**KH9** REGIONAL ECONOMIC INTEGRATION [Head, Chap.5, pp ] - removal of significant barriers to trade and investment - driven by the theory of comparative advantage ---> a free trade zone will produce substantial gains from trade for all member countries The level of economic integration ranges from free trade area to political integration (There are 5 levels.) (1) Free trade area In a free trade area there are no barriers to the trade of goods and services among member countries (i.e. no tariffs, quotas, subsidies,..); Each member country can have its own trade policies with regard to nonmembers NAFTA (North American Free Trade Agreement) is a free trade area.

(2) Customs union (Free trade area + common external trade policy for member countries) Example. EC (European Community) started as a customs union. Aladi (Latin American Integration Association (Argentina, Bolivia, Brazil, Chile, Colombia, Ecuador, Mexico,...). (3) Common market (Customs union + mobility for production factors) Example. EC was characterized by the 1987 Single European Act Its original members are: WG, F, N, B, I, L. Its key elements are: A. Reduction of border-crossing hassles by eliminating (a) frontier controls (with the exception of Britain, Ireland, and Denmark, the EU members have eliminated border controls); and (b) cabotage restrictions (e.g. a trucking company based in France was previously not allowed to deliver freight from one German city to another). B. Harmonization of technical standards. C. Reduce national-bias in government procurement by using transparent and open bidding processes to allocate government service contracts.

(4) Economic union (which countries are in?) (Common market + common currency, harmonization of tax rates, common monetary and fiscal policy) Example. Current EU close to this, but not quite.... Does EU have a common currency for all its member countries?) (5) Political union The ultimate goal of EU. What is the current status? Can the EU Parliament tell the French government what to do?

Why higher integration ? why not ? (+) accelerated free trade and investment (FDI and portfolio) flows (+) gaining political power for the region in world politics (-) loss of a nation's sovereignty, political and cultural (-) loss of economic policy freedom for fine-tuning business cycle fluctuations,.. Examples. Flexible exchange rate helps weak economies to recover by exporting; fiscal and monetary policy in response to country- specific economic problems (unemployment, etc.). Canada’s unemployment always higher than the U.S.’s; what would happen if Canada adopted the U.S. dollar? ---> without each country's fine-tuning ability, some member countries may get stuck with permanent unemployment problems. (Read “EU problem and euros ”.) (e.g. Maritime region in Canada, West Viirginia region in the U.S.) When should an integration happen?

When should integration happen? (+) trade creation: high-cost domestic producers replaced by low-cost producers in the free trade area (-)trade diversion: lower-cost external suppliers replaced by higher-cost suppliers within the free trade area Integrate if trade creation > trade diversion ---> a free trade area justified (-) a potential for an economic union (like EC/EU) to become a fortress of protectionism

The WTO Rules allow exceptions to free trade areas Treat imports from all WTO members equally (MFN principle) Free Trade Areas, Customs Unions Treat imported goods no worse than like domestic goods (National treatment) Health Protection, Conservation Use tariffs, not quotas or bans (no QRs) Health etc., “Safeguards” Set tariffs at or below “bindings” Antidumping duties, Countervailing duties Members Should except for

Notes: Accession in trade status examples Any state or customs territory having full autonomy in the conduct of its trade policies may become a member (“accede to”) the WTO, but all WTO members must agree on the terms. The European Union (formerly the European Economic Community) was founded in Membership has grown steadily, adding Greece, Portugal, and Spain in the 1980s and Sweden, Austria, and Finland in The 2004 accession of 10 mainly Eastern European nations saw the EU taking on more members than in any prior expansion. Considered as a single entity, the EU has the world’s highest GDP (over US$13 trillion) and is Canada’s second largest trade partner. These changes in trade statuses are counted in the following figure under accessions.

Proliferation of regional agreements

Canada’s Free Trade Agreements 1988/89: United States 1993/94: Mexico (NAFTA) 1996: Israel 1996/97: Chile 2001: Costa Rica In negotiation: Central America 4, EFTA, FTAA, Singapore, Korea.

Note: Unlike Mexico which has chosen to be a member of NAFTA which promotes comparative advantage based free trade among Canada, the U.S. and Mexico, most countries in East Asia (e.g. China, South Korea, …) chose to adopt various forms of strategic trade theory based development (and trade) policies at the beginning of their economic development processes. (E.g. infant industries, export orientation.) Their adoption of free trade policies (e.g. GATT, WTO) are relatively new.