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A free-trade area is the region encompassing a trade bloc whose member countries have signed a
free trade agreementA free trade agreement (FTA) or treaty A treaty is a formal legally binding written agreement between actors in international law. It is usually entered into by sovereign states and international organizations, but can sometimes include individ ...
(FTA). Such agreements involve cooperation between at least two countries to reduce trade barriers, import quotas and tariffs, and to increase trade of goods and services with each other. If natural persons are also free to move between the countries, in addition to a free-trade agreement, it would also be considered an open border. It can be considered the second stage of
economic integration Economic integration is the unification of economic policies between different states, through the partial or full abolition of tariff A tariff is a tax imposed by a government A government is the system or group of people governing a ...
.
Customs union A customs union is generally defined as a type of trade bloc A trade bloc is a type of trade pact, intergovernmental agreement, often part of a regional intergovernmental organization, where barriers to trade (tariffs and Non-tariff barriers to tr ...

Customs union
s are a special type of free-trade area. All such areas have internal arrangements which parties conclude in order to liberalize and facilitate trade among themselves. The crucial difference between customs unions and free-trade areas is their approach to third parties. While a customs union requires all parties to establish and maintain identical external tariffs with regard to trade with non-parties, parties to a free-trade area are not subject to this requirement. Instead, they may establish and maintain whatever tariff regime applying to imports from non-parties as deemed necessary. In a free-trade area without harmonized external tariffs, to eliminate the risk of trade deflection, parties will adopt a system of preferential
rules of origin Rules of origin are the rules to attribute a country of origin to a product in order to determine its "economic nationality". The need to establish rules of origin stems from the fact that the implementation of trade policy measures, such as tari ...
. The term ''free-trade area'' was originally meant by the
General Agreement on Tariffs and Trade The General Agreement on Tariffs and Trade (GATT) is a legal agreement between many countries, whose overall purpose was to promote international trade International trade is the exchange of capital Capital most commonly refers to: * ...
(GATT 1994) to include only trade in goods. An agreement with a similar purpose, i.e., to enhance liberalization of trade in services, is named under Article V of the
General Agreement on Trade in Services The General Agreement on Trade in Services (GATS) is a treaty A treaty is a formal legally binding written agreement between actors in international law. It is usually entered into by sovereign states and international organizations, but can s ...
(GATS) as an "economic integration agreement". However, in practice, the term is now widely used to refer to agreements covering not only goods but also services and even investment.


Legal aspects of free-trade areas

The formation of free-trade areas is considered an exception to the
most favored nation In international economic relations and international politics, most favoured nation (MFN) is a status or level of treatment accorded by one state State may refer to: Arts, entertainment, and media Literature * ''State Magazine'', a monthly maga ...
(MFN) principle in the
World Trade Organization The World Trade Organization (WTO) is an intergovernmental organization An intergovernmental organization (IGO) is an organization composed primarily of sovereign states (referred to as ''member states''), or of other organizations through ...
(WTO) because the preferences that parties to a free-trade area exclusively grant each other go beyond their accession commitments. Although Article XXIV of the GATT allows WTO members to establish free-trade areas or to adopt interim agreements necessary for the establishment thereof, there are several conditions with respect to free-trade areas, or interim agreements leading to the formation of free-trade areas. Firstly, duties and other regulations maintained in each of the signatory parties to a free-trade area, which are applicable at the time such free-trade area is formed, to the trade with non-parties to such free-trade area shall not be higher or more restrictive than the corresponding duties and other regulations existing in the same signatory parties prior to the formation of the free-trade area. In other words, the establishment of a free-trade area to grant preferential treatment among its member is legitimate under WTO law, but the parties to a free-trade area are not permitted to treat non-parties less favorably than before the area was established. A second requirement stipulated by Article XXIV is that tariffs and other barriers to trade must be eliminated to substantially all the trade within the free-trade area. Free trade agreements forming free-trade areas generally lie outside the realm of the multilateral trading system. However, WTO members must notify to the Secretariat when they conclude new free trade agreements and in principle the texts of free trade agreements are subject to review under the Committee on Regional Trade Agreements. Although a dispute arising within free-trade areas is not subject to litigation at the WTO's Dispute Settlement Body, "there is no guarantee that WTO panels will abide by them and decline to exercise jurisdiction in a given case".


Economic aspects of free-trade areas

Trade diversion Trade diversion is an economic An economy (from Greek language, Greek οίκος – "household" and νέμoμαι – "manage") is an area of the Production (economics), production, Distribution (economics), distribution and trade, as well as ...
and trade creation In general, ''trade diversion'' means that a free-trade area would divert trade away from more efficient suppliers outside the area towards less efficient ones within the areas. Whereas, ''trade creation'' implies that a free-trade area creates trade which may not have otherwise existed. In all cases trade creation will raise a country's national welfare. Both trade creation and trade diversion are crucial effects found upon the establishment of a free-trade area. Trade creation will cause consumption to shift from a high-cost producer to a low-cost one, and trade will thus expand. In contrast, trade diversion will lead to trade shifting from a lower-cost producer outside the area to a higher-cost one inside the area. Such a shift will not benefit consumers within the free-trade area as they are deprived the opportunity to purchase cheaper imported goods. However, economists find that trade diversion does not always harm aggregate national welfare: it can even improve aggregate national welfare if the volume of diverted trade is small. Free-trade areas as public goods Economist have made attempts to evaluate the extent to which free-trade areas can be considered public goods. They firstly address one key element of free-trade areas, which is the system of embedded tribunals which act as arbitrators in international trade disputes. This system as a force of clarification for existing statutes and international economic policies as affirmed in the trade treaties. The second way in which free-trade areas are considered public goods is tied to the evolving trend of them becoming “deeper”. The depth of a free-trade area refers to the added types of structural policies that it covers. While older trade deals are deemed “shallower” as they cover fewer areas (such as tariffs and quotas), more recently concluded agreements address a number of other fields, from services to e-commerce and data localization. Since transactions among parties to a free-trade area are relatively cheaper as compared to those with non-parties, free-trade areas are conventionally found to be excludable. Now that deep trade deals will enhance regulatory harmonization and increase trade flows with non-parties, thus reduce the excludability of FTA benefits, new generation free-trade areas are obtaining essential characteristics of public goods.


Qualifying for preferences under a free-trade area

Unlike a
customs union A customs union is generally defined as a type of trade bloc A trade bloc is a type of trade pact, intergovernmental agreement, often part of a regional intergovernmental organization, where barriers to trade (tariffs and Non-tariff barriers to tr ...

customs union
, parties to a free-trade area do not maintain common external tariffs, which means they apply different customs duties, as well as other policies with respect to non-members. This feature creates the possibility of non-parties may free-riding preferences under a free-trade area by penetrating the market with the lowest external tariffs. Such risk necessitates the introduction of rules to determine originating goods eligible for preferences under a free-trade area, a need that does not arise upon the formation of a customs union. Basically, there is a requirement for a minimum extent of processing that results in "substantial transformation" to the goods so that they can be considered originating. By defining which goods are originating in the PTA, preferential
rules of origin Rules of origin are the rules to attribute a country of origin to a product in order to determine its "economic nationality". The need to establish rules of origin stems from the fact that the implementation of trade policy measures, such as tari ...
distinguish between originating and non-originating goods: only the former will be entitled to preferential tariffs scheduled by the free-trade area, the latter must pay MFN import duties. It is noted that in qualifying for origin criteria, there is a differential treatment between inputs originating within and outside a free-trade area. Normally inputs originating in one FTA party will be considered as originating in the other party if they are incorporated in the manufacturing process in that other party. Sometimes, production costs arising in one party is also considered as that arising in another party. In preferential
rules of origin Rules of origin are the rules to attribute a country of origin to a product in order to determine its "economic nationality". The need to establish rules of origin stems from the fact that the implementation of trade policy measures, such as tari ...
, such differential treatment is normally provided for in the cumulation or accumulation provision. Such clause further explains the trade creation and trade diversion effects of a free-trade area mentioned above, because a party to a free-trade area has the incentive to use inputs originating in another party so that their products may qualify for originating status.


Databases on free-trade areas

Since there are hundreds of free-trade areas currently in force and being negotiated (about 800 according to ITC'
Rules of Origin Facilitator
counting also non-reciprocal trade arrangements), it is important for businesses and policy-makers to keep track of their status. There are a number of depositories of free trade agreements available either at national, regional or international levels. Some significant ones include the database on Latin American free trade agreements constructed by the Latin American Integration Association (ALADI), the database maintained by the Asian Regional Integration Center (ARIC) providing information agreements of Asian countries, and the portal on the European Union's free trade negotiations and agreements. At the international level, there are two important free-access databases developed by international organizations for policy-makers and businesses: WTO'
Regional Trade Agreements Information System
'' As WTO members are obliged to notify to the Secretariat their free trade agreements, this database is constructed based on the most official source of information on free trade agreements (referred to as regional trade agreements in the WTO language). The database allows users to seek information on trade agreements notified to the WTO by country or by topic (goods, services or goods and services). This database provides users with an updated list of all agreements in force, however, those not notified to the WTO may be missing. It also displays reports, tables and graphs containing statistics on these agreements, and particularly preferential tariff analysis. ITC'
Market Access Map
'' The Market Access Map was developed by the
International Trade Centre The International Trade Centre (ITC) () is a multilateral agency which has a joint mandate with the World Trade Organization The World Trade Organization (WTO) is an intergovernmental organization that regulates and facilitates interna ...
(ITC) with the objectives to facilitate businesses, governments and researchers in market access issues. The database, visible via the online tool Market Access Map, includes information on tariff and non-tariff barriers in all active trade agreements, not limited to those officially notified to the WTO. It also documents data on non-preferential trade agreements (for instance, Generalized System of Preferences schemes). Up until 2019, Market Access Map has provided downloadable links to texts agreements and their rules of origin. The new version of Market Access Map forthcoming this year will provide direct web links to relevant agreement pages and connect itself to other ITC's tools, particularly th
Rules of Origin Facilitator
It is expected to become a versatile tool which assists enterprises in understanding free trade agreements and qualifying for origin requirements under these agreements.


See also

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Free trade Free trade is a trade policy A commercial policy (also referred to as a trade policy or international trade policy) is a government's policy governing international trade International trade is the exchange of capital, goods, and servic ...
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International trade International trade is the exchange of capital Capital most commonly refers to: * Capital letter Letter case (or just case) is the distinction between the letters that are in larger uppercase or capitals (or more formally ''majuscul ...
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Rules of origin Rules of origin are the rules to attribute a country of origin to a product in order to determine its "economic nationality". The need to establish rules of origin stems from the fact that the implementation of trade policy measures, such as tari ...
*
Customs union A customs union is generally defined as a type of trade bloc A trade bloc is a type of trade pact, intergovernmental agreement, often part of a regional intergovernmental organization, where barriers to trade (tariffs and Non-tariff barriers to tr ...

Customs union
*
List of bilateral free-trade agreements This is list of free-trade agreementsA free trade agreement (FTA) or treaty is a bilateral or multilateral agreement according to international law to form a free-trade area between the cooperating state (polity), states. There are two types of t ...
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List of multilateral free-trade agreements This is a list of multilateral free-trade agreements, between several countries all treated equally. For agreements between two countries, between a bloc and a country, or between two blocs, see list of bilateral free-trade agreements; these are ...


References


External links


WTO's RTA Information SystemITC's Market Access MapITC's Rules of Origin FacilitatorBilaterals

Asian Regional Integration CenterAmerican States Foreign Trade Information System
{{DEFAULTSORT:Free Trade Area * Economic integration Special economic zones