Global Business Today, 5e

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chapter
8

• Regional Economic Integration

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Chapter 8 Regional Economic Integration

• INTRODUCTION
• Regional economic integration refers to
  agreements between countries in a geographic
  region to reduce tariff and nontariff barriers to
  the free flow of goods, services, and factors of
  production between each other.
• While regional trade agreements are designed to
  promote free trade, there is some concern that
  the world is moving toward a situation in which a
  number of regional trade blocks compete against
  each other.

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Chapter 8 Regional Economic Integration

• LEVELS OF ECONOMIC INTEGRATION
• There are five levels of economic integration.
• In a 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
• Examples of free trade areas include the
  European Free Trade Association (between Norway,
  Iceland, Liechtenstein, and Switzerland), and the
  North American Free Trade Agreement (between the
  U.S., Canada, and Mexico)

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Chapter 8 Regional Economic Integration

• The different levels of economic integration are
  shown in Figure 8.1.

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Chapter 8 Regional Economic Integration

• The customs union is one step further along the
  road to full economic and political integration,
  and eliminates trade barriers between member
  countries and adopts a common external trade
  policy
• The Andean Pact (between Bolivia, Columbia,
  Ecuador and Peru) is an example of a customs union

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Chapter 8 Regional Economic Integration

• The common market has no barriers to trade
  between member countries, a common external trade
  policy, and the free movement of the factors of
  production
• MERCOSUR (between Brazil, Argentina, Paraguay,
  and Uruguay) is aiming for common market status

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Chapter 8 Regional Economic Integration

• An 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
• The European Union (EU) is an economic union,
  although an imperfect one since not all members
  of the EU have adopted the euro, and differences
  in tax rates across countries still remain

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Chapter 8 Regional Economic Integration

• In a political union, independent states are
  combined into a single union
  
• The EU is headed toward at least partial
  political union, and the United States is an
  example of even closer political union

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Chapter 8 Regional Economic Integration

• Classroom Performance System
• In a _______, all barriers to the free flow of
  goods and services between member countries are
  removed, and a common policy toward nonmembers is
  established.
• Free trade area
• Customs union
• Common market
• Economic union

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Chapter 8 Regional Economic Integration

• Classroom Performance System
• The European Union is an example of a(n)
• Free trade area
• Customs union
• Common market
• Economic union

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Chapter 8 Regional Economic Integration

• 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

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Chapter 8 Regional Economic Integration

• The Political Case for Integration
• The political case for integration has two main
  points
  
• 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

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Chapter 8 Regional Economic Integration

• Impediments to Integration
• There are two main impediments to integration
• while a nation as a whole may benefit from a
  regional free trade agreement, certain groups may
  lose
  
• concerns over the loss of national sovereignty

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Chapter 8 Regional Economic 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

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Chapter 8 Regional Economic Integration

• REGIONAL ECONOMIC INTEGRATION IN EUROPE
• Evolution of the European Union
• The EU is the result of
• the devastation of two world wars on Western
  Europe and the desire for a lasting peace
  
• the desire by the European nations to hold their
  own on the worlds political and economic stage
  

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Chapter 8 Regional Economic Integration

• The evolution of the European Union is shown in
  Map 8.1.

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Chapter 8 Regional Economic Integration

• The forerunner of the EU was the European Coal
  and Steel Community, which had the goal of
  removing barriers to trade in coal, iron, steel,
  and scrap metal formed in 1951
• The European Economic Community was formed in
  1957 at the Treaty of Rome with the goal of
  becoming a common market

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Chapter 8 Regional Economic Integration

• Political Structure of the European Union
• The five main institutions of the EU are
• the European Council (resolves major policy
  issues and sets policy directions)
  
• the European Commission (responsible for
  implementing aspects of EU law and monitoring
  member states to ensure they are complying with
  EU laws)
• the Council of the European Parliament (the
  ultimate controlling authority within the EU)
  
• the European Parliament (debates legislation
  proposed by the commission and forwarded to it by
  the council)
  
• the Court of Justice (the supreme appeals court
  for EU law)

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Chapter 8 Regional Economic Integration

• The Single European Act
• The Single European Act, adopted by the EU
  member nations in 1987, committed the EC
  countries to work toward establishment of a
  single market by December 31, 1992
• The Stimulus for the Single European Act
• The Single European Act was born out of
  frustration among EC members that the community
  was not living up to its promise

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Chapter 8 Regional Economic Integration

• The Objectives of the Act
• frontier controls to remove all frontier
  controls between EC countries
  
• mutual recognition of standards to apply the
  principle of mutual recognition, which is that
  a standard developed in one EC country should be
  accepted in another, provided it meets basic
  requirements in such matters as health and
  safety
• public procurement to open procurement to
  non-national suppliers

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Chapter 8 Regional Economic Integration

• financial services to lift barriers to
  competition in the retail banking and insurance
  businesses
  
• exchange controls to remove all restrictions on
  foreign exchange transactions between members by
  the end of 1992
  
• freight transport to abolish restrictions on
  sabotage, the right of foreign truckers to pick
  up and deliver goods within another members
  borders, by the end of 1992
• supply-side effects should lower the costs of
  doing business in the EC, but the single-market
  program is also expected to have more complicated
  supply-side effects

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Chapter 8 Regional Economic Integration

• Impact
• The Single European Act provided the impetus for
  the restructuring of substantial sections of
  European industry allowing for faster economic
  growth than would otherwise have been the case

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Chapter 8 Regional Economic Integration

• The Establishment of the Euro
• The Treaty of Maastricht, signed in 1991,
  committed the EU to adopt a single currency, the
  euro, by January 1, 1999
  
• The euro is used by 12 of the 25 member states
• By adopting the euro, the EU has created the
  second largest currency zone in the world after
  that of the U.S. dollar
  
• For now, three EU countries, Britain, Denmark
  and Sweden, are opting out of the euro-zone
  
• Euro notes and coins were issued on January 1st,
  2002 (in the interim, national currencies
  circulated, and were worth a defined amount of
  euros)

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Chapter 8 Regional Economic Integration

• Benefits of Euro
• Businesses and individuals should realize
  significant savings from having to handle one
  currency, rather than many
  
• The adoption of a common currency will make it
  easier to compare prices across Europe

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Chapter 8 Regional Economic Integration

• Faced with lower prices European producers will
  be forced to look for ways to reduce their
  production costs in order to maintain their
  profit margins
• The introduction of a common currency should
  give a strong boost to the development of highly
  liquid pan-European capital market
  
• The development of a pan-European euro
  denominated capital market will increase the
  range of investment options open both to
  individuals and institutions

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Chapter 8 Regional Economic Integration

• Costs of Euro
• A drawback of a single currency is that national
  authorities lose control over the monetary
  policy
  
• The Maastricht treaty called for the
  establishment of an independent European central
  bank (ECB) with a clear mandate to manage
  monetary policy so as to ensure price stability

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Chapter 8 Regional Economic Integration

• The ECB sets interest rates and determines
  monetary policy across the euro-zone
  
• Another drawback of the Euro is that the EU is
  not an optimal currency area (an area where
  similarities in the underlying structure if
  economic activities make it feasible to adopt a
  single currency and use a single exchange rate as
  an instrument of macro-economic policy)

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Chapter 8 Regional Economic Integration

• The Early Experience
• Since its establishment January 1, 1999, the
  euro has had a volatile trading history with the
  U.S. dollar
  
• Initially, the euro fell in value relative to
  the dollar, but strengthened to a five year high
  of 1.33 in March 2005

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Chapter 8 Regional Economic Integration

• Enlargement of the European Union
• Many countries, particularly from Eastern
  Europe, have applied for membership in the EU
  
• Ten countries joined on May 1, 2004 expanding
  the EU to 25 states, with population of 450
  million people, and a single continental economy
  with a GDP of 11 trillion

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Chapter 8 Regional Economic Integration

• Classroom Performance System
• The ultimate decision making body of the European
  Union is the
  
• Council of the European Union
• European Parliament
• Court of Justice
• European Commission

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Chapter 8 Regional Economic Integration

• REGIONAL ECONOMIC INTEGRATION IN THE AMERICAS
• Regional economic integration is on the rise in
  the Americas.
  

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Chapter 8 Regional Economic Integration

• Regional economic integration in the Americas is
  shown in Map 8.2.

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Chapter 8 Regional Economic Integration

• The North American Free Trade Agreement (NAFTA)
• NAFTAs Contents
• The free trade agreement between the United
  States, Canada, and Mexico became law January 1,
  1994
  
• NAFTA abolished tariffs on 99 percent of the
  goods traded between Mexico, Canada, and the
  United States, removed most barriers on the
  cross-border flow of services, protects
  intellectual property rights, removes most
  restrictions on FDI between the three member
  countries, allows each country to apply its own
  environmental standards, provided such standards
  have a scientific base, establishes two
  commissions to impose fines and remove trade
  privileges when environmental standards or
  legislation involving health and safety, minimum
  wages, or child labor are ignored

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Chapter 8 Regional Economic Integration

• The Case for NAFTA
• Proponents of NAFTA have argued that it will
  provide economic gains to all countries
  
• Mexico will benefit from increased jobs as low
  cost production moves south, and will attain more
  rapid economic growth as a result
  
• The U.S. and Canada will benefit from the access
  to a large and increasingly prosperous market and
  from the lower prices for consumers from goods
  produced in Mexico
• In addition, U.S. and Canadian firms with
  production sites in Mexico will be more
  competitive on world markets

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Chapter 8 Regional Economic Integration

• The Case against NAFTA
• Opponents of NAFTA argued
• that jobs would be lost and wage levels would
  decline in the U.S. and Canada
  
• Mexican workers would emigrate north
• pollution would increase due to Mexico's more
  lax standards
  
• Mexico would lose its sovereignty

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Chapter 8 Regional Economic Integration

• NAFTA The Results so Far
• Studies of NAFTAs early impact suggest that
  both advocates and detractors may have been
  guilty of exaggeration
  
• The agreement has helped to create the
  background for increased political stability in
  Mexico
  

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Chapter 8 Regional Economic Integration

• Enlargement
• Several other Latin American countries have
  indicated their desire to eventually join NAFTA
  
• Currently both Canada and the U.S. are adopting
  a wait and see attitude with regard to most
  countries

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Chapter 8 Regional Economic Integration

• Classroom Performance System
• Studies show that after its first decade,
• There was a small net gain of jobs in the U.S.
• Exports from the U.S. failed to grow
• NAFTAs overall impact has been significant
• The U.S., Canada, and Mexico all experienced a
  decrease in productivity

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Chapter 8 Regional Economic Integration

• The Andean Community
• The Andean Pact, originally formed in 1969, was
  based on the EU model
  
• By the mid-1980s, the Andean Pact had more or
  less failed
  
• In the late 1980s, Latin American governments
  began to adopt free market economic policies
  
• In 1990, the Andean Pact was re-launched, and
  now operates as a customs union
  
• In 2003, it signed an agreement with MERCOSUR to
  restart negotiations towards the creation of a
  free trade area

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Chapter 8 Regional Economic Integration

• MERCOSUR
• MERCOSUR originated in 1988 as a free trade pact
  between Brazil and Argentina
  
• In 1990, it was expanded to include Paraguay and
  Uruguay
  
• MERCOSUR has been making progress on reducing
  trade barriers between member states
  
• Given some fairly high tariffs for goods from
  other countries, it appears that in some
  industries, MERCOSUR is diverting trade rather
  than creating trade, and local firms are
  investing in industries that are not competitive
  on a worldwide basis

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Chapter 8 Regional Economic Integration

• Central American Common Market and CARICOM
• There are two other trade pacts in the Americas
• the Central American Trade Market
• CARICOM
• Neither has made much progress yet.

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Chapter 8 Regional Economic Integration

• Free Trade of the Americas
• Talks began in April 1998 to establish a FTAA
  (Free Trade of The Americas) by 2005
  
• If the FTAA is established, it will have major
  implications for cross-border trade and
  investment flows within the hemisphere
  
• The FTAA would create a free trade area of
  nearly 800 million people

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Chapter 8 Regional Economic Integration

• REGIONAL ECONOMIC INTEGRATION ELSEWHERE
• Association of Southeast Asian Nations
• Formed in 1967, ASEAN currently includes Brunei,
  Indonesia, Malaysia, the Philippines, Singapore,
  Thailand, and, most recently, Vietnam, Myanmar,
  Laos, and Cambodia
• The basic objectives of ASEAN are to foster
  freer trade between member countries and to
  achieve some cooperation in their industrial
  policies
• In 2003, an ASEAN Free trade Area (AFTA) between
  the six original members of ASEAN came into full
  effect with a goal of reducing import tariffs
  among the older members to zero by 2010, and for
  newer members by 2015

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Chapter 8 Regional Economic Integration

• Asian Pacific Economic Cooperation (APEC)
• APEC currently has 21 members including the
  United States, Japan, and China
  
• The stated aim of APEC is to increase
  multilateral cooperation in view of the economic
  rise of the Pacific nations and the growing
  interdependence within the region

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Chapter 8 Regional Economic Integration

• Regional Trade Blocs in Africa
• There are nine trade blocs on the African
  continent, however progress toward the
  establishment of meaningful trade blocs has been
  slow

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Chapter 8 Regional Economic Integration

• IMPLICATIONS FOR MANAGERS
• Opportunities
• Markets that were formerly protected from
  foreign competition are opened
  
• The free movement of goods across borders, the
  harmonization of product standards, and the
  simplification of tax regimes, makes it possible
  for firms to realize potentially enormous cost
  economies by centralizing production in those
  locations where the mix of factor costs and
  skills is optimal

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Chapter 8 Regional Economic Integration

• Threats
• The business environment becomes competitive
• For non-EU and/or non-North American firms,
  challenges arise from the likely long-term
  improvements in the competitive position of many
  European and North American companies

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Chapter 8 Regional Economic Integration

• There is a risk of being shut out of the single
  market by the creation of a trade fortress
  
• Firms may be limited in their ability to pursue
  the strategy of their choice in the EU as the EU
  continues to increase its role in competition
  policy and intervene and impose conditions on
  companies proposing mergers and acquisitions

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 1. NAFTA has produced significant net benefits
  for the Canadian, Mexican, and U.S. economy.
  Discuss.

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 2. What are the economic and political arguments
  for regional economic integration? Given these
  arguments, why dont we see more substantial
  examples of integration in the world economy?

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 3. What effect is creation of a single market and
  a single currency within the EU likely to have
  on competition within the EU? Why?

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 4. Do you think it is correct for the European
  Commission to restrict mergers between American
  companies that do business in Europe? (For
  example, the European Commission vetoed the
  proposed merger between WorldCom and Sprint, both
  U.S. companies, and it carefully reviewed the
  merger between AOL and TimeWarner, again both
  U.S. companies.)

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 5. How should a U.S. business firm that currently
  only exports to ASEAN countries respond to the
  creation of a single market in this regional
  grouping?

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 6. How should a firm that has self-sufficient
  production facilities to in several ASEAN
  countries respond to the creation of a single
  market? What are the constraints on its ability
  to respond in a manner that minimizes production
  costs?

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 7. After a promising start, in the last few
  years, MERCOSUR, the major Latin American trade
  agreement, has faltered and made little progress
  since 2000. What problems are hurting MERCOSUR?
  What can be done to solve these problems?

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Chapter 8 Regional Economic Integration

• CRITICAL THINKING AND DISCUSSION QUESTIONS
• 8. Would the establishment of a Free Trade Area
  of the Americas (FTAA) in 2005 be good for the
  two most advanced economies of the hemisphere,
  the United States and Canada? How might the
  establishment of the FTAA impact the strategy of
  North American firms?