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Regional Economic Integration

CHAPTER EIGHT

INTERNATIONAL

BUSINESS

The Challenges of Globalization

Canadian Edition

Wild • Wild • Valladares Montemayor

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Chapter Objectives

Define regional economic integration and identify its five levels.

Discuss the benefits and drawbacks of regional economic integration and identify the implications for Canadian businesses

Describe regional integration in Europe and its pattern of enlargement.

In this chapter, you will explore regional economic integration.

You will also:

Learn about the five different levels of integration.
Understand the potential benefits and drawbacks of regional integration.
And examine the progress of various efforts at integration around the world.

Chapter Objectives

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Discuss and analyze regional integration in the Americas, particularly regarding NAFTA and Canada’s bilateral trade agreements.

Characterize regional integration in Asia and how it differs from integration elsewhere.

Describe integration in the Middle East and Africa, and explain the slow progress

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Process whereby countries in a geographic region cooperate to reduce or eliminate barriers to the international flow of products, people, or capital

Regional Economic Integration

The goal of regional economic integration is higher living standards through increased cross-border trade and investment.
Greater specialization is a byproduct of integration that increases productivity, adds to product choices, and lowers prices.
A regional trading bloc is a group of nations in a geographic region that are undertaking economic integration.

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Levels of Regional Integration

Coordinate aspects of members’ economic and political systems

Political Union

Remove barriers to trade, labor, and capital,

set a common trade policy against nonmembers, and coordinate members’ economic policies

Economic Union

Remove barriers to trade, labor, and capital among members, and set a common trade policy against nonmembers

Common Market

Remove barriers to trade among members, and set a common trade policy against nonmembers

Customs Union

Remove barriers to trade among members, but each country has own policies for nonmembers

Free-Trade Area

Nations can pursue five different levels of regional integration, with each one incorporating the properties of the preceding one.

A free trade area removes all barriers to trade between members with each nation determining its own barriers against nonmembers. The group may also establish a process for resolving trade disputes among members.
A customs union adds the requirement that all members set a common trade policy against nonmembers. Members may also negotiate as a group with organizations like the WTO.
A common market adds the free movement of labor and capital and sets a common trade policy against nonmembers. Yet, cooperating on economic and labor policies can be difficult.
An economic union forces members to harmonize their tax, monetary, and fiscal policies, create a common currency, and concede some sovereignty to the larger organization.
A political union requires members to coordinate their economic and political policies against nonmembers, with some exceptions given.

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Benefits and Drawbacks of Integration

Trade creation
Greater consensus
Political cooperation
Creates jobs

Trade diversion
Shifting employment
Lost sovereignty

In theory, regional integration should increase specialization, efficiency, consumption, and standards of living.

Integration should also create new trade opportunities and deliver a wider selection of goods and services at lower cost.
Building consensus may be easier among a small group of countries than it is in larger groups, such as the 150-plus-member World Trade Organization.
A group of nations may also have more clout than they would have individually when negotiating in a wider forum, like the World Trade Organization.
Political cooperation may reduce the potential for military conflict among members.
And new employment opportunities can arise when people are allowed to relocate internationally for work or higher wages.

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Discussion Question

What are several potential benefits of regional economic integration and several potential drawbacks of integration?

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Answer to Discussion Question

Potential benefits of regional economic integration include trade creation, greater consensus, political cooperation, and job creation.

Potential drawbacks include trade diversion, shifting employment, and lost sovereignty.

Bombardier’s Latin America division generates between 3 and 5 percent of the company’s total earnings, with 95 percent of those earning coming from Mexico.

Answer:

Potential benefits of regional economic integration include trade creation, greater consensus, political cooperation, and job creation. Potential drawbacks include trade diversion, shifting employment, and lost sovereignty.

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European Union

Pop: 500 million

GDP: $16.4 trillion

Members: 27

Economic Union

Began: 1951

European integration began shortly after the Second World War when a small group of countries began cooperating in a few key industries.
Today, the 27-member European Union has a population of 500 million people and a gross domestic product of $16.4 trillion.

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European Union: Early Years

European Coal and Steel Community (1951): Removed trade barriers in coal, iron, and steel

European Economic Community (1957): Outlined and took initial steps toward common market\

European Community (1967): Expanded to other industries including atomic energy

Single European Act (1987): Harmonized regulations, strived for lower barriers

Maastricht Treaty (1991): Set single currency targets, outlined eventual political union

European Union (1994): Final name change and reduced barriers further

In 1951, six countries created the European Coal and Steel Community to remove barriers to trade in coal, iron, and steel.
In 1957, these same countries expanded their cooperation and created a common market, called the European Economic Community.
The Community broadened its scope in 1967 to include additional industries and changed its name to the European Community.
The Single European ACT of 1987 removed remaining trade barriers, increased harmonization of members’ policies, and enhanced the competitiveness of EU companies. This sparked a wave of mergers and acquisitions across Europe as firms sought economies of scale in production.
And in 1991, members signed the Maastricht Treaty, which created a common currency, set monetary and fiscal targets for countries taking part in monetary union, and proposed an eventual political union.
In 1994, the group changed its name one final time to the European Union (EU).

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Business in Central Europe

Don’t rush familiarity

Build relationships

Find a local partner

Hire local professionals

Establish who’s in charge

Photo: Gerry Taft, Mount Royal University

“Old Town” Warsaw, Poland

When doing business in Central Europe:

Remain formal in your relations unless your colleagues encourage informality.
Smooth the way for business by building close relationships and establishing solid references.
Find a local partner to help you with the inevitable difficulties of cross-cultural business.
Hire local professionals who understand U.S. and local business law.
And establish who is in charge so that people know who to turn to when needed.

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Future EU members must meet the four Copenhagen Criteria   

European Union Enlargement

Stable institutions of human rights, democracy, and law

Functioning and capable

market economy

Assume economic, monetary, and political obligations

Adopt rules of the Community, Court of Justice, and Treaties

Candidates for membership in the European Union include Croatia, Turkey, and the Former Yugoslav Republic of Macedonia.
Before these countries can become members they must satisfy what are called the Copenhagen Criteria.

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Five Key EU Institutions

European
Commission

Council of the
European Union

European
Parliament

Court of
Auditors

Court of Justice

Five institutions play key roles in monitoring and enforcing integration in

the European Union.

The European Parliament is the consultative body that debates and amends legislation proposed by the European Commission.
The Council of the European Union is the legislative body that votes proposed legislation into law or rejects it with a no vote.
The European Commission is the executive body that can draft legislation, manages and implements policy, and monitors compliance with EU law.
The Court of Justice is the EU court of appeals, which hears cases that member nations bring before it.
And the Court of Auditors audits the EU accounts and implements its budget.

Canada–UE Free Trade Agreement

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The purpose of this agreement is to generate more trade, investment, and jobs on both sides of the Atlantic.

Duties will be eliminated on 98 percent of products.

The agreement is expected to increase trade in goods and services by 23 percent or CAD$38 billion.

A fish market in London, England Photo: Gerry Taft, Mount Royal University

The Comprehensive Economic and Trade Agreement (CETA) between the EU and Canada includes a provision where “Sustainable fisheries will be developed in parallel, in particular with regard to monitoring, control and surveillance measures, and the fight against illegal, unreported and unregulated fishing.”

Canada–UE Free Trade Agreement Negotiations for a free trade agreement between Canada

and the European Union successfully concluded on October 18, 2013, after four years. The main

purpose of this agreement is to generate more trade, investment, and jobs on both sides of the

Atlantic. Once implemented—by 2015—duties will be eliminated in 98 percent of products. The

agreement is expected to increase trade in goods and services by 23 percent or CAD$38 billion.

Stephen Harper, Canada’s prime minister, believes that the agreement is an historic win for

Canada, because it provides Canadian businesses with access to 500 million EU consumers.

http://europa.eu/rapid/press-release_MEMO-13-911_en.htm

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European Free Trade Association

Iceland, Liechtenstein, Norway, Switzerland

Feared lost sovereignty

Feared destructive rivalry

Desired free-trade gains

Cooperates with EU

Pop: 12.9 million

GDP: $869 billion

Members: 4

Free-Trade Area

Began: 1960

Some nations wanted the benefits of a free trade area but did not desire a full common market.

In 1960, these nations formed the European Free Trade Association to focus on trade in industrial goods.
Today, the European Free Trade Association includes Iceland, Liechtenstein, Norway, and Switzerland.
These nations and the European Union work together on the movement of goods, people, services, and capital, and cooperate on the environment, social policy, and education.

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Discussion Question

All future members of the European Union must meet what are called the __________ criteria, which demonstrate a country’s readiness for membership.

a. European

b. Maastricht

c. Copenhagen

All future members of the European Union must meet what are called the __________ criteria, which demonstrate a country’s readiness for membership.

a. European

b. Maastricht

c. Copenhagen

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Answer to Discussion Question

All future members of the European Union must meet what are called the __________ criteria, which demonstrate a country’s readiness for membership.

a. European

b. Maastricht

c. Copenhagen

The correct answer is c. Copenhagen

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North American
Free Trade Agreement

Pop: 450 million

GDP: $18 trillion

Members: 3

Free-Trade Area

Began: 1994

The North American Free Trade Agreement took effect in January 1994 and seeks to eliminate trade barriers on most goods originating from North America.

The agreement calls for liberalized rules on government procurement practices, the granting of subsidies, and the imposition of countervailing duties.
Other provisions deal with trade in services, intellectual property rights, and standards of health, safety, and the environment.
Products may qualify for tariff-free status if they meet regional content requirements or if sufficient value was added to them within the NAFTA region.

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NAFTA Effects

Jobs

and wages

Three-nation

trade flows

Canada-Mexico

trade tripled

“Fast track”

Authority

Increased

Productivity

Since NAFTA began, trade among Canada, Mexico, and the United States has grown from $297 billion in 1993 to around $1 trillion.

Mexico’s exports to the United States rose to $211 billion, and U.S. exports to Mexico grew to over $136 billion.
Canada’s exports to the United States more than doubled to $300 billion, and U.S. exports to Canada grew to $176 billion.
Canada’s exports to Mexico more than tripled to $2.7 billion.
But the U.S. Trade Representative Office and the AFL-CIO group of unions disagree on what effect NAFTA has on employment and wages.

NAFTA and the Environment

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Opponents claim that NAFTA has damaged the environment,

particularly along the United States–Mexico border

The North American Agreement on Environmental Cooperation (NAAEC), an environmental side agreement to NAFTA signed in 1994, was given a

limited mandate and a limited budget.

Photo: Gerry Taft, Mount Royal University

A mutilated Dolphin on a Mexican Beach

Although the agreement included provisions for environmental protection, Mexico is finding it difficult to deal with the environmental impact of

greater economic activity. However, Mexico’s Instituto Nacional de Ecologia ( www.ine.gob.mx ) has developed an industrial-waste–management program, including an incentive system to encourage waste reduction and recycling. The Mexican government has also created a certification

program similar to the International Organization for Standardization (ISO) certification, called Industria Limpia (Clean Industry), to assure compliance with environmental norms. The US and Mexican federal governments have invested several billion dollars in environmental protection

efforts since the creation of NAFTA.

NAFTA’s Contentious Clauses

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Two thirds of Canadian oil needs to be available for export to the United States, even if Canadians experience shortages.

Canada must make 60% of its natural gas available for export to the United States.

Photo: Gerry Taft, Mount Royal University

A gas pump in the US with a video screen that plays advertisements while you fill your tank.

Article 605 of NAFTA, called the “proportional sharing provision,” grants NAFTA countries rights in perpetuity to share natural resources. What does

this mean for Canada? Under the agreement, two thirds of Canadian oil needs to be available for export to the United States, even if Canadians experience shortages. Canada must also make the majority of its natural gas supplies available for export to the United States, which accounts for

60 percent of Canada’s current natural gas production. Many Canadians think that NAFTA should be renegotiated to eliminate proportionality.

Think – Pair - Share

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Should Canada and Mexico seek greater economic integration with the United States, such as a customs or an economic union that would make the US dollar the common currency in the region?

Explain and provide pros and cons.

What are the economic and political implications?

Slide 22 is the first “Think-Pair-Share” in this chapter. These slides are intended to stimulate discussion between students. The activity requires students to consider the question individually, and then share their thoughts with one classmate or a small group. The goals of these slides are to 1) improve students’ conceptual understanding of the material, 2) hone critical thinking skills, and 3) improve problem solving.

Although theoretically an agreement between three equal parties, NAFTA has huge market size asymmetries. The US market predominance over Mexico and Canada appears to encourage the United States to use tactics such as bans, dumping, and protectionist measures to impose its own trade terms. By its nature, NAFTA runs the risk of becoming an extension of hegemonic US policy. Disputes, such as the softwood lumber case between Canada and the United States (which also involved the World Trade Organization’s arbitration system) and the US ban on Mexican trucks operating on US roads, are examples of power-politics prevailing over international trade rules and agreements such as NAFTA. Besides the claims of job losses and negative environmental impact due to NAFTA and NAFTA’s contentious clauses, Canada remains dependent on its trade relationship with the United States. According to Peter Hall, vice-president and chief economist of Export Development Canada, “Canadians know the adage well: The US economy sneezes and we catch pneumonia.

The pros are mostly economic justifications, and the cons are predominantly environmental, political and social

Bilateral Agreements Beyond NAFTA

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Canada has signed bilateral free trade agreements with Colombia, Costa Rica, Chile, Peru, and Panama.

Canada has also signed an agreement with Honduras

The goal of all these agreements is to strengthen economic relations between the two signatory countries by increasing bilateral trade, improving labour and environmental cooperation, and reducing or eliminating duties and non-tariff barriers to trade and investment.

Although NAFTA has not expanded beyond the original three countries due to opposition groups and political obstacles, each member of NAFTA

has entered into bilateral agreements with other countries in the Americas. For example, Canada has signed bilateral free trade agreements with Colombia, Costa Rica, Chile, Peru, and Panama. Canada also concluded negotiations with Honduras in August 2011, although the free trade

agreement has yet to come into effect. The goal of all these agreements is to strengthen economic relations between the two signatory countries by increasing bilateral trade, improving labour and environmental cooperation, and reducing or eliminating duties and non-tariff barriers to trade and investment.

Conducting Business in Mexico

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Behave in a formal manner,

Build personal relationships,

Establish good references, and do favours for others

Find a local partner,

Hire a Mexican accountant or

someone familiar with Mexican laws,

Family is very important.

Photo: Gerry Taft, Mount Royal University

You can have an enjoyable time doing business in Mexico as evidenced by this sign at a restaurant in La Paz, Mexico.

Mexican society is quite formal, so it is best to behave in a formal manner unless you know your colleague well. This includes using titles such as

Doctor, Mister, Licenciado (to address anyone who holds a university degree except an engineer or lawyer), Ingeniero (Engineer), and Abogado (Lawyer). It’s rarely appropriate to use first names unless you are close friends. Making money is obviously important and remains the ultimate goal for any business. Still, building personal relationships, establishing good references, and doing favours for others can smooth the way for newcomers. Be careful when asked to do favours, however, as this could be a slippery slope to bribery and corruption. Finding a local partner who can understand the inevitable cultural differences that arise, such as expectations about time commitments (although “ mañana ” translates literally as “tomorrow,” it really means “later”), language barriers, and observed holidays, is essential. It is also extremely important to demand accountability for results. Hiring a Mexican accountant or someone familiar with Mexican laws is a good idea because taxes are different in border and non-border states. A bilingual attorney can also interpret differences between Mexican and Canadian laws. Mexicans are known for being a collectivistic people. In collectivistic societies, family is very important, and people are concerned about the common well-being.

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Andean Community

Internal tariff reduction

Common external tariff

Common transport policies

Ideological conflict

Pop: 97 million

GDP: $220 billion

Members: 4

Customs Union

Began: 1969

The Andean Community formed in 1969 and today includes Bolivia, Colombia, Ecuador, and Peru.

It grew from the ashes of an earlier failed attempt at integration called the Latin American Free Trade Association.
Objectives include internal tariff reduction, a common external tariff, and common policies in transportation and other key industries.
The group has yet to create a complete customs union, in part, because each member extends its own exceptions to nonmembers.

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Southern Common Market

Also called MERCOSUR

Very successful early

Future “SAFTA”?

Impaired by ideology and economic hardships

Pop: 277 million

GDP: $2.8 trillion

Members: 5

Customs Union

Began: 1988

Members of the Southern Common Market include Argentina, Brazil, Paraguay, Uruguay, and Venezuela.

Today, the group functions as a customs union and is busy liberalizing trade and investment among its members.
It is emerging as the most powerful economic group throughout Latin America.
One day, the group may expand to incorporate all of South America into a single, massive free trade agreement.

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Central America / Caribbean

Members offer each other little

Peace driving tentative optimism

Pop: 33 million

GDP: $120 billion

Members: 5

+/- Common Market

Began: 1961

Pop: 6 million

GDP: $30 billion

Members: 15

Common Market

Began: 1973

Nations in Central America and the Caribbean are pursuing two modest efforts at economic integration.

The Central American Common Market involves Costa Rica, El Salvador, Guatemala, Honduras, and Nicaragua.

For years, progress was constrained by war.
The group has not yet formed a customs union, but officials say the goal is greater integration, closer political ties, and a single currency—likely the U.S. dollar.

The Caribbean Community and Common Market formed in 1973 and has 15 members.

Members are trying to establish a single market, but are hampered by the fact that members trade more with nonmembers than with each other.

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Free Trade Area of the Americas

Would be the largest free-trade area on the planet
From northern tip of Alaska to southern tip of Tierra del Fuego in South America
Could mean enormous cost savings for business
Protests by many groups is slowing progress

FTAA negotiations have ceased, with no dates set for the resumption of talks

Pop: 830 million

Members: 34

Free-Trade Area

Perhaps the most forward-looking integration effort is the Free Trade Area of the Americas.

This trading bloc would stretch from the northern tip of Alaska to the southern coast of Tierra del Fuego in South America.
The free trade area would include 34 nations and a population of at least 830 million consumers.
But the effort continues to face opposition from labor organizations, environmentalists, and others opposed to globalization.

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Association of Southeast
Asian Nations

GOALS:

Promote economic, social, and cultural development

Safeguard economic and political stability

Serve as a forum to resolve disputes

Pop: 560 million

GDP: $1.1 trillion

Members: 10

General Cooperation

Began: 1967

The Association of Southeast Asian Nations represents a market of 560 million consumers and a gross domestic product of $1.1 trillion.

Its stated objectives are to promote economic, social, and cultural development; safeguard economic and political stability; and serve as a forum to resolve disputes fairly and peacefully.
Adding members Cambodia, Laos, and Myanmar was an effort to counter China’s resources of cheap labor and abundant raw materials.

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Asia-Pacific Economic Cooperation

Group of 21 nations ringing the Pacific Ocean that accounts for over half of world trade

1. Not designed as a free-trade bloc

2. Strengthen multilateral trade system

3. Liberalize trade and investment rules

Altogether, members of the organization for Asia-Pacific Economic Cooperation account for more than half of world trade.

Yet, the group is not designed as a free trade bloc.
The group tries to strengthen the multilateral trading system and expand the global economy by simplifying and liberalizing trade and investment procedures.
It hopes for completely free trade and investment throughout the region by 2020.

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Discussion Question

a. Pacific Cooperation Council

b. Asia-Pacific Economic Cooperation

c. Association of Southeast Asian Nations

What is the name of the group of 21 nations that ring the Pacific Ocean whose stated aims do not include formation of a formal free trade bloc?

a. Pacific Cooperation Council

b. Asia-Pacific Economic Cooperation

c. Association of Southeast Asian Nations

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Answer to Discussion Question

a. Pacific Cooperation Council

b. Asia-Pacific Economic Cooperation

c. Association of Southeast Asian Nations

What is the name of the group of 21 nations that ring the Pacific Ocean whose stated aims do not include formation of a formal free trade bloc?

The correct answer is b. Asia-Pacific Economic Cooperation

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Key Points:

Australia and New Zealand
Eliminated trade barriers 5 years early
Recognize each other’s qualified professionals

Closer Economic
Relations Agreement

Australia and New Zealand created the Closer Economic Relations Agreement in 1983 to advance free trade and further integrate their economies.

They eliminated all tariffs and quotas in 1990, five years ahead of schedule.
Each nation allows goods and most services sold in the other nation to be sold within its borders.
Each nation also recognizes the professional certifications of people allowed to practice in the other country.

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Middle East

Gulf Cooperation Council

Six Arab nations (1980)

Economic and political aims

Travel freely without visas

Cooperation on property rights

Six countries in the Middle East banded together to cooperate with increasingly powerful trading blocs in Europe.

The Gulf Cooperation Council members are Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates.
The group allows citizens to travel freely among member nations; and it allows citizens to own businesses and other property in other member nations without local partners.

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Economic Community of West African States

Some progress on migration, roads, and telecoms
Impaired by instability, poverty, and bad policies

African Union

Joined 53 nations in 2002
Want united and strong Africa
Seek peace, security, stability

Africa

The group of 15 nations called the Economic Community of West African States intends to form an eventual common market and monetary union.

It achieved some early progress but suffers from political instability, poor governance, weak national economies, poor infrastructure, and poor economic policies.

Another group of 53 nations joined forces in 2002 to create the African Union.

It aims to eliminate the vestiges of colonialism and apartheid, promote unity and solidarity, intensify development cooperation, safeguard members’ sovereignty, and promote international cooperation within the United Nations.

Think – Pair - Share

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Certain groups of countries, particularly in Africa, are far less economically developed than other regions, such as Europe and North America.

What sort of integration arrangement do you think developed countries could create with less-developed nations to improve living standards?

Be as specific as you can.

Slide 36 is the second “Think-Pair-Share” in this chapter. These slides are intended to stimulate discussion between students. The activity requires students to consider the question individually, and then share their thoughts with one classmate or a small group. The goals of these slides are to 1) improve students’ conceptual understanding of the material, 2) hone critical thinking skills, and 3) improve problem solving.

First of all, developed nations could extend to less-developed countries the same favorable treatment that they receive as members of their particular trading agreements. This would probably cause nationalist sentiment in developed nations to rise as labor groups, populist politicians, and others complain of cheap imports destroying domestic jobs. However, this is likely an inevitable byproduct of such an arrangement. Another option would be to grant each less-developed country the same preferential treatment that members of a trading bloc receive, but in only a single product category that suits their national competitive advantage. Then, according to Porter’s national competitive advantage theory, the nation would benefit from the cluster of supporting industries that would spring up around this core industry. However, this industry has to be involved in some high value-added activity. It probably would not be very effective if based on some commodity such as minerals or agricultural products, or other product with a low value-added.

Bottom Line for Business

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Regional trade agreements are changing the landscape of

the global marketplace.

They are lowering trade barriers

and opening up new markets for goods and services.

Source : AFP Photo/Daniel Mihailescu/Newscom

Shoppers in Bucharest, Romania, venture into a newly opened mall as they enjoy the fruits of membership in the European Union. Romania and Bulgaria were recently welcomed into the EU, whose membership now totals 27.

Bottom Line for Business

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Perhaps most controversial is the impact of regional integration

on jobs.

Companies can affect the job environment

by contributing to dislocations in labour markets.

Nigeria participates in the regional trading bloc known as ECOWAS to improve the lives of ordinary people, such as the women pictured here.

Bottom Line for Business

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Although there are drawbacks to integration, there are potential gains from increased trade such as raising living standards.

Regional economic integration efforts are likely to continue rolling back barriers to international trade and investment because of their potential benefits.

Photo: Gerry Taft, Mount Royal University

Berlin Train Station with a Canadian connection