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A free trade area is formed when a group of nations eliminates tariffs and quotas on the movement of goods and services between member nations. This could apply to all goods and services or to a limited number depending on the terms and conditions under which the free trade agreement is created. Free trade agreements are created to facilitate cross-border movement of goods and services that ensures a better utilization of resources in all the members nations. Once a free trade area is formed only comparative advantage between the member nations determines what each nation chooses to manufacture on its own and what is procured from other member nations.
Members of a free trade area do not drop external tariffs; each member is free to decide its terms of trade with nations that lie outside the free trade area. On many occasions this poses problems as external nations can supply their goods to nations that impose higher tariffs through members of the trade area that have a lower tariff. To prevent this, member nations require that direct imports from outside the trade area by one member cannot be sent to others unless a substantial addition in value has been done in the importing nation.
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