The Impact of Free Trade Agreements on Trade Flows - Research Paper

Introduction

In many countries, the economic conditions often tend to be affected by the proliferation of Free Trade Agreement (FTA) as a result of foreign trade (Urata & Okabe, 2007). The impact of FTAs on foreign trade often involves the assessment of two distinct models. These include indicators of intra-FTA interdependence and the Gravity Model Approach on bilateral trade flows. Hence, the need to examine these changes experienced within various trade flows such as trade creation and diversion effects is based consistently on the disaggregation of trade data. This paper will focus on the different patterns associated with trade data by providing an analysis for different sectors through trade creation and diversion effect. With regards to the concept of trade flows, the impact of FTAs may reveal several interesting observations in relation to the case for many products including the EU and NAFTA, among others.

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In some instances, various factors may contribute to the rapid expansion of FTAs. For instance, this promotion has enabled many countries to pursue both bilateral and plurilateral aspects of trade liberalization. As such, both trade creation and trade diversion have significantly contributed to the proliferation of FTAs, not only for FTA members but also non-members. The trade creation effect implies the context of trade barrier elimination among FTA members. In turn, this process ensures that they engage in trading activities by making the necessary adjustments in resource allocation and economic welfare. On the other hand, trade diversion commonly associates itself with the replacement of imports by the FTA for highly reliable non-member countries to that of less reliable FTA members.

Intra-FTA Trade Dependency for Selected FTAs

The promotion of trade among FTA members incorporates the examination of two indicators namely trade intensity and relative share. As a representative factor, the intra-regional dependence in foreign trade is encompassed by both indicators for a selected number of FTAs. In the relative share indicator, the exceptions of many FTAs such as the Japan-Singapore FTA may rise depending on the level of enactment (Baier & Bergstrand, 2009). In most cases, the relative share increase is categorized as one of the profound ways to enhance trade with FTA members. Overall, for any particular region or country presented, the intra-FTA trade presumably plays an integral role in determining the relative percentage shares despite the smaller magnitude.

Trading relationships are measured in terms of the trading index which encompass "pure" intensification (Baier & Bergstrand, 2009). Hence, a country may encounter an increase in trade due to the expansion of trade through trade partnership. In this regard, trade intensity index may change over time depending on the trade volume in the bilateral trade relationship. For the most part, the "bias" in the bilateral trade relationship is only considerate based on the value of the trade intensity is less than unity.

The Gravity Model Approach on Bilateral Trade Flows

The main aim of the gravity model is to analyze the volume of trade existing between two countries by considering various factors such as the market size and geographical distance. Over the past decades, the Gravity Model Approach has been used to examine the theoretical foundations prevalent within international trade (Baier & Bergstrand, 2007; Carrere, 2006). Based on the international trade theory, the framework of these foundations can be categorized according to imperfect substitutes, increasing the return to scale and product differentiation at firm-level. As a significant factor of international trade, the Gravity Model Approach all aspects of economic activities in relation to the economic geography.

The methodology of the gravity equation relates to both the effects of a regional trading arrangement such as FTAs and currency unions and international trading system such as the WTO. According to various researches, it is through the addition of a dummy variable that these effects can widely be enhanced. Thus, the value of unity can only be measured by the standard gravity model if country pairs belong to the same FTA. By applying the gravity model, major effects of FTAs such as the EU and NAFTA may be evaluated based on the multilateralism of trade creation and trade diversion.

The Economic and Political Impacts of the United States -South Korea FTA

Economic Aspect

In a compatible sense, a general computable model of Global Trade Analysis Project (GTAP) is efficient in analyzing the economic impacts of FTA. This process often allows the commodity flow data to be highly disaggregated. As such, it attempts to calculate the impacts in relation to certain factors including national economic indicators (such as GDP), welfare effects, and business performance metrics (such as profits or sales revenue) (Wei, Chen, & Rose, 2018). For a variety of decision makers, the GTAP ensures that the results obtained from several trade-offs can significantly contribute to positive welfare gains in absolute terms.

As mentioned above, the concept of free trade agreement (FTA) involves a treaty which is carried out by two or more countries. Thus, the agreement serves an integral purpose in reducing numerous trade barriers such as import tariffs existing between two countries. In this context, governments are permitted to induce restrictions on international trade to facilitate employment and domestic production. When looking at these measures in terms of a relative and absolute aspect, the US and South Korea may relate well in absolute terms, but the implication of favor may be reliant upon the relative terms (Wei, Chen, & Rose, 2018; Lee, Lee, & Sohn, 2011). Hence, the US is more likely to encounter a loss of gross output (sales revenue), especially in several manufacturing sectors in comparison to South Korea (the United States, 2001).

In the United States, the Trump Administration issued various trade policies with the intent of renegotiating or reconsidering the creation of American jobs. The Administration incorporated specific employment factors which include increasing American wages as well as the reduction of trade deficit (Wei, Chen, & Rose, 2018). Even though the US-Korea FTA exemplifies a divergence of results, from the US standpoint, the estimates of welfare gains are said to be around $368 million. Also, the GDP constitutes to about $45 million, and the sales revenue (total gross output) is estimated to encounter a net loss of $143 million. Mostly, these indications revolve around specific sectors which include agriculture, mining, construction and primary manufacturing. Concerning potential economies like South Korea, the results may be based on a continual shift through comparative advantage to that of U.S. economy.

Political Aspect

Despite the emphasis that has been carried out regarding the economic aspects of the U.S-Korea FTA, the governments of both countries established a political dimension relevant to the agreement. The U.S-Korea FTA enhances the strategic needs required to hold and strengthen both the political and economic alliance with other East Asian countries, especially China (Lee, Lee, & Sohn, 2011; United States, 2001). From the Korean government's perspective, aligning closer economic relations with the United States not only signifies a cooperation relationship but also assist in solidifying some key security issues such as the policies on North Korea.

Reflecting on the FTA negotiations, the process that was involved in declaring an ideal model raised questions regarding the provision of the FTA. Hence, both countries decided to deploy regional trade agreements (RTAs) which were in effect as of December 2008. As a significant part of the world trading system, the RTAs apply all aspects of bilateral and multilateral FTAs. Along with the WTO's multilateral trading system, strive for reaching agreements between countries can effectively resolute the different interests and views based on negotiation talks.

According to the United States government, the main reason why regulatory problems undermine the interests of U.S. businesses abroad is that of a lack of transparency (Lee, Lee, & Sohn, 2011). Nevertheless, the relevant laws and regulations of the importing countries tend to disregard certain opinions coming from the U.S. exporters. As a result of the current collusion between the Korean government and private corporations, the United States pointed out that it is essential to address raised regulatory and institutional issues consequently. In turn, this process may assist in applying pressure on Korea to enhance the transparency of its legal procedures as well as transparency of the provisions in need of publications and notices.

When addressing regulatory issues in the political dimension, applying the concept of reciprocity is essential and one of the most viable factors to consider. For instance, the U.S. laws and regulations can only experience change with regards to raised regulatory issues. On the contrary, it is important to note that the legal traditions and business practices may affect the conclusions of foreign businesses more inaccurately as a result of the significant differences. In addition, the promotion of individual competition emphasizes that there is a fair and just treatment of the governments and businesses involved.

Even though government interventions contribute as a significant factor in relation to traditional cooperative relationships, the role of the government should only focus on the interactions with private or other businesses. In the case of U.S-Korea FTA, the perceived government-private cooperation relationship may be effective based on the presumption of trade and investment (Lee & Lee, 2005). This process can be conducted through mutually-agreed communication channels including consultations. Hence, not only will it disregard the lack of transparency and unfair competition, but also promote the laws and customs of the parties involved to comprehend with each other.

Conclusion

In most economic analyses, the agreements tend to be based on the evaluation of policies in terms of welfare effects. Essentially, it is widely considered that to reexamine the economic impacts of the current trade policies; a policy debate must be carried out to provide a better understanding of the issues involved in the overall policy climate. These may range from factors such as national economic indicators including GDP to measures of business performance including sales revenue, profits and market share. The benefits of FTA can be measured in terms of the overall negative impacts existing within the trade barriers. Therefore, it is considerate to regulate these impacts by evaluating government policy interventions on trade including import tariff or quota, among others. In relation to the competition issue, the responsibility associated with applying the competition laws may be incorporated through the consistent emphasis carried out on the regulatory issues. Thus, the FTA negotiations can benefit from all aspects of political and economic dimensions with regards to the process involved in regulating the trade agreements.

References

Baier, S. L., & Bergstrand, J. H. (2007). Do free trade agreements increase members' international trade? Journal of International Economics, 71(1), 72-95.

Baier, S. L., & Bergstrand, J. H. (2009). Estimating the effects of free trade agreements on international trade flows using matching econometrics. Journal of International Economics, 77(1), 63-76.

Carrere, C. (2006). Revisiting the effects of regional trade agreements on trade flows with the proper specification of th...