The Arguments for and against Free Trade

The effects of free trade can be determined by comparing the domestic price without trade to the world price. A low domestic price indicates that the country has a comparative advantage in producing the good and that the country will become an exporter. A high domestic price indicates that the rest of the world has a comparative advantage in producing the good and that the country will become an importer.

When a country allows trade and becomes an exporter of a good, producers of the good are better off, and consumers of the good are worse off. When a country allows trade and becomes an importer of a good, consumers are better off, and producers are worse off. In both cases, the gains from trade exceed the losses.

The other economic benefits of trade are:

Increased variety of goods: Goods produced in different countries are not exactly the same. Free trade gives consumers in all countries greater variety from which to choose.

Lower costs through economic of scale: Some goods can be produced at low cost only if they are produced in large quantities – a phenomenon called economies of scale. A form in a small country cannot take full advantage of economies of scale if it can sell only in a small domestic market. Free trade gives firms access to larger world markets and allows them to realize economies of scale more fully.

Increased competition: A company shielded from foreign competitors is more likely to have market power, which in turn gives it ability to raise prices above competitive levels. This is the type of market failure. Opening up trade fosters competition and gives the invisible hand a better chance to work its magic.

Enhanced flow of ideas: The transfer of technological advances around the world is often thought to be linked to international trade in the goods that embody those advances.

There are various arguments for restricting trade: They are as follows:

– to protect strategic industries – notably agricultural – without which the country would be in danger if there was a war.

– to make imports more expensive than home-produced substitutes, and thereby reduce a balance of payment deficit;

– as a protection against dumping (the selling of goods abroad at below cost price in order to destroy or weaken competitors or to earn foreign currency to pay for necessary imports);

– to retaliate against restrictions imposed by other countries;

– to protect ‘infant industries’ until they are large enough to achieve economies of scale and strong enough to compete internationally.

Economists and the general public often disagree about free trade. In 1933, for example, the United States faced the question of whether to ratify the North American Free Trade Agreement, which reduced trade restrictions among the United States, Canada, and Mexico. Opinion polls showed the general public in the United States about every split on the issue, and the agreement passed in Congress by only a narrow margin. Opponents viewed free trade as a threat to job security and the American standard of living. By contrast, economists overwhelmingly supported the agreement. They viewed free trade as a way of allocating production efficiently and raising living standards in all three countries.

To better understand economists’ view of trade, let’s suppose that the imaginary country of Isoland ignores the advice of its economics team and decides not to allow free trade in steel. The country remains in the equilibrium without international trade.

Then, one day, some Isolandian inventor discovers a new way to make steel at very low cost. The process is quite mysterious, however, and the inventor insists on keeping it a secret. What is odd is that the inventor doesn’t need any workers or iron to make steel. The only input he requires is wheat.

The inventor is hailed as genius. Because steel is used in so many products, the invention lowers the cost of many goods and allows all Isolandians to enjoy a higher standard of living. Workers who had previously produced steel do suffer when their factories close, but eventually they find work in other industries. Some become farmers and grow the wheat that the inventor turns into steel. Others enter new industries that emerge as a result of higher Isolandian living standards. Everyone understands that the displacement of these workers is an inevitable part of progress.

After several years, a newspaper reporter decides to investigate this mysterious new steel process. She sneaks into inventor’s factory and learns that the inventor is a fraud. The inventor has not been making steel at all. Instead, he has been smuggling wheat abroad in exchange for steel from other countries. The only thing that the inventor has discovered was the gains from international trade.

When the truth is revealed, the government shuts down the inventor’s operation. The price of steel rises, and workers return to jobs to steel factories. Living standards in Isoland fall back to their former levels. The inventor is jailed and held up top public ridicule. After all, he was no inventor. He was just an economist.

Text 3

As you read the passage, focus on the WTO origine and its functions.