4.4 Economic integration

Preferential trade agreements:

Occurs as countries reduce trading barriers between themselevs and become more interdependent

Ways economic integration can deepen

Through the development of trade agreements

Through the creation of trading blocs

Through the formation of a monetary union

What is economic integration:

Process of countries becoming more interdependent and economically unified → achieved by preferential trade agreements between member governments to remove trade barriers

Types of economic integration:

Preferential trade agreements:

Bilateral: between two countries (eg. UK and USA)

Multilateral: Between two or more countries

Preferential trade agreements (definition)

Trade agreements between two or more countries may be targeted at certain goods, lowering or eliminating trade barriers

Reduction or removal of tariffs and non-tariff barriers to international trade → produce and consumer more (market access, allow product variety, and lower costs to consumers

Bilateral: between two countries (definition and real life example)

- between developed and developing countries

Aims to reduce or eliminate barriers to trade (eg. Vietnam signed a bilateral trade agreement with Korea in 2015)

One-on-one trade agreement → most flexible and simple

Legally binding trade contract

eg. US and Japan bilateral trade agreement on critical minerals

Drawbacks of bilateral trade agreement

- they need to be equal = disadvantage for local producers because of economices of scale of developed country firms

- the developing country has weaker bargaining power so the agreements can be unfair

-increased imports and only slightly increased exports can harm the balance of trade

- developing nations may also have to agree to toher requirments (FDI) = not that beneficial

Multilateral: Between two or more countries (definition and real life example)

WTO: World Trade Organization

Legally binding preferential trade agreement between more than 2 countries or trading blocs (common goals) is usually negotiated and overseen by the WTO

eg. The East African community was created in 2005 between seven African countrie

A regional trade agreement (RTA):

In a specific region

trade agreement between countries in the same geographical region

- if countries are geographically close, technologically similar and similar market size

- create compeititon that is more fair = greater growth

Eg. Armenia created an agreement with the EU in 2019 to create the EU-Armenia RTA

Trade Blocs: Levels of Economic Integration

Free trade:

Customs union:

Common market:

Free trade:

Countries can trade freely amongst themselves without restrictions. Each country has their own trade relations with countries outside of the trade bloc

Least economically integrated type of trading bloc → agree to remove trade barriers but impose trade barriers with non-member countries

Each country will have different restrictions on different non-members = freedom to determine its own trade barriers

eg. The United States-Mexico-Canada (USMCA), replaced the North American Free Trade Agreement (NAFTA) in March 2020 → NAFTA was to become tariff-free

Customs union:

Free trade plus the countries have common external trade restrictions (tariffs/quotas) with those outside of the bloc.

→ the members of the state have to determine the same restrictions against all non-members

Countries agree to reduce and remove tariff and non-tariff barriers to trade → allowing free flow of products between members of the state union

Makes it easier to trade freely and promotes economic cooperation (reducing administrative barriers and financial burdens)

When members of a state have free trade with each other → the union imposes a common external tariff for all non-members determined by each country in the state (imposing the same trade barrier)

eg. South African Customs Union (SACU) established in 1910 included Botswana, Eswatini, Lesotho, Nambia and South Africa

Common market:

Goods and services are traded without tariffs with factor mobility

- of all of the FOP so people are free to work and set up business anywhere in the common market (member state)

Helps allocate resources within the member state → most integrated of three categories

eg. Volkswagen, Germany's and the world's largest care sale maker has production facilities in several EU countries → no restriction of FOP

Advantages of trading bloc

- Greater access to markets offer the potential for economies of scale

-With freedom of labour, there are greater employment opportunities

-Membership in a trading bloc may allow for stronger bargaining power in new multilateral negotiation

- Greater political stability and cooperation between the countries within the bloc due to the increased interdependence

- Trade creation (HL only)

Disadvantages of trading bloc

- Loss of sovereignty: nations increasingly give up theire autonomy, most visible when joining a monetary unions (nation lose the ability to set their own monetary policy)

- Multilateral trading negotiations: more challenging as countries within a trading bloc have to maintain the existing bloc rules when dealing with a 3rd party country - free trade zones exclusivity

- Trade diversion (HL only): Can distort the efficient allocation of resources

Monetary union: definition and example

Monetary integration where a common currency is used between member countries with a common central bank and united monetary policy

Develops once there is integration at a common market level

eg. Prior to Brexit, the UK was a member of the European Customs Union and common market but never joined the Eurozone

at the start of 2023, 20 of the 27 countries in the EU are also members of the Eurozone

Advantages of monetary union

- Price stability

- Increased Trade and Market Access

- Enhanced Monetary policy credibility

Price stability

The common currency eliminates exchange rate flluctuations, reducing transaction costs and increasing price stability

Increased Trade and Market Access

Increased Trade and Market Access: A single currency makes it easier for businesses to engage in cross-border trade within the unions leading to increased trade and economic growth

Enhanced Monetary policy credibility

Having a credible and independent central bank that follows a transparent monetary policy, promotes investor confidence in all countries within the unions (even weaker ones)

Disadvantages of monetary union

- Limited Monetary policy flexibility

- Loss of exchange rate control

- Fiscal constrains and policy coordination

- Limited Monetary policy flexibility

Member countries relinquish control over their monetary policy decisions to supranational authority → european central bank in the case of the eurozone

- Restricts a countrys ability to independently adjust interest rates or implement policies tailored to its economic condition → hinders ability to address domestic economic challenges

Loss of exchange rate control:

- Countries in a monetary union lose the ability to adjust their exchange rates to maintain competitiveness

-Cannot rely on currency devaluation or revaluation to restore competitiveness or rebalance their economies

Fiscal constrains and policy coordination

Countries must follow strict budgetary rules, deficit and debt limits, and coordinated fiscal policies - Constraint limits a country's fiscal policy autonomy and can create challenges during recessions

The World Trade Organization (WTO)

Global organization that exists to promote trade liberalization to oversee multilateral trade agreements and to resolve trade disputes between member states

trade liberalization = process of rolling back the barriers to free trade eg. removing tariffs

The WTO has 2 main roles in liberalising trade

Objectives of WTO

Set and enforce rules for international trade

Facilitate and promote trade liberalization

Resolve trade disputes

Increase transparency of trade agreement decision-making

Cooperate with other international economic institutions

Help developing countries benefit from global trading

Factors affecting influence of WTO

1. Difficulties of reaching agreement on services/primary products: some countries place high protectionism to sustain domestic industry = goes against WTO principles

2. Unequal bargaining power of members:

Countries with the largest amount of consumers tend to have more bargaining power when it comes to bargaining.