Whether Signing FTAs Is the Best Measure to Create Jobs

Question

(b) Discuss whether the signing of FTAs is the best measure to create jobs for an economy. [15]

Answer

A free trade agreement (FTA) is an arrangement in which member countries remove barriers to trade among themselves. Jobs are created when firms hire more factors of production in response to a rise in real national output. The question is whether signing FTAs is the best such measure, against supply-side policy, protectionism and expansionary demand-side policy. My thesis is that, for a small open economy, signing FTAs is indeed the best measure, because it creates jobs fastest and addresses the binding constraint of a small domestic market.

FTAs can create jobs. By removing tariffs and other barriers, an FTA raises trade and capital flows between members. Provided exports exceed imports and FDI inflows exceed outflows, aggregate demand rises; and cheaper imported inputs lower firms’ unit costs, raising short-run aggregate supply. Real national output rises, so firms hire more factors, including labour. In-body evaluation: a country with weaker comparative advantage may instead see exports below imports and FDI outflows dominate, so that AD and output fall, raising demand-deficient unemployment — the gains are not guaranteed.

Supply-side policy is an alternative. Retraining (SkillsFuture) raises labour quality and productivity, attracting FDI (raising $I$ and AD) and lowering unit costs (raising SRAS), so output rises and firms hire more. In-body evaluation: supply-side measures are expensive and require government spending, which a budget-constrained government may lack.

Protectionism is another alternative. A tariff raises the domestic price of imports, switching expenditure to domestic producers, expanding domestic output and so employment.

In-body evaluation: tariffs are beggar-thy-neighbour measures inviting retaliation; if partners respond in kind, all economies lose jobs.

Expansionary demand-side policy is a further alternative. Expansionary fiscal policy — higher $G$, lower taxes — raises $G$, $C$ and $I$, lifting AD and output so that firms hire more. In-body evaluation: with imperfect information the government may over-stimulate, causing demand-pull inflation, and the policy works best with a large domestic population to raise consumption.

Judgement. For a small open economy, signing FTAs is the best measure. With a small domestic market, the fastest way to create domestic jobs is to attract FDI and expand trade flows, which FTAs do directly — and they work in the short run, since barriers must be removed once the agreement is signed. Supply-side policy, though it tackles the root by raising employability, is effective only in the long run, as changing workers’ skills and mindsets takes time. Protectionism does not address the root cause of job losses — it merely diverts domestic demand artificially and risks retaliation. Expansionary demand-side policy is effective only where the domestic population is large enough to lift consumption significantly. The FTA route therefore dominates for a small open economy like Singapore — though for a large economy with a sizeable domestic market, demand-side or supply-side measures may rival it, so the verdict is contingent on the nature of the economy rather than universal.