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Mark Herman, CFP

Mark Herman has been helping friends with financial questions since serving as an Army helicopter pilot.

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Updated January 9, 2021

What Is a Trade Bloc?

A trade bloc (or trading bloc) is a type of agreement between governments where barriers to international trade are eliminated or reduced between participating nations/regions. 

Reducing or eliminating barriers (such as tariffs and non-tariffs) allows members within the agreement to trade amongst each other more easily and freely. The point is also to establish guidelines when trading with non-members, which can have an impact on global trade patterns.

Trade Blocs vs. Single Markets

Also referred to as a common market, a single market is a type of trade bloc. This is where member countries can trade freely for all types of resources, such as a capital, goods, and labor. Governments who are interested in implementing a successful common market should have similar rules around anti-competitive practices and micro-economic policies.

How Does a Trade Bloc Work?

Trade blocs (in many cases part of a regional intergovernmental organization) help countries trade with other member countries as easily as possible. This type of intergovernmental agreement reduces or eliminates barriers to international trade. In some cases, members adopt similar economic and political policies in order to facilitate easier trade. 

Depending on the agreement, members establish rules when it comes to trading with non-members, such as the inability for a member to negotiate with another non-member by themselves. This can create a trade diversion where a non-member country may be prevented from trading with a member of a trading bloc – or barriers like increased external tariffs may be put into place.

Types of Trade Blocs

The following types of trade blocs vary based on different arrangements and commitment between its members.

Preferential Trade Area

A preferential trade area has low levels of commitment when it comes to reducing trade barriers. In other words, members will reduce or eliminate tariff barriers on certain goods from other members. It doesn’t address how to work with non-members.

Free Trade Area

With a free trade area, members remove all trade barriers, leaving them free to import and export goods and services between them. Members can maintain their independent trade policies with non-members.

Customs Union

Member countries in a customs union remove all trade barriers and adopt policies/external tariffs when dealing with non-members. As a single trade block, members within a customs union can negotiate with other trading blocs or third-parties like the World Trade Organization (WTO).

Common Market

Members in a common market will eliminate internal trade barriers, adopt common policies for non-members, and allow a free movement of resources (like labor). The East African Common Market is one such example of an economic union. 

Economic Union

In addition to eliminating member trade barriers, adopting common barriers for non-members and allowing a free movement of resources, an economic union also adopts similar economic policies. For example, the European Union (i.e. EU trade bloc) has adopted a common currency.

Trade Bloc Characteristics

A few trade bloc characteristics include:

  • Groups of countries with neighboring or predetermined regions
  • Member countries who promote and manage trade activities
  • Free trade between countries (aka lowered or eliminated barriers)
  • Members are treated more favorably compared to non-member countries

Restrictions of Trade Blocs

The WTO will only permit a new trade bloc if it means that member countries can’t discriminate against non-member countries. For instance, the point of a trade bloc is to reduce barriers as it pertains to trade, not as other forms of political bargaining.

Trade Blocs and Tariffs

Trade blocs remove or reduce tariffs for its members. However, non-members who want to trade will find that the tariff remains the same (or higher) because it doesn’t adhere to the same trade agreements.

Famous Trade Bloc Examples

The following are some of the most current significant trading blocs.

The European Union (EU)

The EU is the most significant trade bloc in Europe. Its 27 member states form this political and economic union.

European Free Trade Association (EFTA)

The EFTA is a trade bloc composed of Iceland, Liechtenstein, Norway, and Switzerland as its members. Established in 1960, the EFTA encourages integration and free trade between its members.

The European Economic Area (EEA)

The EEA was established so that members of the EU could also house member states from the EFTA. Members include the EU plus Iceland, Liechtenstein, and Norway.

The Central European Free Trade Agreement (CEFTA)

Established in 1992, members of CEFTA are Albania, Bosnia, Croatia, Herzegovina, Kosovo, North Macedonia, Moldova, Montenegro, and Serbia. This agreement was, in part, to try and mobilize efforts to integrate these ex-Yugoslav countries into western European institutions.

Can Countries Belong to More Than One Trade Bloc?

Generally, yes, though it depends on the type of trade bloc. If a trade bloc doesn’t allow a member to negotiate with non-members by itself, then there would be a conflict of interest. For example, when the UK was a member of the EU, it wouldn’t have been able to negotiate other trade agreements on its own.

Some, like the North American Free Trade Agreement (NAFTA), allow each member to negotiate their own trade deals.

Advantages of Trade Blocs

Let’s take a look at why trade blocs may be beneficial to many countries. 

Free Trade

Members within a trading bloc can have free access to other member’s markets. Therefore, there is a bigger competitive advantage of members who decide to specialize.

Market Access

More trade between members will most likely happen because there is easier access between them. This can also enable member nations to achieve economies of scale (since free trade may mean that companies can replace producers with higher costs with cheaper imports). Lower-priced imports can mean increased demand due to lower costs.

Job Creation and Protection

Members may be able to preserve the economies or industries within member nations. That’s because lower-priced imports from non-member countries may be barred from trading with a particular trade bloc. This may also help to protect existing or create new jobs.

Disadvantages of Trade Blocs

Although there are plenty of advantages for creating a trade bloc, there are cases when it may not be helpful.

Inefficiencies

Some trading blocs may have inefficiencies within their agreements, making trade less effective than if they were to trade outside the bloc.  For instance, trade diversion (when trade is taken away from more efficient producers because of non-membership) could mean less access to lower-cost imports.

Distortion of Trade

Some argue that trade blocs distort world trade and can be considered anything that interferes with prices, taxes and tariffs. Doing so can reduce the benefits of free trade between members.

Retaliation Amongst Non-Members

The creation of a trade bloc is likely to encourage others to create their own. This may lead to trade disputes, which can hinder or bloc trade between countries that were once working well together.

History of Trade Blocs

Around the end of World War II, there was heavy support to reduce and eliminate trade barriers between countries, thus promoting international trade. On January 1st, 1948, the General Agreement on Tariffs and Trade (GATT) came into force, intending to coordinate and facilitate trade between 23 countries. The GATT had charters that created rules such as ones for commodity agreements, employment, restrictive business practices, and services. 

While Uruguay was in the midst of GATT negotiations, the World Trade Organization (WTO) was created in 1995 as GATT’s successor. The WTO is the only international organization that handles global trade rules between countries worldwide. Its purpose is to ensure that trade blocs help trade more flow freely, predictably, and smoothly. There are now 148 member nations.

How Have Trade Blocs Affected Globalization?

The concept of globalization means that national economies are more integrated and interdependent on each other. In other words, because economic barriers have been reduced or removed, free trade – and movement of capital and labor – has increased. It also helps ease negotiations between countries. 

Trade blocs, however, can hinder interdependence between different economies, such as when non-members may be discouraged to trade with certain trading blocs due to high tariffs.

Ask an Expert about Trade Bloc
At InvestingAnswers, all of our content is verified for accuracy by Mark Herman, CFP and our team of certified financial experts. We pride ourselves on quality, research, and transparency, and we value your feedback. Below you'll find answers to some of the most common reader questions about Trade Bloc.

Trade Blocs vs. Customs Union. What is the difference between the two?

A customs union is a type of trade bloc. Member countries within a customs union aren’t charged tariffs on goods and services acting within these areas. These member countries also negotiate as a trade bloc and accept common tariffs from non-members.

Is NAFTA a Trade Bloc?

Yes. The North American Free Trade Agreement (NAFTA) is a trilateral trade bloc between the Canadian, Mexican, and United States government. It came into force on January 1, 1994.

Why Are Trade Blocs Important?

Trade blocs allow member countries to more freely trade with each other, thus reducing or eliminating barriers such as tariffs. In turn, it can drive down the cost of imports, encourage further trade, and help countries thrive economically.  

Mark Herman has been helping friends with financial questions since serving as an Army helicopter pilot. Since then, he’s gained valuable experience in the corporate world before moving on to become a CERTIFIED FINANCIAL PLANNER™.

If you have a question about Trade Bloc, then please ask Mark.

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