We find that around half of world imports are from countries that are granted some preference – yet that does not mean that all of that trade is actually preferential. MFN rates may be zero or a product can be excluded from preferences. Overall – but not including intra-EU trade – just 16.3% of global trade has a positive preferential margin. Preferential margins are distributed as follows:By "preferential margin," they mean the gap between the "most favored nation" tariff, which all WTO members are expected to apply to imports from other members, and the lower tariffs which might apply under regional and bilateral trade agreements. For example, if the US has a 10% MFN tariff on cogs, but under NAFTA, cogs from Mexico enter the US tariff-free, that would mean a 10% preferential margin.
- 10.5% of total trade has a margin of 5 percentage points or less, 3.9% has a margin of 5-10 percentage points, 1.3% has a margin of 10-20 percentage points and only 0.5% has a margin of 20 percentage points and above.
- Around 30% of global trade is not eligible for preferences and subject to non-zero MFN rates, although almost 2/3 of that trade faces tariffs of 5% or less.
- More than half (52%) of world trade is at MFN zero, so no preferences can be granted.
This addresses one of the main complaints about trade agreements: that they lead to preferences. This can lead to "trade diversion," whereby a country imports a good from someplace that isn't the most efficient producer - in the above example, if Brazilian cogs were 5% less costly than Mexican cogs, without NAFTA, the US would import them from Brazil; NAFTA causes the US to shift to Mexican cogs (and lose the tariff revenue). As a political economy matter, this might also mean that Mexico is less likely to support multilateral liberalization - e.g., a reduction in cog duties in the WTO Doha round talks - because it enjoys its privileged access to the US market. That is, preferential agreements lead to worries about "preference erosion" which could hinder broader tariff reductions.
These are two aspects of the general criticism that regional trade agreements create what is known as the "spaghetti bowl phenomenon" described thus in an academic article by Jagdish Bhagwati, David Greenaway and Arvind Panagariya:
The result [of the proliferation of regional trade agreements] is…the ‘spaghetti bowl’ phenomenon of numerous and crisscrossing PTAs and innumerable applicable tariff rates depending on arbitrarily-determined and often a multiplicity of sources of origin. In short, the systemic effect is to generate a world of preferences, with all its well-known consequences, which increases transaction costs and facilitates protectionism. In the guise of freeing trade, PTAs have managed to recreate the preferences-ridden world of the 1930s as surely as protectionism did at the time. Irony, indeed!One of the interesting questions in trade is whether "free trade" agreements really deserve the name. Carpenter and Lendle's evidence suggests that perhaps some of the criticisms - while valid in theory - may be overdone in practice.