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Impact Of Free Trade On International Business

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Published: Mon, 08 May 2017

“Globalization” refers to the growing interdependence of countries resulting from the increasing integration of trade, finance, people, and ideas in one global marketplace. International trade and cross-border investment flows are the main elements of this integration. Globalization started after World War II but has accelerated considerably since the mid-1980s, driven by two main factors. One involves technological advances that have lowered the costs of transportation, communication, and computation to the extent that it is often economically feasible for a firm to locate different phases of production in different countries. The other factor has to do with the increasing liberalization of trade and capital markets: more and more governments are refusing to protect their economies from foreign competition or influence through import tariffs and nontariff barriers such as import quotas, export restraints, and legal prohibitions. What it’s means here is “free trade”. (Worldbank, ND) Free trade is a system in which goods, capital, and labor flow freely between nations, without barriers which could hinder the trade process. Many nations have free trade agreements, and several international organizations promote free trade between their members. (wiseGEEK, 2010) Thus in simple, it means a country can import or export from other one without any barrier.

A number of international institutions established in the wake of World War II-including the World Bank, International Monetary Fund (IMF), and General Agreement on Tariffs and Trade (GATT), succeeded in 1995 by the World Trade Organization (WTO)-have played an important role in promoting free trade in place of protectionism. (Worldbank, ND) However, there are a number of arguments both for and against this practice, from a range of economists, politicians, industries, and social scientists. (wiseGEEK, 2010) Let us reviews them through the impact of free trade on international business. Those impacts can be categorized into gains or positive and negative impacts. (Latestbusinessupdates, 2010)

Postive impact of Free Trade

Free trade is highly supported by the economic theory of comparative advantage. According to this, a country would produce the goods in which it has comparative advantage and exports them in turn of imports which are relatively expensive if produced at home. Thus, the main positive impact of free trade is maximize the output of all the participatory countries leading towards high business activities. As each country increases its production by specialization in the goods for which there are abundant resources in that country which would obviously leads towards full utilization of available resources and also reducing the business costs and increasing business revenues. (Latestbusinessupdates, 2010)

In addition, an developing country benefits from the new technologies that “spill over” to it from its trading countries, such as through the knowledge embedded in imported production equipment. These technological spillovers are particularly important for developing countries because they give them a chance to catch up more quickly with the developed countries in terms of productivity.

Besides that, free trade enhances extent of markets not only in the home country but also in the other reshaping the entire world into a single market as the demand for products is subject to number of countries. This will led to more competition all over the world. (Latestbusinessupdates, 2010) By the rule of World Trade Organisation (WTO) on non-discrimination, MFN and national treatment are designed to secure fair conditions of trade. On the other hand, many of the other WTO agreements also aim to support fair competition in agriculture, intellectual property, services. (wto, ND) Due to the competition which make availability of goods at cheaper prices and better quality, it benefits the consumers. (Latestbusinessupdates, 2010)

By means of free trade, it would be a higher consumers satisfaction level because they would be able to enjoy wider variety of domestic and also imported goods at lower prices, thus increasing the standard of living. (Latestbusinessupdates, 2010) For example, when the North American Free Trade Agreement (NAFTA) went into effect in 1994, due to the readjustment in the textile industry in U.S., clothing prices in the U.S. have fallen as textile production shifted from high-cost U.S. producers to lower cost Mexican producers. This benefits consumers, who now have more money to spend on other items. The cost of a typical pair of designer jeans, for example, fell from $55 in 1994 to about $48 today.

For a national economy that access means an opportunity to benefit from the need to face stronger competition in world markets, the domestic producers will produce more efficiently due to the pressure that comes from foreign competition. (Worldbank, ND) Therefore, free trade generates a environment for the countries to make new inventions and innovations in order to survive in this competitive global market. (Latestbusinessupdates, 2010)

Moreover, free trade increases the factor productivity in each member nation which in turn raises profits, savings , investments leading business towards boom thus economic growth not only in all trading nations increases, but also other industry in the nations. (Latestbusinessupdates, 2010) For example, readjustment in the textile industry after NAFTA in 1994, had positive impact on the U.S. economy. Despite the move of fabric and apparel production to Mexico, exports have surged for U.S. yarn makers, such as E.I. du Pont and many of which are in the chemical industry.

In case of less developed countries (LDC s), foreign capital is highly needed which is attracted under free trade which generates foreign exchange promoting international business by overcoming the lags. (Latestbusinessupdates, 2010) As a result, fresh food product exports account for half of all food and agricultural exports from LDCs to high income countries.(Laurian J. U., 2000)

Trade openness has also contributed to net job creation by promoting business activities among the nations through imports and exports thus reduces unemployment. (Latestbusinessupdates, 2010) This can be proved by up to 2007 employment increased in all OECD countries except the Czech Republic, Japan and Poland, and the unemployment rate fell for OECD as a whole and for most of its members. The average unemployment rate in the OECD fell from 7.2% in 1995 to 5.6% in 2007 and, in the same period, trade in goods and services as a share of GDP rose from 19% to 28%. This will led to another positive impact of free trade, which over the longer run, it have raised average real wages in OECD countries and generates high income levels as well as increase in GDP. Under free trade all the factor incomes such as wages, interest rate, profits and rents increases which lead towards increase in GDP thus more availability of investment for business leading to growth in international business. (Latestbusinessupdates, 2010) For example, a study of trade among 63 of OCED countries associated a rise of one percentage point in the ratio of trade to GDP (e.g. when the share of trade in GDP rises from 10% to 11%) with an increase in per-capita income of between 0.5 and 2%. (Oced,ND)

Negative impact of Free Trade

Although the labor markets normally experience “churn”, with job creation and destruction occurring simultaneously. Changing patterns of international trade are only one of the many drivers of this continuous movement of workers from declining to expanding firms. While this raises legitimate labor adjustment concerns, the overall employment impacts tend to shift from positive to negative, by creating jobless. (Oced, ND) For example, far more jobs have been created annually in the United States than have been lost to off-shoring in recent years. As the case of NAFTA went into effect in 1994, it create job losses due to apparel production migrating from the U.S. to Mexico by the U.S. textile industry lost 360,600 jobs (52 percent employment loss) and the U.S. apparel industry another 640,500 jobs (75 percent employment loss) over this period. (fibre2fashion, 2007)

There will be negative impact for the domestic industries. By reduction of trade restrictions, the domestic industry`s producers have to face low profits as there is availability of goods at cheaper rates. Thus domestic producers withdraw from business with little profits. (Latestbusinessupdates, 2010)

A big flaw that is in free trade policy is that the nations do not get equal benefits as the developed countries have more capacity to fulfill the demands while underdeveloped have less thus they get the benefits accordingly. (Latestbusinessupdates, 2010) Sometimes, “free trade” is not just a tool, it can also be a weapon. When countries put restrictions, such as tariffs, on goods from other countries, imported goods become more expensive and less competitive than goods from their own country. Another thing that can be done is subsidizing domestic businesses, which governments give money or other forms of support to local or domestic businesses, to make sure that they are cheaper over imported products and services. This can allow unsuccessful and inefficient businesses to do well, since they receive all kinds of government support. And while these businesses continue to grow, smaller or local producers, especially in many poorer countries, those that need support the most are being destroyed. (Greenpace, 2010)

Any measure like this is called “protectionist,” since it has the effect of closing off a country’s markets to goods from other countries. Many developed countries in Europe, as well as the US and Japan use these tactics to support their own domestic economies, making it impossible for smaller, or LDCs to gain a foothold in the global marketplace. . (Greenpace, 2010) For example, in the United States, President George W. Bush applied this technique to offer support to workers in the steel industry in the Midwest of the USA by imposing a tariff on steel imports into the US amounting to 30%. (Biz/ed, 2003)

However, there will be the negative effect to LDC as they do not gain a foothold in the global marketplace. . (Greenpace, 2010) LDCs tend to produce products that have lower value added and tend to rely on them for the bulk of their export earnings which in turn can be used to help fund growth and expansion of their economies. Barriers to trade prevent them from being able to sell their products (which are often cheaper than the home grown competitors – e.g. the textile industry in the UK) hence they are unable to generate wealth and end up remaining in a cycle of poverty and debt. Meanwhile, the rich countries get richer although by restricting trade, they are not giving the LDCs the funds to be able to buy their products in the future. (Biz/ed, 2003)

As they go about protecting and closing off their own markets, many of these countries are creating double standards, by forcing other countries to open up their markets. . (Greenpace, 2010) The same is the case, where underdeveloped countries have comparative advantage in the agriculture field while the developed countries in the technical fields thus get more benefits. (Latestbusinessupdates, 2010)

As we know , in practice the set-up of global trade rules and the way these are administered is conducted by the World Trade Organisation (WTO). WTO is the primary international body to help promote free trade, by drawing up the rules of international trade. However, among all the main principles of the WTO which includes non discrimination to both foreign and national companies, reciprocity between nations, and transparency, there is special and differential treatment to the developing countries where the developing countries require “special policies” that are not part of trade liberalization because of historic unequal trade. It has been mired in controversy and seen work best for the rich countries, thus worsening the lot of the poor, and inviting protest and intense criticism.(Anup Shah, 2007)

A number of countries have also spoken out against the WTO saying that there needs to be more co-operation between the North and South (a general term to refer to the Rich and Developing countries, respectively) with regards to the unequal treatment of free trade. During the week of May 20, 1998, celebrations marked 50 years of multilateral trade. However, as the following link mentions, the African nations did not feel that there was much to rejoice at and said that it was a party where only the rich nations has something to celebrate. Most people in the world have not benefited from the current form of “multilateral” trading systems. For example, at a Mercosur, which is the world’s fourth largest economic power, after the United States, European Union and Japan (South America’s Southern Common Market) summit, then South African President, Nelson Mandela, had spoken of the need to ensure that there is more fairness in the globalization process. (Anup Shah, 2007)

Conclusion

Empirical evidence suggests that free trade in globalization has significantly boosted economic growth in East Asian economies such as Hong Kong, China, the Republic of Korea, and Singapore. But not all developing countries are equally engaged in globalization or in a position to benefit from it. In fact, except for most countries in East Asia and some in Latin America, developing countries have been rather slow to integrate with the world economy. The share of Sub- Saharan Africa in world trade has declined continuously since the late 1960s, and the share of major oil exporters fell sharply with the drop in oil prices in the early 1980s. Moreover, for countries that are actively engaged in free trade, the benefits come with new risks and challenges. (Worldbank, ND) Thus, we can concluded that there are positive and also negative impact of free trade to the international business. And the modification of free trade are needed for improvement in the future.


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