2 - The Economics of Preferential Trade Areas

Summary

A cornerstone of the Geneva-based multilateral organization, the GATT, and its more recent incarnation, the WTO, is the principle of non-discrimination: Member countries may not discriminate against goods entering their borders based on the country of origin. However, in a nearly singular exception to its own central prescript, the WTO does permit its members to enter into PTAs, provided these preferences are complete – thereby sanctioning the formation of FTAs, whose members are obligated to eliminate internal import barriers, and CUs, whose members additionally agree on a common external tariff against imports from nonmembers. Such PTAs are now in vogue. Even as multilateral approaches to trade liberalization – through negotiations organized by the GATT/WTO – have made substantial progress in reducing international barriers to trade, various countries have negotiated separate preferential trade treaties with each other in the form of GATT/WTO–sanctioned PTAs. Among the more prominent PTAs currently in existence are NAFTA, the European Economic Community (EEC), and the MERCOSUR (i.e., the CU between the Argentine Republic, Brazil, Paraguay, and Uruguay).

That a country entering an FTA (where it eliminates tariffs against select partners) is doing something distinct from free trade as such (where it eliminates tariffs against all imports regardless of country of origin) should be easy to see. What this implies for the liberalizing country is a little more difficult to understand.