Free Trade Agreements
Free trade agreements are agreements that allow participating nations to trade without tariffs or quotas. The most notable example of this type of agreement for the United States is the North American Free Trade Agreement (NAFTA), a trade agreement among Canada, the United States, and Mexico. A more integrated version of a free trade agreement is called an economic union. In an economic union, member nations have a free trade agreement, have a common trade policy with nations outside the union, and coordinate their monetary and fiscal policies. The best example of an economic union is the European Union (EU), a union of 28 European member states.
Free trade agreements are designed to reduce barriers to trade and allow nations to gear trade toward their comparative advantages. This leads to higher economic activity, higher overall wage levels, and attainment of a level of goods and services that would ordinarily be outside the production possibilities frontier. In practice, many free trade agreements have been very successful. NAFTA was signed into law in 1995, and the United States saw some of the best job growth and low unemployment in the following six years. Opponents often worry that free trade will transfer too many jobs from high-income countries to low-income countries, but this notion ignores comparative advantages, differing labor market compositions, and the fact that many jobs are location-based. Overall, free trade agreements lower costs and deadweight loss via increased efficiency.
However, some criticisms of free trade agreements are valid. Often, they lead to poor working conditions as international companies outsource jobs to cheaper labor markets in emerging market countries where there is less regulation. Even larger countries may lose jobs to outsourcing. In fact, one of the greatest criticisms of NAFTA was the loss of U.S. jobs to Mexico. Free trade may also lead to depletion of natural resources as emerging market countries engage in strip mining and deforestation practices in the absence of environmental protections. Further, smaller countries may lose revenue to import taxes and fees. This may weaken their overall economy.
Effect on Wages
Globalization and free trade allow producers to best utilize their competitive advantages. This leads to increased trade, leads to an increased demand for productive workers, and causes the average level of wages in an economy to rise. However, this does not mean that everybody benefits and that all wages rise. Workers whose industries are exporting more in the global market will see their wages increase because of demand, but workers who are in an industry that sees increased competition and imports from global competitors may see their wages decrease.
In addition, different effects will be seen in the markets for highly skilled laborers and low-skilled laborers. In the United States, wages tend to increase in the market for highly skilled labor, as the United States has a comparative advantage in this area. Meanwhile, low-skilled labor faces increasing competition in the global marketplace from other nations, and these jobs may even be candidates for outsourcing to another country. The effect is increased demand and higher wages for highly skilled labor and decreased demand and lower wages for low-skilled labor. This can have negative effects of specific labor markets, especially manufacturing. However, many low-skilled service jobs are location-based and are poor candidates for outsourcing. Grocery store workers, landscaping workers, and hotel workers are all examples of jobs that do not have a high degree of skill but cannot be outsourced to other nations.
However, there may be additional, non-monetary cost to the outsourcing of low-skilled jobs to foreign nations. Often, these countries lack worker protections, leading to poor working conditions for those who do take the jobs. For example, many factories are located in China, where protest is illegal, and even speaking out about poor working conditions can lead to incarceration. Further, the facilities in these nations may be unsafe. The Savar building in Bangladesh, India collapsed in 2013, killing more than 1,000 workers in the garments factories housed within it, and injuring another 2,500. The building had been constructed without permits and the original plans had not been designed to house factories at all.
Difference in Living Standards
Most U.S. trade is unaffected by issues in living standards, as most U.S. trade is intra-industry trade carried out with nations that have similar incomes and labor standards. However, some trade does occur with nations with lower living standards.
Many nations have poor working conditions and poor alternatives and operate with a low minimum wage. Economists must analyze whether the trade makes the nation better off and whether this type of production gives citizens better job opportunities. For example, the outsourcing of a service job to a country that pays low wages may seem like a detriment to the worker who takes the job. However, what if the alternative to that service job was unsafe factory work that paid less? The outsourcing of the service job increased the standard of living through higher wages and increased job safety. Thus, it is important to analyze the effect of these trades and identify if there is any progress being made.
Another aspect to consider is whether new labor and environmental standards can be enforced by blocking international trade. Because trade can be vital to helping a low-income country develop economically, pressures can be placed to help the nation increase its standards faster in order to continue trading internationally. This requires cooperation from many nations that are importing from the country with lower standards and must ensure incentives for increasing standards. Another route, other than a threat of blocking international trade, is for higher income nations to help subsidize safer and more environmentally friendly equipment.
Economists must also consider income inequality in the countries that receive outsourced jobs. While the overall economic growth may trend upward, often the increased income is concentrated in the hands of a few individuals who own the factories. The money flowing into the economy due to trade does not reach the workers.
South Korea is an example of how international trade and globalization have led to an increase the standard of living in the country. Following the Korean War of the 1950s, South Korea's standard of living was very poor. Over the next several decades, the country's leadership worked to improve economic conditions, ultimately leading to free trade agreements with wealthy nations all over the globe. As a result, South Korea now has one of the highest standards of living in the world.
In contrast, China suffered a similar poor standard of living in the 20th century. Although Chinese leadership encouraged economic growth in manufacturing, its wealth disparity is among the highest of any nation. The influx of income China received by trading internationally has been received by a few individuals, while the overall standard of living in China has remained stagnant, well below its trade partners, including the United States and Japan.