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What is Free Trade?


The term 'Free Trade' is included in the Investments edition of the Financial Dictionary. Get yours now on amazon in ebook or paperback format. Read more here...

Free Trade refers to an economic policy of one or more participating nations. In such a policy, the trade departments or ministries do not discriminate against any of the exports to or imports from a foreign country or territory. This means that both the sellers and buyers of different economies can voluntarily choose to trade without having any government interference in or restrictions on their business. It means that they will not suffer from quotas, tariffs, prohibitions, or subsidies on any of their purchased or sold services and goods. This type of trade policy proves to be the opposite of economic isolationism and trade protectionism.

For a free trade policy to work, politically there cannot be any other types of restrictive trade policies. The government does not have to engage in pro-trade policies promoting such trade for it to be considered to be free trade. This is why economists call it trade liberalization or laissez-faire trade. Governments make such FTA agreements without having to eliminate all export and import taxes. In fact, in today’s international trade venue, few of the labeled FTAs meet the true definition of free trade.

Interestingly, free trade never proves to be a zero sum game. The two economies participating in such a regime will both grow faster and share the advantages together. It is the same as voluntary trade exercised between states, towns, or neighbors. Such trade allows for a nation’s workers, corporations, and industries to focus their efforts in producing services ad goods where they enjoy a true comparative advantage.

It was economist David Ricardo who proposed the ideas of free and comparative advantage. His book On the Principles of Political Economy and Taxation popularized the concepts. He argued that through expanding the diversity of products, skills, and knowledge within an economy, free trade would similarly foster specialization through the effective division of labor.

Free trade is one of those unusual issues that divide members of the general public from economists and government policy makers. Economists resident in American universities are in fact seven times more likely to promote and encourage FTA ideas and policies than the public. Milton Friedman the legendary American economist explained it like this: “the economics profession has been almost unanimous on the subject of the desirability of free trade.” Even though this is the case, policymakers have not been effective in promoting such free trade ideology in the real world, thanks to the vociferous opposition of American voters.

The fact of the matter today is that the U.S. does not enjoy true free trade with any other country. This is the case even with such states with which it maintains an FTA agreement. The reason for this is that the majority of politicians are against free trade in principle because some sectors such as manufacturing will suffer from free competition with less expensive foreign goods producers. It means that American consumers suffer from fewer quality choices and higher prices because of the resulting protectionist policies. Despite this fact, the slogans and campaigns for “buy American” are typically very popular and consistently well-supported across the various segments of American society.

This is why foreign venders face a significant and often insurmountable number of tariffs on imports and other de facto barriers to entry. They often have to face domestic producers who enjoy subsidies of their exports. Per 2016, various special interest groups have managed to push through trade restrictions on literally hundreds of different foreign products. These include beef, milk, chicken, tuna, sugar, steel, cars, brooms, and even denim jeans and jackets.

The irony of it all is that both the WTO World Trade Organization and the United States itself claim to support a larger amount of international trade in the financial markets with such products as financial services. Yet there is similarly no true free trade in this arena either. Despite the fact that there are now numerous international regulatory organizations of the financial markets like the International Organization of Securities Commission, the Basel Committee on Banking Supervision, and the Committee on Capital Movements and Invisible Transactions, restrictions on foreign-based financial services abound in both the U.S. and also in the European Union.

The term 'Free Trade' is included in the Investments edition of the Financial Dictionary. You can get your copy on amazon in Kindle or Paperback version. See more details here.