GATT: Definition, Purpose, History, Pros, and Cons

How GATT Saved the World

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The General Agreement on Tariffs and Trade (GATT) was a free trade agreement between 23 countries that eliminated tariffs and increased international trade. As the first worldwide multilateral free trade agreement, GATT governed a significant portion of international trade between January 1, 1948 and January 1, 1995. The agreement ended when it was replaced by the more robust World Trade Organization (WTO).

Key Takeaways

  • The General Agreement on Tariffs and Trade was a treaty created after World War II to help the economies of countries affected by the war.
  • This agreement would pave the way to the creation of the World Trade Organization.
  • With countries becoming increasingly integrated economically, war between member countries dropped.
  • GATT did have drawbacks when it came to the amount of autonomy some countries gave up, with global goals prioritized over local ones.

Purpose

The purpose of GATT was to eliminate harmful trade protectionism. That had sent global trade down 66% during the Great Depression. GATT restored economic health to the world after the devastation of the Depression and World War II.

Three Provisions

GATT had three main provisions. The most important requirement was that each member must confer most favored nation status to every other member. All members must be treated equally when it comes to tariffs. It excluded the special tariffs among members of the British Commonwealth and customs unions. It permitted tariffs if their removal would cause serious injury to domestic producers.

Second, GATT prohibited restrictions on the number of imports and exports. The exceptions were:

In addition, countries could restrict trade for reasons of national security. These included protecting patents, copyrights, and public morals.

The third provision was added in 1965, addressing developing countries joining the GATT. Developed countries agreed to eliminate tariffs on imports from developing countries to boost those economies. Lower tariffs had benefits for developed countries, as well. As the GATT increased middle-class consumers throughout the world, there was an increased demand for trade with developed countries.

History

GATT grew out of the Bretton Woods Agreement. The summit at Bretton Woods also created the World Bank and the International Monetary Fund to coordinate global growth. 

The summit almost led to a third organization. It was to be the highly ambitious International Trade Organization (ITO).

The 50 countries that started negotiations wanted it to be an agency within the United Nations that would create rules, not just on trade, but also employment, commodity agreements, business practices, foreign direct investment, and services. The ITO charter was agreed to in March 1948, but the U.S. Congress and some other countries' legislatures refused to ratify it. In 1950, the Truman Administration declared defeat, ending the ITO.

At the same time, 15 countries focused on negotiating a simple trade agreement. They agreed on eliminating trade restrictions affecting $10 billion of trade or a fifth of the world’s total. A total of 23 countries signed the GATT deal on October 30, 1947, clearing the way for it to take effect on June 30, 1948.

GATT didn’t require the approval of Congress. That's because, technically, GATT was an agreement under the provisions of the U.S. Reciprocal Trade Act of 1934. It was only supposed to be temporary until the ITO replaced it.

Throughout the years, rounds of further negotiations on GATT continued. The main goal was to further reduce tariffs. In the mid-1960s, the Kennedy round added an Anti-Dumping Agreement. The Tokyo round in the seventies improved other aspects of trade. The Uruguay round lasted from 1986 to 1994 and created the World Trade Organization. 

GATT and WTO

GATT lives on as the foundation of the WTO. The 1947 agreement itself is defunct. But, its provisions were incorporated into the GATT 1994 agreement. That was designed to keep the trade agreements going while the WTO was being set up. So, the GATT 1994 is itself a component of the WTO Agreement. 

Member Countries

The original 23 GATT members were Australia; Belgium; Brazil; Burma, (now called Myanmar); Canada; Ceylon, now Sri Lanka; Chile; China; Cuba; Czechoslovakia, now Czech Republic and Slovakia; France; India; Lebanon; Luxembourg; Netherlands; New Zealand; Norway; Pakistan; Southern Rhodesia, now Zimbabwe; Syria; South Africa; the United Kingdom and the United States. The membership increased to more than 128 countries by 1994. 

Pros and Cons

Pros
  • GATT encouraged international trade.

  • Countries with trading agreements are less likely to go to war with one another.

  • The success of GATT inspired other international deals and organizations.

  • Trade increases communication.

Cons
  • Domestic industries that can't compete globally will likely fail.

  • The globalization of industries exposes more of the world to risks within that industry.

  • Trade agreements could overrule domestic law, forcing governments to cede some level of control over their citizens.

  • Small economies and businesses may struggle to compete with large economies and businesses.

Pros

For 47 years, GATT reduced tariffs. This boosted world trade by 8% a year during the 1950s and 1960s. That was faster than world economic growth. Trade grew from $302 billion in 1970 to $3.8 trillion in 1993.

It was such a success that many more countries wanted to join. By 1995, there were 128 members, generating an extremely large percent world trade.

By increasing trade, GATT promoted world peace. In the 100 years before GATT, the number of wars was 10 times greater than the 50 years after GATT. Before World War II, the chance of a lasting trade alliance was only slightly better than 50/50. 

By showing how free trade works, GATT inspired other trade agreements. It set the stage for the European Union. Despite the EU's problems, it has prevented wars between its members. 

GATT also improved communication. It provided incentives for countries to learn English, the language of the world's largest consumer market. This adoption of a common language reduced misunderstanding. It also gave less developed countries a competitive advantage. English gave them insight into the developed country's culture, marketing, and product needs. 

For example, most Indians know English. It allows them to work in call centers that support U.S. companies. This has been a major reason for call center outsourcing.

Cons

Low tariffs destroy some domestic industries, contributing to high unemployment in those sectors. Governments subsidized many industries to make them more competitive on a global scale. U.S. and EU agriculture were major examples. During the early 1970s, the textile and clothing industries were exempted from GATT. When the Nixon Administration took the U.S. dollar off the gold standard in 1973, it lowered the value of the dollar compared to other currencies. That further lowered the international price of U.S. exports.

By the 1980s, the nature of world trade had changed. GATT did not address the trade of services that allowed them to grow beyond any one country's ability to manage them. For example, financial services became globalized. Foreign direct investment had become more important. As a result, when U.S. investment bank Lehman Brothers collapsed, it threatened the entire global economy. Central banks scrambled to work together for the first time to address the 2008 financial crisis. They were forced to provide liquidity for frozen credit markets.

Like other free trade agreements, GATT reduced the rights of a nation to rule its own people. The agreement required them to change domestic laws to gain the trade benefits. For example, India had allowed companies to create generic versions of drugs without paying a license fee. This helped more people afford medicine. GATT required India to remove this law. That raised the price of drugs to a level out of reach for many Indians.

Trade agreements like GATT often destabilize small, traditional economies. Countries like the United States that subsidize agricultural exports can put local family farmers out of business. Unable to compete with low-cost grains, the farmers migrate to cities looking for work, often in factories set up by multi-national corporations. Often these factories subsequently move onto other countries with lower-cost labor, leaving the farmers unemployed.

Farmers that stay often grow opium, coca, or marijuana, just because they can't grow traditional crops and stay in business. Violence from the drug trade may force them to emigrate to protect themselves and their children.

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