Copyright © 2011 Pearson Addison-Wesley. All rights reserved.
Chapter 2
International Economic Institutions since World War II
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-2
Chapter Objectives
• Discuss the history and functions of international institutions in world economy
• Present a taxonomy of international economic institutions
• Introduce the role of regional trade agreements in the global economy
• Analyze the arguments opposing international economic institutions
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-3
Introduction: International Institutions and Issues since World War II
• Institutions: Rules and organizations that govern and constrain behavior
– Formal institutions: Written sets of rules that explicitly state what is and is not allowed
– Informal institutions: Customs or traditions that define appropriate behavior, but without legal enforcement
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-4
TABLE 2.1 A Taxonomy of International Economic Institutions, with Examples
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-5
TABLE 2.1 (continued) A Taxonomy of International Economic Institutions, with Examples
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-6
The IMF, the World Bank, and the WTO
• The three global organizations that play a major role in international economic relations are:
– The International Monetary Fund (IMF)– The World Bank– The World Trade Organization (WTO)
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-7
The International Monetary Fund (IMF)
• Founded by 29 nations (1945) at the Bretton Woods meetings between the Allies in July 1944
• The 184 member (2006) IMF is the central monetary institution in today’s international economy
• Funding for the IMF comes from its membership fee, or quota (the price of membership)– depends on the member’s size and status– determines the member’s voting weight
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-8
The International Monetary Fund (IMF) (cont.)
• Functions of the IMF:-Prevents crisis in a financial system by promoting sound macroeconomic policy, which includes
-Balanced expansion of trade
-Stable exchange rates
-Avoidance of competitive devaluations
-Orderly corrections of Balance of Payments problems
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-9
The International Monetary Fund (IMF) (cont.)
• A Financial crisis occurs when a country runs out of foreign exchange reserves, which are a major currency or gold that can be used to pay for imports and international borrowings
• In the event of a financial crisis,
– Members borrow against IMF quotas
– IMF conditionality: Requirement for the borrowing member to carry out economic reforms in exchange for a loan
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-10
The World Bank
• Founded in 1944 as the International Bank for Reconstruction and Development (IBRD)
• IBRD and International Development Association (IDA) comprise World Bank
• Has same membership and similar structure to IMF
• Member’s voting rights are proportional to number of shares owned
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-11
The World Bank (cont.)
• Original purpose-To provide financing mechanisms to rebuild Europe after World War II
• Main function today
-Assisting development in non-industrial economies
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-12
General Agreement on Tariffs and Trade (GATT)
• Began with 23 nations in 1946 when the International Trade Organization (ITO) was established
• The General Agreement on Trade and Tariffs (GATT) followed in 1950 based on the following principles:
- National treatment: Imports must be given similar treatment on the domestic market as domestically produced goods
- Nondiscrimination: Enshrined in the concept of most favored nation (MFN); every WTO member must treat every other member as it treats its most favored trading partner
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-13
GATT (cont.)
• The GATT functioned through trade rounds: Times when countries periodically negotiate a set of incremental tariff reductions
• During the Kennedy Round in the mid-1960’s, and the Tokyo Round in the 1970’s, other issues included:
- Problems with dumping
- Subsidies to industry
- Nontariff barriers to trade
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-14
From GATT to World Trade Organization (WTO)
• The Uruguay Round established the WTO (1994)
– WTO members meet every two years to set WTO policy objectives
– Has a more effective dispute settlement mechanism– Monitors national trade practices more consistently– Membership now totals 153 (2008)
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-15
World Trade Organization (WTO)
• The Doha Round/Doha Development Agenda (2001-2006)
– Focused on trade issues of importance to developing countries
– Key issues of Doha Development Agenda:
-Farm subsidies in high income countries of Europe, US, and Japan
-Greater market access by developing countries and strong farm sector high income countries
-Trade in services
-Problems poor countries face in implementation
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-16
TABLE 2.2 The GATT Rounds
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-17
Regional Trade Agreements
• Besides economic organizations, regional trade agreements form a key part of the institutional structure of the world economy
• Regional trade agreements are bilateral (two countries) or plurilateral (several countries)
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-18
Five Types of Regional Trade Agreements
1. Partial trade agreement: Two or more countries liberalize trade in a selected group of product categories such as steel or autos
2. Free trade area (FTA): Trade in goods and services is fully liberalized between two or more countries
-North American Free Trade Agreement (NAFTA)
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-19
Five Types of Regional Trade Agreements (cont.)
3. Customs union (CU): An FTA plus a common external tariff (CET)
– European Union in the 1970s and 1980s– MERCOSUR in South America
4. Common market: A CU plus free mobility of factors of production
– European Union in the 1990s
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-20
Five Types of Regional Trade Agreements (cont.)
5. Economic Union: A common market with coordination of macroeconomic policies (including common currency, harmonization of standards and regulations)
– United States
– Canada
– European Union members participating in the Euro currency zone
Table 2.3 Five Types of Regional Trade Agreements
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-21
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-22
TABLE 2.4 Prominent Regional Trade Blocs
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-23
TABLE 2.4 (continued) Prominent Regional Trade Blocs
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-24
TABLE 2.4 (continued) Prominent Regional Trade Blocs
Regional Trade Agreements and the WTO
• Since 1948, over 400 agreements have been listed with the WTO; 75% of those since 1995
• 225 of these agreements are still active (2008)
• The WTO and GATT allow RTAs, assuming they create more new trade than they destroy
- trade creation > trade diversion
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-25
For and Against RTAs
• The central economic question:
-Are RTAs supportive of gradual, long run increases in world trade (building blocks),
or
-Do they tend to become obstacles to further relaxation of trade barriers (stumbling blocks)?
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-26
For and Against RTAs (cont.)
• Proponents of RTAs view them as building blocks toward freer, more open, world trade
• Opponents view RTAs as undermining progress toward multilateral (worldwide) agreements
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-27
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-28
The Role of International Economic Institutions
• The primary difference between international institutions and national governments is that the former have limited enforcement power
• However, international institutions help provide order and reduce uncertainty
-Order and certainty are public—intangibles that are different from most goods and services
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-29
Definition of Public Goods
• Public goods are:– Nonexcludable: The normal price mechanism does not
work as a way of regulating access to them– Nonrival (or nondiminishable): They are not
diminished or reduced by consumption
• Private markets fail to supply public goods because of free riding: People have no incentive to pay for a public good because they cannot be excluded from its consumption even if they don’t pay
Maintaining Order and Reducing Uncertainty
• Two important functions of international economic institutions to reduce free riding are:
- Maintaining order in international economic relations
- Reducing uncertainty
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-30
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-31
TABLE 2.5 Four Examples of International Public Goods
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-32
Criticism of International Institutions
• International institutions receive three types of criticism
1. Sovereignty and Transparency-International institutions can violate national
sovereignty by imposing unwanted domestic economic policies
-Transparency concerns are based on questions about the mechanism with which decisions are made within an international institution
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-33
Criticism of International Institutions (cont.)
2. Ideology-Critics argue that the advise and technical assistance provided to developing countries are often a reflection of the biases and wishes of developed country wishes.
3. Implementation and adjustment costs-When agreements are reached that combine developed and developing countries, there are often asymmetries in the ability to absorb the costs associated with them that favor developed nations.
Copyright © 2011 Pearson Addison-Wesley. All rights reserved. 2-34