Would trade-diversion and trade-creation effects occur if the whole world became a free trade area? Explain.

Trade creation and trade diversion are concepts related to regional trading agreements like free trade areas, customs unions, and economic unions. Trade creation happens when a trading agreement leads to the formation of new trading relationships among member countries. It's a positive outcome as member countries can now trade the same goods at lower prices due to reduced trade barriers, leading to more efficient resource allocations and increased consumer welfare. Trade diversion occurs when a trading agreement leads to the redirection of trade from more efficient non-member countries to less efficient member countries because of the reduced trade barriers among member countries. Trade diversion can lead to a less optimal allocation of resources and may have negative effects on consumer welfare.

If the whole world were to become a free trade area, all countries would be part of the same trading agreement without any trade barriers or discrimination. In such a scenario, trade creation would undoubtedly occur on a global scale, as countries would find new trading partners and allocate their resources more efficiently. Consumers would enjoy lower prices and increased choices due to the elimination of trade barriers. However, trade diversion, as a concept, relies on the existence of non-member countries to which trade is being diverted away from. In a global free trade area, there would be no non-member countries. All countries would have equal access and opportunities to trade with each other without any trade barriers. As a result, trade diversion cannot take place in a global free trade area.

In conclusion, if the whole world became a free trade area, trade creation would occur as countries would engage in new trade relationships, leading to more efficient resource allocations and increased consumer welfare. Trade diversion, however, would not be possible since there wouldn't be any non-member countries to divert trade away from. As all countries would have equal access to the global market, the potential negative effects associated with trade diversion would not apply.