trade diversion

• What is trade diversion?

  Trade diversion is when consumption shifts from a lower cost producer to a higher cost producer.
• How does trade diversion occur?

  It occurs when consumption shifts from a lower cost producer outside the trading bloc to a higher cost producer within it.
• Can you provide an example of trade diversion?

  • The UK switching from buying New Zealand butter (the cheapest)
  • To European butter after joining the EU
• What is the impact of the UK switching from New Zealand butter to European butter?

  The impact is a shift from a lower cost producer to a higher cost producer due to trade diversion.
• What is more likely to occur when a trading bloc has a very high external tariff?

  Trade diversion is more likely to occur
• What effect does a small cost difference between goods purchased within and outside a trading bloc have?

  It increases the likelihood of trade diversion
• How do higher tariffs imposed by a country before joining a market affect trade creation and diversion?

  Higher tariffs increase the likelihood of trade creation
• What happens if joining a Free Trade Agreement (FTA) leads to more trade creation than diversion?

  • It is welfare improving
• What is the outcome if joining a Free Trade Agreement (FTA) leads to more trade diversion than creation?

  • The FTA is reducing welfare