global economy

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Part IV: Regional Issues in the Global Economy

Regional Trade Agreements (RTAs) and ‘trade creatio n’ or ‘trade diversion’

1. Introduction

2. Political models of trade policy

2.1. The median voter theorem2.2. Collective action2.3. The actual trade policy is often based on a co mbination of both principles

3. International Trade Agreements

3.1. The advantages of negotiations3.2. International Trade Agreements: A Brief Histor y

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4. The General agreement on Tariffs and Trade (GATT)

4.1. Principles4.2. The Trade Rounds of the GATT

4.2.1. General4.2.1. The Uruguay Round

5. The World Trade Organisation (WTO)

5.1. The WTO prohibits5.2. The WTO members5.3. The agreements and the dispute settlement proc edure5.4. Operation of the WTO rounds (until now 1: the Doha Round)5.5. The Doha Round5.6. Data of the WTOs World Trade Report 2011 with re gard toworld trade 3


6. Regional (or preferential) trade agreements

6.1. What?6.2. Five types of Regional Trade Agreements6.3. Regional Trade Agreements in the world6.4. The evolution and importance of the RTAs the last 50 years6.5. For or against RTAs6.6. Influence of RTAs on national welfare

7. Conclusion

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Regional Trade Agreements (RTAs) and ‘trade creatio n’ or ‘trade diversion’ *

Reading (not compulsory):

Krugman, Obstfeld & Melitz, International Economics: Theory & Policy, 9th edition, 2012, Chapter 10: The Political Economy of Trade Policy, p. 249-285.

WTO, The World Trade Report 2011, 2011 (available online).

*: based on: Krugman, Obstfeld & Melitz, International Economics: Theory & Policy, 9th edition, 2012, Chapter 10: The Political Economy of Trade Policy, p. 249-285(Pearson addison Wesley) and WTO, The World Trade Report 2011.

Regional Trade Agreements (RTAs) and ‘trade creatio n’ or ‘diversion’

1. Introduction

� How are trade policies formed in reality?

� Politic models of a trade policy

� International Trade Agreements: history

� The GATT and the WTO

� Regional (or preferential) trade agreements

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2. Political models of trade policy

� In reality, a trade policy is often influenced by its effect on income, (i.e. the effects for individuals: consumers, producers, the government, certain political pressure groups, etc …) instead of the influences on the national welfare.

� Indeed, there is not something like thé ‘national welfare’.

� How should this be measured?� Do all individuals count equally in the calculation?� The government equals how many individuals?� Is there a reality without pressure groups that want topursue their own interests? No!

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� How is trade policy determined?� In reality, when the governments have to choose a certain trade

policy, they are often guided by their chances of guaranteeing their political success, rather than by the maximizing of national welfare.

� We look at three theories:

� The median voter theorem� Collective action � A model that combines aspects of collective action and the median

voter theorem

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2.1. The median voter theorem

� What policy do political parties follow?� Assume 2 parties� Each party wants to get elected (and thus get the majority of the

votes)� Each party has only 1 topic on the agenda it can use to win votes: the

size of the tariff.� The votes of people differ with regard to the tariff they prefer.� The tariff is represented on the vertical axis from small to large.� We will line up all the voters according to the tariff rate they prefer,

starting with those who favor the lowest rate.

� The median voter theorem predicts that democratic political parties pick their policies to court (win) the voter in the middle of the ideological spectrum (i.e. the median voter).� They want to gain the majority of the votes.� So both parties will opt for the same tariff. 9


Figure 1: The median voter theorem: Political competition

� What policies will the parties promise to follow?� Both parties will offer the same tariff policy to court (win) the

median voter (the voter in the middle of the spectrum) in order to capture the most votes.

10

� If party A chooses tA.What will party B chose?

Source: Krugman, Obstfeld (2012), International Economics, chapter 10, p. 260.


� Thus, the median voter theorem implies that a two-party democracy should enact a trade policy based on how many voters it can please. � A policy that inflicts large losses on a few people (the import-

competing producers) but that also inflicts benefits on a large number of people (the consumers) should be chosen.

� But a trade policy doesn’t follow this prediction.

� “Free trade helps everbody a little, while protection helps a few people a lot”.

� A trade policy will lead to large benefits for a small number of people and small losses for a large number of people .� E.g. the sugarquota in the US: the consumers each pay a few dollars a year. The small amount of producers gain each a lot fromprotection.

� So in the case of trade policy, this model leads almost always to wrong predictions.

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2.2. Collective action

� Mancur Olson described political activity as a public good that leads to a collective action problem: (see chapter 7)

� While consumers as a group have an incentive to advocate free trade, each individual consumer has no incentive because his benefit is not large compared to the cost and time required to advocate free trade.

� Policies that impose large losses for society as a whole but small losses on each individual may therefore not face strong opposition.

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� This problem of collective action can be nullified when the group is small enough (and as a consequence each number of the group will get large gains if the preferred policy is followed).

� This is what happens to groups that ask for the implementation or preservation of a trade policy.

� For groups who suffer large losses from free trade (for example, unemployment), each individual in that group has a strong incentive to advocate the policy he desires (i.e. protection).

� In this case, the cost and time required to advocate restricted trade is small compared to the gain (i.e. no unemployment).

� These kinds of interest groups will often try to ‘bargain’ their preferred policy.

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2.3. The actual trade policy is often based on a co mbination of both principles

� While politicians may win elections partly because they advocate popular policies as implied by the median voter theorem (= aiming at the policies this median voters want), they also require funds to run campaigns.

� These funds may especially come from groups who do not have a collective action problem and are willing to advocate a special interest policy in exchange for some money to fund the campaign.

� This way, politicians will often deviate from the popular policy of the median voter and opt for the interests of their sponsors, in exchange for large sums they can use for their campaigns.

� Models of trade restrictions try to measure the trade-off between the reduction in general welfare and the increase in campaign contributions from special interest groups.

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3. International Trade Agreements

3.1. The advantages of negotiations

� After rising sharply at the beginning of the 1930s, the average U.S. tariff rate has decreased substantially from the mid-1930s to 1998.

� E.g. in the USFigure 2: The tariffs in the US throughout time

15Source: Krugman, Obstfeld (2012), International Economics, chapter 10, p.264.


� How was this decrease in tariffs politically feasible?

� Through international negotiations: governments decided tomutually lower their tariff rates.

� This is better achievable through multilateral than throughunilateral negotations because:

� Multilateral negotiations mobilize exporters to support free trade if they believe export markets will expand.� This support would be lacking if it would be a unilateral

decision. � These exporters counteract partially or even completely

neutralise the practices of the importers that try tokeep/maintain a protection of trade (e.g. the sugarproducers in the US).

� Multilateral negotiations also help avoid a trade war between countries (= a ‘war’ where each country enacts trade restrictions as a response on the action of the other country). 16


� When can a trade war emerge?

� A trade war could result if each country has an incentive to apply some trade restrictions, independently of what the other countries will do.

� Then there will be a possibility that all countries will enact trade restrictions, even if it is in the interest of all countries to have free trade.

� So, countries need agreements to prevent a trade war or to eliminate the protection from one.

� Example:� 2 countries (US and Japan)� 2 possibilities (trade protection through some kind of restriction or

free trade)

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Table 2: The problem of trade wars

� Each country acting individually would be better of f with protection (20 > 10).

� Both countries would be better off if they both opt for free trade (10), than if both opt for protection (–5).

� This is an example of a Prisoner’s Dilemma.

18Source: Krugman, Obstfeld (2012), International Economics, chapter 10 p. 265.


� If Japan and the U.S. can establish a binding agreement to maintain free trade, both can avoid the temptation of protection and both can be made better off (10 > -5).

� Or if the damage has already been done, both countries can agree to return to free trade.

� In reality, there are more than two countries and more than two possibilities. E.g. it is possible to apply free trade in general, and protection for some well defined industries.

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3.2. International Trade Agreements: A Brief Histor y

� In 1930, the United States passed the Hawley-Smoot Tariff Act.

� This was a remarkably irresponsible tariff law.� Tariff rates rose steeply (even to 60 %), tariffs were put on more than

12 000 products and the U.S. trade fell sharply.

� Other countries reacted (trade war) by increasing their own tariffs.

� This resulted in the Great Depression of the 1920s-1930s.

= ‘beggar-your-neighbour policies’ = competitive devaluations and high tariffs in order to shift theireconomic problems onto other countries.

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� This led to an almost total collapse of the international tradingsystem.

� The impact of this policy can be illustrated through the spider web spiral.

- This measures the size of the worldimport per month bylooking at the distance to the origin.

- In a period of only four years time, world trade flowsdecreased to 1/3th of their previous level.

Regional Trade Agreements (RTAs) and ‘trade creation’ or ‘diversion’

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Figure 3: The spider web spiral: the size of the world import from 75 countries in millions US dollars during the Great Depression (January 1929 to March 1933)

Source: Van Marrewijk, Nations and firms in the Global economy, p. 179


January

March

February

November

December

June

May

April

September

August

July

October

1929

1930

1931

1932

1933

1929

1930

1932

1931

1933

2998

2739

1839

1206

992

january


� We had to get out of the Great Depression, but how?

� Aim: to get rid off (or lower) the very high tariffs that had nearly liquidated all world trade.

� Initial attempts to reduce tariff rates were undertaken through bilateral trade negotiations: � E.g. the U.S. offered to lower tariffs on some imports coming from

country X if country X would lower its tariffs on some U.S. exports.

� Bilateral negotiations, however, do not take the full advantage of international coordination.� Benefits can “spill over” to countries that have not made any

concessions.

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� Afterwards, since 1944, much of the reduction in tariffs and other trade restrictions has come about through international negotiations (multilateral trade negotiations).

� The allies wanted an International Trade Organisation (ITO) that had to guide these negotations. However, this organisationwas never introduced.

� In 1947 23 countries started trade negotiations that would lead tothe General Agreements on Tariffs and Trade (GATT ).� It was begun as a provisional international agreement.

� It was replaced by a more formal international institution called the World Trade Organization in 1995 (during the Uruguay Round).

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� Documentary: ‘The Routes of Trade’

� What is trade? Where does the WTO fit into it? � “The Routes of Trade” looks at the origins of trade and the role of

the WTO within the international trading community.� http://www.youtube.com/watch?v=6dErtHD87U4

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4. The General agreement on Tariffs and Trade (GATT)

4.1. Principles

� See chapter 2� The GATT (and now the WTO) was (is) 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.

� This is a prohibition on discrimination. � What with the recent trade agreements such as NAFTA under the

WTO?� In theory, the WTO permits such agreements as long as they

do not harm the overall level of international trade. � In practice, the WTO has never challenged the validity of a

trade agreement between member countries. 26

4.2. The Trade Rounds of the GATT

4.2.1. General (see chapter 2)� The GATT (now WTO) continued trade talks and sector-specific

discussions in comprehensive rounds of negotiations. � until now there have been 8 rounds of negotiations under the GATT

(They are all completed). Under the WTO, there is the Doha round which is still in progress.

Table 3: The GATT/WTO Rounds

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Source: Gerber, International Economics, p. 23.


Figure 4: Length of the GATT/WTO Rounds and the number of participating countries

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WTO/GATT negotiation rounds

0

20

40

60

80

100

120

0 30 60 90 120 150number of participants

dura

tion

(mon

ths)

predicted duration of Doha round

Annecy

Kennedy

Dillon

Geneva II

Torquay

Geneva

Uruguay

Tokyo

regression line

Source: Van Marrewijk, International Economics(2007), p. 244.



4.2.2. The Uruguay Round

� The Uruguay Round was ratified in 1994:

� Tariffs went down worldwide by 40 %. However, the tariffs were already relatively low, so this 40 % decrease was not that big. E.g. the average tariff fell from 6.3 to 3,9 %, and was only responsible for a small increase in world trade.

� All quantitative restrictions (like e.g. quota’s) on the trade in textile and apparel (clothing) – as previously specified in the Multi-Fiber Agreement (MFA) – were to be eliminated by the year 2005.

� It were exactly these products that were politically sensitive in the US(cf. chapter 7).

� However, the quotas on imports of textile and apparel, coming from China, had to be temporarily reimposed, as a result of the huge amounts of imports of these goods when the MFA expired.

� These new importquota’s have to disappear by 2013.

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� The exportsubsidies for agricultural products had to be phased out.

� This Round established the WTO.

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5. The World Trade Organisation (WTO)

5.1. The WTO prohibits:

� Exportsubsidies:Except for agricultural products

� Import quotas:Except if these are used as a means against market disruption(e.g. the sudden surge in imports of a certain product).

� Tariffs:Each tariff or each increase in tariffs has to be abolished by a decrease in other tariffs to compensate the affected exportingcountries.

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5.2. The WTO members: Figure 5: WTO members� 160 members (25 June 2014)

Source: WTO website, 26th October 2014 32

What is a WTO observer?


33Source: WTO website, 26th October 2014

WTO members


40

Observergovernments

Source: WTO website, 26th October 2014


Figure 6: Composition of geographical regions� The composition of the WTO in different regions (these are used

when making the statistics, etc.)

Source: WTO, International Trade Statistics 2011, p. 182.41


“WTO members are frequently referred to as “countries”, althoughsome members are not countries in the usual sense of the word butare officially “customs territories”.

The WTO reports divide the world into 7 regions:- North America- South and Central America and the Caribbean (in short: South

and Central America)- Europe- Commonwealth of Independent States- Africa- Middle East- Asia

Source: WTO, International Trade Statistics 2011, p. 182.42


5.3. The agreements and the dispute settlement proc edure

� The World Trade Organization is based on a number of agreements:

� Trade in goods(General Agreement on Tariffs and Trade)

� Trade in services

(e.g. insurance, consulting, legal services, banking).

(General Agreement on Tariffs and Services)

� Trade in international property rights (e.g. patents and copyrights)

(Agreement on Trade Related Aspects of Intellectual Property Rights (TRIPS))

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� Documentary: ‘TRIPS and health’

� Does the TRIPS agreement strike the right balance?� What about the availability of e.g. pharmaceuticals?� The speakers Celine Charveriat, head of Oxfam’s advocacy

office in Geneva and Harvey Bale, Director General of the International Federation of Pharmaceutical Manufacturers Association discuss whether the TRIPS agreement strikes the right balance between the rights of governments and the rights of patent holders. The moderator is WTO spokesperson Keith Rockwell.

� http://www.youtube.com/watch?v=FGwPiKxmpDI&feature=related

� �� What is the good thing with TRIPS?� �� What is the problem of TRIPS with regard to access to

medicines?� �� Possible solutions?

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� The dispute settlement procedure:

� a formal procedure where countries in a trade dispute can bring their case to a panel of WTO experts to rule upon.

� The panel decides whether member countries are breaking their agreements.

� A country that refuses to adhere to the panel’s decision may be punished by the WTO allowing other countries to impose trade restrictions on its exports.

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5.4. Operation of the WTO rounds (until now 1: the Doha Round)

� The WTO negotiations address trade restrictions in at least 3 ways:

1. Reducing tariff rates through multilateral negotiations.2. Binding tariff rates:

A tariff is “bound” by having the imposing country agree not to raise it in the future.

3. Eliminating nontariff barriers:

Quotas are changed to tariffs because the costs of tariff protection are more apparent and easier to negotiate.

- Subsidies for agricultural exports are an exception.

- Exceptions are also allowed for “market disruptions” caused by a surge in imports.

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5.5. The Doha Round

� In 2001 another round of trade negotiations was started in Doha, Qatar, but these negotiations have not yet produced an agreement.

� The Doha ronde: why is this (still) not a success?� The focus is on trade issues that are important for developing

countries.� The tariffs have already been decreased a lot. Most of the remaining

forms of protection are in agriculture, textiles, and clothing, industries that are politically well organized in the developed world (especiallyin the US, the EU and Japan).

Table 4: Percentage Distribution of Potential Gains from Free Trade

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Source: Krugman (2012), International Economics, chapter 10, p. 273.


� Are export subsidies for agricultural products in rich countries bad for poor countries?

� Exportsubsidies lower the world price of products..� The estimated positive gains of a positive Doha decision (i.e. the

abolition of the still existing export subsidies for agricultural productsin industrialized countries) are small and even negative for somecountries (eg. for China this would give a loss of -0,02).� Why?: see chapter 6.

Table: Gains in terms of percentages of two possible Doha scenarios

48Source: Krugman (2012), International Economics, chapter 10, p. 274.


5.6. Data of the WTOs World Trade Report 2011 with re gard toworld tradeFigure 7: Economies by size of merchandise trade in the world, 2010

- The top three traders(US, Germany andChina) represent 28% of world merchandise trade.

- Asia accounts foralmost 30% of worldmerchandise trade.

- No African country exceeded US$ 250 billion of merchandise trade in 2010 (which is low). 49

Source: WTO, International Trade Statistics 2011, p. 9.

Regional Trade Agreements (RTAs) and ‘trade creatio n’ or ‘diversion’on

Figure 8: Economies by size of trade in commercial services in the world, 2010

- The US,Germany, UK, China and Japanrepresent 33 %of world trade incommercial services.

- Europe accounts for45% of total trade incommercial services.

- Only 2 countries inAfrica exceededUS$ 25 billion ofcommercial servicestrade in 2010(which is very, very low).

50Source: WTO, International Trade Statistics 2011, p. 10.


� Documentary: ‘WTO and Business’

� What does the WTO mean for Business? What can business do for the WTO?

� With the increasing interdependence of global industries and rapidly shifting trade patterns, businesses need global rules and an effective multilateral rule-based trade system. The WTO provides this, increasing stability, predictability, market access and information in the trade system.

� http://www.youtube.com/watch?v=095_8rcAw4I

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6. Regional (Preferential) Trade Agreements

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Source: WTO, The World Trade Report 2011, p. 1.


� “The rapid increase in preferential trade agreements (PTAs) hasbeen a prominent feature of international trade policy in recenttimes.”

� “PTAs constitute an exception to the general most-favoured nation(MFN) provision of the WTO, whereby all WTO members imposeon each other the same nondiscriminatory tariff.”

� “With the exception of Mongolia, all WTO members are party to atleast one PTA. Interest in negotiating PTAs appears to have beensustained despite the global economic crisis.� “Indeed, the economic crisis itself may be spurring

governments to negotiate new PTAs as much to preserveexisting openness in the face of political pressure to reduceaccess as to generate new openness.”

� “The explosion of PTAs has triggered a parallel eruption ofresearch on the subject.”

53Source: WTO, The World Trade Report 2011, p. 43.


6.1. What?

� For the GATT/ WTO: “Each member state is equal to the law”.� e.g. if a tariff is decreased, it is decreased for all countries that want

to import.

� However, there exists also regional economic integration (RTA’s = regional trade agreements = PTA’s = Preferential Trade Agreements ) � e.g. a customs-union and a free trade agreement (see chapter 2).� trade agreements between countries in which they e.g. lower tariffs

for each other but not for the rest of the world.

� Aim? Make trade free between a limited number of states throughmeans of preferential trade agreements.

= e.g. a decrease or abolishment of some tariffs within the union, but not for the rest of the world.

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6.2. Five types of Regional Trade Agreements

� � see chapter 2:

� Regional trade agreements are bilateral (two countries) or multilateral/plurilateral (several countries).

� Regional trade agreements can be classified into one of five categories:

� Each level is cumulative and incorporates the features of the previous level.

� In reality, however, actual trade agreements usually combine elements from a couple of the categories.


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Table 5: Five types of regional trade agreements



� See chapter 2.


� Under the WTO, such discriminatory trade policies are generally not allowed:

� Each country in the WTO promises that all countries will pay tariffs no higher than the nation that pays the lowest tariff: called the “most favored nation” (MFN) principle.

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� An exception is allowed only if the lowest tariff rate is set at zero.

� There are different types of preferential trading agreements in which tariff rates can be set at or near zero:

1. A free trade area : - free trade among members, but each member can have its own trade policy towards non-member countries (e.g. NAFTA).

2. A customs union : - free trade among members and requires a common external trade policy towards non-member countries (e.g. MERCOSUR).

3. A common market :- a CU plus free mobility of factors of production, such as labor and capital (e.g. European Union).

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� These RTA’s (PTA’s) can lead to trade creation (+) or trade diversion (-)

� See further …

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6.3. Regional Trade Agreements in the world

Figure 9: Economic integration in the world

Stages of economic integration around the World:= Prominent Preferential Trade Agreements(each country colored according to the most advanced agreement it participates in.)Source: wikipedia: Economic integration stages, 9/11/11.


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� The different types of regional trade agreements:

Economic and monetary union (CSME/EC$, EU/€)

Economic union (CSME, EU)

Customs and Monetary Union (CEMAC/franc, UEMOA/franc)

Common market (EEA, EFTA)

Customs union (CAN, CUBKR, EAC, EUCU, MERCOSUR, SACU)

Multilateral Free Trade Area (AFTA, CEFTA, COMESA, GAFTA, GCC, NAFTA, SAFTA, SICA, TPP)

� The colours:

dark green – EMU

light green - economic union

blue - customs and monetary union

brown - common market

orange - customs union

red - multilateral FTA


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� Prominent regional Trade agreements

Table 6.: Prominent Regional Trade Agreements / Trade Blocs

1.) Africa

1.) Africa



Figure 10: COMESA(Common Market for Eastern and Southern Africa,1993) COMESA members not listed on the map: Comoros, Mauritius, Rwanda, and Seychells

MadagascarZimbabw e

Zambia

Namibia

Angola

ZaireUganda Kenya

Ethiopia

Sudan

Egypt


Source: Van Marrewijk, International Economics, p. 273.

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2.) Asia



APEC (Asia-Pacific Economic Cooperation): Asiatic countries and countries with borders to the Pacific OceanCurrently 21 members (° 1989).� So it are not only Asiatic countries.� So ranked under ‘Asia’?

Association of Southeast Asian Nations

Figure 11: ASEAN countries (Association of Southeast Asian Nations)ASEAN members not listed on the map: Brunei Darussalam and Singapore

Cambodia

Philippines

Malaysia

Indonesia

IndonesiaIndonesia

Malaysia

Indonesia

Thailand

Viet Nam

Lao PDRMyanmar



Figure 12: APEC (Asia-Pacific Economic Cooperation): Asiatic countries and countries with borders to the Pacific OceanCurrently 21 members (° 1989).


67

3.) Europe



Figure.: Members of the EU, November, 30, 2013: 28 members (Croatia on 1 july 2013))

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Candidate member statesAlbania,(Iceland), Macedonia, Montenegro, Serbia, Turkey

Potential member states:Bosnia andHerzegovinaKosovo

Source: wikipedia



Figure 13: the European Union


28 member states

28 member states

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4.) Middle-East

Trade agreement aiming for economic and some sort of future political unity in North Africa between the countries Morocco, Algeria, Tunisia, Libya, and Mauritania.The term "Arab Maghreb Union" is considered Arab-centric, as it does not recognize the Berber population present in all 5 nations.The union is currently inactive and frozen, due to deep political disagreements between Morocco and Algeria.� So ranked under ‘Middle East’?



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5.) North and South America


Source: Gerber, International Economics, p. 25.Mercado Común del Sur

Figure 14:Preferential trade agreements in America

Argentina

Brazil

Boliv ia

Peru

Venezuela

Colombia

Mexico

United States

Canada

RTAs in AmericaNAFTA (3)CARICOM (13)CACM (5)ANDEAN (5)MERCOSUR (4)




6.4. The evolution and importance of the RTAs the last 50 years

� The importance of PTA’s in 2010?



� How did the RTAs evolve between 1950 and 2010?

1.) The level of development of the participating countries:(= participation of which kind of countries?: developed or developing countries only or of both developed and developingcountries?)

2.) The geographical coverage: Intra- or cross-regional RTAs?:(intra- or cross-regional RTAs) within/across regions, e.g. Asia (East, West, Oceania), the Americas (North, South, Central,Caribbean), Europe, Middle East, Africa and the Commonwealth of Independent States (CIS)

3.) The number of countries involved:(bilateral, multilateral RTAs or RTAs between regional blocs or between a regional blaock and an independent, new country)

4.) The degree of market integration: What type of RTA agreement (e.g. FTA, customs union) and what coverage (e.g. goods, services, etc)?

75Source: WTO, The World Trade Report 2011, p. 47-86.


1.) The level of development of the participating countries : � The cumulative number of RTAs by country group (1950-2010)

Figure 15: Cumulative number of PTAs in force, 1950-2010, notified and non-notified PTA’s by country group



� The Average number of RTAs in force per country (1950-2010)

Figure 16: Average number of PTAs in force per country,1950-2010,notified and non-notified PTAs

77Source: WTO, The World Trade Report 2011, p.55.


� The amount of participation in RTAs for countries/regions in the world

Figure 17: Membership in PTAs in force, 2010, notified and non-notified PTAs, by country


30

26

2110

12

13


2.) The geographical coverage: Intra- or cross-regional RTAs (1950-2010)?:

� In the literature the term “regional trade agreements” (RTAs) equals the term “preferential trade agreements” (PTAs).

� However, today half of the RTAs are not strictly “regional”, because they often also contain countries from other geographic regions.

� 10 years ago the activities within 1 region were still dominant.

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Figure 18: number of intra- and cross-regional PTAs in force, 1950-2010, notified and non-notified PTAs



� This trend towards a broader geographical scope of the RTAs is even more noticeable for the most recent RTAs.

� The increase in the number of those cross-regional RTA’s could mean that within certain regions the other types of trade agreements have already been exhausted.

� However, only seldom these cross-regional agreements contain countries from more than two regions.

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3.) The number of countries involved:

� RTAs are bilateral, multilateral (plurilateral) of take place between regional blocs or between a regional block and an independent, new country.

� Currently, there are two trends:

1.) In comparison with ten years ago, there are the last years many RTAs that make an agreement with an independent country or that include an independent country in their RTA.

� Their number has doubled in ten years time.

� E.g. the successive accessions to the EU or the RTA between MERCOSUR and the ANCOM in the so-called Latin American Integration Agreement framework.

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Figure 19: Cumulative number of bilateral PTAs and types of plurilateralPTAs in force, 1950-2010, notified and non-notified PTAs



� This evolution from RTAs that include a new member (in whatever way) takes primarily place in agreements between developing countries and developed countries or in agreements between developed countries. � Look at the percentage shares in the total number of RTAs.

� developed-developing: 41 multilateral with an extra member on 76 = 54%�developed-developed: 8 multilateral with an extra member on 23 = 35%

� This evolution happened much less in agreements between developing countries:

� developing-developing: 18 multilateral with an extra member on 189 = 9%

Table 7: Number of bilateral PTAs and types of plurilateral PTAs in force, 2010, notified and non-notified PTAs, by country group and regional type



� Between developed countries most agreements ate multilateral.

� Between developing countries most agreements are bilateral.

2.) The last 20 years the number of bilateral RTAs has increased strongly on the world level.

� The cross-regional RTAs are mostly bilateral (89 on 142 or 63 %).

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4.) The degree of market integration (1950-2010):

� What type of RTA agreement?

� The five types of regional trade agreements occur.

� If countries have to choose between a free trade agreement (FTA) or a customs union (CU), they opt for the first.

� Why?

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� What coverage (e.g. goods, services, etc)?� The most recent RTAs not only aim at the traditional decrease in the

tariffs on goods.� The treatment of services (in general or on e.g. intellectual property

rights) become more important in the RTAs of the last decades.Figure 20: Cumulative number of PTAs, 1950-2010, notified and non-notified PTAs, by scope of coverage


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6.5. For and Against RTAs

� See chapter 2:

� The central economic question is :

� Are RTAs supportive of gradual, long run increases in world trade (building blocks or stepping stones )?

or� Do they tend to become obstacles to further relaxation of trade

barriers (stumbling blocks )?

� Proponents of RTAs view them as building blocks toward freer, more open, world trade, and this for several reasons (see book).

� Opponents view RTAs as undermining progress toward multilateral (worldwide) agreements, and this for several reasons (see book).



6.6. Influence of RTAs on national welfare?

� Are RTAs necessarily good for national welfare?

� No, it is possible that national welfare decreases under a preferential trading agreement.

� Why?: because there is trade creation versus trade diversion.

� ‘Trade creation ’:“Trade creation takes place when – after the formation of an economic union – the cost of the goods considered is decreased, leading to an increase of efficiency of economic integration.”

“The replacement of expensive domestic production orexpensive imports from a non-member country by cheaperimports from a low-cost member of the RTA.”

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� ‘Trade diversion ’:“With trade diversion trade is diverted from a more efficient producer towards a less efficient one by the formation of a trade agreement or customs union.”“Occurs when low-cost imports from a non-member arediverted to / replaced by high-cost imports from a membernation (member of the RTA).”

� It is possible that country X signs an RTA with country Y that produces a certain good under high costs.

� Thanks to the RTA the good from Y can be more cheaply imported into country X than the good coming from country Z (i.e. the country with the lowest producing costs, that has to pay some kind of trade restriction that country Y doesn’t have to pay)

� So, wth the RTA the good will be imported from a member country that produces the good under higher costs instead of from the cheapest producer.

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� “Regional/Preferential trading agreements increase nati onalwelfare when new trade is created, but not when existing chea ptrade from the outside world is diverted to more costly trade withmember countries.”

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� Example:

� 3 countries: UK (UK), France (F) and New Zealand (NZ)

� Initially: a tariff in the UK on goods coming from France (pF + t) and coming from New Zealand (pNZ+t).

� This tariff is the same for F and NZ.

� Assume: the UK is a small country that cannot influence the worldprice.

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� A new RTA between the UK and France.

� Will this RTA lead to trade cration of trade diversion?

� Two possible situations:

� France is the most efficient producer(� the RTA will lead to trade creation: slides 84-85).

or

� New Zealand is the most efficient producer(� the RTA will lead trade diversion: slides 86-87).

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Figure: France is the most efficient producer� E.g. w.r.t. wine production� Compare situation beforeand with the RTA

� Before the RTA?

� With the RTA?

� E+G� ( + )

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quantity

demand

supply

price

pC

pB

pB+t

pC+ttariff

tariff

q0 q1 q4q3

imports after customs union

imports before customs union

= decrease producer surplus

= net gain

= increase consumer surplus

= decrease government revenue

D

E

F

G

EE

DD

FF

GG+

DD

EE

FF

GG

quantity

demand

supply

price

pC

pB

pB+t

pC+ttariff

tariff

q0 q1 q4q3




= net gain



DD

EE

FF

GG

EE

DD

FF

GG+

DD

EE

FF

GG

pFr.

pNZ

pFr,+t

pNZ,+t


� France is the most efficient producer: only trade creation (+)

� Increase in imports

� The reverse effect of a tariff (decrease PS, increase CS, decrease income government).

� Welfare effect: (D+E+F+G) - D - F = E+G

� E + G = positive: trade creation leads to a positive welfare effect.

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Figure: New Zealand is theMost efficient producer� E.g. production of lambmeat� Compare situation beforeand with the RTA

� Before the RTA?

� With the RTA?

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quantity

demand

supply

price

pB

pC

pC+t

pB+ttariff

tariff

q0 q1 q4q3




= net gain; possible loss



D E G

EE

DD

GG+

DD

EE

FF

GG

F1

F2

F1

F2F2-

F1

F2

F1

F2F2

quantity

demand

supply

price

pB

pC

pC+t

pB+ttariff

tariff

q0 q1 q4q3




= net gain; possible loss



D E G

EE

DD

GG+

DD

EE

FF

GG

F1

F2

F1

F2F2

F1

F2F2-

F1

F2

F1

F2F2

pFr.

pNZ

pFr,+t

pNZ,+t


� NZ is the most efficient producer

� Increase in imports

� But this import no longer comes from the cheapest producer.

� Welfare effect: (D+E+F1+G) - D - (F1+F2) = E+G-F2

� The end result is dependent on the size of both effects: whicheffect is the biggest?: E + G or F2:

� E+G > F2 � ( + )� E+G < F2 � ( - )� So trade diversion can lead to a positive or negative welfare

effect.

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Regionale Handelsakkoorden (RTA’s) en ‘trade creati on’ of ‘diversion’

� In this simplistic example we looked at an RTA between 2 countries and with regard to 1 market (1 good).

� In reality an RTA very often covers mutliple countries and multiple markets (multiple goods).

� How do we have to measure the aggregated welfare effect of anRTA?� In some import markets there will be trade creation, in others

trade diversion.� All the effects of the RTA on the different countries and the

different markets have to be added together:� “If the postive effects from trade creation are larger

than the negative effects from trade diversion, then the PTA will improve national welfare.”

or� “If a PTA causes more trade creation than trade

diversion, then the PTA is welfare improving”.

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� So RTAs can be a first step towards free trade, but they don’t meanautomatically a welfare improvement.

� If trade creation: � ( + )

� If trade diversion: � ( + ) or ( - ):

� Is the RTA a ‘stumbling block’ or a ‘stepping stone’?� This depends on which effect is the biggest: E + G or F2.

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7. Conclusion

� Models of trade policy choice consider the incentives politicians face given their desire to be reelected, and the tendency for groups that gain from protection to be better organized than consumers who lose.

� Multilateral negotiations of free trade may mobilize domestic political support for free trade, as well as make countries agree not to engage in a trade war.

� The WTO and its predecessor (the GATT) have reduced tariffs substantially in the last 50 years, and the WTO has a dispute settlement procedure for trade disputes.

� A regional (or preferential) trading agreement (RTA or PTA) is beneficial for a country if it creates new trade but is harmful if it diverts existing trade to higher-cost alternatives.

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