Global Business Environment: Regional Trade Agreements

Learning Objectives

  • Describe the different levels of regional economic integration.
  • Understand the economic and political arguments for regional economic integration.
  • Understand the economic and political arguments against regional economic integration.
  • Explain the history, current scope, and future prospects of the world’s most important regional economic agreements.
  • Understand the implications for management practice that are inherent in regional economic integration agreements.

Introduction: Regional Economic Integration

  • The past two decades brought in many regional trade blocs with the goal of reducing or removing tariff and nontariff barriers for goods, services, and factors of production.
  • As of 2022, there were 355 regional trade agreements in force.
  • Most ambitious movement toward integration has been in the European Union.
  • United States–Mexico–Canada Agreement (USMCA) has replaced NAFTA.
  • Regional Comprehensive Economic Partnership (RCEP) includes 15 nations in the East Asian and Pacific region.

Levels of Economic Integration

  • Political Union
  • Economic Union
  • Common Market
  • Customs Union
  • Free Trade Area

Free Trade Area

  • All barriers to the trade of goods and services among member countries are removed, but members determine their own trade policies with regard to nonmembers
  • Accounts for almost 90 percent of regional agreements
  • The European Free Trade Association (between Norway, Iceland, Liechtenstein, and Switzerland)
  • Other free trade areas include NAFTA, now replaced by the United States Mexico–Canada Agreement (USMCA).

Customs Union

  • Eliminates trade barriers between member countries and adopts a common external trade policy
  • Most countries that enter a customs union desire further integration in the future
  • The Andean Community (between Bolivia, Columbia, Ecuador, and Peru)

Common market

  • No barriers to trade between member countries, a common external trade policy, and the free movement of the factors of production
  • Requires significant harmony among members in fiscal, monetary, and employment policies
  • Mercosur (between Brazil, Argentina, Paraguay, and Uruguay) hopes to achieve this status

Economic union

  • Involves the free flow of products and factors of production between members, the adoption of a common external trade policy, and in addition, a common currency, harmonization of the member countries’ tax rates, and a common monetary and fiscal policy
  • Involves sacrificing a significant amount of national sovereignty
  • The European Union (EU)

Political union

  • Independent states combined into single union
  • Requires that a central political apparatus coordinate economic, social, and foreign policy for member states
  • The EU is headed toward at least partial political union
  • The United States is an example of even closer political union

The Case for Regional Integration

The Economic Case for Integration

  • Regional economic integration is an attempt to achieve additional gains from the free flow of trade and investment between countries beyond those attainable under international agreements such as the WTO
  • Since it is easier to form an agreement with a few countries than across all nations, there has been a push toward regional economic integration

The Political Case for Integration

  • By linking countries together, making them more dependent on each other, and forming a structure where they regularly have to interact, the likelihood of violent conflict and war will decrease
  • By linking countries together, they have greater clout and are politically much stronger in dealing with other nations (example: ASEAN)

Impediments to Integration

  • It can be costly—while a nation as a whole may benefit from a regional free trade agreement, certain groups may lose
  • It results in a loss of national sovereignty (why UK ‘Brexited’ from EU)

The case against regional integration

The Case against Regional Integration

  • Regional economic integration only makes sense when the amount of trade it creates exceeds the amount it diverts
  • Trade creation occurs when low-cost producers within the free trade area replace high-cost domestic producers
  • Trade diversion occurs when higher-cost suppliers within the free trade area replace lower-cost external suppliers

Regional Economic Integration in Europe

  • Europe has two trade blocs
    • The European Union with 27 members (Britain has exited)
    • The European Free Trade Association with 4 members

The Establishment of the Euro

  • In 1992, the Maastricht Treaty committed EU members to adopt a single currency, the euro
  • The euro is used by 19 of the 27 member states
  • Created the euro zone, the second largest currency zone in the world after that of the U.S. Dollar
  • Countries that participate have agreed to give up control of their monetary policy
  • Britain, Denmark, and Sweden opted out
Benefits of the Euro
  • Handling one currency, rather than many
  • Easier to compare prices across Europe
  • Increased competition promotes greater efficiencies in production
  • The pan-European capital market should further develop
  • Range of investment options open both to individuals and institutions should increase
Costs of the Euro
  • Membership implies a loss of control over monetary policy
  • The EU is not an optimal currency area: an area where similarities in the underlying structure of economic activities make it feasible to adopt a single currency and use a single exchange rate as an instrument of macro- economic policy
  • Countries may react differently to changes in the euro

Regional Economic Integration in the Americas

  • Continental Commerce
  • NAFTA
  • Mercosur
  • Andean Community
  • Central America
  • Caribbean Community

The USMCA / North American Free Trade Agreement

  • The USMCA / North American Free Trade Agreement
  • United States, Canada, and Mexico
  • Abolished tariffs on 99% of goods traded
  • Removed barriers on the cross-border flow of services
  • Protects intellectual property rights
  • Removal of most restrictions on FDI among members
  • Application of national environmental standards
The Case for USMCA
  • Mexico
    • Increased jobs as low-cost production moves south and more rapid economic growth
  • The U.S. and Canada
    • Access to a large and increasingly prosperous market and lower prices for consumers from goods produced in Mexico
    • U.S. and Canadian firms with production sites in Mexico are more competitive in world markets
The Case Against USMCA
  • Jobs could be lost and wage levels could decline in the U.S. and Canada
  • Pollution could increase due to Mexico's more lax standards
  • Mexico fears its loss of sovereignty

Regional Economic Integration in Asia

Asia-Pacific Economic Cooperation (APEC)

  • Asian Pacific Economic Cooperation (APEC) was founded in (1990) to increase multilateral cooperation in view of the economic rise of the Pacific nations and the growing interdependence within the region
  • APEC currently has 21 members including the United States, Japan, and China
  • Not really a free trade area, more of a ‘talking shop’ to discuss regional issues

Association of Southeast Asian Nations (ASEAN)

  • Fosters freer trade between member countries and cooperation in their industrial policies

  • Brunei, Indonesia, Malaysia, the Philippines, Singapore, Thailand, Vietnam, Myanmar, Laos, and Cambodia

  • An ASEAN Free Trade Area (AFTA) (2003) between the six original members of ASEAN came into full effect to reduce import tariffs among members

  • Vietnam, Laos, Myanmar, and Cambodia have all joined

  • In 2010, ASEAN signed a free trade agreement with China to remove tariffs on 90 percent of all traded goods

  • BROADENING FREE TRADE AREAS

    • In addition to free trade area agreements between Asean and other
    • countries outside the region, Asean member countries are now
    • expanding bilateral free trade areas.

Regional Comprehensive Economic Partnership (RCEP)

  • 15 members, 30% of world’s population and GDP, 2.2 billion people, combined GDP 26.2T26.2 T

  • Eliminate 90% of tariffs within 20 years

  • Nothing on environment, labour, human rights. Limited on FDI.

  • The Regional Comprehensive Economic Partnership (RCEP) is officially the biggest trade bloc in history.

    • Population (M)
    • Nominal GDP
    • High GDP
    • Low GDP
    • We break down everything
    • you need to know, from
    • who's involved to its
    • implications.

Focus on Managerial Implications

Opportunities

  • Formerly protected markets are now open to exports and direct investment
  • The free movement of goods across borders, the harmonization of product standards, and the simplification of tax regimes means firms can realize potentially enormous cost economies
  • Centralize production in those locations where the mix of factor costs and skills is optimal
  • Enduring differences in culture and competitive practices might limit companies

Threats

  • Lower trade and investment barriers could lead to increased price competition within the EU and NAFTA
  • Increased competition within the EU is forcing EU firms to become more efficient and stronger global competitors
  • Firms outside the blocs risk being shut out of the single market by the creation of a “trade fortress”
  • Firms may be unable to pursue the strategy of their choice if the EU intervenes and imposes conditions on companies proposing mergers and acquisitions

Summary

  • In this class, we have
    • Described the different levels of regional economic integration.
    • Understood the economic and political arguments for regional economic integration.
    • Understood the economic and political arguments against economic integration.
    • Understood the implications for business that are inherent in regional economic integration agreements.