Advantages and Disadvantages of Free Trade

A.
Advantages of free trade

Free trade occurs when there are no artificial barriers put in place by
governments to restrict the flow of goods and services between trading
nations.
When trade barriers, such as tariffs and subsidies are put in place, they
protect domestic producers from international competition and redirect,
rather than create trade flows.
i.
Increased production
Free trade enables countries to specialise in the production of those
commodities in which they have a comparative advantage .
With specialisation countries are able to take advantage of
efficiencies generated from economies of scale and increased
output.
International trade increases the size of a firms market, resulting in
lower average costs and increased productivity, ultimately leading
to increased production.
ii.
Production efficiencies
Free trade improves the efficiency of resource allocation. The more
efficient use of resources leads to higher productivity and increasing
total domestic output of goods and services.
Increased competition promotes innovative production methods, the
use of new technology, marketing and distribution methods.
iii.
Benefits to consumers
Consumers benefit in the domestic economy as they can now obtain
a greater variety of goods and services.
The increased competition ensures goods and services, as well as
inputs, are supplied at the lowest prices. For example in Australia
imported motor vehicles would cost 35% more if the 1998 tariff
levels still applied. Clothing and footwear would also cost around
24% more.
iv.
Foreign exchange gains

When Australia sells exports overseas it receives hard currency from
the countries that buy the goods. This money is then used to pay for
imports such as electrical equipment and cars that are produced
more cheaply overseas.
v.
Employment
Trade liberalisation creates losers and winners as resources move to

more productive areas of the economy. Employment will increase in
exporting industries and workers will be displaced as import
competing industries fold (close down) in the competitive
environment. With free trade many jobs have been created in
Australia, especially in manufacturing and service industries, which
can absorb the unemployment created through restructuring as
firms close down or downsize their workforce. When tariffs
wereincreased substantially in the period 19741984 for textiles
and footwear - employment in the sector actually fell by 50 000,
adding to overall unemployment.
vi.
Economic growth
The countries involved in free trade experience rising living
standards, increased real incomes and higher rates of economic
growth. This is created by more competitive industries, increased
productivity, efficiency and production levels.
B. Disadvantages of free trade

Although free trade has benefits, there are a number of arguments put
forward by lobby groups and protestors who oppose free trade and trade
liberalisation. These include:
i.
With the removal of trade barriers, structural

unemployment may occur in the short term. This can impact
upon large numbers of workers, their families and local economies.
Often it can be difficult for these workers to find employment in
growth industries and government assistance is necessary.
ii.
Increased domestic economic instability from international

trade cycles, as economies become dependent on global
markets. This means that businesses, employees and consumers
are more vulnerable to downturns in the economies of our trading
partners, eg. Recession in the USA leads to decreased demand for
Australian exports, leading to falling export incomes, lower GDP,
lower incomes, lower domestic demand and rising unemployment.
iii.
International markets are not a level playing field as

countries with surplus products may dump them on world markets
at below cost. Some efficient industries may find it difficult to
compete for long periods under such conditions. Further, countries
whose economies are largely agricultural face unfavourable terms
of trade (ratio of export prices to import prices) whereby their
export income is much smaller than the import payments they
make for high value added imports, leading to large CADs and
subsequently large foreign debt levels.
iv.
Developing or new industries may find it difficult to become

established in a competitive environment with no short-term
protection policies by governments, according to the infant
industries argument. It is difficult to develop economies of scale in
the face of competition from large foreign TNCs. This can be applied
to infant industries or infant economies (developing economies).
v.
Free trade can lead to pollution and other environmental

problems as companies fail to include these costs in the price of
goods in trying to compete with companies operating under weaker
environmental legislation in some countries.
vi.
Pressure to increase protection during the GFC

During the global financial crisis and recession of 2008-2009, the
impact of falling employment meant that protection pressures
started to rise in many countries. In New South Wales, for example,
the state government was criticised for purchasing imported
uniforms for police and firefighters at cheaper prices rather than
purchasing Australian made uniforms from Australian companies.
Similar pressures were faced by governments in the United States,
Britain and other European countries.
Advantages of Free Trade

Free trade is the term given to trade between nations that takes place without
the imposition of barriers in the form of tariffs, quotas or other measures by
governments or international organizations. Free trade is generally considered by
economists to be beneficial to international trade by encouraging
competition, innovation, efficient production and consumer choice.
There are some arguments against international trade that often lead to political
pressure to impose barriers to trade with the aim of protecting domestic
industries and the jobs of workers in those industries.
International trade also means that consumers in a particular country have a
wider choice of goods, as they find imported as well as domestic goods on
display in the shops. Domestic businesses may also have a chance to reduce
costs by buying imported raw materials from abroad or importing new
technology. Both individuals and businesses may have access to imported
products that do not exist on the domestic market and would not be available
without international trade.
The theory of comparative advantage first put forward by David Ricardo in

the first part of the nineteenth century demonstrated that countries may boost
their production by specializing in those industries for which their
opportunity cost is lower than for their competitors. By engaging in
international trade, countries may then export those goods or services that they
are most efficient in producing and import the items which other countries may
produce more efficiently.
By concentrating on certain industries, it may be possible for countries and the
firms operating in their territory to build up economies of scale that lower
their costs and boost productivity. Generally, larger organizations may
compete more efficiently on the international market by keeping control over
their costs of production and managing their supply chain to reduce transport
and inventory costs. International trade increases competition as domestic
industries must compete with foreign firms in the same industry as well as other
firms in their own country. This compels domestic industries to look for ways to
keep costs down by operating more efficiently. This gives them an incentive
to innovate and look for improved products, processes and marketing methods.
This constant search for new ideas and technology enables them to compete on
the international market.
Disadvantages of Free Trade

International trade also involves some risks for a country because the
international market conditions are out of the control of any government and are
often unpredictable and liable to fluctuation. As the terms of trade change, a
particular industry in a country can fall into decline, resulting in factory closures
and unemployment. The labor market is not fully flexible, and workers may have
difficulty retraining for other industries or moving to other locations to find work.
Structural unemployment may therefore cause problems for a countrys
economy.
A country may become too dependent on the export of a particular
commodity; this leaves the economy vulnerable to fluctuations in the price
of that commodity. This is often the case with former colonies that were
compelled to cultivate a limited number of crops such as cereals or mine for a
particular metal. The price of agricultural products or minerals on the global
market fluctuates greatly with changes in international supply and demand
which are outside the control of the producer countries.
The distribution of income between countries may be more uneven as a
result of international trade, because some countries will be able to take
advantage of natural resources, skilled workforce or economies of scale to sell
their goods and services internationally on favorable terms. Within each
particular country, international trade may increase the gap between rich
and poor because those who benefit most from international trade may be the
rich elites who own the main assets of the country.
For individual firms trading internationally, the business risks are increased. They
are exposed to the risk of falls in demand as a result of changes in taste or
fashion and problems resulting from the introduction of new technology or more
efficient processes by their international competitors. Credit risks can be high
and the cost of borrowing may increase unexpectedly, making such firms
uncompetitive.
Countries often need to become part of a larger trading bloc to obtain favorable
terms of trade internationally, but such economic benefits may come at the cost
of a loss of sovereignty, as important decisions affecting the national economy
are made by the international trading bloc rather than by its individual members.
The inflow of international goods into a country may cause other problems such
as an erosion of the national culture.
Arguments for Protectionism

Protectionism is still common in the modern world, though it is sometimes
disguised in the form of other measures such as health and safety. Countries
sometimes argue that tariff barriers are necessary to protect their infant or
pioneer industries that have not yet grown large enough to benefit from
economies of scale and compete on the international scene. Tariff barriers
increase the costs of imports, making them uncompetitive. The danger of such
protection of domestic industries is that they have no incentive to innovate and
become more efficient, remaining uncompetitive and in need of protection
indefinitely.
Governments may alternatively argue that tariff or quota barriers are necessary
to protect domestic employment. They may be reluctant to allow declining
industries to disappear because the resulting unemployment problem among
former workers in those industries may be difficult to deal with. However, one
might argue that in this case subsidies or other government support might be
preferable to setting up tariff barriers, as these might enable the industries to
innovate and become competitive again. This also preserves choice for the
domestic consumers who would still have access to imported goods at
a reasonable price.
Other arguments put forward for protectionism include the need to keep
strategic industries such as defense or space technology under national control.
Another argument put forward is that tariff barriersdiscourage the dumping of
foreign goods on the domestic market at low prices. Generally, however, it may
be said that there are alternative ways of achieving these goals.

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A.

Advantages of free trade

Foreign exchange gains

Trade liberalisation creates losers and winners as resources move to

B. Disadvantages of free trade

With the removal of trade barriers, structural

Increased domestic economic instability from international

International markets are not a level playing field as

Developing or new industries may find it difficult to become

Free trade can lead to pollution and other environmental

Pressure to increase protection during the GFC

Advantages of Free Trade

The theory of comparative advantage first put forward by David Ricardo in

Disadvantages of Free Trade

Arguments for Protectionism

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