E. Regional Trading Arrangements
- Multilateral liberalization
- Trade liberalization extended to all WTO members
.
- Regional trading arrangements
- Trade barriers reduced only for a small group of
partner nations
- Complements multilateral trading system
- Self-reinforcing process - becomes attractive for
nonmembers to join and receive benefits
- Little incentive to sign multilateral agreements
.
1. Types of regional trading arrangements
a. Free-trade area
- All barriers removed among members
- Each member has own trade restrictions
against outsiders
Ex. - NAFTA
.
b. Customs union
- All barriers removed among members
- All members have identical barriers against
outsiders
Ex. - Benelux (Belgium, Netherlands,
Luxembourg)
.
c. Common market
- Free movement of goods and services between
members
- Common external barriers against outsiders
- Free movement of factors of production
between members
Ex. - European Union
.
d. Economic union
- Supranational body determines harmonized
national, social, taxation, and fiscal policy
.
e. Monetary union
- Harmonized monetary policy and common
currency
.
2. Reasons for regionalism
- Allows economies of large-scale production
- May not gain much more from global market
- Workers move out of import-competing industries
and into exporting industries based on comparative advantage
- Attracts foreign investment
- Achieves noneconomic objectives
- Manages immigration flows
- Promotes regional security
- May enhance domestic economic reforms
- Smaller nations may seek relations with larger
nations when future access is uncertain ("safe-haven" trading
arrangements)
- May want to establish strong regional linkages as
opposed to weak multilateral ones
- Can achieve deeper economic integration among
members than multilateral accords
.
3. Effects of regional trading arrangements
a. Static effects
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b. Dynamic effects
- Expanded market => economies of scale
- More competition => greater efficiency
- Stimulates investment in new technology due
to higher returns
- Accelerate pace of technological advance
.
3. European Union (EU)
a. Timeline
- 1957 - Treaty of Rome forms European
Community (Belgium, France, Italy, Luxembourg, Netherlands, West
Germany) => trade liberalization
- 1985 - detailed program announced for
becoming a common market
- 1992 - elimination of nontariff barriers
- 1992 - Maastricht Treaty signed, pledged to
move towards monetary union
- 2002 - European Monetary Union (EMU) formed,
euro the single currency
- 2004 - new EU constitution
- 2005 - French and Dutch voters reject EU
constitution
.
b. European Monetary Union
- European Central Bank located in Frankfurt
- Responsible for monetary and exchange
policies
(1) Economic convergence
- Alignment of economic and monetary
policies before joining EMU
(a) Price stability - inflation no
more than 1.5 percent above average inflation of three lowest
countries
(b) Low long-term interest rates -
long-term interest rates no more than 2 percent above average
interest rate in those countries
(c) Stable exchange rates -
exchange rate kept with target bands, no devaluations for two
years prior to joining monetary union
(d) Sound public finances - deficit
should be no more than 3 percent of GDP, debt should be no more
than 60 percent of GDP
.
(2) Optimal
currency area
(a) Advantages of a common currency
- Risks of exchange rate fluctuations
eliminated within area
- Costs of currency conversion reduced
- Economies insulated from
monetary disturbances and speculation
- Price stability
- Political pressure for trade protection reduced
.
(b) Disadvantages
- No independent monetary policy to deal
with macroeconomic shocks
- Can't change the exchange rate to deal
with problems
- Individual country can't use inflation to
reduce public debt in real terms
- Could lead to speculative attacks during
conversion to single currency
.
(c) Most likely to succeed when:
- Countries have similar business cycles
and economic structures
- Monetary policy should affect countries
the same way
- No cultural, legal, or linguistic barriers to labor mobility
- Wage and price flexibility
- System to stabilize transfers
.
(d) Reaction to shocks
- Mobility of labor - must be willing and
able to move freely to other countries
- Flexible prices and wages - must adjust
in response to problems
- Automatic mechanism to transfer fiscal
resources to adversely affected countries
.
(e) Problems in Europe
- Inability of individual countries to use
monetary and exchange rate policies to deal with economic
problems
- Difficulty reducing
budget deficits
- Wages inflexible and labor mobility is
limited in Europe
- Regulations on labor employment make
labor market rigid
.
4. North American Free Trade Agreement (NAFTA)
- Reduce barriers between U.S., Canada, and Mexico
a. Benefits and costs
(1) Canada
- Benefits - maintain preferences in U.S.
market, access to Mexican market
- Costs - worries about threat to social
welfare system
.
(2) Mexico
- Benefits - increase production, increased
investment
- Costs - agriculture hurt by U.S.
competition
- Not as much economic development as some
had hoped due to other problems
.
(3) United States
- Expanded trade opportunities
- Reduced prices
- Increased competition
- Economies of scale
- Reliable source of oil
- Less illegal immigration
- Enhanced political stability in Mexico
- Winners - higher-skill, higher-tech
businesses and workers, businesses that relocate to Mexico,
businesses that use lower cost inputs, consumers
- Losers - labor-intensive import-competing
businesses, workers of businesses that close or relocate
.
b. NAFTA as an optimum currency area
- Should there be a common currency?
- Large degree of economic integration
- Canadian and U.S. economies similar, big
difference with Mexico
- Problems with Mexican economy - low income,
high inflation and interest rates, volatile peso, high external
debt, balance of payments deficits, weak financial markets
- Common currency would stabilize financial
markets, reduce inflation and interest rates
- Not much benefit for Canada
.
5. Other regional groupings
- Free Trade Area of the Americas (FTAA)
- Central American Free Trade Agreement (CAFTA)
- Trans Pacific Partnership
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