Daily News Analysis

FREE TRADE AGREEMENT (FTA)

28th May, 2022 Economy

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Context

  • India and EU are working on FTA text.

What is a Free Trade Agreement (FTA)?

  • A free trade agreement is a pact between two or more nations to reduce barriers to imports and exports among them. Under a free trade policy, goods and services can be bought and sold across international borders with little or no government tariffs, quotas, subsidies, or prohibitions to inhibit their exchange.
  • FTAs usually cover trade in goods (such as agricultural or industrial products) or services (such as banking, construction, trading).
  • FTAs can also cover other intellectual property rights (IPRs), investment, government procurement and competition policy.

 

The concept of free trade is the opposite of trade protectionism or economic isolationism.

 

How a Free Trade Agreement Works

  • In the modern world, free trade policy is often implemented by means of a formal and mutual agreement of the nations involved.
  • For example, a nation might allow free trade with another nation, with exceptions that forbid the import of specific drugs not approved by its regulators, or animals that have not been vaccinated, or processed foods that do not meet its standards.

 

Advantages and Disadvantages of Free Trade Agreement

Pros:

1) Comparative Advantage: The idea that everyone benefits when countries produce and sell freely what they do most efficiently. In other words, everyone should specialize in what they do best and governments should intervene as little as possible in the process.

2) Protectionism is expensive: Basically, tariff and non-tariff barriers (NTBs) result in higher prices for consumers. Barrier costs are passed on to consumers, or consumers are forced to buy more expensive domestically produced goods.

3) Competition: The idea that competition fosters lower prices, efficiency in production, and innovation.

4) Functionalism: The argument that cooperation in one area (such as trade) promotes cooperation in other areas. In theory, the drug problem, immigration problems, etc. are more forthrightly addressed.

5) Interdependence: The idea that free trade leads to interconnections that make conflict too costly. In other words, dependency undercuts the likelihood of war. (Europe is a commonly cited example).

6) Economic Growth: Because free trade promotes economic growth, pressing social problems, such as unemployment, environmental deterioration, or illegal immigration can be alleviated.

7) Defense against protectionism elsewhere: Regional free trade agreements help offset the danger of protectionism elsewhere and secure markets for exporters. In other words, they give leverage against other large economic entities, like the European Union.

8) Introduction of capital and technology: For poorer countries, free trade can promote the introduction of capital and technology into their economies.

9) Democratization: Some think free trade even promotes democracy because it promotes discipline and transparency.

 

Cons:

1) Threats to domestic industries/jobs: Most mainstream economists want to dismiss these threats because they say free trade also creates jobs and growth. But labor unions and domestic industries use this argument to push protectionism. Clearly, free trade agreements can cause dislocations, and attendant ripple effects, in an economy, even if they create a bigger economic pie.

2) Infant Industries: Poorer countries have argued that they needed to protect “infant industries” so they can get them off the ground in the first place. Most economists see this as a valid argument, but argue that it then becomes hard to take the protections off.

3) Too much dependency on a few products: Specialization through comparative advantage could make an economy (especially a smaller economy) too dependent on a few resources or products. If demand falls in those areas, economic catastrophe could ensue.

4) Nice free traders can finish last: In the real world there are governments which control exports and imports, heavily subsidize their producers, or erect NTBs which limit trade. In this world, nice free traders can finish last. The US allowed discriminatory practices from others after WWII, but fights them now that it no longer represents the majority of the world economy.

5) Security is endangered: Protectionists sometimes argue that a country should not become so dependent that it cannot defend itself.

6) Cultural Imperialism: Example: Countries in Latin America and elsewhere (France is commonly cited) worry about cultural imperialism (Hollywood; rock and roll bands) and the loss of historic industries (French wines).

7) Trade is a powerful policy tool: When dealing with other countries trade leverage should not be given up because of a belief in economic rationalism. Similarly, we should not give up our sovereignty over trade matters to regional or international bodies. They shouldn’t be able to claim our laws are unfair barriers to trade.

8) Harmonization downward: Free trade could force countries to lower their environmental, labor, or other standards in order to compete. Also, such standards could be declared unfair trade practices by regional or international bodies.

 

India and FTAs

  • India has been talking free trade agreements with several partners – both bilateral and regional – over the past two years in a bid to boost export-oriented domestic manufacturing.
  • New Delhi has set an ambitious export shipment target of US$450-$500 billion by FY23.
  • Our current FTAs are with Sri Lanka, Singapore, ASEAN, Malaysia, Japan and Korea. We are also part of South Asia FTA, covering Pakistan, Nepal, Bangladesh and other countries in the region.
  • FTAs with Canada, Australia, UAE, Israel and now with the UK are in different stages of negotiations.

Left RCEP

  • India pulled out of the RCEP in 2019 citing risks to protecting the interests of its domestic manufacturers.
  • A similar situation has played out with other trade agreements with India believing that its domestic industry has benefitted less than that of the counter signatories.
  • Still, signing new FTAs and renegotiating existing trade agreements for more favourable terms is one way of mitigating the impact of leaving the RCEP.

 

The Regional Comprehensive Economic Partnership is a free trade agreement among the Asia-Pacific nations of Australia, Brunei, Cambodia, China, Indonesia, Japan, South Korea, Laos, Malaysia, Myanmar, New Zealand, the Philippines, Singapore, Thailand, and Vietnam.

 

 

Way Ahead

  • India needs to approach FTAs strategically and must think about mutual benefits or win-win situations where a FTA with India benefits our partners too, as much as it should benefit us.
  • This is necessary, for these FTAs will be much more valuable strategically to us in the pursuit of our larger goals than just providing us with a counter to China.
  • Further, India needs to ensure that technology sharing and transfers are included in our FTAs or general trade agreements with countries or blocs like Germany, Japan, Taiwan, Korea and even the USA. This will not only help India get access to new and cutting-edge technologies necessary to move up the industrial value chain, but also offer us a crucial advantage over China, whose pursuit of foreign tech transfers has been constrained by the lack of adequate intellectual property protection laws.
  • Moving up the value chain in manufacturing also requires easier access to raw materials. Our future FTAs or trade agreements must enable access to raw materials from resource rich countries like Australia, New Zealand, South Africa, Brazil, Chile, Argentina, Indonesia, Malaysia, USA and Canada.
  • Another important aspect of India’s FTA should be Infrastructure development to support India’s trade with its neighbours. India is geographically closer to South Asian nations as compared to China, however the proximity isn’t an advantage today because China has much better infrastructure built to improve connectivity with South Asia. India will have to make this part of its FTA policies in order to be really benefitting from trade with its neighbors in South Asia.

 

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