Free trade is a trade policy that allows traders to transact business without any sort of interference or intervention from the government. It is believed that free trade leads to mutual benefits for both the trading partners. It differs from other forms of trade in that there is no creation of artificial prices, or a false demand and supply of products. In a protectionist trade economy, government intervenes in the form of subsidies, taxes, tariffs, etc to lower prices of goods or adjust supply of products. Free trade overcomes all this and gives a true picture of the actual demand and supply. To understand how free trade creates a better market and trade environment, let’s take a look at its benefits.
1. Comparative advantage:
According to the theory of comparative advantage, countries, by specializing in goods that have lower opportunity costs, lead to an increase in the economic welfare of all countries. The theory is self-explanatory. Each country does what it is best in and trades with other for its needs. In this manner the market represents true supply and demand, and trade benefits all the countries.
2. Economy of scale:
When countries specialize in certain goods that they can produce, they can take advantage of economy of scale and produce these goods at lower average costs. This is more useful to industries where the fixed cost of production is very high or where the investment required is very high. By specializing in such products, the industry can ultimately gain from economy of scale and lower production costs. This would transfer to the consumer as lower prices for the finished goods.
3. Increases healthy competition:
When demand increases from abroad, industries will respond to the demands by reducing costs and increasing efficiency. This will prevent the creation of monopolies within the domestic market, which lead to high prices. Thus free trade brings about a healthier competition within the domestic industry.
4. Increases economic growth:
Trade is the greatest factor that leads to economic growth. When the trade occurs as a result of true demand and supply, the economic growth that occurs also truly reflects the increase in economic welfare. Thus, free trade brings about increased economic growth, which means better and more jobs; better standards of living; etc.
5. Effective use of raw materials:
Free trade not only brings about economic growth but also effectively uses raw materials, especially highly valuable and highly limited raw materials. For instance, the Middle East is a rich source of oil, but there isn’t much else in these countries. Trade is what ensures that this limited resource is distributed to different countries which lack this resource and the Middle East, in turn, gets the products necessary for their day-to-day living and business.
6. Lesser cost of living:
When governments add tariffs and taxes to protect their interests, it leads to the industries selling products at a higher cost. This leads to higher costs of living. On the other hand, free trade does away with government interventions such as subsidies, tariffs, and taxes. This ensures that the products and services are efficiently produced and at a lower cost. This transfers to lesser prices for products and thereby lesser cost of living.
7. Increased choice:
Free trade leads to increase in both exports and imports. This leads to more products being available in the market. A consumer has the opportunity to purchase goods based on quality requirements and budget. The consumer has more choice.
8. Good government and peaceful international ties:
Free trade prevents the need for protectionist government policies. It is such policies that lead to corruption among the government officials. Thus, a free trade economy promotes healthier governance. A healthy government also works towards a healthier economy. This ensures smoother and healthier trade and political relationships between countries. Thus, free trade leads to healthier domestic governance and peaceful international ties.
History has proven that free trade has several benefits as compared to a protectionist economy. It has benefits for the consumer, industry, economy, and the world, as a whole.