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Regional Economic Integration
By Myovella G, Dept of Econ and Statistics
Office 119 Block B, 0752097959.
Email, [email protected]
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Regional Economic Integration
Today, regionalism has emerged as a forcepotentially rivalling
multilateralism with, as yet, uncertainimplications for the world trading systemand the process of globalization itself.
So with increasing globalisation and theadvent of WTO the Ideal of Regionaleconomic blocks have been embraced.
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Surge of RI initiatives
There has been a surge of RegionalIntegration Agreements since 1990s.
as of 15 May 2011, some 489 RTAs, had
been notified to the GATT/WTO. 358 RTAs were notified under Article XXIV of
the GATT 1947 or GATT 1994;
36 under the Enabling Clause; and
95 under Article V of the GATS. At that same date, 297 agreements were in
force
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RI cont...
The (EU) and (NAFTA) are the two mostprominent regional integration arrangements
Some examples of Regional economicintegrations, EAC -5 members, COMESA-20,SADC,-14, SACU -5 members and oldest CU inAfrica. Economic Community of West AfricanStates (ECOWAS), the Economic Communityof Central African States (ECCAS/CEEAC) andthe Arab Maghreb Union. MERCOSUR, ASEANetc.
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Meaning of REI
Regional economic integration:- A processin which a group of nations reduces tariffand non-tariff barriers to allow for the free
flow of goods, services and factors ofproduction including labour and capital.
The overall goal is to raise the growth ratesof participating economies via an increasein economic activity.
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Dimensions of Integration
(i) geographic scope - illustrating the number ofcountries involved in an arrangement (variablegeometry),
(ii) the substantive coverage or width that is thesector or activity coverage (trade, labor mobility,macro-policies, sector policies, etc.), and
(iii) the depth of integration to measure the
degree of sovereignty a country is ready tosurrender, that is from simple coordination orcooperation to deep integration.
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Stages of Regional Economic
IntegrationPreferential Trade Area (PTA) or Agreement, where member states
charge lower tariffs to imports produced by fellow membercountries than they do for non-members;
Free Trade Area (FTA), a PTA without any tariffs on fellow membersgoods; eg, NAFTA
Customs Union, an FTA using the same or common tariffs on importsfrom non-members; EU 1957
Common Market, a customs union with free movement of the factorsof production; eg. EU achieved this at the begining of 1993
Economic Community, a single-currency common market or monetary
union in which fiscal and monetary policies are unified. If politicalsovereignty is given up, an economic community becomes afederation or political union with common legislationand politicalstructures. Eg. Benelux
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Stages of Regional Economic Integration
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ECONOMICS OF CUSTOMS UNION
Jacob Viners theory
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Theory of Regional Integration
The impetus for regional integration drawsits rationale from the standard trade theory,which states that; free trade is superior toall other trade policies.
As an extension of this basic principle,therefore, free trade among two or more
countries will improve the welfare of themember countries as long as thearrangement leads to a net trade creation inthe Vinerian sense.
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SIMPLE MODEL OF A CUSTOMS UNION
Customs Union
A group of countries among which trade takes
place freely without being restricted by thebarriers of tariffs (customs duties) or quotas(quantitative restrictions) on trade, and whichadopts a common external tariff - all membercountries impose the same tariffs on countries
outside the customs union
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SIMPLE MODEL OF A CUSTOMS UNION
Elimination of tariffs on imports frommember countries
Adoption of a common external tariff onimports from the rest of the world
Apportionment of customs revenueaccording to an agreed formula
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SIMPLE MODEL OF A CUSTOMS UNION
Assumptions:
Pure competition in commodity and factor markets
Factor mobility within countries but not between
them
No transportation costs
Tariffs are the only form of trade restrictions
Prices reflect the opportunity costs of production Trade is balanced
Resources are fully employed
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SIMPLE MODEL OF A CUSTOMS UNION
Until the beginning of the 1950s it was commonly heldthat the customs unions and free trade areas were stepspromoting free international trade, only after pioneeringwork of Jacob Viner was published in 1950 it was realisedthat customs unions might as well be seen as a step
towards protectionism
Jacob Viner (1892-1970) was Canadian economist,professor at Chicago University and Princeton University.
Viner was an international trade theorist. His book TheCustoms Union Issue introduced the distinction between thetrade-creating and the trade-diverting effects of customsunions.
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SIMPLE MODEL OF A CUSTOMS UNION
Any economic theory of regional product marketintegration has to address the question of economicjustification of particular integration forms (the questionwhether an arrangement would be superior to the status
quo and to participation in world-wide tradeliberalisation)
The contribution of Jacob Viner was an introduction of
welfare consideration into the theory of internationaltrade in general and particularly into the theory ofcustoms unions.
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Trade creation and trade diversion
Ground-stones of Viner's theory of customs unions areconcepts of trade diversion and trade creation effects ofdifferent arrangements of regional integration.
Original Viners definition of these concepts wasformulated in terms of trade flows: trade diversion switch in trade from less expensive to more
expensive producers
trade creation switch in trade from more expensive to lessexpensive producers
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Trade creation and trade diversion
We shall use a modified definition in terms ofwelfare changes:
trade creation - welfare change due to thereplacement of higher cost domestic productionand/or higher cost imports by lower-costimports
trade diversion - welfare change due to thereplacement of imports from a low cost source
by imports from a higher cost source
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Trade creation and trade diversion
In terms of world allocation of resources:trade creation is beneficial to welfare, whiletrade diversion worsens allocation, a
customs union is economically justified if itleads to a trade creation, while a customsunion generating a trade diversion leadstowards a deeper protectionism and
decrease of efficiency.
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A Partial Equilibrium Model
Two countries:
H (home country)
P (potential partner country)
W (world market)
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A Partial Equilibrium Model
SH(p): domestic supply function
DH(p): domestic demand function for this
commodity in the country H
The supply by the partner country and the
world market supply of the commodity isassumed to be perfectly elastic, hence thecountry H cannot influence the price
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A Partial Equilibrium Model
World price: pW
The price in the partner country: pP
The closed equilibrium price in the home
country: pH Let
Then the country H will cover part of itsdomestic demand by import from the worldmarket
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p
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A Partial Equilibrium Model
Fig.1, Country H in a general tariff protection regime
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A Partial Equilibrium Model
Assume that country H is considering a possibility ofcustoms union with the country P
After the customs union is created, the trade inside theunion will be tariff free, for the price pCU = pP less thanthe pW + t. The tariff t for the trade with rest of world ismaintained.
The effective supply for country H in the union will beSCU, while domestic supply will decrease to sCU and
domestic demand will increase to dCU. Import will expandfrom dt - st to dCU - sCU. Facing this possibility, is it
beneficial for country H to enter the customs union withcountry P?
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p
q
(a)
consumers'
surplus in TP
producers'
surplus in TP
tariff revenuesin TP
Et
EH
dqs
p
pH
W
p +tW
Sw(pw+t)
Sd(p)
Dd(p)
Ht t
Fig. 2, Welfare effect of tariff protection
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25
E
E
p
qs dq
p
p
H
H
H
W
t
t t
consumers'surplus in CU
producers'
surplus in CU
no tariffrevenues in CU
(a) (b) (c) (d)
(e)
sCU
dCU
Scu(pcu)
Sh(p)
Sw(pw+t)ECU
pCU
p
W
+t
Fig. 3, Welfare effect of customs union for country H
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A Partial Equilibrium Model
Before the union was created, the country H was
importing from the world market for lower price
than in the customs union with country P.
But we can observe at the same time a
reduction of the more expensive domestic
production in favour of cheaper imports frompartner's country and increase of domestic
supply.
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A Partial Equilibrium Model
E
E
p
qs dq
p
p
H
H
H
W
t
t t
consumers'surplus in CU
producers'
surplus in CU
no tariff
revenues in CU
(a) (b) (c) (d)
(e)
sCU
dCU
Scu(pcu)
Sh(p)
Sw(pw+t)E
CUpCU
pW
+t
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A Partial Equilibrium Model
The total welfare effect for the home country fromcreating the customs union with country P can beexpressed as follows:
(1) The decrease of the equilibrium price from pW + t to pCU =
pP leads to an increase of consumers' surplus by the amountequal to regions denoted as (a), (b), (c) and (d) in the Fig. 3.
(2) At the same time producers' surplus is decreasing by anamount equal to the area (a).
(3) The government is losing tariff revenues equal to theregions (c) and (e).
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A Partial Equilibrium Model
Considering gains and losses we can see that areas (a) and (c) do notrepresent a gain, because they are compensated by losses (inproducers' surplus and government tariff revenues), but only aninternal redistribution of welfare between producers and consumers.
Hence, the positive welfare effects of the customs union for thehome country consists of areas (b) and (d). The trade creation effectwas defined by Johnson as a sum of these two areas, reg (b) + reg (d).
Negative welfare effect is given by the region (e), the loss of tariff
revenues, used before for welfare redistribution. By Johnson thisrepresents a trade diversion effect.
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A Partial Equilibrium Model
Defining trade diversion as a negative welfare effectand trade creation as a positive welfare effect, the netwelfare effect given as
indicates, whether the trade creation or the tradediversion prevails in a particular case of the customsunion. We can make no general statement about the
positive or negative effects of customs unions. Anempirical investigation of each particular case isnecessary.
30
reg(e)-reg(d)+reg(b)=w
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TAKE HOME ASSIGNMENT
One commodity market in country H with domestic demandand supply functions:
A potential partner country: P
World price: pW = 4
Non-discriminative ad valorem tariff: t = 1
Price in partner country: pP = 4.5
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20p-370=(p)D
50p+50-=(p)S
H
H
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Example contd
Case 1: what is the Welfare of closed
equilibrium
Case 2: What is the welfare under Tariff
Protection
Case 3:what is the welfare under Customs
Union of H with P
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The theory of Second Best and other
static welfare effects of CU
We saw that free trade leads to the most efficientutilization of world resources and thus maximizesworld output and welfare.
Therefore, prior to Viners work on CU in 1950 it waswidely believed that any movement towards freetrade would also increase the welfare.
CU would lead to increase in welfare if it would notincrease trade barriers against the rest of the world.
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The theory of Second Best and other
static welfare effects of CU
However, Vinershowed that the formation of the CU
could increase or reduce the welfare of the member
nations and the rest of the world, depending on the
circumstances under which it take place. This is anexample of the theory of the second best
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The theory of Second Best and other
static welfare effects of CU
The theory states that if all the conditions required
to maximize welfare or reach pareto optimum can
not be satisfied, trying to satisfy as many of these
conditions as possible does not necessarily or usuallylead to the second best position.
Thus forming a CU and removing trade barriers only
among the members will not necessarily produce the
second best welfare position.
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Conditions likely for CU to increased
welfare The larger is the economic area of the CU and the more numerous
are the countries of which it is composed, the greater will be thescope for TC. Higher probability tht low-cost producers fall withinthe union
It is likely that TC will be greater than TD if countries joiningtogether in a CU are similar in the range of products they producebefore the formation of the union.
This is because TC occurs through the replacement of domesticproduction by more efficient production within the union.
If future members produce essentially different goods, there willbe little scope for such replacement and, hence, little tradecreation.
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Conditions likely for CU to increased
welfare The closer geographically are the members of the CU, likely is
the TC.
TC is more likely, the greater are the initial tariff rates amongfuture partners (rest of the world).
TC is more likely, the higher is the elasticity of demand forimports on which duties are removed.
The gains from integration are likely to be greater, the greateris the ratio of intra-trade (trade with future partners) to totaltrade.
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Other static effects of CU
i) Administration savings from elimination of customs officers,
border patrols e.t.c
ii) A trade diverting CU can lead to an improvement in collective
terms of trade. By reducing its demand for imports and suply
to rest of the world.
iii) Collective bargaining power. Case of EU, EAC
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Dynamic benefits from CU
Apart from static welfare effects, there are dynamics benefits
from forming a custom union
i. Increased competition leads to efficiency to producers
ii. Economies of scale are likely due to enlarged market
iii. Stimulus to investment
iv. A custom union which is also a Common market there is
free movement of labor and capital hence efficient
utilization of the economic resources of the entire
community
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Dynamic benefits from CU
Dynamic gains resulting from the formation of the customs
union are presumed to be much greater and significant than
the static gains. Eg. The UK joined EU in 1973 because of
them. EAC was establised because of them.
The question is whether regional blocs are building blocks or
stumbling block to free multilateral trade.
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Regional Integration in Africa
The history of regional integration in Africa shows that the
reasons or objectives for integrating have been evolving over
time.
These have shifted from the initial focus on the political
decolonisation of Africa to the current emphasis on socio-
economic integration in the post independence era for
stronger bargaining base in global fora and for mutual benefit
in the form of accelerated growth and development.
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Overview of Review of Progress on African
Integration
Apart from the African Union (AU), which, as the umbrellapolitical Africa-wide body, envisages eventually having acommon currency and central bank by 2025
Following the Lagos Plan of Action (1980) and Abuja Treaty
(1991), various RECs have been initiated.Central Africa:- CEMAC, ECCAS,
East Africa: EAC
Southern Africa: SADC, SACU.
North Africa: CEN-SAD, UMAWest Africa: ECOWAS, UEMOA, MRU
Others: COMESA
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Cont...
One of the aim was the promotion of intra-regional trade, including
preparing members for greater global competition and bargaining power.
However, liberalisation in Africas regional trade has been limited by,
among other factor
costly overlapping memberships, including some bilateral agreements;
different time horizons for full liberalisation of trade among member
states and sub-regions
delays by some member states in signing trade treaties and
Protocols, followed by additional delays in implementation.
Overall, as a share of the continents global trade, intra-regional trade inAfrica is generally low
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East African Community
Members- 5. (kenya, Uganda, Tanzania, Rwanda, and Burundi) Status- Common market July 2010
History
building of a common service i.e. The Uganda Railway in 1895;
establishment of the Customs Collection Centre in 1900
establishment of the East African currency board in 1905;
the Court of Appeal of Eastern Africa was set up in 1909;
the Customs Union came into force in 1919;
the East African income tax board established in 1940;
the Joint Economic Council was set up in 1940;
formation of the East African high commission in 1948;
establishment of the East African Common Services Organisation in 1961;
establishment of the East African community in 1967-1977; collapse of
the East African community in 1977; agreement to revive the East
African cooperation treaty in 1992, which lasted for the period 1993-
2000
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EAC
What led to the collapse of the EAC? And why theNew Community?
After reviving in 2000 the EAC started with theCustoms union, with the following features;
a Common External Tariff (CET) on imports from third
countries; duty-free trade between the member states; and
common customs procedures
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EAC cont...
Different rates are applied for raw materials
(0%), intermediate products (10%) and
finished goods (25%),
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Cont..
Cont eac customs union 1.pptx
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