1. InternationalBusiness 7eby Charles W.L. HillMcGraw-Hill/Irwin Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

2. Chapter 8 Regional Economic Integration 3. IntroductionRegional economic integration refers to agreementsbetween countries in a geographic region to reducetariff and non-tariff barriers to the free flow of goods,services, and factors of production between each otherRegional trade agreements are designed to promotefree trade, but instead the world may be moving towarda situation in which a number of regional trade blockscompete against each other8-3 4. Levels Of Economic IntegrationThere are five levels of economic integration:1. a free trade area eliminates all barriers to the trade ofgoods and services among member countries, butmembers determine their own trade policies fornonmembersthe European Free Trade Association (betweenNorway, Iceland, Liechtenstein, and Switzerland), andthe North American Free Trade Agreement (betweenthe U.S., Canada, and Mexico) are both free tradeareas 8-4 5. Levels Of Economic Integration2. a customs union eliminates trade barriers betweenmember countries and adopts a common external tradepolicyThe Andean Pact (between Bolivia, Columbia,Ecuador and Peru) is an example of a customs union3. a common market has no barriers to trade betweenmember countries, a common external trade policy, andthe free movement of the factors of productionMERCOSUR (between Brazil, Argentina, Paraguay,and Uruguay) is aiming for common market status8-5 6. Levels Of Economic Integration4. An economic union has the free flow of products andfactors of production between members, a commonexternal trade policy, a common currency, aharmonized tax rates, and a common monetary andfiscal policyThe European Union (EU) is an imperfect economicunion5. A political union involves a central political apparatusthat coordinates the economic, social, and foreign policyof member statesThe EU is headed toward at least partial politicalunion, and the United States is an example of evencloser political union8-6 7. Levels Of Economic IntegrationFigure 8.1 8-7 8. Classroom Performance SystemAll barriers to the free flow of goods and servicesbetween member countries are removed, and acommon policy toward nonmembers is established in aa) Free trade areab) Customs unionc) Common marketd) Economic union8-8 9. Classroom Performance SystemNAFTA is an example of a(n)a) Free trade areab) Customs unionc) Common marketd) Economic union8-9 10. The Economic Case For Regional IntegrationAll countries gain from free trade and investmentRegional economic integration is an attempt to exploitthe gains from free trade and investment8-10 11. The Political Case For Regional IntegrationLinking countries together, making them moredependent on each other:creates incentives for political cooperation andreduces the likelihood of violent conflictgives countries greater political clout when dealingwith other nations8-11 12. Impediments To IntegrationEconomic integration can be difficult because:while a nation as a whole may benefit from a regionalfree trade agreement, certain groups may loseit implies a loss of national sovereignty 8-12 13. The Case Against Regional IntegrationRegional economic integration is only beneficial if theamount of trade it creates exceeds the amount it divertsTrade creation occurs when low cost producers withinthe free trade area replace high cost domesticproducersTrade diversion occurs when higher cost supplierswithin the free trade area replace lower cost externalsuppliers 8-13 14. Classroom Performance SystemWhen higher cost suppliers within the free trade areareplace lower cost external suppliersa) The bloc as a whole benefitsb) There is trade creationc) There is trade diversiond) External suppliers benefit8-14 15. Regional Economic Integration In EuropeEurope has two trade blocs:The European Union (EU) with 27 membersThe European Free Trade Area (EFTA) with 4membersThe EU is seen as the worlds next economic andpolitical superpower 8-15 16. Regional Economic Integration In EuropeMap 8.1: Member States of the European Union in 2007 8-16 17. Evolution Of The European UnionThe EU was formed as a result of the devastation oftwo world wars on Western Europe and the desire for alasting peace, and the desire by the European nationsto hold their own on the worlds political and economicstageThe forerunner of the EU was the European Coal andSteel Community, which had the goal of removingbarriers to trade in coal, iron, steel, and scrap metalformed in 1951The European Economic Community was formed in1957 at the Treaty of Rome with the goal of becoming acommon market8-17 18. Political Structure Of The European UnionThere are five main institutions of the EU:the European Council - resolves major policy issues and setspolicy directionsthe European Commission - responsible for implementingaspects of EU law and monitoring member states to ensure theyare complying with EU lawsthe Council of the European Union - the ultimate controllingauthority within the EUthe European Parliament - debates legislation proposed by thecommission and forwarded to it by the councilthe Court of Justice - the supreme appeals court for EU law 8-18 19. Classroom Performance System_______ is the ultimate decision making body of theEuropean Union.a) Council of the European Unionb) European Parliamentc) Court of Justiced) European Commission8-19 20. Classroom Performance System_______ is responsible for proposing EU legislation.a) Council of the European Unionb) European Parliamentc) Court of Justiced) European Commission 8-20 21. The Single European ActThe Single European Act:was adopted by the EU in 1987committed the EC countries to work towardestablishment of a single market by December 31, 1992was born out of frustration among EC members thatthe community was not living up to its promiseprovided the impetus for the restructuring ofsubstantial sections of European industry allowing forfaster economic growth than would otherwise havebeen the case 8-21 22. The Establishment Of The EuroThe Maastricht Treaty committed the EU to adopt asingle currencyBy adopting the euro, the EU has created the secondlargest currency zone in the world after that of the U.S.dollarThe euro is used by 12 of the 25 member statesFor now, three EU countries, Britain, Denmark andSweden, that are eligible to participate in the euro-zone,are opting out 8-22 23. The Establishment Of The EuroBenefits of the Euro:There are savings from having to handle one currency, ratherthan manyA common currency will make it easier to compare prices acrossEuropeEuropean producers will be forced to look for ways to reducetheir production costs in order to maintain their profit marginsIt should give a strong boost to the development of highly liquidpan-European capital marketA pan-European euro denominated capital market will increasethe range of investment options open both to individuals andinstitutions 8-23 24. The Establishment Of The EuroCosts of the Euro:National authorities lose control over the monetarypolicyThe EU is not an optimal currency area (an areawhere similarities in the underlying structure if economicactivities make it feasible to adopt a single currency anduse a single exchange rate as an instrument of macro-economic policy) 8-24 25. The Establishment Of The EuroSince its establishment January 1, 1999, the euro hashad a volatile trading history with the U.S. dollarInitially, the euro fell in value relative to the dollar, butstrengthened to a five year high of $1.30 in February2006 8-25 26. Enlargement Of The European UnionMany countries have applied for EU membershipTen countries joined on May 1, 2004 expanding theEU to 25 states, with population of 450 million people,and a single continental economy with a GDP of 11trillionIn 2007, Bulgaria and Romania joined bringmembership to 27 countriesThe new countries will not be able to adopt the eurountil at least 2007, nor will there be free movement oflabor between new and existing countries until then8-26 27. Regional Economic IntegrationIn The AmericasThere is a move toward greater regional economicintegration in the AmericasThe biggest effort is the North American Free TradeArea (NAFTA)Other efforts include the Andean Community andMERCOSURA hemisphere-wide Free Trade of the Americas isunder discussion 8-27 28. The North American Free Trade AgreementThe North American Free Trade Area (NAFTA)became law January 1, 1994NAFTAs participants are the United States, Canada,and Mexico 8-28 29. The North American Free Trade AgreementMap 8.28-29 30. The North American Free Trade AgreementNAFTA:abolished tariffs on 99 percent of the goods traded betweenmembersremoved most barriers on the cross-border flow of servicesprotects intellectual property rightsremoves most restrictions on FDI between the three membercountriesallows each country to apply its own environmental standards,provided such standards have a scientific baseestablishes two commissions to impose fines and remove tradeprivileges when environmental standards or legislation involvinghealth and safety, minimum wages, or child labor are ignored 8-30 31. The North American Free Trade AgreementNAFTAs supporters argue that:Mexico will benefit from increased jobs as low costproduction moves south, and will attain more rapideconomic growth as a resultThe U.S. and Canada will benefit from the access to alarge and increasingly prosperous market and from thelower prices for consumers from goods produced inMexicoU.S. and Canadian firms with production sites inMexico will be more competitive on world markets 8-31 32. The North American Free Trade AgreementCritics of NAFTAs argued that:that jobs would be lost and wage levels would declinein the U.S. and CanadaMexican workers would emigrate northpollution would increase due to Mexicos more laxstandardsMexico would lose its sovereignty 8-32 33. The North American Free Trade AgreementResearch indicates that NAFTAs early impact wassubtle, and both advocates and detractors may havebeen guilty of exaggerationThe agreement has helped to create the backgroundfor increased political stability in MexicoSeveral other Latin American countries have indicatedtheir desire to eventually join NAFTACurrently both Canada and the U.S. are adopting await and see attitude with regard to most countries 8-33 34. The Andean CommunityThe Andean Pact:was formed in 1969 using the EU modelhad more or less failed by the mid-1980swas re-launched in 1990, and now operates as acustoms unionsigned an agreement in 2003 with MERCOSUR torestart negotiations towards the creation of a free tradearea8-34 35. MERCOSURMERCOSUR:originated in 1988 as a free trade pact between Braziland Argentinawas expanded in 1990 to include Paraguay andUruguayhas been making progress on reducing trade barriersbetween member statesmay be diverting trade rather than creating trade, andlocal firms are investing in industries that are notcompetitive on a worldwide basis8-35 36. Central American CommonMarket And CARICOMThere are two other trade pacts in the Americas:the Central American Trade Market (CAFTA) tolower trade barriers between the U.S. and membersCARICOM to establish a customs unionNeither pact has achieved its goals yetIn 2006, six CARICOM members formed theCaribbean Single Market and Economy (CSME) - tolower trade barriers and harmonize macro-economicand monetary policy between members8-36 37. Free Trade Of The AmericasTalks began in April 1998 to establish a Free Trade ofThe Americas (FTAA) by 2005The FTAA was not established and now support fromthe U.S. and Brazil is mixedIf the FTAA is established, it will have majorimplications for cross-border trade and investment flowswithin the hemisphereThe FTAA would create a free trade area of nearly800 million people 8-37 38. Regional Economic Integration ElsewhereSeveral efforts have been made to integrate in Asiaand AfricaOne of the most successful is the Association ofSoutheast Asian Nations (ASEAN) 8-38 39. Association Of Southeast Asian NationsThe Association of Southeast Asian Nations (ASEAN):was formed in 1967currently includes Brunei, Indonesia, Malaysia, thePhilippines, Singapore, Thailand, Vietnam, Myanmar,Laos, and Cambodiawants to foster freer trade between member countriesand to achieve some cooperation in their industrialpoliciesan ASEAN Free Trade Area (AFTA) between the sixoriginal members of ASEAN came into effect in 20038-39 40. Association OfSoutheast Asian Nations Map 8.38-40 41. Asia-Pacific Economic CooperationThe Asia-Pacific Economic Cooperation (APEC):currently has 21 members including the UnitedStates, Japan, and Chinawants to increase multilateral cooperation in view ofthe economic rise of the Pacific nations and the growinginterdependence within the region 8-41 42. Asia-Pacific Economic CooperationMap 8.48-42 43. Regional Trade Blocs In AfricaProgress toward the establishment of meaningfultrade blocs in Africa has been slowMany countries are members of more than one of thenine dormant blocs in the regionKenya, Uganda, and Tanzania committed to re-launching the East African Community (EAC) in 2001,however so far, the effort appears futile8-43 44. Implications For ManagersThe EU and NAFTA currently have the mostimmediate implications for business8-44 45. OpportunitiesRegional economic integration:opens new marketsmakes it possible for firms to realize potentiallyenormous cost economies by centralizing production inthose locations where the mix of factor costs and skillsis optimal 8-45 46. ThreatsWithin each grouping, the business environmentbecomes competitiveEU companies are becoming more capableThere is a risk of being shut out of the single marketby the creation of a trade fortressThe EU is becoming more willing to intervene andimpose conditions on companies proposing mergersand acquisitions which could limit the ability of firms tofollow the strategy of their choice 8-46 47. Classroom Performance SystemWhich of the following is not true of NAFTA?a) It created a free trade area of nearly 800 millionpeopleb) It created the background for increased politicalstability in Mexicoc) Several other Latin American countries haveindicated their desire to eventually join NAFTAd) Its participants are the United States, Canada, andMexico 8-47