A number of organizations work to ease barriers to trade, and more countries are joining together to promote trade and mutual economic benefits. Let’s look at some of these important initiatives.
Trade Agreements and Organizations
Free trade is encouraged by a number of agreements and organizations set up to monitor trade policies. The two most important are the General Agreement on Tariffs and Trade and the World Trade Organization.
General Agreement on Tariffs and Trade
After the Great Depression and World War II, most countries focused on protecting home industries, so international trade was hindered by rigid trade restrictions. To rectify this situation, twenty-three nations joined together in 1947 and signed the General Agreement on Tariffs and Trade (GATT), which encouraged free trade by regulating and reducing tariffs and by providing a forum for resolving trade disputes.
The highly successful initiative achieved substantial reductions in tariffs and quotas, and in 1995 its members founded the World Trade Organization to continue the work of GATT in overseeing global trade.
World Trade Organization
Based in Geneva, Switzerland, with nearly 150 members, the World Trade Organization (WTO) encourages global commerce and lower trade barriers, enforces international rules of trade, and provides a forum for resolving disputes. It is empowered, for instance, to determine whether a member nation’s trade policies have violated the organization’s rules, and it can direct “guilty” countries to remove disputed barriers (though it has no legal power to force any country to do anything it doesn’t want to do). If the guilty party refuses to comply, the WTO may authorize the plaintiff nation to erect trade barriers of its own, generally in the form of tariffs.
Affected members aren’t always happy with WTO actions. In 2002, for example, President George Bush’s administration imposed a three-year tariff on imported steel. In ruling against this tariff, the WTO allowed the aggrieved nations to impose counter-tariffs on some politically sensitive American products, such as Florida oranges, Texas grapefruits and computers, and Wisconsin cheese. Reluctantly, the administration lifted its tariff on steel.
Financial Support for Emerging Economies: The IMF and the World Bank
A key to helping developing countries become active participants in the global marketplace is providing financial assistance. Offering monetary assistance to some of the poorest nations in the world is the shared goal of two organizations: the International Monetary Fund and the World Bank. These organizations, to which most countries belong, were established in 1944 to accomplish different but complementary purposes.
The International Monetary Fund
The International Monetary Fund (IMF) loans money to countries with troubled economies, such as Mexico in the 1980s and mid-1990s and Russia and Argentina in the late 1990s. There are, however, strings attached to IMF loans: in exchange for relief in times of financial crisis, borrower countries must institute sometimes painful financial and economic reforms. In the 1980s, for example, Mexico received financial relief from the IMF on the condition that it privatize and deregulate certain industries and liberalize trade policies. The government was also required to cut back expenditures for such services as education, health care, and workers’ benefits. 
The World Bank
The World Bank is an important source of economic assistance for poor and developing countries. With backing from wealthy donor countries (such as Canada, the United States, Japan, Germany, and United Kingdom), the World Bank has committed $42.5 billion in loans, grants, and guarantees to some of the world’s poorest nations. Loans are made to help countries improve the lives of the poor through community-support programs designed to provide health, nutrition, education, infrastructure, and other social services.
Trading Blocs: NAFTA and the European Union
So far, our discussion has suggested that global trade would be strengthened if there were no restrictions on it—if countries didn’t put up barriers to trade or perform special favors for domestic industries. The complete absence of barriers is an ideal state of affairs that we haven’t yet attained. In the meantime, economists and policymakers tend to focus on a more practical question: Can we achieve the goal of free trade on the regional level? To an extent, the answer is yes. In certain parts of the world, groups of countries have joined together to allow goods and services to flow without restrictions across their mutual borders. Such groups are called trading blocs. Let’s examine two of the most powerful trading blocs—NAFTA and the European Union.
North American Free Trade Association
The North American Free Trade Association (NAFTA) is an agreement among the governments of the United States, Canada, and Mexico to open their borders to unrestricted trade. The effect of this agreement is that three very different economies are combined into one economic zone with almost no trade barriers. From the northern tip of Canada to the southern tip of Mexico, each country benefits from the comparative advantages of its partners: each nation is free to produce what it does best and to trade its goods and services without restrictions.
When the agreement was ratified in 1994, it had no shortage of skeptics. Many people feared, for example, that without tariffs on Mexican goods, more U.S. and Canadian manufacturing jobs would be lost to Mexico, where labour is cheaper. Almost two decades later, most such fears have not been realized, and, by and large, NAFTA has been a success.
Since it went into effect, the value of trade between Canada and Mexico has grown substantially, and Canada and Mexico are now the United States’ top trading partners.
Shortly after taking office in 2017, concerned with deficiencies and mistakes from the original NAFTA, trade Representatives, began negotiating a new trade agreement between the United States, Mexico, and Canada. Signed in 2018 and later ratified by all three nations, the new United States–Mexico–Canada Agreement (USMCA) replaces the 25-year-old trade agreement known as NAFTA. Implemented in July 2020, the USMCA works to mutually beneficial trade between all three nations with the goal of leading to freer markets, fairer trade, and robust economic growth in North America.[footnote]USMCA (2019). “Agreement between the United States of America, the United Mexican States, and Canada.” Office of the United States Trade Representative. Retrieved from: https://ustr.gov/trade-agreements/free-trade-agreements/united-states-mexico-canada-agreement/agreement-between[/footnote]
The European Union
The forty-plus countries of Europe have long shown an interest in integrating their economies. The first organized effort to integrate a segment of Europe’s economic entities began in the late 1950s, when six countries joined together to form the European Economic Community (EEC). Over the next four decades, membership grew, and in the late 1990s, the EEC became the European Union. Today, the European Union (EU) is a group of twenty-seven countries that have eliminated trade barriers among themselves (see the map in Figure 4.10).
At first glance, the EU looks similar to NAFTA. Both, for instance, allow unrestricted trade among member nations. But the provisions of the EU go beyond those of NAFTA in several important ways. Most importantly, the EU is more than a trading organization: it also enhances political and social cooperation and binds its members into a single entity with authority to require them to follow common rules and regulations. It is much like a federation of states with a weak central government, with the effect not only of eliminating internal barriers but also of enforcing common tariffs on trade from outside the EU. In addition, while NAFTA allows goods and services as well as capital to pass between borders, the EU also allows people to come and go freely: if you possess an EU passport, you can work in any EU nation.
A key step toward unification occurred in 1999, when most (but not all) EU members agreed to abandon their own currencies and adopt a joint currency. The actual conversion occurred in 2002, when a common currency called the euro replaced the separate currencies of participating EU countries. The common currency facilitates trade and finance because exchange-rate differences no longer complicate transactions. 
Its proponents argued that the EU would not only unite economically and politically distinct countries but also create an economic power that could compete against the dominant players in the global marketplace. Individually, each European country has limited economic power, but as a group, they could be an economic superpower. Over time, the value of the euro has been questioned. Many of the “euro” countries (Spain, Italy, Greece, Portugal, and Ireland in particular) have been financially irresponsible, piling up huge debts and experiencing high unemployment and problems in the housing market. But because these troubled countries share a common currency with the other “euro countries”, they are less able to correct their economic woes. Many economists fear that the financial crisis precipitated by these financially irresponsible countries threaten the very survival of the euro. The UK voted to leave the EU in 2016, although this does not necessarily mean the UK will indeed leave the EU, as that will ultimately be finalized in 2019, the UK has performed well since the vote to leave the EU.
Only time will tell whether the trend toward regional trade agreements is good for the world economy. Clearly, they’re beneficial to their respective participants; for one thing, they get preferential treatment from other members. But certain questions still need to be answered more fully. Are regional agreements, for example, moving the world closer to free trade on a global scale—toward a marketplace in which goods and services can be traded anywhere without barriers?
Important terms and concepts
- Nations trade because they don’t produce all the products that their inhabitants need.
- The cost of labour, the availability of natural resources, and the level of know-how vary greatly around the world, so not every country has the same resources or is good at producing the same products.
- To explain how countries decide what products to import and export, economists use the concepts of absolute and comparative advantage: A nation has an absolute advantage if it’s the only source of a particular product or can make more of a product with the same amount of or fewer resources than other countries. A comparative advantage exists when a country can produce a product at a lower opportunity cost than other nations.
- We determine a country’s balance of trade by subtracting the value of its imports from the value of its exports. If a country sells more products than it buys, it has a favorable balance, called a trade surplus. If it buys more than it sells, it has an unfavorable balance, or a trade deficit.
- The balance of payments is the difference, over a period of time, between the total flow coming into a country and the total flow going out. The biggest factor in a country’s balance of payments is the money that comes in and goes out as a result of exports and imports.
- A company that operates in many countries is called a multinational corporation (MNC).
- For a company in Canada wishing to expand beyond national borders, there are a variety of ways to get involved in international business:
- Importing involves purchasing products from other countries and reselling them in one’s own.
- Exporting entails selling products to foreign customers
- Under a franchise agreement, a company grants a foreign company the right to use its brand name and sell its products.
- A licensing agreement allows a foreign company to sell a company’s products or use its intellectual property in exchange for royalty fees.
- Through international contract manufacturing, or outsourcing, a company has its products manufactured or services provided in other countries.
- A joint venture is a type of strategic alliance in which a separate entity funded by the participating companies is formed.
- Foreign direct investment (FDI) refers to the formal establishment of business operations on foreign soil.
- A common form of FDI is the foreign subsidiary, an independent company owned by a foreign firm.
- Success in international business requires an understanding an assortment of cultural, economic, and legal/regulatory differences between countries. Cultural challenges stem from differences in language, concepts of time and sociability, and communication styles.
- Because they protect domestic industries by reducing foreign competition, the use of controls to restrict free trade is often called protectionism.
- Tariffs are taxes on imports. Because they raise the price of the foreign-made goods, they make them less competitive.
- Quotas are restrictions on imports that impose a limit on the quantity of a good that can be imported over a period of time. They’re used to protect specific industries, usually new industries or those facing strong competitive pressure from foreign firms.
- An embargo is a quota that, for economic or political reasons, bans the import or export of certain goods to or from a specific country.
- A common rationale for tariffs and quotas is the need to combat dumping—the practice of selling exported goods below the price that producers would normally charge in their home markets (and often below the costs of producing the goods).
- Free trade is encouraged by a number of agreements and organizations set up to monitor trade policies.
- The General Agreement on Tariffs and Trade (GATT) regulates free trade, reduces tariffs and provides a forum for resolving trade disputes.
- The World Trade Organization (WTO) encourages global commerce and lower trade barriers, enforces international rules of trade, and provides a forum for resolving disputes.
- The International Monetary Fund (IMF) and the World Bank both provide monetary assistance to the world’s poorest countries.
- In certain parts of the world, groups of countries have formed trading blocs to allow goods and services to flow without restrictions across their mutual borders.
- Examples include the North American Free Trade Association (NAFTA) (United States, Canada, and Mexico) and the European Union (EU), a group of twenty-seven countries that have eliminated trade barriers among themselves.
- Becker, E. (2003, November 11). U.S. Tariffs on Steel Are Illegal, World Trade Organization Says. The New York Times. Retrieved from: http://www.nytimes.com/2003/11/11/business/us-tariffs-on-steel-are-illegal-world-trade-organization-says.html?pagewanted=all ↵
- Sanders, B. (1998, July/August). The International Monetary Fund Is Hurting You. Z Magazine. Retrieved from: http://www.thirdworldtraveler.com/IMF_WB/IMF_Sanders.html ↵
- The World Bank. (2016). Fiscal Year Data 2011-15. Retrieved from: http://www.worldbank.org/en/about/annual-report/fiscalyeardata#1 ↵
- European Commission on Economic, and Financial Affairs. (2015). Why the Euro? Retrieved from: http://ec.europa.eu/economy_finance/euro/why/index_en.htm ↵
- European Commission on Economic, and Financial Affairs. (2015). Why the Euro? Retrieved from: http://ec.europa.eu/economy_finance/euro/why/index_en.htm ↵
- Krugman, P. (2011, January 25). The Economic Failure of the Euro. NPR (National Public Radio). Retrieved from: http://www.npr.org/2011/01/25/133112932/paul-krugman-the-economic-failure-of-the-euro ↵
- Buiter, W. (2010, December 10). Three Steps to Survival for Euro Zone. The Wall Street Journal. Retrieved from: http://online.wsj.com/article/SB10001424052748703766704576009423447485768.html ↵