John Buco Colegio de Jimenez, Inc

Dicoloc, Jimenez, Misamis Occidental, Philippine

Subject: INTERNATIONAL TRADE AND AGREEMENTS

Topic: Week 8: Regional Trade Agreements
Prepared by: Danica J. Dagpin, MBA

Introduction:
Regional trading agreements refer to a treaty that is signed by two or more countries to
encourage the free movement of goods and services across the borders of its members. The
agreement comes with internal rules that member countries follow among themselves. When
dealing with non-member countries, there are external rules in place that the members adhere to.

Regional trade agreements (RTAs) can be a useful tool in promoting growth.1 RTAs structure
trade in a way that can increase domestic productive capacity, promote upward harmonization of
standards, improve institutions, introduce technical know-how into the domestic market and
increase preferential access to desirable markets. These are outcomes that could benefit
developing economies in general and particularly the least developed countries (LDCs) and other
low-income countries. However, most studies of regional integration agreements show that, on
average, low-income countries benefit less (see for example Ariyasajjakorn et al., 2009;
Feenstra, 1996).

Despite the relatively low benefits for LDCs, every country in the LDC category is a member of
at least one RTA. The agreements range from partial scope agreements to economic integration
agreements targeting political union. Most RTAs involving LDCs are South–South agreements
(figure 1), which are generally poorly implemented and not known to be particularly beneficial
for the industrialization of partner countries. There is also an increasing, albeit small, number of
agreements in which LDCs are part of North–South agreements (for example the European
Union-Caribbean Forum (CARIFORUM) Economic Partnership Agreement). The expected
impact of LDC participation in North–South agreements is larger, but few studies have sought to
quantify the impact.

Benefits of Regional Trading Agreements

1. Boost Economic Growth

Member countries benefit from trade agreements, particularly in the form of generation of
more job opportunities, lower unemployment rates, and market expansions. Also, since
trade agreements usually come with investment guarantees, investors who want to invest
in developing countries are protected against political risk.
 2. Volume of Trade
Businesses in member countries enjoy greater incentives to trade in new markets, thanks
to attractive trading conditions due to the policies included in the agreements.

3. Quality and Variety of Good

Trade agreements open a lot of doors for businesses. As they gain access to new markets,
the competition becomes more intense. The increased competition compels businesses to
produce higher-quality products. It also leads to more variety for consumers. When there
is a wide variety of high-quality products, businesses can improve customer satisfaction.

Types of Regional Trade Agreements: FTAs, Customs Unions, Common Markets, Economic
Unions
1. Free Trade Agreements
A free trade agreement is an agreement between two or more nations to reduce barriers to
imports and exports among them. Under a free trade policy, goods and services can be bought
and sold across international borders with little or no government tariffs, quotas, subsidies, or
prohibitions to inhibit their exchange.

How a Free Trade Agreement (FTA) Works?

In the modern world, free trade policy is often implemented by means of a formal and
mutual agreement of the nations involved. However, a free-trade policy may simply be the
absence of any trade restrictions.
A government doesn't need to take specific action to promote free trade. This hands-off
stance is referred to as “laissez-faire trade” or trade liberalization.

Laissez-faire is an economic theory dating back to the 18th century that opposes any
government intervention in business affairs. The driving principle behind laissez-faire
economics is that the less the government is involved in the economy, the better off business,
and society as a whole, will be.

Governments with free-trade policies or agreements in place do not necessarily abandon all
control of imports and exports or eliminate all protectionist policies. In modern international
trade, few free trade agreements (FTAs) result in completely free trade.

For example, a nation might allow free trade with another nation, with exceptions that forbid the
import of specific drugs not approved by its regulators, animals that have not been vaccinated,
or processed foods that do not meet its standards.
It might also have policies in place that exempt specific products from tariff-free status in order
to protect home producers from foreign competition in their industries.
Free Trade Pros and Cons
Pros
 Allows consumers to access the cheapest goods on the world market.
 Allows countries with relatively cheap labor or resources to benefit from foreign
exports.
 Under Ricardo's theory, countries can produce more goods collectively by trading on
their respective advantages.
Cons
 Competition with foreign exports may cause local unemployment and business failures.
 Industries may relocate to jurisdictions with lax regulations, causing environmental
damage or abusive labor practices.
 Countries may become reliant on the global market for key goods, leaving them at a
strategic disadvantage in times of crisis.

2. Customs Union
A customs union is an agreement between two or more neighboring countries to remove
trade barriers, reduce or abolish customs duty, and eliminate quotas. Such unions were defined
by the General Agreement on Tariffs and Trade (GATT) and are the third stage of economic
integration.
Unlike in free trade agreements, a common external tariff is imposed on non-members of
the union. When countries outside the union trade with countries in the customs union, they need
to make a single payment (duty fee) for the goods that have crossed the border. Once inside the
union, they can trade freely with no added tariffs.

Purpose of Customs Unions

The purpose of a customs union is to make it easier for member countries to trade freely with
each other. The union reduces the administrative and financial burden of barrier trading and
fosters economic cooperation among nations. However, member countries are not given the
freedom to form their own trade deals. The countries in the customs union usually restructure
their domestic economy and economic policies in order to maximize their gain from membership
in the union. The European Union is the largest customs union in the world in terms of the
economic output of its members. A customs union generates trade creation and diversion that
helps with economic integration. Below are the advantages and disadvantages of customs unions.

Advantages of Custom Unions

 Increase in trade flows and economic integration

The main effect of a free-trade agreement is that it increases trade between
member countries. It helps improve the allocation of scarce resources that satisfy the
 wants and needs of consumers and boosts foreign direct investment (FDI). Customs
unions lead to better economic integration and political cooperation between nations and
the creation of a common market, monetary union, and fiscal union.

 Trade creation and trade diversion

The effectiveness of a customs union is measured in terms of trade creation and
trade diversion. Trade creation occurs when the more efficient members of the union sell
to less efficient members, leading to a better allocation of resources. Trade diversion
occurs when efficient non-member countries sell fewer goods to member countries
because of external tariffs. It gives less efficient countries in the union the opportunity to
capitalize on their position and sell more goods within the union. If the gains from trade
creation exceed the losses from trade diversion, that leads to increased economic welfare
among member countries.

 Reduces trade deflection

One of the main reasons a customs union is favored over a free trade agreement is
because the former solves the problem of trade deflection. This occurs when a non-
member country sells its goods to a low-tariff FTA (free trade agreement) country, which
then resells to a high-tariff FTA country, leading to trade distortions. The presence of a
common external tariff in customs unions helps avoid problems that arise from tariff
differentials.

Disadvantages of Customs Unions

Along with the advantages, customs unions also come with a few drawbacks:

 Loss of economic sovereignty

Members of a customs union are required to negotiate with non-member countries
and organizations such as the WTO. This is necessary to maintain a customs union;
however, it also means that individual member countries are not free to negotiate their
own deals. If a country wants to protect an infant industry in its market, it is unable to do
so by imposing tariffs or other protective barriers due to the liberal trading policies.
Similarly, if a country wants to liberalize its trade outside the union, it is unable to do this
due to the common external tariff.

 Distribution of tariff revenues

Some countries in the union do not receive a fair share of tariff revenues. This is
common among countries like the UK that trade relatively more with countries outside
the union. Around 20%-25% of the tariff revenue is retained by the member who collects
the revenue. It is estimated that the cost of collecting this revenue exceeds the actual
revenue collected.
  Complexity of setting the tariff rate
A common problem faced by customs unions is the complexity of setting the
applicable tariff rate. The process is very costly and time-consuming. Member countries
often find it hard to forgo the trade of certain goods or services because another country
in the union is producing it more efficiently.

3. Common Market
A common market is a formal agreement where a group is formed amongst several
countries that adopt a common external tariff. In a common market, countries also allow free
trade and free movement of labor and capital among the members of the group. The trade
arrangement is aimed at providing improved economic benefits to all the members of the
common market.
The most famous example of a common market is the European Common Market, which aims to
provide the free movement of goods, capital, services, and labor within the European Union.

Conditions Required to be Defined as a Common Market

To be defined as a common market, the following conditions must be satisfied:

1. Tariffs, quotas, and all barriers regarding importing and exporting goods and services
among members of the common market are eliminated.
2. Common trade restrictions such as tariffs on countries outside the group are adopted by
all members.
3. Production factors such as labor and capital are able to move freely without restriction
among member countries.
If one of the conditions is not satisfied, the resulting market is not a common market. For
example, if production factors such as labor and capital are not able to move freely without
restriction among member countries, then the arrangement would instead be defined as a customs
union.

Benefits of a Common Market

 Free movement of people, goods, services, and capital
In addition to the removal of tariffs among member countries, the key benefits of a common
market include the free movement of people, goods, services, and capital. Therefore, a common
market is often regarded as a “single market” as it allows the free movement of production
factors without the obstruction created by national borders.

 Efficiency in production
For an economy, a common market facilitates efficiency among members – factors of production
become more efficiently allocated, resulting in stronger economic growth. As the market
becomes more efficient, inefficient companies eventually shut down due to intense competition.
Companies that remain typically benefit from economies of scale and increased profitability, and
innovate more to compete in a more intensely competitive landscape.

Costs of a Common Market

 Less competitive countries may suffer
The transition to a common market comes with a few drawbacks. For one, companies that have
previously been protected and subsidized by the government may struggle to remain afloat in a
more competitive landscape. The migration of production factors to other countries may hinder
the economic growth of the country and lead to increased unemployment.
 Trade diversion
Trade diversion occurs when efficient non-members are crowded out of the common market.
Furthermore, a country may exhibit depressed wages if it faces an influx of migration of
production factors where supply exceeds demand.

4. Economic Union
An economic union is one of the different types of trade blocs. It refers to an agreement
between countries that allows products, services, and workers to cross borders freely. The union
is aimed at eliminating internal trade barriers between the member countries, with the goal of
economically benefitting all the member countries.

Economic Union vs. Customs Union

An economic union is different from a customs union since, in the latter, member countries
are allowed to move goods across borders, but they do not share a currency. They are also not
allowed to move workers across borders freely.

An economic union is the last step in the process of economic integration, after free trade
area, customs union, and common market.

North American Free Trade Agreement (NAFTA) / United States-Mexico-Canada Agreement

(USMCA)

The North American Free Trade Agreement (NAFTA) was implemented to promote trade
between the U.S., Canada, and Mexico. The agreement, which eliminated most tariffs on trade
between the three countries, went into effect on Jan. 1, 1994. Numerous tariffs,
particularly those related to agricultural products, textiles, and automobiles, were gradually
phased out through Jan. 1, 2008. NAFTA was terminated and replaced by the United States-
Mexico-Canada Agreement (USMCA) in 2020.

The USMCA is a free trade agreement between the United States, Mexico, and Canada. The
deal, which was proposed by the Trump administration and signed on Nov. 30, 2018, went into
effect on July 1, 2020. It replaced NAFTA, which was also a free trade agreement between the
three nations. It is meant to be "mutually beneficial for North American workers, farmers,
ranchers, and businesses."

There are 34 chapters to the USMCA as well as a dozen side letters. The majority of NAFTA's
chapters remain, with certain exceptions. As part of the deal, the three nations also agreed to
changes to the original text. These amendments included revisions to the following:

 Protection for intellectual property rights

 Labor and environmental concerns
 Dispute settlement
 Rules of origin for the automotive industry

The agreement has a life span of 16 years. All three countries must review the USMCA in July
2026 to decide whether they plan on renewing it for another 16-year term.

USMCA vs. NAFTA

The USMCA is built upon and aims to improve provisions that were written into NAFTA.
Some of the major changes that were ushered in with the USMCA include open trade between
the U.S. and Canadian dairy markets, enhancements to labor laws (when lower wages helped
push jobs to Mexico under NAFTA), and increasing the percentage of motor vehicle parts
required to be produced in the region.

Free trade allows countries to reduce or eliminate the barriers and tariffs associated with the
import-export of goods and services. NAFTA was one of the main agreements in North
America. The agreement didn't come without criticism and was replaced by the USMCA. This
new agreement used its predecessor as its foundation to include more favorable terms for North
American workers, farmers, and businesses. The deal, which went into effect in 2020, is up for
review in 2026. If the three nations agree, they can renew the USMCA for another 16 years.
European Union (EU)

The European Union (EU) is a political and economic alliance of 27 countries. It promotes
democratic values in its member nations and is one of the world's most powerful trade blocs.
Nineteen of the countries share the euro as their official currency. The EU grew out of a desire to
strengthen economic and political cooperation throughout the continent of Europe in the wake of
World War II. Its gross domestic product (GDP) totaled 14.45 trillion euros in 2021. That's about
US $15.49 trillion. The GDP of the U.S. for the same period was about US $23 trillion.

The EU countries are:

Austria, Belgium, Bulgaria, Croatia, Republic of Cyprus, Czech Republic, Denmark, Estonia,
Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia, Lithuania, Luxembourg,
Malta, Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain and Sweden.

The European Union was created to bind the nations of Europe closer together for the economic,
social, and security welfare of all. It is one of several efforts after World War II to bind together
the nations of Europe into a single entity

How Is the European Union Changing in the 21st Century?

The original members of the European Union were the nations of Western Europe. In the 21st
century, the EU has expand membership to the Eastern European nations that emerged after the
collapse of the Soviet Union. Its current member nations include Bulgaria, Croatia, the Czech
Republic, Estonia, Latvia, Lithuania, Poland, Romania, Slovakia, and Slovenia

Why Was the European Union Created?

The overarching purpose of the European Union, in the years after World War II, was to put an
end to the devastating wars that had wracked Europe for centuries. At the same time, it became
increasingly clear that a united Europe would have far greater economic and political power than
the individual nations in the post-war world.

The EU is a powerful alliance of 27 European countries that promotes democratic values among
its members. It serves to faciliate political and economic integration throughout the region.
Many, though not all, of its members share the euro as their official currency. Historically, it was
made up primarily of the nations of Western Europe; it has since expanded to include member
nations that had previously been socialist states prior to the collapse of the USSR. In 2020, the
U.K. officially left the EU.

Asia-Pacific Economic Cooperation (APEC)

The Asia-Pacific Economic Cooperation (APEC) is an economic group of 21 members, formed
in 1989, with the primary goal of promoting free trade and sustainable development in
the Pacific Rim economies.

APEC's principal goal is to ensure that goods, services, capital, and labor can move easily across
borders. This includes increasing custom efficiency at borders, encouraging favorable business
climates within member economies, and harmonizing regulations and policies across the region.
The creation of APEC was primarily in response to the increasing interdependence of Asia-
Pacific economies. The formation of APEC was part of the proliferation of regional economic
blocs in the late 20th century, such as the European Union (EU) and the (now-defunct) North
American Free Trade Agreement (NAFTA).

Nations Comprising APEC

The founding members of APEC were Australia, Brunei, Canada, Indonesia, Japan, Korea,
Malaysia, New Zealand, the Philippines, Singapore, Thailand, and the U.S. Since its launch,
China, Hong Kong, Taiwan, Mexico, Papua New Guinea, Chile, Peru, Russia, and Vietnam have
joined its ranks.

APEC refers to its members as economies rather than as states due to the focus on trade and
economic issues rather than the sometimes delicate diplomatic issues of the region, including the
status of Taiwan and Hong Kong. The People's Republic of China (PRC) refuses to recognize
Taiwan because it claims the island as a province under its constitution. Hong Kong, meanwhile,
functions as semi-autonomous regions of China and not a sovereign state.
Official observers of APEC include the Association of Southeast Asian Nations (ASEAN), the
Pacific Economic Cooperation Council (PECC), and the Pacific Islands Forum (PIF).

The Asia-Pacific Economic Cooperation's (APEC) Actions and Goals

At a landmark summit meeting in 1994, APEC announced a lofty goal of establishing free
trade and investment regimes in the Asia-Pacific region by 2010 for members with developed
economies. The group hoped to achieve those same goals for its developing economy members
by 2020.