ChainWhat it assumes · how to break it
Start
The UK removes tariffs and quotas on trade with a partner through a free trade agreement, such as the UK–Australia agreement signed in 2021.
1
As a result, each country specialises more in goods where it has a comparative advantage and imports goods produced at a lower opportunity cost elsewhere.
comparative advantage · specialisation
comparative advantage · specialisation
Best link to attack
Assumes: Resources can move easily from shrinking industries into expanding ones.
Assumes: Resources can move easily from shrinking industries into expanding ones.
But: Workers and capital are often specific to one industry or region, so resources released from uncompetitive industries may sit idle rather than move to exporting ones.
2
This means exporters sell into a larger market, so they can expand output and benefit from economies of scale, lowering average costs.
economies of scale
economies of scale
Assumes: The partner market is large and accessible.
But: If the partner is distant or small, the extra market is limited; official estimates of the gain to UK GDP from the Australia deal were very small.
3
Consequently, domestic firms face more competition from imports, so they must cut costs and innovate to survive.
competition · dynamic efficiency
competition · dynamic efficiency
Assumes: Firms respond to competition by becoming more efficient.
But: Some firms close instead, especially if foreign rivals are much larger or receive state subsidies.
4
Therefore, productivity rises and LRAS shifts right, increasing the economy's potential output and long-run growth.
productivity · LRAS
productivity · LRAS
Assumes: Non-tariff barriers do not block much of the trade.
But: Rules of origin, differing product standards and limits on services trade may remain, so trade rises by less than the tariff cuts suggest.
End
Specialisation, economies of scale and competition raise productivity, increasing long-run economic growth.
Evaluation chain
- E1However, the gains depend on resources moving from industries that shrink into those that expand.
- E2Because skills and capital are often specific to one industry and one region, workers who lose jobs in import-competing industries may not have the skills exporters need.
- E3As a result, output lost in contracting industries may not be replaced for years, holding actual growth below potential.
- E4So liberalisation raises potential growth in the long run, but the gains to actual growth are smaller and slower where factors of production are immobile.
Another way to attack it: The gains from one free trade agreement depend on how much trade there is with that partner. A deal with a distant or small partner adds little, and may not offset the loss of easier access to a larger, closer market.
Adjustment costs come first, while gains from scale and competition build up over many years.
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Questions this answers
- Assess the benefits to an economy of signing a free trade agreement.
- Evaluate the view that free trade always increases economic growth.
- Explain how specialisation according to comparative advantage raises output.
Diagram
PPF diagram showing consumption beyond the PPF after specialisation and trade; or AD/AS with LRAS shifting right.
Reverse and related
Tariffs imposed → less specialisation and competition reduce productivity and long-run growth (see tar-gro).