Chapter Eight

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					     Chapter 8

Economic Integration

      Learning Objectives
To review types of economic integration
among countries
To examine the costs and benefits of
integrative arrangements
To understand the structure of the European
Union and its implications for firms within and
outside Europe
To explore the emergence of other integration
agreements, especially in the Americas and
To suggest corporate response to advancing
economic integration
Economic integration is best
viewed as a spectrum with the
various integrative agreements in
effect today lying in the middle of
this spectrum
The level of integration defines the
nature and degree of economic
links among countries
      Levels of Economic
Trading bloc       Trading blocs may
(alliance):        take various
preferential       forms:
economic             Free trade area
arrangement          Customs union
among a group of     Common market
countries            Economic union

The Free Trade Area and the
      Customs Union
The free trade area is   Members of a
the least restrictive    customs union
and loosest form of      dismantle barriers to
economic integration     trade in goods and
                         services among
among countries          themselves
In a free trade area,    A customs union
all barriers to trade    establishes a
among member             common trade policy
countries are            with respect to
removed                  nonmembers

The Common Market and the
      Economic Union
A common market has      The creation of a true
no barriers to trade     economic union requires
among members and        integration of economic
has a common external    policies in addition to the
trade policy             free movement of goods,
Factors of production    services, and factors of
are mobile among         production
members                  Under this union,
Members of a common      members would
market must be           harmonize monetary
prepared to cooperate    policies, taxation, and
closely in monetary,     government spending and
fiscal, and employment   a common currency would
policies                 be used by all members
       Arguments Surrounding
        Economic Integration
A number of arguments surround
economic integration
These arguments center on:
   Trade creation and diversion
   The effects of integration on import
   prices, competition, economies of
   scale, and factor productivity
   The benefits of regionalism versus

Trade Creation and Trade
       Whereas trade creation
       is positive in moving
       toward freer trade, and
       therefore lower prices
       for consumers within the
       EU, the impact of trade
       diversion is negative

  Reduced Import Prices
When a small country imposes a
tariff on imports, the price of the
goods will typically rise, which will
in turn result in lower demand for
the imported goods
When a bloc of countries imposes
the tariff, the fall in demand for the
imported goods will be substantial
      Increased Competition
      and Economies of Scale
Integration increases market size
and may result in a lower degree of
monopoly in the production of
certain goods and service
Certain industries may not be
economically viable in smaller, trade
protected countries
  Internal economies of scale (large
  production decrease cost and price)
  External economies of scale (cheap
  labor ,free capital also decrease cost
  and price through the flow of products
  and services freely across borders)
 Higher Factor Productivity and
Regionalism Versus Nationalism
When factors of          The biggest
production are freely    impediment (obstacle)
mobile, the wealth       to economic integration
of the common            remains the reluctance
market countries, in     (unwillingness) of
aggregate, will likely   nations to surrender
increase                 (give in) a measure of
Factor mobility will     their autonomy
not benefit each         (NATIONALISM)
country in the
common market
   European Integration
Economic integration in Europe
from 1948 to the mid 1980s:
 Organization for European Economic
 Cooperation (OEEC)
 Treaty of Rome
 European Free Trade Association (EFTA)
 Common agricultural policy (CAP)

    European Integration

The European Union
since the mid 1980s:
  1992 White Paper
  European Union (EU)

  Organization of the EU
The executive body of the EU is the
European Commission,
headquartered in Brussels
The Council of Ministers has the
final power to decided EU actions
The future expansion of the EU will
cause changes in the decision
making processes

Implications of the Integrated
      European Market
Perhaps the most important implication for
Europe is the economic growth that is
expected to result
Several specific sources of increased growth
have been identified:
  Gains from eliminating transaction costs
  Achievement of economies of scale
  More intense competition
  Cheaper transaction costs and reduced currency
Many U.S. firms fear a unified Europe
  North American Economic
Although the EU is undoubtedly the most
successful and well-known integrative
effort, integration efforts in North America
has gained momentum and attention
North American integration has an interest
in purely economic issues and there are no
constituencies for political integration
  U.S.-Canada Free Trade Agreement
  North American Free Trade Agreement (NAFTA)

Other Economic Alliances
The world’s developing
countries have perhaps
the most to gain from
successful integrative
  Import substitution

Integration in Latin America

Before the signing of the U.S.-Canada
Free Trade Agreement, all of the major
trading bloc activity in the Americas had
taken place in Latin America
One of the longest lived integration
efforts among developing countries was
the Latin America Free Trade
Association (LAFTA), formed in 1961

Integration in Asia and Integration
   in Africa and the Middle East
  The development in       Africa’s economic
  Asia has been            groupings range from
  different from that in   currency unions among
  Europe and the           European nations and
                           their former colonies
  Americas                 to customs unions
  Asian interest in        among neighboring
  regional integration     states
  is increasing for        Countries in the Arab
  pragmatic reasons        world have made some
                           progress in economic
Economic Integration and
the International Manager
Regional economic integration creates
opportunities and challenges for the
international manager
Economic integration may have an impact on a
company’s entry mode
Decisions regarding integrating markets must
be assessed from four different perspectives
  Effects of change
  Strategic planning
  Cartels and Commodity Price
An important characteristic that
distinguishes developing countries from
industrialized countries is the nature of
their export earnings
This distinction is important for several
A cartel is an association of producers of a
particular good
Commodity price agreements involve
both buyers and sellers in an agreement
to manage the price of a certain


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