The economic theory that underlies the need for all of these organizations is based on the “public goods” nature of most international agreements. Technically, a public good is defined as any good—or outcome of an international agreement—which is non-excludable, and non-rival. Non-excludability refers to the fact that a market’s allocation mechanism, price, cannot regulate access; i.e., is access to the roads in your neighborhood relegated only to those who paid for them? Non-rivalry implies that consumption of a public good by one person does not diminish its availability for another; for example, does your neighbor’s use of the roads in your neighborhood diminish your ability to use them? Obviously, the answer in both cases is “no.”

In theory, however, there are few truly public goods: even roads could be excludable (i.e. toll roads), and, at some point, roads do become rival (i.e. traffic jams). A cleaner example of a public good is a public fireworks show on the 4th of July. Price cannot regulate access, since it can presumably be seen by anyone in a certain geographical radius of the show. And one person’s consumption of the show doesn’t limit another’s.

With traditional market forces (e.g., prices) an inadequate supply of public goods is produced. Imagine, for example, the outcome of a private market 4th of July fireworks show—it would probably be less than what everyone was hoping to see. Why? Because even though everyone might want to see a great fireworks show, not everyone will purchase tickets; some will try to free ride. In other words, when other people pay, free riders can get some of it without paying—because access can’t be regulated. This leads to inefficient underproduction, since the usual signal of demand—price—only captures part of the actual demand: the other part of the demand is hidden by those who are “free riders.” And if there are too many free riders, the entire market will ultimately collapse.

In a democracy the decisions of public institutions, which supply the public goods, are a reflection of the majority vote of its private citizens. Public institutions solve the “free riding” problem by using taxes or other fees to produce goods that private citizens on their own might not produce. For example, the NC Department of Transportation, a public institution, receives state income tax revenues to maintain and expand the roads and highways of North Carolina. And the department of parks and recreation in your town might use local taxes to put on a great fireworks show because the majority of the town “votes” that some of their tax dollars be spent in this way.

The WTO, an international public institution, has responsibility for keeping trade free and fair (and we use the terms somewhat loosely—more about that in a bit) because, as you will see in the exercise in the next section, while individual actors might not always opt for free trade (as you might not opt to pay for roads in another neighborhood, or have a 4th of July fireworks show in your town), it is in the general welfare to keep international markets open, which we’ve explored in previous units. When a nation restricts imports, it is “free riding” on the international trade system; it expects the “costs” of free trade (loss of jobs in some sectors, lower prices on exports) to be paid by others, while it enjoys its benefits: open markets and a stable international payments system.
The WTO is there to prevent this, or an escalation into a full-blown tariff war, from happening.

The WTO is one of many international institutions that serve to regulate the global economy and ensure that international public goods, such as free trade, are provided in adequate supply. The table below summarizes four important public goods provided by international institutions. The WTO is responsible for the first good. The others we cover in later units.

Four Examples of International Public Goods
Public Good	Purpose
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1.Open markets in recession	To prevent a fall inn exports from magnifying the effects of a recession
2.Capital flows to less-developed countries (LDCs)	To assist economic development in poor countries.
3. International money-for settlement of international debts.	To maintain a globally accepted system for paying depts.
4.Last resort lending	To prevent the spread of some types of financial crises.
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VIDEO: Public Goods