International Economics I

(Econ 2081)

CHAPTER FIVE

INTERNATIONAL TRADE
INSTITUTIONS

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Introduction
Since World War II, advanced nations
have significantly lowered their trade
restrictions. Such trade liberalization has
stemmed from two approaches.
◦ Reciprocal reduction of trade (non
discriminatory basis)
◦ Regional trading arrangements

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5.1.General Agreement on Tariffs and
Trade (GATT)
 Bilateral negotiations helped US to reduce their
average level of tariffs.
 Multinational negotiations started immediately after
the II world War.
 It was imagined that International Trade
Organization (ITO) would be established along with
the IMF and the World Bank.
 GATT signed in 1947 by 23 countries
 GATT was crafted as an agreement among
contracting parties (member nations) to decrease
trade barriers and to place all nations on an equal
footing in trading relationships.
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The GATT objectives

1. To provide a frame work for the conduct

of trade relations.
2. To provide a frame work for, and to
promote the progressive elimination of
trade barriers
3. To provide a set of rules (codes of
conduct) that would inhibit countries
from taking unilateral action.
The GATT has been successful in
achieving the first two objectives.
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GATT was based on several principles
◦ Non-discrimination
 Most Favored Nation (MFN) - Normal trade relations
 National treatment
◦ Reciprocity
Exceptions to the GATT principles
a) Balance of payment problems
b) Regional groupings
c) Tariff preferences
Problems of the GATT system
◦ coordination problems  free riders
◦ weakness in the settlement of trade disputes
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5.2. World Trade Organization (WTO)
In1995, GATT was transformed in to
WTO.
◦ embodies the main provisions of GATT
◦ improve GATT’s process for resolving trade
dispute
◦ membership organization

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Objectives of WTO
Achieving over all sustainable development
Ensuring that the developing countries may
get a share in the growth of international
trade
Settling trade disputes
To develop a more viable and durable
multilateral trading system
Coordinating policies in the field of trade,
environment and economic development,
etc.
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Differences between WTO and GATT
The WTO is a full – fledged international
organization
The WTO has a far wider scope than the
old GATT
The WTO also administers a unified
package of agreements to which all
members are committed
Moreover, WTO reverses policies of
protection in certain “Sensitive” areas (for
example, agriculture and textiles) that were
more or less tolerated in the old GATT. 8
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Main methods in which the WTO system works
More open
Predictable and transparent
More competitive
More beneficial for less developed countries
Protect the environment
Trade negotiations
Implementation and monitoring
Dispute settlement
Building trade capacity
Outreach
Trade Rounds
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 Name Start Duration Countries Subjects covered Achievements
Signing of GATT, 45,000 tariff concessions affecting
Geneva April 1947 7 months 23 Tariffs
$10 billion of trade

Annecy April 1949 5 months 13 Tariffs Countries exchanged some 5,000 tariff concessions

September Countries exchanged some 8,700 tariff concessions,

Torquay 8 months 38 Tariffs
1950 cutting the 1948 tariff levels by 25%

Tariffs, admission of
Geneva II January 1956 5 months 26 $2.5 billion in tariff reductions
Japan
September
Dillon 11 months 26 Tariffs Tariff concessions worth $4.9 billion of world trade
1960

Kennedy May 1964 37 months 62 Tariffs, Anti-dumping Tariff concessions worth $40 billion of world trade

Tariffs, non-tariff
September Tariff reductions worth more than $300 billion dollars
Tokyo 74 months 102 measures, "framework"
1973 achieved
agreements

Tariffs, non-tariff
The round led to the creation of WTO, and extended
measures, rules,
the range of trade negotiations, leading to major
services, intellectual
September reductions in tariffs (about 40%) and agricultural
Uruguay 87 months 123 property, dispute
1986 subsidies, an agreement to allow full access
settlement, textiles,
for textiles and clothing from developing countries,
agriculture, creation of
and an extension of intellectual property rights.
WTO, etc

Tariffs, non-tariff
measures, agriculture,
labor standards,
November environment, The round has not yet concluded. Bali Package
Doha ? 159
2001 competition,  signed on the 7th December 2013.
investment,
transparency, patents
etc

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Intellectual Property Rights and WTO
Article2 of WIPO defines intellectual
property as:
◦ "Intellectual property" shall include the rights
relating to:  literary, artistic and scientific
works; performances of performing artists,
phonograms, and broadcasts; inventions in all
fields of human endeavor; scientific
discoveries; etc
 The economic rationale for protection of
IP stems from ‘market failure’.

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‘Market failure’ is inability of the market to
deliver certain goods (Public goods)
Such kinds of goods are characterized as
◦ non-rival
◦ non-excludable
◦ original costs of production are high
Benefits from an IP regime include
increased innovation and technology
transfer.
Disadvantage - create monopolies and
restricts access to technology for imitators.

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The WTO Agreement on Trade-Related
Aspects of Intellectual Property Rights
(TRIPs Agreement) is the Uruguay Round
agreement covering the protection and
enforcement of intellectual property
rights.
TRIPS covers patents, copyrights,
trademarks, geographical indicators,
industrial designs, layout designs of
integrated circuits, and undisclosed
information.

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TRIPS was expected to facilitate the
transfer of technology to developing
countries
Technology transfer takes place in three
ways; international trade, foreign direct
investment and licensing of technologies
and trademarks to unaffiliated firms,
subsidiaries and joint ventures.
Evidence that technology flow has
accelerated in consequence of the
protection extended by TRIPS is mixed

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5.3. Regional Trading Arrangements:
The Theory of Customs Union
Since the mid- 1950s, the term economic
integration has attracted a wide attention
and has got acceptance.
Economic integration is a process of
eliminating restrictions on international
trade, payments and factor mobility.

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5.3.1. Forms of Regional Trading
Arrangements

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5.3.2. Rationale for REI
Enhanced economic growth
◦ Allow economies of large scale production,
◦ Foster specialization and learning- by –doing,
and
◦ Attract foreign investment
Non economic objectives, such as
◦ Managing immigration flows
◦ Promoting regional security.

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5.3.3. The Theory of Custom Union
The static effects of custom union
Assume a world composed of three
countries: Luxembourg, Germany and U.S.
Suppose that Luxembourg and Germany
decide to form a customs union.
The formation of customs union leads to a
welfare- increasing trade- creation effect
and a welfare-decreasing trade-diversion
effect.

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 Illustration
Static Welfare Effects of a customs Union

Price ($) SL

3.75 SG+tariff

3.50 SU.S+tariff
a b C d
3.25 SG
e
3.00 SU.S

DL

1 4 7 17 20 23 Grain (bushels)

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The trade creation effect consists of a
consumption effect and a production
effect.
◦ Consumption effect (efficiency in
consumption)
 The welfare gain associated with this increase in
consumption equals area of triangle d.
◦ Production effect - customs union results in a
more efficient use of world resources.
 The welfare gain associated with decrease in
production equals area of triangle b.
◦ The overall trade- creation effect is given by
the sum of triangles b + d.
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Trade diversion occurs when imports
from a low cost supplier outside the union
(U.S) are replaced by purchases from a
higher cost supplier within the union
(Germany).
◦ Area e is the welfare loss to Luxembourg and
the world as a whole.
Customs union will increase the welfare
of its members, as well as the rest of the
world, if the positive trade- creation effect
more than offsets the negative trade-
diversion effect.
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The success of a customs union depends
on the factors contributing to trade
creation and diversion.
◦ Pre union competitiveness
◦ Size and number of nations in the union
◦ Common external tariff
Dynamic effects of customs union
The dynamic gains include economies of
scale, greater competition and a stimulus
of investment.

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-----End of Chapter Five -----

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