Regional Economic Integration

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IntroductionRegional economic integration refers to agreements between countries in a geographic region to reduce tariff and non-tariff barriers to the free flow of goods, services, and factors of production between each otherIn theory, regional economic integration benefits all membersOver the last two decades, the number of regional trade agreements has been on the rise

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Introduction Question: Is regional economic integration a good thing?

While regional trade agreements are designed to promote free trade, there is some concern that the world is moving toward a situation in which a number of regional trade blocks compete against each otherIf this scenario materializes, the gains from free trade within blocs could be offset by a decline in trade between blocs

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Levels of Economic IntegrationThere are five levels of economic integration1. Free trade area - all barriers to the trade of goods and services among member countries are removed, but members determine their own trade policies with regard to nonmembersThis is the most popular form of integrationExamples include the European Free Trade Association (between Norway, Iceland, Liechtenstein, and Switzerland)the North American Free Trade Agreement (between the U.S., Canada, and Mexico)

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Levels of Economic IntegrationLevels of Economic Integration

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Levels of Economic Integration2. Customs union - eliminates trade barriers between member countries and adopts a common external trade policyMost countries that enter a customs union desire further integration in the futureExamples includethe Andean Pact (between Bolivia, Columbia, Ecuador, Venezuela, and Peru)

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Levels of Economic Integration3. Common market - no barriers to trade between member countries, a common external trade policy, and the free movement of the factors of productionThis type of integration can be difficult to achieve and requires significant harmony among members in fiscal, monetary, and employment policiesExamples includeMERCOSUR (between Brazil, Argentina, Paraguay, and Uruguay) hope to achieve this status

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Levels of Economic Integration4. Economic union - involves the free flow of products and factors of production between members, the adoption of a common external trade policy, and in addition, a common currency, harmonization of the member countries tax rates, and a common monetary and fiscal policyThis level of integration involves sacrificing a significant amount of national sovereignty Examples include the European Union (EU)

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Levels of Economic Integration5. Political union - independent states are combined into a single union This requires that a central political apparatus coordinate economic, social, and foreign policy for member statesThe EU is headed toward at least partial political union, and the United States is an example of even closer political union

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The Case for Regional IntegrationThere are both economic and political arguments supporting regional economic integrationGenerally, many groups within a country oppose the notion of economic integration

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The Economic Case for IntegrationRegional economic integration is an attempt to achieve additional gains from the free flow of trade and investment between countries beyond those attainable under international agreements such as the WTOSince it is easier to form an agreement with a few countries than across all nations, there has been a push toward regional economic integration

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The Political Case for IntegrationPolitically, integration is attractive because by linking countries together, making them more dependent on each other, and forming a structure where they regularly have to interact, the likelihood of violent conflict and war will decreaseby linking countries together, they have greater clout and are politically much stronger in dealing with other nations

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Impediments to Integration Integration is not easy to achieve or maintainThere are two main impediments to integrationit can be costly - while a nation as a whole may benefit from a regional free trade agreement, certain groups may loseit can result in a loss of national sovereignty

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The Case Against Regional IntegrationRegional economic integration only makes sense when the amount of trade it creates exceeds the amount it divertsTrade creation occurs when low cost producers within the free trade area replace high cost domestic producersTrade diversion occurs when higher cost suppliers within the free trade area replace lower cost external suppliers

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Regional Economic Integration in EuropeEurope has two trade blocsthe European Union with 27 membersthe European Free Trade Association with 4 membersThe European Union is expected to become a superpower of the same order as the United States

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Evolution of the European UnionThe European Union (EU) is the result ofthe devastation of two world wars on Western Europe and the desire for a lasting peacethe desire by the European nations to hold their own on the worlds political and economic stage The forerunner of the EU was the European Coal and Steel Community (formed in 1951)The Treaty of Rome established the European Economic Community in 1957 The name was changed to the EU in 1994

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Evolution of the European UnionMember States of the European Union in 2008

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Political Structure of the European UnionThe four main institutions of the EU arethe European Commission - proposes EU legislation, implements it, and monitors compliancethe European Council - the ultimate controlling authority within the EU the European Parliament - debates legislation proposed by the commission and forwarded to it by the councilthe Court of Justice - the supreme appeals court for EU law

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The Single European ActThe Single European Act (1987) committed EC countries to work toward establishment of a single market by 1992The Act was born out of frustration among EC members that the community was not living up to its promise The Act proposed toremove all frontier controls between EC countriesapply the principle of mutual recognition to product standardsopen procurement to non-national supplierslift barriers to competition in retail banking and insurance remove all restrictions on foreign exchange transactions between member countriesabolish restrictions on cabotageThe Act prompted the restructuring of substantial sectors of European Industry

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The Establishment of the EuroThe Maastricht Treaty (1991) committed EU members to adopt a single currency, the euroThe euro is used by 15 of the 27 member statesThis has created the euro zone, the second largest currency zone in the world after that of the U.S. dollar Countries that participate have agreed to give up control of their monetary policySo far, Britain, Denmark and Sweden have opted out of the euro zone

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The Establishment of the EuroQuestion: What are the benefits of the euro? Firms and individuals should save by handling one currency, rather than manyConsumers should find it easier to compare prices across EuropeProducers should become more efficient as they reduce their production costs in order to maintain their profit marginsThe highly liquid pan-European capital market should get a strong boostThe range of investment options open both to individuals and institutions should increase

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The Establishment of the EuroQuestion: What are the costs of the euro? Membership in the euro zone implies that nations lose control over the monetary policyThe European Central Bank (ECB) was established to manage monetary policy, but some question its ability to act independentlyThe EU is not an optimal currency area (an area where similarities in the underlying structure of economic activities make it feasible to adopt a single currency and use a single exchange rate as an instrument of macro-economic policy)So, countries may react very differently to changes in the euro

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The Establishment of the EuroSince its establishment the euro has had a volatile trading history with the U.S. dollar Initially, the euro was valued at $1.17, then fell in value relative to the dollar, but strengthened to an all-time high of $1.54 in March 2008

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Enlargement of the European UnionMany countries, particularly from Eastern Europe, have applied for membership in the EU Ten countries joined in 2004 expanding the EU to 25 states, with population of 450 million people, and a single continental economy with a GDP of 11 trillion In 2007, Bulgaria and Romania joined bringing membership to 27 countries Turkey has also applied for membership

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Regional Economic Integration in the AmericasRegional economic integration is on the rise in the AmericasThe most significant attempt is the North American Free Trade AgreementOther agreements include the Andean Community MERCOSURThere are also attempts to form a Free Trade Area of the Americas

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Regional Economic Integration in the AmericasRegional Integration in the Americas

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The North American Free Trade AgreementThe North American Free Trade Agreement (NAFTA) between the U.S., Canada, and Mexico became law in 1994NAFTAabolished tariffs on 99 percent of goods tradedremoved barriers on the cross-border flow of servicesprotects intellectual property rightsallows each country to apply its own environmental standardsestablishes two commissions to impose fines and remove trade privileges when environmental standards or legislation involving health and safety, minimum wages, or child labor are ignored

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The North American Free Trade Agreement Question: What are the benefits of NAFTA?

Mexico will benefit from increased jobs as low cost production moves south, and will attain more rapid economic growth as a resultThe U.S. and Canada will benefit from the access to a large and increasingly prosperous market and from the lower prices for consumers from goods produced in MexicoU.S. and Canadian firms with production sites in Mexico will be more competitive on world markets

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The North American Free Trade Agreement Question: What are the drawbacks of NAFTA?

Jobs could be lost and wage levels could decline in the U.S. and CanadaMexican workers could emigrate northPollution could increase due to Mexico's more lax standardsMexico would lose its sovereignty

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The North American Free Trade Agreement Question: How successful has NAFTA been?

Studies of NAFTAs early impact suggest that both advocates and detractors may have been guilty of exaggerationTrade between the three countries has increased by 250 percentThe members have become more integratedProductivity has increased in member nations Employment effects have been smallMexico has become more politically stable

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The North American Free Trade Agreement Question: Should NAFTA accept new members?

Several other Latin American countries have indicated their desire to eventually join NAFTA Currently both Canada and the U.S. are adopting a wait and see attitude with regard to most countries

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Classroom Performance SystemStudies show that after its first decade There was a small net gain of jobs in the U.S. Exports from the U.S. failed to grow NAFTAs overall impact has been significant The U.S., Canada, and Mexico all experienced a decrease in productivity

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The Andean CommunityThe Andean Pact (formed in 1969) was based on the EU modelThe agreement had more or less failed by the mid-1980sIn the late 1980s, Latin American governments began to adopt free market economic policiesIn 1990, the Andean Pact was re-launched, and now operates as a customs unionIn 2003, it signed an agreement with MERCOSUR to restart negotiations towards the creation of a free trade areaCurrent members include Bolivia, Ecuador, Peru, and Columbia

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MERCOSURMERCOSUR originated in 1988 as a free trade pact between Brazil and ArgentinaIn 1990, it was expanded to include Paraguay and UruguayMERCOSUR has been successful at reducing trade barriers between member statesHowever, critics worry that MERCOSUR is diverting trade rather than creating trade, and local firms are investing in industries that are not competitive on a worldwide basisCurrent members include Brazil, Argentina, Paraguay, Uruguay, and Venezuela

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Central American Common Market, CAFTA and CARICOMTwo other trade pacts in the Americas are1. the Central American Trade MarketCurrent members are Costa Rica, El Salvador, Guatemala, Honduras, Nicaragua, and the Dominican RepublicThese countries were joined by the U.S. in 2003 to create a free trade agreement, the Central American Free Trade Agreement (2003) 2. CARICOM (1973), a customs union between English-speaking Caribbean countriesSix members formed the Caribbean Single Market and Economy (CSME) in 2006 to lower trade barriers and harmonize macro-economic and monetary policy

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Free Trade of the AmericasTalks began in 1998 to establish a Free Trade of The Americas (FTAA) by 2005The FTAA was not established as plannedCurrent support for the agreement by the U.S. and Brazil is limitedIf the FTAA is established, it would create a free trade area of nearly 800 million people

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Regional Economic Integration ElsewhereThere have been various attempts at regional economic integration throughout Asia and AfricaThe success of these attempts have been limitedThe most significant efforts are the Association of Southeast Asian Nations and the Asia-Pacific Economic Cooperation

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Association of Southeast Asian NationsThe Association of Southeast Asian Nations (ASEAN) was formed in 1967ASEAN currently includes Brunei, Indonesia, Malaysia, the Philippines, Singapore, Thailand, Vietnam, Myanmar, Laos, and CambodiaThe goal of ASEAN is to foster freer trade between member countries and to achieve some cooperation in their industrial policiesIn 2003, an ASEAN Free Trade Area (AFTA) between the six original members of ASEAN came into full effect with a goal of reducing import tariffs among the older membersVietnam, Laos, and Myanmar have all joined AFTA more recently

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Asia-Pacific Economic CooperationAsian Pacific Economic Cooperation (APEC) was founded in 1990APEC currently has 21 members including the United States, Japan, and ChinaAPEC wants to increase multilateral cooperation in view of the economic rise of the Pacific nations and the growing interdependence within the region

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Regional Trade Blocs in AfricaThere are nine trade blocs on the African continentHowever progress toward the establishment of meaningful trade blocs has been slowMany countries believe that they need to protect their industries from unfair foreign competition making it difficult to create free trade areas or customs unions

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Implications for Managers Question: Why is regional economic integration important to international companies?

Thanks to regional economic integration, markets that had been protected from foreign competition are increasingly openThese developments are particularly significant in the European Union and NAFTAHowever, regional economic integration is likely to increase competition

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OpportunitiesFormerly protected markets are now open to exports and direct investment Because of the free movement of goods across borders, the harmonization of product standards, and the simplification of tax regimes, firms can realize potentially enormous cost economies by centralizing production in those locations where the mix of factor costs and skills is optimal

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ThreatsLower trade and investment barriers could lead to increased price competition within the EU and NAFTAIncreased competition within the EU is forcing EU firms to become more efficient, and stronger global competitorsFirms outside the blocs risk being shut out of the single market by the creation of a trade fortressFirms may be limited in their ability to pursue the strategy of their choice in the EU intervenes and imposes conditions on companies proposing mergers and acquisitions

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Critical Discussion Question1. NAFTA has produced significant net benefits for the Canadian, Mexican, and U.S. economy. Discuss.

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Critical Discussion Question2. What are the economic and political arguments for regional economic integration? Given these arguments, why dont we see more substantial examples of integration in the world economy?

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Critical Discussion Question3. What effect is creation of a single market and a single currency within the EU likely to have on competition within the EU? Why?

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Critical Discussion Question4. Do you think it is correct for the European Commission to restrict mergers between American companies that do business in Europe? (For example, the European Commission vetoed the proposed merger between WorldCom and Sprint, both U.S. companies, and it carefully reviewed the merger between AOL and TimeWarner, again both U.S. companies.)

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Critical Discussion Question5. How should a U.S. firm that currently only exports to ASEAN countries respond to the creation of a single market in this regional grouping?

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Critical Discussion Question6. How should a firm that has self-sufficient production facilities to in several ASEAN countries respond to the creation of a single market? What are the constraints on its ability to respond in a manner that minimizes production costs?

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Critical Discussion Question7. After a promising start, in the last few years, MERCOSUR, the major Latin American trade agreement, has faltered and made little progress since 2000. What problems are hurting MERCOSUR? What can be done to solve these problems?

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Critical Discussion Question8. Would the establishment of a Free Trade Area of the Americas (FTAA) be good for the two most advanced economies of the hemisphere, the United States and Canada? How might the establishment of the FTAA impact the strategy of North American firms?

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Critical Discussion Question9. Reread the Management Focus case on the European Commission and Media Industry Mergers, then answer the following questions:a) Given that both AOL and Time Warner were U.S. based companies, do you think the European Commission had a right to review and regulate their planned merger?b) Were the concessions extracted by the European Commission from AOL and Time Warner reasonable? Whose interests was the Commission trying to protect?c) What precedent do the actions of the European Commission in this case set? What are the implications for managers of foreign enterprises with substantial operations in Europe?

Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Management Focus: The European Commission and Media Industry MergersSummaryThis feature explores the efforts of the European Commission to influence the strategies of media companies as they joined forces in Europe. The European Commission, concerned that proposed joint ventures and mergers between companies would negatively affect competition within the industry, demanded that some companies alter their plans to work together, and in some cases, abandon relationships all together. Discussion of the feature can begin with the following questions.Suggested Discussion Questions1. Why did Timer Warner and EMI agree to drop their proposed joint venture? How did the European Commission convince AOL and Time Warner to change their strategy? Discussion Points: Time Warner and EMI, bowing to pressure from the European Commission, agreed to drop their joint venture plans after the European Commission raised concerns about the size of a jointly owned company, which would have been three times that of the next largest competitor. According to the European Commission, the joint venture would have too much market power. The European Commissions goal was to preserve a competitive market for consumers. A similar situation existed with the Time Warner - AOL deal, which if approved would dominate the emerging market for downloading music over the Internet. The companies involved had little choice in the matter, if they wanted to operate in the European market, they had to follow the rules.2. In your opinion, were the actions of the European Commission reasonable? Why or why not? Do you feel that the governing bodies of one nation should have the power to restrict the actions of foreign companies? Discussion Points: Students will probably be divided on this issue. Some will argue that the European Commission had no right to become involved in the business decisions of the companies, especially the ones from the United States. Others however, will probably note that one of the roles of the European Commission is to preserve a fair market system that protects consumers. In this particular case, that meant that the deals had to be blocked.Teaching Tip: To learn more about the companies in this feature, go to {http://www.timewarner.com/corp/}, {http://corp.aol.com/}, and {http://www.emigroup.com/Default.htm}. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Country Focus: Creating a Single European Market in Financial ServicesSummaryThis feature explores the European Unions progress towards creating a single financial market. The quest, started in 1999, was to have been completed by 2005, however, progress has been slowed by various factors related to the tradition of each member country operating autonomously. By 2007, significant progress had been made. Some 41 measures designed to create a single market were in place, and others were in the pipeline. The current issue facing the EU revolves around the enforcement of the rules that have been established as law. Some experts believe that it will be at least another decade before the benefits of the new rules become apparent. Discussion of this feature can begin with the following questions. Suggested Discussion Questions1. What are the benefits of creating a single financial market in the European Union for companies? Does it make sense for consumers? Discussion Points: A single financial market involving a common currency eliminates numerous challenges for companies and consumers. Not only are transactions and the associated paperwork greatly simplified, a single currency system also facilitates price comparisons across borders which should force companies to become more competitive. In addition, a single financial system would encourage competition in the financial services sector and increase liquidity in capital markets. 2. What are the impediments to creating a single financial market in the European Union? What does the potential for this type of market mean for countries like Great Britain that have not joined the euro-zone?Discussion Points: Creating a single financial market is not easy. Countries which have a long history of operating autonomously have to work together for common economic goals, a common regulatory framework must be developed, and cultural and linguistic barriers must be overcome. Countries that choose not participate in the system will retain control over their monetary policy, but may also lose investments or sales as companies seek to simplify their financing alternatives.Teaching Tip: The European Union has a web page devoted to the euro {http://ec.europa.eu/economy_finance/euro/our_currency_en.htm}. Students can explore the site and click on the pages to see pictures of the coins and notes, the advantages of participating in the euro zone, and frequently asked questions about the euro. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Internet Extra: More information about the euro is available at the European Union site {http://ec.europa.eu/economy_finance/euro/our_currency_en.htm}. Go to the site and click on Frequently Asked Questions to see numerous topics about the euro. Then click on Benefits of the euro to see why member countries have made the transition to the euro. Finally click on Use in the World to see which countries have adopted the euro and how it fits into the international monetary system.

Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Internet Extra: To extend the discussion of the European Union, and explore its historical role and current activities in the global economy, go to {http://europa.eu/index_en.htm}. Click on Activities and peruse the menu of options under What the European Union does by Subject to find topics pertaining to your discussion. To learn more about its political structure, click on Institutions and then on the individual parts of the EUs governing systems.

Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Classroom Performance System Answer: a

Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: Proponents of NAFTA argue that the agreement should be viewed as an opportunity to create an enlarged and a more productive base for the United States, Canada, and Mexico. As low-income jobs move from Canada and the United States to Mexico, the Mexican economy should be strengthened giving Mexican consumers the ability to purchase higher-cost American products. The net effect of the lower income jobs moving to Mexico and Mexico increasing its imports of higher quality American goods should be positive for the American economy. In addition, the international competitiveness of U.S. and Canadian firms that move production to Mexico to take advantage of lower labor costs will be enhanced, enabling them to better compete with Asian and European rivals. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: The economic case for regional integration is straightforward. As noted in Chapter 5, unrestricted free trade allows countries to specialize in the production of goods and services that they can produce most efficiently. If this happens as the result of economic integration within a geographic region, the net effect is greater prosperity for the nations of the region. From a more philosophical perspective, regional economic integration can be seen as an attempt to achieve additional gains from the free flow of trade and investment between countries beyond those attainable under international agreements such as the World Trade Organization. The political case for integration is also compelling. Linking neighboring economies and making them increasingly dependent on each other creates incentives for political cooperation between neighboring states. The potential for violent conflict between the states is also reduced. In addition, by grouping their economies together, the countries can enhance their political weight in the world. Despite the strong economic and political arguments for integration, it has never been easy to achieve on a meaningful level. There are two main reasons for this. First, although economic integration benefits the majority, it has its costs. While a set of nations as a whole may benefit significantly from a regional free trade agreement, certain groups may lose. The second impediment to integration arises from concerns over national sovereignty.Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: If the EU is successful in establishing a single market and currency, member countries can expect significant gains from the free flow of trade and investment. This will result from the ability of the countries within the EU to specialize in the production of the product that they manufacture the most efficiently, and the freedom to trade those products with other EU countries without being encumbered by tariffs and other trade barriers. In terms of competition, the competition between European firms will increase. Some of the most inefficient firms may go out of business because they will no longer be protected from other European companies by high tariffs, quotas, or administrative trade barriers. Companies from those countries that have not adopted the euro may find that their costs are higher as they deal with currency exchanges.Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: This question deals with the delicate issue of just how far a country can extend the reach of its law, and should set the stage for a good debate. While some students will argue that the European Commission is overstepping its boundaries by restricting mergers between American companies doing business in Europe, other students will recognize that the U.S. might act in a similar fashion if American firms were being threatened by foreign companies seeking to merge and operate in the U.S. market. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: A U.S. firm that is currently only exporting to ASEAN markets should seriously consider opening a facility somewhere within the region, as the economics of a common market suggest that outsiders can be at a disadvantage relative to insiders. The opening of borders within a common market has the potential to increase the size of the market for the firm. Of course it is possible, after careful consideration, that exporting may still be the most appropriate means of serving the market in some situations. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: The creation of the single market means that it may no longer be efficient to operate separate production facilities in each country. Instead, the facilities should either be linked so that each specializes in the production of only certain items, or several sites should be closed down and production consolidated into the most efficient locations. Existing differences between countries as well as the need to be located near important customers may limit a firms ability to fully consolidate or relocate production facilities for production cost reasons. Minimizing production costs are only one of many objectives of firms, as location of production near R&D facilities can be critical for new product development and future economic success. Thus what is most important in location decisions is long run economic success, not just cost minimization.Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: MERCOSUR originated in 1988 as a free trade pact between Brazil and Argentina. The pact was expanded in 1990 to include Paraguay and Uruguay with goal of becoming a full free trade area by 1994, and a common market sometime later. While initially considered a success, critics began to question whether the trade diversion effects of MERCOSUR outweighed it trade creation effects. Then, in 1998 member states slipped into a recession and in 1999, Brazils financial crisis led to a significant devaluation of its currency creating further turmoil. Finally, in 2001, Argentina, beset by economic stresses, asked that the customs union be temporarily suspended, effectively ending MERCOSURs quest to become a fully functioning customs union. However, in 2003, Brazils new president announced his support for a revitalized and expanded MERCOSUR that would be modeled after the EU. Teaching Tip: Students can check the current status of the agreement online {http://www.mercosur.int/msweb/}. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer: In 1994, a Free Trade of the Americas (FTAA) was proposed. If the agreement comes about, it would effectively create a free trade area of nearly 850 million people responsible for more than $16 trillion in GDP in 2007. Most students will probably recognize that if an agreement is reached, it will change the strategy of North American firms in that they could treat the entire area as a single market. The United States, while initially a strong advocate of the agreement, has lessened its support for the FTAA recently. The question of whether the agreement is good for the United States and Canada will likely produce a lively debate among students. Multimedia Lecture Support Package to Accompany Basic MarketingLecture Script 6-*Answer:a) This question is likely to generate lively debate among students. Some may argue that the European Commission had no right to extend its reach to influence the strategies of American companies. Other students however, may point out that given that the merger would directly affect European consumers, the European Commission was acting within its bounds. Some students may argue that had the European Commission not become involved, it would actually be reneging on its duties. b) Most students will probably agree that the goal of the European Commission was to protect European consumers. Students will probably suggest that request that Time Warner and EMI drop their proposed joint venture, and the request to allow rival companies access to online music on the same terms as AOL were reasonable in that they preserved competition within the industry. However, students may wonder whether the European Commission went too far when it asked AOL to sever its ties with Bertelsmann. c) Most students will agree that the European Commission clearly demonstrated that it is willing and able to force companies to follow policies it believes are best for European consumers. Students may suggest that companies will have to think beyond what a particular strategy means to their organization, and consider it from the perspective the industry as a whole, and from the perspective of the consumer.