Types of regional trade arrangements Regional trade agreements Types of regional trade arrangements Free trade areas (NAFTA, for example) Customs unions (Benelux, CACM) Common markets (MERCOSUR,EEC) Economic/monetary union (EU) Carbaugh, Chap. 9

Effects of regional trade agreements Static effects Trade creation effect consumption effect … buy more from your partner production effect … less inefficient domestic production Trade diversion effect … buy less from efficient, low cost producer Dynamic effects Economies of scale Greater competition Investment stimulus Carbaugh, Chap. 9

Static effects of a customs union Regional trade agreements Static effects of a customs union SL Price ($) SG+tariff SUS+tariff a b SG c SUS DL Carbaugh, Chap. 9

The European Union Created by the Treaty of Rome (1957) Original Members: Belgium,France,Germany, Italy,Luxembourg,Netherlands Joiners,’73: Denmark,Ireland,UK Joiners,’80s: Greece, Portugal, Spain Joiners,’95: Austria,Finland,Sweden Total Population, GDP, GDP per capita (1996) EU: 372mil $8.6 tril, $23,200 €-zone: 300mil 7.0 tril, 23,000 USA: 271mil 8.0 tril, 29,300 Carbaugh, Chap. 9

The European Union (cont’d) Regional trade agreements: case studies The European Union (cont’d) Within-region trade to grew much more quickly than world trade in the 1960s Steps to remove remaining barriers (1985-92) further increased integration 1987 Delors Report Four Freedoms: goods, services, labor, capital Maastricht Summit (1991) began process of economic and monetary union (EMU) Carbaugh, Chap. 9

EU Economic & Monetary Union (1999) Regional trade agreements: case studies EU Economic & Monetary Union (1999) National currencies replaced with the euro, 2002 European Central Bank created to control monetary and exchange rate policy “Convergence criteria” required for membership: Price stability … 3.2% inflation Low long-term interest rates … 7.7% Stable exchange rates Sound public finances Deficit/GDP … 3% Debt/GDP … 60% Carbaugh, Chap. 9

Other key EU policies Common agricultural policy Regional trade agreements: case studies Other key EU policies Common agricultural policy Support payments to farmers Variable import levies Export subsidies Government procurement policies All EU businesses can bid for larger contracts in any nation Carbaugh, Chap. 9

Benefits of EMU Europe is not an "optimal currency area" Regional trade agreements: case studies Benefits of EMU Europe is not an "optimal currency area" Advantages of EMU: Lower transaction costs Price comparisons easier Exchange rate risk eliminated Stimulates competition Carbaugh, Chap. 9

Regional trade agreements: case studies Costs of EMU Loss of monetary policy and the exchange rates as economic adjustment tools Asymmetric shocks Use of fiscal policy for adjustment is constrained Need wage flexibility and labor mobility, which are both low in Europe How to divide seignorage? Carbaugh, Chap. 9

US-Canada Free Trade Agmt. (1989) North American Free Trade Agmt Gradual and comprehensive elimination of trade barriers among US, Mexico and Canada over 15 years: Full, phased elimination of import tariffs Elimination of most NTBs Protection of intellectual property rights Dispute settlement procedures Side agreements on environmental protection and labor law Carbaugh, Chap. 9

Regional trade agreements: case studies Concerns about NAFTA Main US losers from NAFTA: import-protected industries competing with Mexican producers, and unskilled workers US industrial workers worried about lower pay scale in Mexico and plant relocations Concerns Mexico would not enforce environmental protection measures Carbaugh, Chap. 9

NAFTA after five years Trilateral trade increased significantly Regional trade agreements: case studies NAFTA after five years Trilateral trade increased significantly Some US jobs were lost to Mexico, but the numbers were small compared to job creation that came with US growth Changes in investment flows were small (in relation to total US foreign investment) Closer political ties were built among the three nations Carbaugh, Chap. 9