will be definitely be felt by the exporting country, forcing a decrease in the price of the imported products.
Membership in a free trade agreement increases the size of a particular market, which may result in a reduced ability to monopolize certain industries. An increase in market size means there are more companies competing for business, which means there will be an increase in the supply of available goods and services. An increase in supply while demand remains steady may result in lower prices for consumers, as companies vie for their business.
- import export textiles. image by Bruno Bernier from Fotolia.com