Multilateral trade arrangements [GATT WTO]Nondiscrimination: bilateral liberalization extended to all members. “Most favored nation”BUT Complex negotiations: 150+ nations at the table

Regional trade arrangements: EU, NAFTAEconomic integration economies of scaleBasis for enlargement• As integration proceeds, costs of staying out increase• As labor deploys to competitive sectors, benefits (and political support) spreads.BUT trade diversion vis a vis non-members

Regional trade agreements

Types of regional trade arrangements Free trade areas (NAFTA, for example) Customs unions (Benelux, CACM) Common markets (MERCOSUR,EEC) Economic union (EU) Economic and monetary union (USA, EMU?)

Effects of regional trade agreements Static effects

Trade creation effect consumption effect … buy more from your partner production effect … less inefficient domestic

production Trade diversion effect

… buy less from efficient, low cost producers not in the club…e.g., UK vis a vis Australia

Dynamic effects Economies of scale Greater competition Investment stimulus

European Union / European Monetary UnionCreated by the Treaty of Rome (1957)Original Members: Belgium,France,Germany,

Italy,Luxembourg,NetherlandsJoiners,’73: Denmark,Ireland,UKJoiners,’80s: Greece, Portugal, Spain…smoke & mirrorsJoiners,’95: Austria,Finland,SwedenJoiners, ‘00s: Transition economies: Slovenia, Poland, Czech

Republic, Slovakia, Hungary, Estonia, Latvia, Lithuania, Bulgaria, Romania + Cyprus, Malta

Total Population, GDP, GDP per capita (PPP, 2008)EU: 500mil $15.2tril $30,500 €-zone: 326mil 10.6 tril 32,500USA: 306mil 14.3 tril 46,900

European Union Within-region trade grew much more quickly than world

trade in the 1960s Steps to remove remaining barriers (1985-92) further

increased integration 1987 Delors Report

Four Freedoms: goods, services, labor, capital Maastricht Summit (1991)

Laid out process of economic and monetary union (EMU)

German unification September 1992 currency crisis Italy, Spain “devalue” UK, Sweden drop out

EMU: Economic & Monetary Union (1999) National currencies replaced with the euro, 2002 European Central Bank created to control

monetary and exchange rate policy “Convergence criteria” required for membership:

Price stability … 3.2% inflation Low long-term interest rates … 7.7% Stable exchange rates Sound public finances

Deficit/GDP … 3% Debt/GDP … 60%

Who will bail out Greece?Moral Hazard and PIIGS

Contagion

“Candidate countries see the convergencecriteria as a small price to pay for the exchange rate stability and low interest rates that come with full entry into the monetary union.” Carbaugh, p. 282

Benefits of EMU Lower transaction costs Price comparisons easier Exchange rate risk eliminated Stimulates competition

Costs of EMUEurope is not an "optimal currency area"• Loss of monetary policy and the exchange rates

as economic adjustment toolsResponse to Asymmetric shocks

• Use of fiscal policy for adjustment is constrained• Need wage flexibility and labor mobility

• both are low in Europe

Other key EU policies Common agricultural policy (CAP)

Support payments to farmers surpluses Export subsidies devastates LDC agriculture Variable import levies: when world price down,

EU tariff up stable prices within EU Germans supported French farmers

Now support Polish/Hungarian/Baltic farmers Government procurement policies

All EU businesses can bid for large contracts in any nation

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Government support for agriculture, 2007Subsidy

US-Canada Free Trade Agreement (1989) North American Free Trade Agreement (1994)

US, Mexico, Canada Gradual and comprehensive elimination of

trade barriers over 15 years: Full, phased elimination of import tariffs Elimination of most NTBs Protection of intellectual property rights Dispute settlement procedures Side agreements on environmental protection

and labor law

Concerns about NAFTA Main US losers from NAFTA: import-protected

industries competing with Mexican producers, and unskilled workers

Trade diversion from low-cost Asian producers US industrial workers worried about lower pay in

Mexico and plant relocations Concerns Mexico won’t enforce environmental

protection measures Concern now shifted to China and India

Trade effects of NAFTA: trade creation and trade diversion (thousands of dollars)

Major western hemisphere regional trade agreements

GDP per capita* for the transition economies, 2007 (in dollars)

Factor Flows: Increased Productivity Increased Profit

Productivity depends on:•Factor scarcity•COOPERATING factors

(including more of the same factor)•Agglomeration economies

Interactions … Exchange of information•Institutional quality

• Rule of law• Protection of property rights• Country risks

Operating Abroad Export from home base License / franchise foreign providers Foreign Direct Investment (FDI)

Multinational enterprises (MNEs) Joint ventures

What’s the nationality? EXXON — Burger King Toyota — Baskin—Robbins Ikea Aldi/Trader Joe

The world’s largest corporations, 2008

MNE MotivesEXPAND Market penetration Preempt competition Cost advantages Skirt restrictions/trade barriers Hedge

Against currency fluctuations Against market shifts

Country Risk Analysiso political risk: government stability, corruption,

domestic conflict, religious & ethnic tensionso financial risk:

debt to GDP ratio, loan defaults exchange rate stability

o economic risk: growth of GDP, per capita GDP, inflation rate

21

Direct investment position of the United States on an historical cost basis, 2007*

Flavors of MNEs

Vertical integration Backward: secure inputs to core business Forward: secure market position of final good

Horizontal integration Create and service overlapping demand for core

products Conglomeration

Add international dimension to business portfolio

The Joint Venture Alternative Combine skills Share costs Share risks Gain local acceptance/leverage

Joint venture with foreign government Forestall protection Forestall competition

Encounter Coordination Problems

FDI and Its DiscontentsHost discontents MNEs purchase existing businesses No new jobs Foreign bosses Loss of sovereignty

Gimmicks like transfer pricing tax avoidanceSource discontents [Short-term?] job loss Technology transfer

Lose competitive edge Create own gravediggers

Loss of sovereignty MNE end runs

Labor ImmigrationPush or Pull?

Wage ConvergenceWinners – Losers

Long-run impacts The division of labor is limited by the extent of

the market

Profits Investment Jobs

Labor Mobility - Migrationo U.S. immigration - initially more Western

Europeans – recently more Mexican and Asiano Immigration Act of 1924 – limited overall flow &

established specific quota from each country based on previous emigration patterns

o quota formula modified in 1965

Immigration to US

Effects of Migrationo labor migration equalizes wageso increase in output and welfare in the U.S.o decrease in output and welfare in Mexicoo net gain in world output due to higher VMP in U.S.