Multi-layer regional trade pacts

This Article was published in
Dawn (November 29, 2010)

By Sahibzada Hussain Mohi-ud-Din Qadri

THE global economic integration is not a new phenomenon. Even in ancient times, communication and trade occurred between different regions. While the globalisation process in economic domain experienced challenges as well as occasional interruptions, the level of economic integration has generally risen, particularly over the past half a century.

Depending upon their level of integration amongst the participating nation-states, Regional Trade Agreements (RTAs) comprise the following categories: First, at the most basic level Preferential Trading Agreements (PTAs), the lower trade barriers among members. Such preferential trade is usually limited to the portion of actual trade flows from the less-developed countries and is often non-reciprocal. An example of such an agreement is the Papua New Guinea – Australia Trade and Commercial Relations Agreement (PATCRA II) that has been in effect since 1977.

Second, a Free Trade Agreement/Area (FTA) is a reciprocal arrangement whereby trade barriers (usually tariffs) between participating nations are abolished. However, each member independently determines its external trade policies against non-FTA members. Most commonly, barriers to trade are reduced over time, but in most cases, not all trade is completely free from national barriers. A prominent example of a FTA is the North American Free Trade Agreement (NAFTA).

The third level of economic integration is the customs union. In a customs union, trade barriers among members are eliminated. Also, the participating nations adopt a common external trade policy (e.g. common external tariff regime or CET) against non-members. Such a union is equivalent to an FTA plus, a common external trade policy. The customs union of the Southern Cone -Mercosur-represents such an arrangement.

The fourth level of economic integration is the common market. In a common market, countries remove all barriers to movement of both goods and factors, and retain the common external trade policy. It is equivalent to a customs union plus free mobility of factors of production. One example of it is the common market for Eastern and Southern Africa.

The fifth level of economic integration is the Economic Union. In such a union, besides the free goods and factor movements, member countries also adopt common macroeconomic policies. An example of it is the European Union (EU).

The orthodox theory of economic integration determines gains and losses by judging the relative strengths of trade creation and trade diversion effects arising from economic integration. Trade creation refers to a shift from high-cost domestic products to the low-cost products of the member countries in an economic union or a regional bloc. This shift involves a production effect and a consumption effect.

The former saves the real cost of domestic production owing to reduction in the production from an increase in the import of those goods, that a member-country can produce at a lower cost, while the latter enhances consumer satisfaction because of increased consumption of those goods which are imported at a lower price but were produced domestically at higher costs.

Trade diversion entails a shift in the source of imports from lower-cost external sources to higher-cost member-country sources as a result of economic integration. The result is an increase in the cost of imports due to the shift from foreign to member-country sources and a loss of consumers` surplus resulting from the substitution of higher-cost goods for lower-cost goods.

In general, regional cooperation in developing countries leads to dynamic impacts embodied in technical change and economic restructuring pushed by comparative advantage. They can join hands to see globalisation as an opportunity rather than a threat. In the World Trade Organisation (WTO) era, facing up to new forms of protectionism such as anti-dumping duties, environmental quality and social standards, presents a challenge, which is better managed by a regional bloc rather than by divisive individualism.

Essentially, RTAs are violations of WTO`s non-discrimination principle. This basic principle is defined in the Most-Favoured-Nation (MFN) rule, which requires a member country to extend to all WTO members the privileges that it grants to one contracting party. However, WTO views RTAs to be good and encourages the formation of free trade areas and customs union.

Article XXIV of GATT and article V of GATS present the legal foundation for RTAs to cover trade in goods and services. The “enabling clause,” adopted in 1979, “provides for the mutual reduction of tariffs on trade in goods among developing countries”

RTAs are in fact helpful to world trade liberalisation. Compared with multilateral negotiation systems, smaller numbers of parties are involved in RTAs, and similar political and economical interests can be easily processed. RTA rules can pave the way for WTO multilateral negotiations.

To ensure that RTAs improves regional trade liberalisation without hurting global trade liberalisation, Article 24 of GATT regulates that RTAs should trade more freely among their member countries without raising barriers on trade towards the outside world. In addition, the WTO General Council created a Committee on Regional Trade Agreements (CRTA). Its purpose is to examine regional groups and to assess whether they are consistent with WTO rules.