Free-trade area

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Stages of economic integration around the World (each country colored according to the most integrated form that it participates with):
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Economic and monetary union (CSME/EC$, EU/EUR, Switzerland-Liechtenstein/CHF)
Economic union (CSME, EU, EAEU, MERCOSUR, GCC, SICA)
Customs and monetary union (CEMAC/XAF, UEMOA/XOF)
Common market (EEA-Switzerland)
Customs union (CAN, EAC, EUCU, SACU)
Multilateral Free Trade Area (ASEAN (mismarked), CEFTA, CISFTA, COMESA, CPTPP (mismarked), DCFTA, EFTA, GAFTA, USMCA, SAFTA, AANZFTA, PAFTA, SADCFTA)
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e Economic integration stages (World).png
Stages of economic integration around the World (each country colored according to the most integrated form that it participates with):
   Economic and monetary union (CSME/EC$, EU/, Switzerland–Liechtenstein/CHF)
   Common market ( EEA–Switzerland)

A free-trade area is the region encompassing a trade bloc whose member countries have signed a free trade agreement (FTA). Such agreements involve cooperation between at least two countries to reduce trade barriers, import quotas and tariffs, and to increase trade of goods and services with each other. If natural persons are also free to move between the countries, in addition to a free-trade agreement, it would also be considered an open border. It can be considered the second stage of economic integration. [1]


It is important to note the difference between customs unions and free-trade areas. Both types of trading blocs are related to internal arrangements which parties conclude in order to liberalize and facilitate trade among themselves. The crucial difference between customs unions and free-trade areas is their approach to third parties. While a customs union requires all parties to establish and maintain identical external tariffs with regard to trade with non-parties, parties to a free-trade area are not subject to such requirement. Instead, they may establish and maintain whatever tariff regime applying to imports from non-parties as deemed necessary. [2] In a free-trade area without harmonized external tariffs, to eliminate the risk of trade deflection, parties will adopt a system of preferential rules of origin. [3]

Regarding the term free-trade area, it is originally meant by the General Agreement on Tariffs and Trade (GATT 1994) to include only trade in goods. [4] An agreement with a similar purpose, i.e., to enhance liberalization of trade in services, is named under Article V of the General Agreement on Trade in Service (GATS) as an "economic integration agreement". [5] However, in practice, the term is now widely used to refer to agreements covering not only goods but also services and even investment d.

The formation of free-trade areas is considered an exception to the most favored nation (MFN) principle in the World Trade Organization (WTO) because the preferences that parties to a free-trade area exclusively grant each other go beyond their accession commitments. [6] Although Article XXIV of the GATT allows WTO members to establish free-trade areas or to adopt interim agreements necessary for the establishment thereof, there are several conditions with respect to free-trade areas, or interim agreements leading to the formation of free-trade areas.

Firstly, duties and other regulations maintained in each of the signatory parties to a free-trade area, which are applicable at the time such free-trade area is formed, to the trade with non-parties to such free-trade area shall not be higher or more restrictive than the corresponding duties and other regulations existing in the same signatory parties prior to the formation of the free-trade area. In other words, the establishment of a free-trade area to grant preferential treatment among its member is legitimate under WTO law, but the parties to a free-trade area are not permitted to treat non-parties less favorably than before the area is established. A second requirement stipulated by Article XXIV is that tariffs and other barriers to trade must be eliminated to substantially all the trade within the free-trade area. [7]

Free trade agreements forming free-trade areas generally lie outside the realm of the multilateral trading system. However, WTO members must notify to the Secretariat when they conclude new free trade agreements and in principle the texts of free trade agreements are subject to review under the Committee on Regional Trade Agreements. [8] Although a dispute arising within free-trade areas are not subject to litigation at the WTO's Dispute Settlement Body, "there is no guarantee that WTO panels will abide by them and decline to exercise jurisdiction in a given case". [9]

Economic aspects of free-trade areas

Trade diversion and trade creation

In general, trade diversion means that a free-trade area would divert trade away from more efficient suppliers outside the area towards less efficient ones within the areas. Whereas, trade creation implies that a free-trade area creates trade which may not have otherwise existed. In all cases trade creation will raise a country's national welfare. [10]

Both trade creation and trade diversion are crucial effects found upon the establishment of a free-trade area. Trade creation will cause consumption to shift from a high-cost producer to a low-cost one, and trade will thus expand. In contrast, trade diversion will lead to trade shifting from a lower-cost producer outside the area to a higher-cost one inside the area. [11] Such a shift will not benefit consumers within the free-trade area as they are deprived the opportunity to purchase cheaper imported goods. However, economists find that trade diversion does not always harm aggregate national welfare: it can even improve aggregate national welfare if the volume of diverted trade is small. [12]

Free-trade areas as public goods

Economist have made attempts to evaluate the extent to which free-trade areas can be considered public goods. They firstly address one key element of free-trade areas, which is the system of embedded tribunals which act as arbitrators in international trade disputes. This system as a force of clarification for existing statutes and international economic policies as affirmed in the trade treaties. [13]

The second way in which free-trade areas are considered public goods is tied to the evolving trend of them becoming “deeper”. The depth of a free-trade area refers to the added types of structural policies that it covers. While older trade deals are deemed “shallower” as they cover fewer areas (such as tariffs and quotas), more recently concluded agreements address a number of other fields, from services to e-commerce and data localization. Since transactions among parties to a free-trade area are relatively cheaper as compared to those with non-parties, free-trade areas are conventionally found to be excludable. Now that deep trade deals will enhance regulatory harmonization and increase trade flows with non-parties, thus reduce the excludability of FTA benefits, new generation free-trade areas are obtaining essential characteristics of public goods. [14]

Qualifying for preferences under a free-trade area

Unlike a customs union, parties to a free-trade area do not maintain common external tariffs, which means they apply different customs duties, as well as other policies with respect to non-members. This feature creates the possibility of non-parties may free-riding preferences under a free-trade area by penetrating the market with the lowest external tariffs. Such risk necessitates the introduction of rules to determine originating goods eligible for preferences under a free-trade area, a need that does not arise upon the formation of a customs union. [15] Basically, there is a requirement for a minimum extent of processing that results in "substantial transformation" to the goods so that they can be considered originating. By defining which goods are originating in the PTA, preferential rules of origin distinguish between originating and non-originating goods: only the former will be entitled to preferential tariffs scheduled by the free-trade area, the latter must pay MFN import duties. [16]

It is noted that in qualifying for origin criteria, there is a differential treatment between inputs originating within and outside a free-trade area. Normally inputs originating in one FTA party will be considered as originating in the other party if they are incorporated in the manufacturing process in that other party. Sometimes, production costs arising in one party is also considered as that arising in another party. In preferential rules of origin, such differential treatment is normally provided for in the cumulation or accumulation provision. Such clause further explains the trade creation and trade diversion effects of a free-trade area mentioned above, because a party to a free-trade area has the incentive to use inputs originating in another party so that their products may qualify for originating status. [17]

Databases on free-trade areas

Since there are hundreds of free-trade areas currently in force and being negotiated (about 800 according to ITC's Rules of Origin Facilitator, counting also non-reciprocal trade arrangements), it is important for businesses and policy-makers to keep track of their status. There are a number of depositories of free trade agreements available either at national, regional or international levels. Some significant ones include the database on Latin American free trade agreements constructed by the Latin American Integration Association (ALADI), [18] the database maintained by the Asian Regional Integration Center (ARIC) providing information agreements of Asian countries, [19] and the portal on the European Union's free trade negotiations and agreements. [20]

At the international level, there are two important free-access databases developed by international organizations for policy-makers and businesses:

WTO's Regional Trade Agreements Information System

As WTO members are obliged to notify to the Secretariat their free trade agreements, this database is constructed based on the most official source of information on free trade agreements (referred to as regional trade agreements in the WTO language). The database allows users to seek information on trade agreements notified to the WTO by country or by topic (goods, services or goods and services). This database provides users with an updated list of all agreements in force, however, those not notified to the WTO may be missing. It also displays reports, tables and graphs containing statistics on these agreements, and particularly preferential tariff analysis. [21]

ITC's Market Access Map

The Market Access Map was developed by the International Trade Centre (ITC) with the objectives to facilitate businesses, governments and researchers in market access issues. The database, visible via the online tool Market Access Map, includes information on tariff and non-tariff barriers in all active trade agreements, not limited to those officially notified to the WTO. It also documents data on non-preferential trade agreements (for instance, Generalized System of Preferences schemes). Up until 2019, Market Access Map has provided downloadable links to texts agreements and their rules of origin. [22] The new version of Market Access Map forthcoming this year will provide direct web links to relevant agreement pages and connect itself to other ITC's tools, particularly the Rules of Origin Facilitator. It is expected to become a versatile tool which assists enterprises in understanding free trade agreements and qualifying for origin requirements under these agreements. [23]

See also

Related Research Articles

Customs union Type of trade bloc with a free trade area and common external tariff

A customs union is generally defined as a type of trade bloc which is composed of a free trade area with a common external tariff.

Trade agreement

A trade agreement is a wide-ranging taxes, tariff and trade treaty that often includes investment guarantees. It exists when two or more countries agree on terms that help them trade with each other. The most common trade agreements are of the preferential and free trade types, which are concluded in order to reduce tariffs, quotas and other trade restrictions on items traded between the signatories.

A trade bloc is a type of intergovernmental agreement, often part of a regional intergovernmental organization, where barriers to trade are reduced or eliminated among the participating states.

ASEAN Free Trade Area Free trade area of the Association of South East Asian Nations

The ASEAN Free Trade Area (AFTA) is a trade bloc agreement by the Association of Southeast Asian Nations supporting local trade and manufacturing in all ASEAN countries, and facilitating economic integration with regional and international allies. It stands as one of the largest and most important free trade areas (FTA) in the world, and together with its network of dialogue partners, dri ve some of the world's largest multilateral forums and blocs, including Asia-Pacific Economic Cooperation, East Asia Summit and Regional Comprehensive Economic Partnership.

In international economic relations and international politics, most favoured nation (MFN) is a status or level of treatment accorded by one state to another in international trade. The term means the country which is the recipient of this treatment must nominally receive equal trade advantages as the "most favoured nation" by the country granting such treatment. In effect, a country that has been accorded MFN status may not be treated less advantageously than any other country with MFN status by the promising country. There is a debate in legal circles whether MFN clauses in bilateral investment treaties include only substantive rules or also procedural protections. The members of the World Trade Organization (WTO) agree to accord MFN status to each other. Exceptions allow for preferential treatment of developing countries, regional free trade areas and customs unions. Together with the principle of national treatment, MFN is one of the cornerstones of WTO trade law.

Central European Free Trade Agreement

The Central European Free Trade Agreement (CEFTA) is an international trade agreement between countries mostly located in Southeastern Europe. Founded by representatives of Poland, Hungary and Czechoslovakia, CEFTA expanded to Albania, Bosnia and Herzegovina, Bulgaria, Croatia, Moldova, Montenegro, North Macedonia, Romania, Serbia, Slovenia and the UNMIK.

Australia–United States Free Trade Agreement Preferential trade agreement

The Australia – United States Free Trade Agreement (AUSFTA) is a preferential trade agreement between Australia and the United States modelled on the North American Free Trade Agreement (NAFTA). The AUSFTA was signed on 18 May 2004 and officially came into effect on 1 January 2005.

Preferential trading area type of trade bloc

A preferential trade area is a trading bloc that gives preferential access to certain products from the participating countries. This is done by reducing tariffs but not by abolishing them completely. It is the first stage of economic integration.

Economic integration

Economic integration is the unification of economic policies between different states, through the partial or full abolition of tariff and non-tariff restrictions on trade.

A free trade agreement (FTA) or treaty is an agreement according to international law to form a free-trade area between the cooperating states. There are two types of trade agreements - bilateral and multilateral. Bilateral trade agreements occur when two countries agree to loosen trade restrictions between the two of them, generally to expand business opportunities. Multilateral trade agreements are agreements among three or more countries, and are the most difficult to negotiate and agree.

Market access Ability to sell goods and services across borders

In international trade, market access is a company's ability to enter a foreign market by selling its goods and services in another country. Market access is not the same as free trade, because market access is normally subject to conditions or requirements, whereas under ideal free trade conditions goods and services can circulate across borders without any barriers to trade. Expanding market access is therefore often a more achievable goal of trade negotiations than achieving free trade.

Certificate of origin International trade document

A Certificate of OriginDeclaration of Origin is a document widely used in international trade transactions which attests that the product listed therein has met certain criteria to be considered as originating in a particular country. A certificate of origin / declaration of origin is generally prepared and completed by the exporter or the manufacturer, and may be subject to official certification by an authorized third party. It is often submitted to a customs authority of the importing country to justify the product's eligibility for entry and/or its entitlement to preferential treatment. Guidelines for issuance of Certificates of Origin by chambers of commerce globally are issued by the International Chamber of Commerce.

International Trade Centre

The International Trade Centre (ITC) is a multilateral agency which has a joint mandate with the World Trade Organization (WTO) and the United Nations (UN) through the United Nations Conference on Trade and Development (UNCTAD).

Rules of origin Rules to attribute a country of origin to a product

Rules of origin are the rules to attribute a country of origin to a product in order to determine its "economic nationality". The need to establish rules of origin stems from the fact that the implementation of trade policy measures, such as tariffs, quotas, trade remedies, in various cases, depends on the country of origin of the product at hand.

European Union Customs Union EUs common customs area

The European Union Customs Union (EUCU) is a customs union which consists of all the member states of the European Union (EU), Monaco, and the British Overseas Territory of Akrotiri and Dhekelia. Some detached territories of EU states do not participate in the customs union, usually as a result of their geographic separation. In addition to the EUCU, the EU is in customs unions with Andorra, San Marino and Turkey, through separate bilateral agreements.

The Comprehensive Economic Partnership for East Asia (CEPEA) is a Japanese led proposal for trade co-operation, free trade agreement, among the 16 present member countries of the East Asia Summit. All those movements and efforts were taken over by the following Regional Comprehensive Economic Partnership.

Commercial policy

A commercial policy is a government's policy governing international trade. Commercial policy is an all encompassing term that is used to cover topics which involve international trade. Trade policy is often described in terms of a scale between the extremes of free trade on one side and protectionism on the other. A common commercial policy can sometimes be agreed by treaty within a customs union, as with the European Union's common commercial policy and in Mercosur. A nation's commercial policy will include and take into account the policies adopted by that nation's government while negotiating international trade. There are several factors that can have an impact on a nation's commercial policy, all of which can have an impact on international trade policies.

The spaghetti bowl effect is the multiplication of free trade agreements (FTAs), supplanting multilateral World Trade Organization negotiations as an alternative path toward globalization. The term was first used by Jagdish Bhagwati in 1995 in the paper: “US Trade policy: The infatuation with free trade agreements”, where he openly criticized FTAs as being paradoxically counter-productive in promoting freer and more opened global trades. According to Bhagwati, too many crisscrossing FTAs would allow countries to adopt discriminatory trade policies and reduce the economic benefits of trade.

The Hong Kong – New Zealand Closer Economic Partnership Agreement is a bilateral free trade agreement signed between the Hong Kong Special Administrative Region of China and New Zealand in March 2010. It is the first bilateral free trade agreement on goods and services that Hong Kong SAR has signed with a foreign country. Hong Kong-New Zealand CEPA complements New Zealand's Free Trade Agreement (FTA) with China two years before, and enhances the potential for Hong Kong to be used as a platform for trade into the Mainland China. Hong Kong is a Special Administrative Region of China but has autonomy in matters of trade.


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