Regional Economic Integration

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Lecture 11

• Regional Economic Integration

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Outline

• Introduction
• Level of Economic Integration
• The Case for Regional Integration
• Impediments to Integration
• European Union (EU)
• Regional Economic Integration in the America
• Regional Economic Integration in Asia
• Managerial Implications

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A. Introduction

• Regional Economic Integration
• Agreements among countries in a geographical
  region to reduce, and ultimately remove, tariff
  and non-tariff barriers to the free flow of
  goods, services, and factors of production among
  each other
• Examples
• EU (European Union)
• NAFTA (North American Free Trade Agreement)
• APEC (Asia Pacific Economic Cooperation)
• Regional economic integration good or bad?

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B. Level of Economic Integration

• 5 types of economic integration
• Free Trade Area
• Customs Union
• Common Market
• Economic Union
• Political Union

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B. Level of Economic Integration

• Free Trade Area
• All barriers to the trade of goods and services
  among members are removed
• Each member country can determine its own trade
  policies with regard to non-member countries
• Examples
• EFTA (European Free Trade Association)
• Includes Iceland, Liechtenstein, Norway and
  Switzerland
• NAFTA (North American Free Trade Agreement)
• Includes US, Canada and Mexico

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B. Level of Economic Integration

• Customs Union
• Eliminates trade barriers between members
• Adopts a common external trade policy
• Example Andean Community
• Includes Bolivia, Colombia, Ecuador, Peru and
  Venezuela
• Establishes free trade among member countries and
  imposes a common external tariff (5-20) on
  products imported from outside

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B. Level of Economic Integration

• Common Market
• Has no barriers to trade between members
• Has common external trade policy
• Allows factors of production to move freely among
  members
• Example MERCOSUR
• Includes Argentina, Brazil, Paraguay and Uruguay
• Aims to eventually establish itself as a common
  market
• Refer to article Mercosur

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B. Level of Economic Integration

• Economic Union
• Allows free flow of products and factors of
  production between members
• Has common external trade policy
• Has common currency
• Harmonization of members tax rates
• Has common fiscal and monetary policy
• Example European Union
• Consists of 25 European countries
• However, not all members adopted the euro
  (currency of the EU) and difference in tax rates
  across countries still remains

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B. Level of Economic Integration

• Political Union
• The move towards economic union raises the issue
  of
• Political Union coordinates the economic, social
  and foreign policy of the member states
• EU is on the road towards at least partial
  political union
• Example European Parliament is elected by
  citizens of the EU countries

how to make a coordinating bureaucracy
accountable to the citizens of member nations
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C. The Case for Regional Integration

• Economic case for integration
• Stimulates economic growth in countries
• Increases FDI and world production
• Countries specialize in production of those goods
  and services which they could produce most
  efficiently
• Achieves additional gains from free trade beyond
  the international agreements such as WTO

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C. The Case for Regional Integration

• Political case for integration
• Economic interdependence creates incentives for
  political cooperation ? reduces potential for
  violent confrontation
• Example
• After World War II, the European nation-states
  were no longer large enough to hold their own in
  world markets and world politics
• An united Europe was needed to deal with the
  United States and the politically alien Soviet
  Union
• The European Community (EC) was established (The
  forerunner of the EU)

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D. Impediments to Integration

• Integration is hard to achieve and sustain for 2
  reasons

• Nation may benefit but groups within countries
• may be hurt
• Example Under NAFTA, Canadian and US firms
• moved production to Mexico

• Potential loss of sovereignty and control over
• domestic issues
• Example Great Britain remained using its
  British
• currency instead of the euro

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D. Impediments to Integration

• Whether regional integration is in the economic
  interests of the participants depends upon the
  extent of trade creation as opposed to trade
  diversion

Trade creation occurs when low cost producers
within the free trade area replace high cost
domestic producers
Trade diversion occurs when higher cost suppliers
within the free trade area replace lower cost
external suppliers outside the free trade area
Refer to article Trade Diversion in Action The
EU-Mexican Free-Trade Agreement
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E. Regional Economic Integration in Europe

• There are two trading blocks in Europe
• The European Union (EU)
• The European Free Trade Association
• The forerunner of the EU was the European Coal
  and Steel Community, which had the goal of
  removing barriers to trade in coal, iron, steel,
  and scrap metal formed in 1951

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E. Regional Economic Integration in Europe

• After 1st of January 2002, Euro notes and coins
  were issued and the national currencies were
  taken out of circulation
• Benefits of adoption of the single currency
• Savings (e.g. hedging costs) obtained from
  handling a single currency
• Easy to compare prices across Europe
• Forces improvement in efficiency and reduction of
  production costs
• Gives a strong boost to the development of highly
  liquid pan-European capital market
• The development of a pan-European euro
  denominated capital market increases the range of
  investment options open both to individuals and
  institutions

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E. Regional Economic Integration in Europe

• Costs
• Countries could lose control over monetary policy
  
• European Central Bank sets interest rates and
  determines monetary policy across the euro zone
• EU is not an optimal currency area because
  country economies are very different
• A common monetary policy ? interest rates are too
  high for depressed regions and too low for
  booming regions
• Fiscal transfers from prosperous regions to
  depressed regions may occur

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E. Regional Economic Integration in Europe

• A single currency should follow, not precede,
  political union
• The Euro will unleash enormous pressures for tax
  harmonization and fiscal transfers. Both policies
  cannot be pursued without the appropriate
  political structure
• Strong Euro (2005) makes it harder for Euro zone
  exporters to sell their goods
• Examples
• Increasing Competition in the European Automobile
  Market (Global Business Today P.303-304)
• Refer to video shown in class 21000DVD

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F. Regional Economic Integration in the Americas

• Regional economic integration is on the rise in
  the Americas

NAFTA
Andean Community
MERCOSUR
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F. Regional Economic Integration in the Americas

• North American Free Trade Agreement
• NAFTA was enforced since January, 1994
• There are 3 members US, Canada and Mexico
• The agreement is over a 10-year period and the
  aim is to reduce tariffs for 99 of goods traded

Application of national environmental standards
Removal of many barriers on cross border flow of
services

• Removal of restrictions on
• FDI except in certain sectors
• Example Mexican railway and
• energy (Global Business Today
• P.290)

Protection of intellectual property rights
Establishment of commission to police violations
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F. Regional Economic Integration in the Americas

• Benefits
• Enlarged and productive
• regional base
• Cost saving for US Canadian
• firms that move production to
• Mexico
• Mexico gets investment and
• employment
• Increased Mexican income
• to buy US/Canada goods
• Demand for goods increases
• jobs
• Consumers get lower prices

• Costs
• ? Loss of jobs to Mexico
• Mexican firms have to
• compete against efficient
• US/Canada firms, while
• Mexican firms become
• more efficient in long-run
• ? Environmental degradation
• Loss of national
• sovereignty

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F. Regional Economic Integration in the Americas

• North American Free Trade Agreement
• Examples
• NAFTA and the U.S Textile Industry (Global
  Business Today P.278-279)
• Refer to article Estimating Trade and Employment
  Effects of Trade Agreements
• Andean Pact is the agreement between
• Bolivia, Colombia, Ecuador, Peru, Venezuela
• MERCOSUR is the major Latin American trade
  agreement between
• Argentina, Brazil, Paraguay and Uruguay

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G. Regional Economic Integration in Asia

• ASEAN (Association of Southeast Asian Nations)
• Created in 1967
• Aims to achieve free trade among member countries
• Aims to achieve cooperation in member countries
  industrial policies
• Consists of
• Brunei, Indonesia, Laos, Cambodia, Malaysia, the
  Philippines, Myanmar, Singapore, Thailand and
  Vietnam (10 members)
• Refer to article A Tango Speeds Asean
  Integration

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G. Regional Economic Integration in Asia

• APEC (Asia Pacific Economic Cooperation)
• Founded in 1990
• Promotes open trade and practical economic
  cooperation
• Promotes a sense of community
• Consists of 21 members
• Australia, Brunei, Canada, Chile, People's
  Republic of China, Hong Kong, Indonesia, Japan,
  Republic of Korea, Malaysia, Mexico, New Zealand,
  Papua New Guinea, Peru, Philippines, Russia,
  Singapore, Chinese Taipei, Thailand, United
  States, Vietnam

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H. Managerial Implications

• Opportunities
• Creation of a single market offers significant
  opportunities because
• markets that were formerly protected from foreign
  competition are opened
• MNEs can benefit from the free movement of goods
  across borders, the harmonization of product
  standards, and the simplification of tax regimes
• by centralizing production in locations where the
  mix of factor costs and skills is optimal
• ? the MNEs can realize cost economies
• by specialization and shipping of goods between
  locations
• ? a more efficient web of operations can be
  created

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H. Managerial Implications

• Threats
• The business environment within each single
  market will become more competitive
• A further threat to non-EU and/or non-North
  American firms arises from
• the likely long-term improvements in the
  competitive position of many European and North
  American companies
• A final threat to firms outside of trading areas
  is the threat of being shut out of the single
  market by the creation of a trade fortress
• Reference
• Global Business Today P.299-301