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Free Trade Agreement: Types and Examples

what is free trade agreement

By Kimberly Amadeo. US Economy Expert

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Definition: Trade agreements are when two or more nations agree on the terms of trade between them. For this reason, when most people say trade agreements, they mean international trade agreements. Trade agreements determine the tariffs. or taxes and duties, countries impose on imports and exports .

Imports are goods and services produced in a foreign country and bought by U.S. residents. It includes all goods that are shipped into the U.S. even if produced by an American company.

If the consumer is a U.S. resident, and the provider is a foreign resident, then it is an import. Exports are any good or services that passes through customs from the U.S. to be sold overseas. This includes merchandise shipped from a U.S. based company to its foreign affiliate or branch.

Type of Agreements

Bilateral agreements are between two countries. Both countries agree to loosen or remove trade restrictions to expand business opportunities. They typically involve lowering tariffs, and conferring preferred trade status on each other. The sticking point usually centers around key protected or subsidized domestic industries, such as automotive, oil or food production. The United States has 16 bilateral agreements, and is negotiating the world's largest potential agreement with the European Union -- the TTIP .

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The most difficult to negotiate are multi-lateral trade agreements. These are between three countries or more. However, once negotiated, they

are very powerful. That's because they cover a larger geographic area, conferring a better competitive advantage on the signatories. In addition, all countries in a multi-lateral agreement give each other most favored nation status. This means they treat each other equally.

The most well-known, and controversial, multi-lateral trade agreement is the North American Free Trade Agreement. or NAFTA. Most of the other U.S. regional trade agreements are also multi-lateral.

The Role of the WTO in Trade Agreements

Once agreements move beyond the regional level, they usually need help. That's where the World Trade Organization (WTO) steps in. It is an international body helps negotiate global trade agreements. Once in place, the WTO enforces the agreement and responds to complaints.

The WTO currently enforces the GATT or the General Agreement on Tariffs and Trade. The world almost received greater free trade from the next round, known as the Doha Round Trade Agreement. If successful, Doha would have reduced tariffs across the board for all WTO members. Unfortunately, the two most powerful economies refused to budge on a key sticking point. Both the U.S. and the EU resisted lowering farm subsidies. These subsidies made their food export prices lower than those in many emerging market countries. These low food prices would have put many local farmers out of business, sending them to look for jobs in over-crowded urban areas. This doomed the Doha round, and possibly all future world multi-lateral trade agreements.

The failure of Doha allowed China to gain a global trade foothold. It has signed bilateral trade agreements with dozens of countries in Africa, Asia and Latin America. In return for loans and technical or business support, Chinese companies receive rights to develop the country's oil and other commodities. Article updated October 1, 2014

Category: Forex

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