This document discusses regional trading arrangements such as free trade areas, customs unions, common markets, and economic/monetary unions. It analyzes the static and dynamic effects of regional trade agreements. Case studies examined include the European Union, NAFTA, and economies transitioning from non-market to market systems. Key policies and impacts of the EU and effects of the euro are summarized. Benefits and concerns regarding NAFTA are also outlined.

1. International Economics
By Robert J. Carbaugh
8th Edition
Chapter 9:
Regional Trading Arrangements

2. Regional trade agreements
Types of regional trade
arrangements
• Free trade areas (NAFTA, for example)
• Customs unions (Benelux)
• Common markets (EU)
• Economic/monetary union

3. Regional trade agreements
Effects of regional trade
agreements
• Static effects
– Trade creation effect (consumption effect,
production effect)
– Trade diversion effect
• Dynamic effects
– Economies of scale
– Greater competition
– Investment stimulus

4. Static effects of a customs union
Regional trade agreements

5. Regional trade agreements: case studies
The European Union
• Created by the Treaty of Rome (1957)
• Policy aims included:
– Abolition of tariffs, quotas and other restrictions
– Common external tariff
– Free movement of capital, labor and business
– Common policies on transport, agriculture, and
competition and business conduct
– Coordination of monetary and fiscal policies

6. Regional trade agreements: case studies
The European Union (cont’d)
• Lowering of barriers caused within-region
trade to grow much more quickly than
overall world trade in the 1960s
• Steps to remove remaining barriers (1985-
92) further increased integration
• Maastricht Summit (1991) began process of
economic and monetary union (EMU)

7. Regional trade agreements: case studies
EU Economic & Monetary Union
(1999)
• Member nations will replace national currencies
with the euro by 2002
• New European Central Bank created to control
monetary and exchange rate policy
• “Convergence criteria” required for membership:
– Price stability
– Low long-term interest rates
– Stable exchange rates
– Sound public finances

8. 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

9. CAP: variable levies and export
subsidies
Regional trade agreements: case studies

10. Opening up government
procurement
Regional trade agreements: case studies

11. Regional trade agreements: case studies
Costs & benefits of EMU
• Europe does not meet all the requirements
of a theoretical "optimal currency area"
• Advantages of EMU - real but small:
– Lower transaction costs
– Price comparisons easier
– Exchange rate risk eliminated
– Stimulates competition

12. Regional trade agreements: case studies
Costs & benefits of EMU (cont'd)
• Disadvantages of EMU:
– Loss of monetary policy and the exchange rates
as economic adjustment tools
– Use of fiscal policy for adjustment is also
constrained
– Adjustment to shocks therefore depends on
wage flexibility and labor mobility, which are
both low in Europe

13. Regional trade agreements: case studies
US-Canada Free Trade Agmt.
(1989)
• Elimination of all tariffs and most NTBs
over ten years
• Binational tribunal created to hear trade
disputes
• Canada, in particular, is expected to benefit
from economies of scale

14. Regional trade agreements: case studies
North American Free Trade Agmt.
(1994)
• 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

15. Regional trade agreements: case studies
NAFTA's benefits
• Mexico stood to gain the most, with access to
large industrial markets and new inward
investment flows
• Canada maintained its preferences in the US
market and hoped for future access to South
American markets
• US stood to gain from access to the Mexican
Market and cheap labor and parts, access to
reliable oil supplies, and less immigration
pressure; but the benefits were modest

16. Regional trade agreements: case studies
Concerns about NAFTA
• Main US losers from NAFTA would be import-
protected industries competing with Mexican
producers, and unskilled workers
• US industrial workers also worried about lower
pay scale in Mexico and plant relocations
• Concerns Mexico would not enforce
environmental protection measures
• Side agreements on environment and labor law
were concluded to address those concerns

17. 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

18. Regional trade agreements: case studies
Special case: economies in
transition
• Nations of eastern Europe and the former
Soviet Union have been making a transition
from a non-market (planned) economy to a
market economy since the early 1990s - which
has been very disruptive
• These nations’ planned economies required
them to be largely isolated from world trade -
instead, set up their own trading bloc, the
Council for Mutual Economic Assistance
(CMEA)

19. Regional trade agreements: case studies
Economies in transition (cont’d)
• Even after the collapse of the central planning
system, the nations remained tied together
because of historical trade links inside CMEA
and their common legacy as non-market
economies
• Financing limitations have hampered an
increase in trade: transition nations have
generally not been able to increase exports to
match imports and must borrow the difference

20. Regional trade agreements: case studies
Economies in transition (cont’d)
• Barriers to trade with the West used to make
strategies such as countertrade, co-production
agreements, joint R&D agreements, and
contract manufacturing agreements very
common
• Gradual elimination of barriers to foreign
business in most transition countries has
allowed foreign firms to operate in the region
more normally in recent years