Trade diversion and trade creation effects of economic integration: Illustration of an Excel based tariff simulation of Zambia entering a hypothetical Free Trade Agreement (FTA) with South Africa
The aim of this paper is to illustrate an Excel spreadsheet* simulation that can be used to determine the trade creation and trade diversion effects of a Free Trade Agreement (FTA). As a case study it is assumed that Zambia is entering into an FTA with South Africa. The impact is evaluated in terms of trade creation, trade diversion, the price effect, the tariff revenue loss and the welfare gains if Zambia reduces tariffs on selected products imported from South Africa. The 2014 applied Most Favoured Nation (MFN) tariffs are used as base tariffs.
The calculations are based on the partial equilibrium model developed by World Integrated Trade Solution (WITS) (2011), called the SMART model. The WITS SMART model is a useful internet based simulation model that allows users to run various tariff reduction simulations. One of the benefits of the SMART model (compared to the Excel spreadsheet simulation) is that it shows the impact on all countries that export to the selected country, and not only the partner countries. The drawback is that it only allows for consistent cuts in tariffs across all products within the selected product groups. The aim of the Excel spreadsheet simulations is therefore primarily to allow for flexibility with regard to product specific tariff reductions.
For the advanced Excel user, the added benefit of the Excel spreadsheet simulation is that sensitivity analysis with regard to parameters can potentially be quicker and easier than with the internet based simulations. For the novice Excel user, the disadvantage could be potential errors in formula or data inclusion, which could return wrong estimates. It is therefore advised that if users are not particularly interested in product specific tariff cuts, they should use the internet based WITS SMART model rather than the Excel spreadsheet simulation.
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