Trade Diversion

• Trade diversion

  The moving from a low-cost foreign producer outside a customs union to a high-cost producer within the customs union
• Trade diversion diagram

  1. UK market for clothing/textiles

  2. UK outside EU customs union, trading freely with Thailand

  3. UK joins EU customs union, adopts common external tariff on Thailand

  4. EU producers enter UK market, become more competitive due to tariff

  5. UK supply increases, UK demand contracts

  6. Excess demand now satisfied by more expensive EU imports
• Tariff imposed on Thailand imports


  Leads to trade diversion from low-cost Thailand to high-cost EU producers
• Trade diversion results in a deadweight loss of consumer surplus and domestic/EU inefficiency
• Potential negatives of a country joining a customs union

  • Higher prices
  • Loss of consumer surplus
  • Deadweight loss of efficiency
  • Domestic inefficiency
  • EU inefficiency
  • Likelihood of retaliation from foreign countries
  • Regressive nature, harming low-income consumers