EC 380: Lecture 9

.title[
# EC 380: Lecture 9
]
.subtitle[
## Trade Policy: International Agreements
]
.author[
### Philip Economides
]
.date[
### Winter 2024
]

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# Prologue

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# Recap

<br>

### Previously

* Quotas similar to tariffs but yield greater economic losses

* Domestic producers tend to prefer quotas to tariffs

* Not every non-tariff measure is considered protectionist

### Today

Trade agreements, joint policy outcomes and assessing recent history with our new knowledge

---

# Coordinating Trade Policy

<br>

Most countries part of .hi-pink[World Trade Organization] and adhere to a default non-discriminatory .hi-pink["Most Favored Nations"] (MFN) tariff rate schedule.

This .hi-pink[MFN] tariff schedule applies by default to each country within the WTO.

Exceptions in the use of .hi-pink[regional trade agreements], which apply reduced tariffs to set of parties included in an agreement.

* Free Trade Agreement

* Preferential Trade Agreements

* Customs Unions

---

# Free Trade Agreement

<br>

Consists of:

* Reduction or elimination of tariffs on qualified

* Intellectual Property Protection

* Harmonized Product Standards

U.S. has 14 FTAs with 20 countries which comprise about 40 percent of U.S. goods’ exports, with a main goal of .hi-pink[eliminating tariffs]

---

# Preferential Trade Agreements

<br>

Similar to an .hi-pink[FTA] but usually only focuses on the .hi-pink[reduction of tariffs] and covers a .hi-pink[narrower set of products]

A preferential trade agreement can also just be .hi-pink[unilateral] or for a particular amount of years.

The US maintains Preferential Trade Agreements with approximately 187 countries.

---

# Customs Union

<br>

Goes a step above and beyond. .hi-pink[Zero tariff rate] among member countries.

Standardized rates of customs duties on goods imported from other countries

* EU is a prevalent example of this system, introduced in 1960s

UK exit from the European Union and the Customs Union .hi-pink[changed rules] for British businesses doing business in Europe. Rare case of **reversal** of trade liberalization.

---

# Creation and Diversion

<br>

There are notable economic effects of these regional trade agreements

* Trade increases between countries through .hi-pink[two types]

* .hi-pink[Trade creation] occurs if member country imports product from other member that it originally produced for itself

* .hi-pink[Trade diversion] occurs when a member country imports a product from another member that it formerly imported from a country _outside the new trade region_

---

# Creation and Diversion

<br>

* Consumer surplus gained at home due to importing greater number of goods sold at lower prices

* Producer surplus gained by exporting country which now sells a greater volume of goods

* Generates welfare gains to both countries

Since good was not traded before, these results are directly translatable from .hi-pink[Ricardian] and .hi-pink[HO] model predictions.

---

# Creation and Diversion

<br>

* Diversion of trade away from country outside of the new trade region

* Will bring a loss in producer surplus due to reduced export sales

* May bring losses to countries inside free trade area too in certain cases

Consider the following numerical example.

---

# Creation and Diversion

* Suppose China is currently the US main partner on motor part imports

* Mexico and the US negotiate a regional trade agreement that lowers tariffs

* China loses .hi-pink[producer surplus], whereas Mexico gains

* Mexico may not be the most efficient (lowest-cost) producer of parts

In fact, we know China was the .hi-pink[most efficient source] due to the precise reliance the US had on China.

---

# Creation and Diversion

Consider the following table:

<table style="width:100%; margin-left: auto; margin-right: auto;" class="table">
 <thead>
  <tr>
   <th style="text-align:left;">  </th>
   <th style="text-align:left;"> 0% </th>
   <th style="text-align:left;"> 10% </th>
   <th style="text-align:left;"> 20% </th>
  </tr>
 </thead>
<tbody>
  <tr>
   <td style="text-align:left;"> From MEX, before PTA </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From CHN, before PTA </td>
   <td style="text-align:left;"> $19 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From MEX, after PTA </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From CHN, after PTA </td>
   <td style="text-align:left;"> $19 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From the US </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;">  </td>
   <td style="text-align:left;">  </td>
  </tr>
</tbody>
</table>

Under this free trade scenario Chinese costs are the lowest, and their goods would be imported

---

# Creation and Diversion

<br>

<table style="width:100%; margin-left: auto; margin-right: auto;" class="table">
 <thead>
  <tr>
   <th style="text-align:left;">  </th>
   <th style="text-align:left;"> 0% </th>
   <th style="text-align:left;"> 10% </th>
   <th style="text-align:left;"> 20% </th>
  </tr>
 </thead>
<tbody>
  <tr>
   <td style="text-align:left;"> From MEX, before PTA </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From CHN, before PTA </td>
   <td style="text-align:left;"> $19 </td>
   <td style="text-align:left;"> $20.90 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From MEX, after PTA </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From CHN, after PTA </td>
   <td style="text-align:left;"> $19 </td>
   <td style="text-align:left;"> $20.90 </td>
   <td style="text-align:left;">  </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From the US </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;">  </td>
  </tr>
</tbody>
</table>

Under the .hi-pink[10% tariff] scenario, switching into a PTA makes Mexican goods suddenly become the cheapest option.

---

# Creation and Diversion

<br>

<table style="width:100%; margin-left: auto; margin-right: auto;" class="table">
 <thead>
  <tr>
   <th style="text-align:left;">  </th>
   <th style="text-align:left;"> 0% </th>
   <th style="text-align:left;"> 10% </th>
   <th style="text-align:left;"> 20% </th>
  </tr>
 </thead>
<tbody>
  <tr>
   <td style="text-align:left;"> From MEX, before PTA </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;"> $24 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From CHN, before PTA </td>
   <td style="text-align:left;"> $19 </td>
   <td style="text-align:left;"> $20.90 </td>
   <td style="text-align:left;"> $22.80 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From MEX, after PTA </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;"> $20 </td>
   <td style="text-align:left;"> $20 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From CHN, after PTA </td>
   <td style="text-align:left;"> $19 </td>
   <td style="text-align:left;"> $20.90 </td>
   <td style="text-align:left;"> $22.80 </td>
  </tr>
  <tr>
   <td style="text-align:left;"> From the US </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;"> $22 </td>
   <td style="text-align:left;"> 22 </td>
  </tr>
</tbody>
</table>

PTA keeps Mexican auto part costs fixed at $20.

---

# Creation and Diversion

<br>

.hi-pink[Trade Creation]: Upon forming a PTA, the US collects no tariffs from US importers shipping from Mexico.

* Switch to Mexican imports at $20 per unit

* US gains from cost reduction relative to its previous scenario. Mexican exports rise.

* Chinese welfare neither gains or loses due to lack of pre-existing trade.

---

# Creation and Diversion

<br>

.hi-pink[Under 10% tariff MFN], US would have been paying $20.90 to produce goods using Chinese imports.

.hi-pink[Trade Diversion]: Upon forming a PTA, the US collects no tariffs from US importers shipping from Mexico.

* Switch from Chinese to Mexican imports at $20 per unit

* US gains 90c on lower costs but loses 1.90 in tariff revenue, per unit welfare loss

* Producer surplus falls in China due to loss of pre-existing trade.

---

# Reversal: Brexit

Voted on in 2016, took 4 years of negotiation to enact.

So if trade agreements lead to more trade and more trade boosts welfare, why did the UK reverse all the progress it made in .hi-pink[trade liberalization]?

---

# Reversal: Brexit

Huge chaos throughout. UK assumed it would face continued free access to the EU single market due to its economic importance.

In reality, UK had derived about 13% of its GDP from exports to the EU, while conversely only 3% of the EU’s GDP derived from exports to the UK.

Although no tariffs are applied to trade, UK exporters have to prove they meet EU standards

* Was not previously necessary

* Leads to extra charges, taxes, paperwork and the halt of some exports to EU

---

# Reversal: Brexit

One major hurdle: .hi-pink[1998 Good Friday (Belfast) Agreement]

* This earlier international agreement promises to keep open border between Ireland and Northern Ireland

* Infeasible if we need border control to check whether goods have appropriate documentation

* Compromise met by keeping NI in the European Single Market and allowing the Irish Sea to act as a trade border.

* Goods are checked upon route between NI and rest of the UK. Politically sensitive decision for ardent UK supporters in NI.

---

# Reversal: Brexit

<br>

* Brexit has reduced UK trade openness, foreign direct investment (FDI) inflows, and immigration growth

* New border frictions and higher transport costs pose new barriers to trade,

* FDI inflows are unlikely to return to levels reached in the 1990s and 2000s

* A less diverse workforce and lower FDI levels can also hamper productivity growth

---

# Unconventional Hidden Protection

---

# Unconventional Hidden Protection

Recent policy seeks to intervene with containerized trade in the US. Why?

---

# Unconventional Hidden Protection

<br>

Recently the Biden Administrative has signed into law the .hi-pink[Ocean Shipping Reform Act 2022]. This act features:

* Punish transport operators charging excessive demmurge fees

* Penalize companies denying vessel capacity allocations to US exporters

* Drive up data requirements from transport operators

All of these policies will translate into higher shipping costs for the average US importer. How would you expect this to affect trade outcomes?

---

# US and the WTO

<br>

Trump administration skeptical of dispute settlement procedure of WTO

* Used several provisions of trade law to apply tariffs that had only been used infrequently in that way

* Many countries objected to US impositions of tariffs

* Even before WTO ruling on legitimacy of tariffs, countries responded by applying tariffs to US exports

---

# US and the WTO

<br>

Since Dec 10 2019, WTO not able to issue rulings because several judges finished terms and US .hi-pink[blocked appointment of any new judges].

Ability of WTO to resolve issues between countries is heavily sensitive to US policitcal atmosphere.

.hi-pink[Managed Trade]: To resolve these matters and begin lowering tariff rates, US required China nearly double their imports of US goods.

Given recent epidemic, triggering this kind of adoption of US goods has been .hi-pink[near-impossible to achieve].

---

# US and the WTO

China bought __none__ of the .hi-pink[additional $200 billion of exports] Trump's deal had promised.

* Trade war and phase on agreement did little to change China's economic policymaking

* Beijing intent on becoming more state-centered, less market-oriented

* With the December 31, 2021 deadline for the $200 billion of purchase commitments now past, US policymakers are seeking a different approach

* United States working with other major economies, e.g. Trade and Technology Council

---

* A variety of trade agreements exist under current international norms

* Agreements riddled with uncertainty and not always welfare enhancing

* Multi-year negotiations can make or break a domestic economy

*  Even if policymakers agree multilateral purchase commitments with respect to China, they should learn right lessons from US experiences

* How do international agreements fare with respect to the environment?

---