The Goal Of A Free Trade Agreement Is To Abolish All Tariffs Among Member Countries

For many reasons, it is often useful for nations to coordinate their economic policies. Coordination can generate benefits that are not otherwise possible. The debate on trade wars between major countries in Chapter 7 “Trade Effects with Perfectly Competitive Markets,” Section 7.9 “Retaliation and Trade Wars,” is a clear example. It turns out that if countries cooperate and set zero tariffs against each other, it is likely that both countries will benefit from this in the event that both countries attempt to gain short-term benefits by setting optimal tariffs. This is only one advantage of cooperation. Countries that liberalize cross-border labour and capital flows, coordinate fiscal policy and resource allocation for agriculture and other sectors, and coordinate monetary policy may also benefit. A monetary union creates a common currency between a group of countries. These include the creation of a central monetary authority to determine monetary policy for the group as a whole. The Maastricht Treaty, signed by EU member states in 1992, proposed the adoption of a single European currency (euro) by 1999. There is concern that regional trade agreements will liberalise trade between their Member States, but will also strengthen incentives to increase protectionist barriers to countries outside the region.

The logic is that the market power of this region will be all the greater as the regional trade area will be large relative to the size of the global market. The higher the market power, the greater the cost of tariffs and export taxes in the region. Thus, the regional approach to trade liberalization could lead to the formation of large “trade blocs” that trade freely among members, but stifle trade with the rest of the world. For this reason, some economists have argued that the multilateral approach to trade liberalization, represented by trade liberalization agreements in successive WTO cycles, leads to global free trade rather than a regional or preferred approach. Perhaps the best example of economic and monetary union is that of the United States. Each U.S. state has its own government that establishes rules and laws for its own residents. However, each state transmits, to some extent, control of foreign policy, agricultural policy, social policy and monetary policy to the federal government.

Goods, services, labour and capital can all flow freely, without restrictions between U.S. states, and the nation establishes a common trade policy.

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