Free trade agreement

A free trade agreement (FTA) or treaty is an agreement according to international law to form a free-trade area between the cooperating states. There are two types of trade agreements: bilateral and multilateral. Bilateral trade agreements occur when two countries agree to loosen trade restrictions between the two of them, generally to expand business opportunities. Multilateral trade agreements are agreements among three or more countries, and are the most difficult to negotiate and agree.

FTAs, a form of trade pacts, determine the tariffs and duties that countries impose on imports and exports with the goal of reducing or eliminating trade barriers, thus encouraging international trade. Such agreements usually "center on a chapter providing for preferential tariff treatment", but they also often "include clauses on trade facilitation and rule-making in areas such as investment, intellectual property, government procurement, technical standards and sanitary and phytosanitary issues".

Important distinctions exist between customs unions and free-trade areas. Both types of trading bloc have internal arrangements which parties conclude in order to liberalize and facilitate trade among themselves. The crucial difference between customs unions and free-trade areas is their approach to third parties. While a customs union requires all parties to establish and maintain identical external tariffs with regard to trade with non-parties, parties to a free-trade area are not subject to such a requirement. Instead, they may establish and maintain whatever tariff regime applying to imports from non-parties as they deem necessary. In a free-trade area without harmonized external tariffs, to eliminate the risk of trade deflection, parties will adopt a system of preferential rules of origin.

The General Agreement on Tariffs and Trade (GATT 1994) originally defined free-trade agreements to include only trade in goods. An agreement with a similar purpose, i.e., to enhance liberalization of trade in services, is named under Article V of the General Agreement on Trade in Service (GATS) as an "economic integration agreement". However, in practice, the term is now widely used in politic science, diplomacy and economics to refer to agreements covering not only goods but also services and even investment. Environmental provisions have also become increasingly common in international investment agreements, like FTAs.

The OED records the use of the phrase "free trade agreement" with reference to the Australian colonies as early as 1877. After the WTO's World Trade Organization - which has been considered by some as a failure for not promoting trade talks, but a success by others for preventing trade wars - states increasingly started exploring options to conclude FTAs.

The formation of free trade areas is considered an exception to the most favored nation (MFN) principle in the World Trade Organization (WTO) because the preferences that parties to a free-trade area exclusively grant each other go beyond their accession commitments. Although Article XXIV of the GATT allows WTO members to establish free-trade areas or to adopt interim agreements necessary for the establishment thereof, there are several conditions with respect to free-trade areas, or interim agreements leading to the formation of free-trade areas.

Firstly, duties and other regulations maintained in each of the signatory parties to a free-trade area, which are applicable at the time such free-trade area is formed, to the trade with non-parties to such free-trade area shall not be higher or more restrictive than the corresponding duties and other regulations existing in the same signatory parties prior to the formation of the free-trade area. In other words, the establishment of a free-trade area to grant preferential treatment among its member is legitimate under WTO law, but the parties to a free-trade area are not permitted to treat non-parties less favorably than before the area is established. A second requirement stipulated by Article XXIV is that tariffs and other barriers to trade must be eliminated to substantially all the trade within the free-trade area.

Free trade agreements forming free-trade areas generally lie outside the realm of the multilateral trading system. However, WTO members must notify to the Secretariat when they conclude new free trade agreements and in principle the texts of free trade agreements are subject to review under the Committee on Regional Trade Agreements. Although a dispute arising within free-trade areas are not subject to litigation at the WTO's Dispute Settlement Body, "there is no guarantee that WTO panels will abide by them and decline to exercise jurisdiction in a given case".