Regional Trading Arrangements © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 1

CHAPTER OUTLINE Regional Integration versus Multilateralism Types of Regional Trade Agreements (RTA’s) Types of RTA’s Effects of RTA’s – Static and Dynamic Effects The European Union The European Monetary Union North American Free Trade Area (NAFTA) Russia and WTO © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 2

Regional Integration vs. Multilateralism WTO Promote trade liberalization through worldwide agreements Trade liberalization by any one nation Extended to all WTO members, 153 nations Nondiscriminatory Regional trading arrangements Nations reduce trade barriers only for a small group of partner nations Discriminating against the rest of the world © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 3

Types of Regional Trading Arrangements Economic integration Process of eliminating restrictions on global trade, payments, and factor mobility Results in the uniting of two or more national economies in a regional trading arrangement Degrees of Economic integration Free Trade Area, Customs Union Common Market, Economic Union Monetary Union © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 4

Types of Regional Trading Arrangements Free Trade Area (FTA) Association of trading nations Members agree to remove all tariff and non- tariff barriers among themselves Each member maintains its own set of trade restrictions against outsiders North American Free Trade Agreement (NAFTA) Canada, Mexico, and the United States © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 5

Types of Regional Trading Arrangements Customs union Agreement among two or more trading partners Remove all tariff and non-tariff trade barriers among themselves Each member nation imposes common trade restrictions against non-members Benelux Belgium, the Netherlands, and Luxembourg © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 6

Types of Regional Trading Arrangements Common Market Group of trading nations Free movement of goods and services among member nations (without trade restrictions) Initiation of common external trade restrictions against non-members Free movement of factors of production across national borders within the economic bloc European Common Market, 1992 © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 7

Types of Regional Trading Arrangements Economic Union Group of Trading Nations Adopt all elements of a Common Market plus National, social, taxation, and fiscal policies are harmonized and administered by a supranational institution Requires an agreement to transfer economic sovereignty to a supranational authority European Union (1994) © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 8

Types of Regional Trading Arrangements Monetary union Ultimate degree of economic union Unification of national monetary policies Acceptance of a common currency managed by a supranational monetary authority The United States of America 50 states, common currency Single central Bank (Federal Reserve) Free trade and factor mobility among states © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 9

Impetus for Regionalism Motivations for regional trading arrangements Prospect of enhanced economic growth Economies of large-scale production Foster specialization and learning-by-doing Attract foreign investment Foster a variety of noneconomic objectives Managing immigration flows Promoting regional security Enhance & solidify domestic economic reforms © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 10

Effects of a Regional Trading Arrangement Static effects (see Figure 8.1) Trade-creation effect (areas “a + b”) Welfare gains domestic production of one member in the union Replaced by another member’s lower-cost imports Trade-diversion effect (area “c”) Welfare losses Imports from a low-cost supplier outside the union Replaced by a higher-cost supplier within the union Production and Consumption Effects © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 11

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 12

Effects of a Regional Trading Arrangement Dynamic effects Creation of larger markets Dynamic gains Economies of scale Greater competition Stimulus of investment © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 13

The European Union European Community / European Union Trade liberalization Treaty of Rome in 1957 Belgium, France, Italy, Luxembourg, the Netherlands, West Germany By 1973 The United Kingdom, Ireland, Denmark 1981 – Greece 1987 – Spain, Portugal © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 14

The European Union European Community / European Union 1995 – Austria, Finland, Sweden 2004 – ten other Central and Eastern European countries Cyprus, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia, Slovenia 2007 – a total of 27 countries Bulgaria and Romania © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 15

The European Union European Union – customs union Economic integration to an economic union 1957 – trade liberalization 1968 – free-trade area 1970 – customs union 1985 – detailed program for becoming a common market Elimination of remaining nontariff trade barriers by 1992 © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 16

The European Union Convergence criteria, EMU The Maastricht Treaty, 1991 Full-fledged European Monetary Union (EMU) by 2003; Single currency, the euro Align economic and monetary policy Price stability Low long-term interest rates Stable exchange rates Sound public finances © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 17

The European Union European Union - monetary union The euro - official currency of 16 of the 27 member states of the European Union The eurozone: Austria, Belgium, Cyprus, Estonia, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, Malta, the Netherlands, Portugal, Slovakia, Slovenia, and Spain U.K., Denmark, and Sweden decided not to adopt to Euro as their national currency © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 18

The European Union The euro Also used in another five European countries Used daily by some 330 million Europeans Over 175 million people worldwide Use currencies that are pegged to the euro The second largest reserve currency and the Second most traded currency in the world © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 19

Common Agricultural Policy Common Agricultural Policy (CAP) Abolished restrictions on agricultural products traded internally Common agricultural policy Support of prices received by farmers Deficiency payments, output controls, and direct income payments Variable levies Export subsidies © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 20

Common Agricultural Policy Variable levies Levy – determined daily The difference between the lowest price on the world market and the support price More restrictive than a fixed tariff Discourages foreign producers From absorbing part of the tariff From cutting prices to maintain export sales © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 21

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 22

The European Union Export subsidies Ensure that any surplus agricultural output will be sold overseas EU farmers - incentive to increase production Reduce the domestic supply Eliminate the need for the government to purchase the excess © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 23

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 24

The European Monetary Union European Monetary Union (EMU), 1999 Single currency (the euro) Lower the costs of goods and services Facilitate a comparison of prices within the EU Promote more uniform prices European Central Bank - Frankfurt, Germany Controls the supply of euros Sets the short-term euro interest rate Maintains permanently fixed exchange rates for the member countries © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 25

The European Monetary Union Optimum currency area Region in which it is economically preferable to have a single official currency Rather than multiple official currencies Benefits and Costs: More uniform prices; Lower transaction costs More certainty for investors; Enhanced competition Promote price stability Loss of independent monetary policy Takes away the flexibility of changing exchange rate © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 26

The European Monetary Union Optimum currency area Best chance of success Similar business cycles and economic structures Single monetary policy should affect all the participating countries in the same manner No legal, cultural, or linguistic barriers to labor mobility Wage flexibility System of stabilizing transfers © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 27

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 28

The European Monetary Union Europe - suboptimal currency area Advantages and Disadvantages Improve economic efficiency Lower transaction costs of exchanging currency Elimination of exchange-rate risk Stimulates competition Broadening /deepening of Euro financial markets EU countries – cannot use monetary policy and exchange rate as a tool in adjusting to economic disturbances and limits use of fiscal policy to keep budget deficits in control © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 29

The European Monetary Union Challenges for the EMU Ability of the European Central Bank to focus on price stability over the long term Operation of monetary policy Difficulty in reducing budget deficits and debts Need for structural reform © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 30

Will the Eurozone Survive? Problems in the Eurozone Greece facing increasing debt with investors casting doubt on it’s ability to pay Spain, Portugal and Ireland facing similar problems Need greater coordination of Eurozone government budgets Establishment of European Monetary Fund Pros and Cons of European Monetary Fund © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 31

Will The Eurozone Survive? European Monetary Fund? Needs a better mechanism to deal with a financial crisis Possible interim solution: European Monetary Fund (EMF) Bailout fund financed out of contributions from member country governments It would put the eurozone in charge of its own destiny Eurozone members would have greater powers to punish fiscal abusers Role of Germany – Fallacy of Composition © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 32

North American Free Trade Agreement North American Free Trade Agreement, 1994 Mexico, Canada, and the United States Provide each member nation better access to the others’ markets, technology, labor, and expertise Economies of scale © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 33

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 34

North American Free Trade Agreement NAFTA & Mexico Benefits Increase in the production of goods and services – comparative advantage Rising investment spending Increase wage incomes and employment, national output, and foreign-exchange earnings Facilitated the transfer of technology Costs Agriculture – 25% of population Devastated by US competition © 2013Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 35

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 36

North American Free Trade Agreement NAFTA & Canada Benefits / safeguards Maintenance of its status in international trade No loss of its current free-trade preferences in U.S. Equal access to Mexico’s market Costs Concerns about Canada’s European-style social welfare model Uncompetitive practices and policies Downward pressure on the country’s base of personal and corporate taxes © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 37

North American Free Trade Agreement NAFTA & the U.S. Benefits Expanding trade opportunities Reducing prices; Increasing competition Economies of large-scale production More reliable source of petroleum Less illegal Mexican immigration Enhanced Mexican political stability © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 38

North American Free Trade Agreement NAFTA & the U.S. Costs Industries that rely on trade barriers to limit imports of low-priced Mexican goods Citrus and sugar Unskilled workers Fear that U.S. companies will move to Mexico No because of different worker productivity Concern: Mexico’s environmental regulations Greater trade creation than trade diversion © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 39

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 40

NAFTA & U.S./Mexico Trucking Dispute Conflict between Trade Partners of NAFTA Differences due to Safety Standards or Jobs? Differences in safety standards between U.S. Canada and Mexico trucking system President Clinton (1995) imposes restrictions on Mexican cargo trucking for safety reasons 2007 – agreement with Mexico to create a Pilot program for Mexican trucks to operate in U.S. © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 41

NAFTA & U.S./Mexico Trucking Dispute After 18 months of the program, Teamsters object leading to cancel the program Mexico retaliates by imposing tariffs on 99 products (mostly agricultural goods) 2011 – U.S. and Mexico strike a deal to end the Trucking dispute Modest gains for Mexican Truckers © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 42

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 43

North American Free Trade Agreement Is NAFTA an optimum currency area? Degree of economic integration Canada, U.S., Mexico Similarity of economic structures Canada, U.S. Mexico – couldn’t use monetary policy Canada – concerned about the loss of national sovereignty © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 44

Transition Economies Nonmarket economy Centrally planned economy Less regard for market considerations State planning and control Govern foreign and domestic trade Controls the prices and output Fixes prices – insulated from foreign-trade influences Ration arbitrary quantities among buyers © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 45

Transition Economies Switch to a Market - based economy (1990’s) Decisions of independent buyers and sellers Acting in their own interest Govern both domestic and international trade Prices are market-determined not by government Value alternatives Allocate scarce resources Play rationing and signaling roles Economic Reforms in East European countries © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 46

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 47

Transition Economies Motivation for transition Normal operation of markets – obstructed Widespread use of price controls Reliance on inefficient public enterprises Extensive barriers to competition Government regulation of production and investment No incentives for entrepreneurs Lack of enforceable property rights © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 48

Transition Economies Motivation for transition For the communist countries Central plans decided production levels Managers – no incentive to modify their output as long as quotas were realized Underproduction of consumer goods Widespread rationing Absent incentives to innovate Inefficient state-owned enterprises Public funds were channeled into favored industries Weaknesses of the political and economic systems © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 49

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 50

Transition Economies Russia’s WTO accession negotiations Gained membership in 2012 Membership cornerstone of Russia’s economic policies to integrate into global economy Ongoing challenges Restructuring its economy Privatizing government-owned industries Implementing market-oriented economic reforms Benefits for Russia are basically long term Joining WTO can hurt inefficient Russian firms Biggest beneficiaries are firms in Europe and U.S. © 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password‐protected website for classroom use 51