Regional%20Trade%20Agreements

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Regional Trade Agreements

• CHAPTER 8

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Introduction

• Multilateralism refers to the GATT/WTO system
  as well as the trade negotiations that take place
  among all GATT/WTO members as a group
• Recall that one of the founding principles of
  this system is nondiscrimination
• Involves the most favored nation (MFN) and
  national treatment (NT) sub-principles
• Each WTO member must grant to each other member
  treatment as favorable as they extend to any
  other member country
• Regionalism refers to a violation of the
  nondiscrimination principle in which one member
  of a regional trade agreement (RTA) discriminates
  in its trade policies in favor of another member
  of the RTA and against nonmembers
• Has been allowed by the GATT/WTO under certain
  circumstances
• Free trade areas (FTAs)
• Customs unions (CUs)
• Interim agreements leading to a FTA or CU within
  a reasonable length of time

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Introduction

• Regionalism and multilateralism represent two
  alternative trade policy options
• When multilateralism falters regionalism picks
  up the pace
• Nearly every member of the WTO is also a member
  of at least one RTA
• Over 150 RTAs exist

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Table 8.1. Types of Regional Trade Agreements
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Regional Trade Agreements

• Consider two countriesBrazil and Argentina
• Suppose these countries initially pursue
  independent and non-preferential trade policies
• Trade policies of these two countries are not
  coordinated in any way and do not discriminate
  among countries
• There is no integration of the countries labor,
  capital, and money markets
• First-level RTA is known as preferential trade
  area
• Brazil and Argentina lower their trade barriers
  between each other, but do not eliminate them
• Labor and capital markets remain unintegrated
• Because the two countries have not fully
  eliminated trade barriers between each other,
  this type of RTA is not allowed by the WTO

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Regional Trade Agreements

• Second-level RTA is known as free trade area
• Brazil and Argentina eliminate the trade barriers
  between each other
• With regard to non-member countries Brazil and
  Argentina pursue independent policies
• Labor and capital markets remain unintegrated
• Third-level regional agreement is known as
  customs union
• Brazil and Argentina eliminate the trade barriers
  between each other
• Additionally, member countries adopt common trade
  barriers with regard to non-member countries
  (often referred to as a common external tariff)
• Labor and capital markets remain unintegrated
• Fourth-level RTA is known as common market
• A customs union in which labor and capital
  markets are integrated into a regional market
• Any restrictions on movements of labor and
  physical capital (direct foreign investment) have
  been removed

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Regional Trade Agreements

• WTO members who wish to form FTAs or CUs may do
  so
• However, there are certain requirements
• Trade barriers against non-members cannot be
  higher or more restrictive than those in
  existence prior to the FTA or CU
• FTA or CU must be formed within a reasonable
  length of time
• FTA or CU must eliminate trade barriers on
  substantially all the trade among the members
• With regard to services, the General Agreement on
  Trade in Services (GATS) requires that the FTA or
  CU involve substantial sectoral coverage

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Regional Trade Agreements

• How to determine whether a product is from a
  partner country
• Suppose that Brazil and Argentina form a RTA
• Shirt produced in Venezuela is imported into
  Brazil and label Made in Brazil is attached
• Shirt can then be imported into Argentina with no
  restrictions or tariffsproduct is not really
  made in Brazil
• To protect against such possibilities, RTA
  members usually define rules of origin
• Can be defined in a number of ways, including by
• Amount of value added in an RTA partner country
• Degree of product transformation

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The Economic Effects of Regional Trade Agreements

• Trade creation
• Occurs when the formation of a FTA or CU leads to
  a switching of imports from a high-cost source to
  a low-cost source
• Tends to improve welfare
• Trade diversion
• Occurs when imports switch from a low-cost source
  to a high-cost source
• Tends to worsen welfare

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Trade Creation and Trade Diversion

• Lets discuss trade creation and trade diversion
  using the absolute advantage model
• Along with Brazil (B) and Argentina (A), we are
  also going to refer to a third country, Venezuela
  (V)
• Brazil and Argentina are members of a RTA,
  whereas Venezuela is not

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Figure 8.1 A Trade-Creating, Regional Trade
Agreement between Brazil and Argentina
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Trade Creation

• Before the RTA, Brazil has in place a specific
  (per unit) tariff on imports from both Argentina
  and Venezuela
• Argentina is the lower-cost producer in
  comparison to Venezuela
• Therefore Brazil imports good from Argentina
• Once Brazil joins either a FTA or CU with
  Argentina, tariff is removed on imports from
  Argentina
• Good continues to be imported from Argentina and
  imports increase because price has fallen due to
  removal of tariff
• Consumer surplus in Brazil increases while
  producer surplus and government tariff revenue
  falls
• Net increase in welfare due to trade creation

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Trade Diversion

• Before the RTA, Brazil has in place a specific
  (per unit) tariff on imports from both Argentina
  and Venezuela
• Assume Venezuela is now the lower-cost producer
  in comparison to Argentina
• Brazil imports the good from Venezuela
• Once Brazil joins a FTA or CU with Argentina,
  however, Brazil switches to Argentina as an
  import supplier
• Imports expand as the domestic price falls
• Consumer surplus in Brazil increases while
  producer surplus and government revenue falls
• Whether net welfare effect is positive or
  negative depends
• If trade-diverting effects outweigh
  trade-creating effects then RTA will reduce
  welfare in Brazil

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Figure 8.2. A Trade-Diverting, Regional Trade
Agreement between Brazil and Argentina
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The European Union

• Set of agreements among countries of Western
  Europe in the realms of economics, foreign and
  security policies, and justice and home affairs
• Extend back to the Marshall Plan under which
  United States aided in the reconstruction of
  Europe after World War II
• Promoted liberalization of trade and payments
  among European countries in its zone of influence
• 1992 marked the official completion of a common
  market in which barriers to labor and physical
  capital were to be removed
• Actual completion of a common market is still in
  process

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Table 8.2 The Evolution of the European Union
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The European Union

• Some economists argue that trade creation
  dominated trade diversion in the EC and EU
• Alan Winters has a more cautionary view
• Despite common external tariff of European Union
  CU nontariff barriers increased in certain
  sectors
• EU subsidies increased in other sectors
• Tsoukalis offers an intermediate view
• Overall trade creation in manufactured goods and
  overall trade diversion in agricultural goods
• Largely the result of the Common Agricultural
  Policy (CAP)has protected EEC/EU agriculture
  from foreign competition and has involved the
  heavy use of export subsidies

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The European Union

• Has ventured beyond a common market to a monetary
  union with the euro
• A current preoccupation of the EU is the issue of
  enlargement
• Expanding membership to include selected Eastern
  European countries, as well as Turkey
• Crucial sticking point, especially in the case of
  Poland, is the extent to which CAP provisions are
  to be extended to new EU members

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The North American Free Trade Area

• In January 1994 a FTA between Canada, Mexico and
  US took place (NAFTA)
• Addressed the following
• Trade in goods
• Financial services
• Transportation
• Telecommunications
• Foreign direct investment
• Intellectual property rights
• Government procurement
• Dispute settlement

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NAFTA Issues

• Impact of NAFTA on wages in the United
  Statesparticularly blue-collar wages
• If assumptions of Heckscher-Ohlin model of
  international trade hold true, would expect
  increased North-South trade to adversely affect
  workers in North
• Some observers concluded NAFTA would hurt US
  workers
• Eventually, a labor side agreement was attached
  to main NAFTA agreement
• Mathematical models of NAFTA completed by that
  time showed an improvement in US wages as a
  result of NAFTA trade liberalization
• In retrospect, issue of NAFTA and wages was
  probably overblown
• Average monthly layoffs in United States as a
  result of non-NAFTA causes have been hundreds of
  times higher than the NAFTA job displacements
  following the implementation of this RTA

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NAFTA Issues

• Another prominent issue was trade and the
  environment
• Resulted in provisions for the creation of a
  North American Commission on Environmental
  Cooperation (CEC)
• Focused some of its subsequent efforts to
  analysis of industrial pollution within North
  America

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Mercosur and the FTAA

• RTA among Argentina, Brazil, Paraguay, and
  Uruguay was launched in 1991 with the Treaty of
  Asunción
• Common Market of the South, or Mercosur, took on
  Chile and Bolivia as associate members in 1996
  and 1997, respectively
• Suggests that the RTA among the four core members
  is an actual common market with the free movement
  of labor and physical capital
• However, this is not the case
• Mercosur entered into force in 1995 as a FTA with
  plans to complete a CU by 2006
• Free movement of labor and physical capital is a
  long way off

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Mercosur

• Had a positive impact on amount of trade among
  its four core members
• Technology profile of traded goods is higher for
  trade within Mercosur than for trade between
  Mercosur and the rest of the world
• However, intra-Mercosur trade is low by world
  standards
• Troubled by two asymmetries that challenge its
  smooth functioning
• Argentina and Brazil dwarf Paraguay and Uruguay
  in economic size
• Smaller members find themselves somewhat
  sidelined from the core relationship between
  Argentina and Brazil
• Fundamental macroeconomic asymmetries between
  Argentina and Brazil
• Exchange rate asymmetries caused a great deal of
  friction between Argentina and Brazil

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Free Trade Area of the Americas

• In 1994, governments of 34 countries in Western
  Hemisphere agreed to pursue a Free Trade Area of
  the Americas
• Negotiations were launched at the Second Summit
  of the Americas in 1998 in nine negotiating
  groups
• Market Access
• Investment
• Services
• Government Procurement
• Dispute Settlement
• Agriculture
• Intellectual Property Rights
• Subsidies, Antidumping, and Countervailing Duties
• Competition Policy

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Regionalism and Multilateralism

• Represent two alternative trade policy options
  available to the countries of the world
• The 1950s and 1960s saw first wave of RTAs in
  developing world
• The 1980s saw beginning of second wave of RTAs
• What role will the second wave of RTAs play
  vis-à-vis the multilateral efforts toward trade
  liberalization pursued under the GATT-WTO
  framework
• Will the second wave of RTAs complement the
  multilateral framework or will it work at
  cross-purposes to this framework?

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Regionalism and Multilateralism

• Opponents argue
• RTAs are discriminatory by nature
• They draw attention to spaghetti-bowl nature of
  second-wave RTAs
• Meaning the overlapping nature of most RTAs, with
  most WTO members holding simultaneous membership
  in many RTAs at once
• For example, Mexico has signed FTA agreements
  with the United States, Canada, Nicaragua, Costa
  Rica, Chile, Bolivia, El Salvador, Guatemala,
  Honduras, Colombia, Venezuela, and the European
  Union
• The negotiating energies put into RTAs will
  detract from those put into multilateral
  agreements under the auspices of the WTO

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Regionalism and Multilateralism

• Key issue facing multilateral trading system is
  how to best manage and regulate RTAs
• Responsibility falls to the WTO Committee on RTAs
• A number of points are worth stressing here
• GATT-era oversight of RTAs was inadequate
• Marrakesh Agreement establishing WTO included an
  understanding on RTAs
• Specified that the relevant measure to assess the
  phrase shall not be higher or more restrictive
  than is a weighted average of tariff rates and
  that within a reasonable length of time is to
  be no more than ten years
• Specifies that all new RTAs must be notified to
  the WTO and a WTO working party is to be
  established to examine each notification and to
  ascertain its impact on the multilateral trading
  system
• WTO could go further and tighten its requirements
  on the external protection of FTAs and CUs
• Is possible to lessen the tensions between
  regionalism and multilateralism but probably not
  possible to eliminate these tensions entirely