What is the Difference Between Bilateral and Multilateral Trade Agreements?

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One question that has come up recently is whether there is a difference between bilateral and multilateral trade agreements.  Much of this is motivated by the Trump Administration’s pledge to eliminate or alter multilateral trade agreements, such as NAFTA and the TPP, while pursuing bilateral agreements.  Before we answer this question, it’s important to step back and review some basic concepts concerning international trade.

There are some general findings that are consistently found across trade deals.  Economist, Greg Mankiw, put it as well as anyone when he said “Trade between two countries creates winners and losers, but it leaves both nations with greater overall prosperity.”  This idea goes back to Adam Smith and David Ricardo who pointed out that an individual or country should focus on the things for which they have an advantage in producing, which will free them up to buy things for which they do not have an advantage in producing.

There are two parts to Mankiw’s comment to consider.  First, free trade improves prosperity for all of those involved.  Consider the following quote,

“It is the maxim of every prudent master of a family never to attempt to make at home what it will cost him more to make than to buy. The taylor does not attempt to make his own shoes, but buys them of the shoemaker. The shoemaker does not attempt to make his own clothes, but employs a taylor. The farmer attempts to make neither the one nor the other, but employs those different artificers.”
– Adam Smith (Wealth of Nations)

While Smith was talking about the division of labor for individuals, the same also holds when considering countries that trade and specialize in different areas of production.  Specialization leads to increased purchasing power for both parties.

Second, there are winners and losers from free trade.   This brings us to the trade-off when opening trade between two countries.  To illustrate, consider the difference between agriculture and manufacturing with regard to free trade.  In general, open global markets benefit US agriculture due to our productivity advantages over other countries.  Farm groups tend to view trade deals with big eyes and they are important in order to continue to expand into new consumer markets.  It is also worth mentioning that in many agricultural markets the US is a net exporter (grains, cotton, rice), while others a net importer (coffee, fish, fruit).  Now consider manufacturing industries that are still fairly labor-intensive.  In the United States, these jobs are often lost to other countries because the US has higher wages than other countries, thus it is difficult to compete with other countries with lower wages in labor-intensive industries.  Not to mention the manufacturing that has remained in the US has become more capital-intensive as the relative price of capital-labor decreases.  This dichotomy was clear when removal from the TPP was declared through executive order and met with cheers from auto makers and dismay from farm groups.

There are a few different ways to open trade with other countries.  The TPP is one example of a multilateral agreement as it includes twelve nations.  Multilateral agreements can be more complex, meaning they take longer to negotiate, but can often lead to larger market access.  For example, the TPP would have opened up trade for US exports to many countries in the Asia-Pacific region, though the largest gains from trade would have been realized by opening trade with Japan.  The United States-Korea Free Trade Agreement is an example of a bilateral trade agreement.  These types are agreements are more easily negotiated given there are only two countries involved.  They are also the types of trade deals the Trump Administration has said it will seek.  A Third type of trade is that of NAFTA, which is technically a multilateral trade area.  These agreements lower trade barriers across a region.  It is worth noting that these three trade deals include the four major beef export destinations (Japan, S. Korea, Mexico, and Canada).

A common trait in each of these types of trade agreements is that they essentially look to limit the barriers to trade, which in most instances include the lowering of import tariffs.  These import tariffs are lowered for both countries, which increases the flow of goods between countries.  While access to growing markets are likely to lead to future profits in agriculture, trade deals usually have long phase in periods.  For example, the TPP would have led to reductions in Japanese tariffs on US Beef from 38.5% to 9% over a 16 year period  Similarly, the US-Korea trade deal would lower tariffs on US Beef from 40% to 0% over a 15 year period.  This implies that the benefits and costs from these trade deals would take effect slowly over time, rather than provide any immediate shock to the economy.

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Eric Belasco

Eric Belasco is an Associate Professor in the Department of Agricultural Economics and Economics at Montana State University. He received both his M.S. and Ph.D. in Economics from North Carolina State University in 2005 and 2007, respectively. He conducts research in the areas of agricultural marketing, risk management, farm policy, and financial engineering. Examples of this research include evaluations into grid pricing risk, the use of forward contracts in mitigating profit risk, modeling revenue risk in cattle production, and characterizing the link between weather and production indicators.

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