Free Trade Agreements versus Customs Unions

Until NAFTA, analyses of preferential trading arrangements began by assuming a customs union with a common external tariff, and the differences between customs unions and free trade agreements (FTAs) have been little analyzed. This paper points to some of the differences between FTAs and customs unions, and shows that on welfare grounds a customs union is always Pareto-superior to an FTA. Moreover, the political economy of FTAs will lead to more opposition to further multilateral trade liberalization than will customs unions.

The customs union issue: why do we observe so few of them?.

The number of preferential trade agreements has greatly increased over the past two decades, yet most existing bilateral arrangements take the form of free trade areas, and less than ten percent can be considered to be fully °edged customs unions. This paper develops a political economy model of trade policy under imperfect competition to provide a positive explanation for the prevalence of free trade areas. In a three- country setting, a representative from each prospective member is elected to determine the tariffs to be applied on imported goods. Under a customs union, the necessity to coordinate tariffs leads voters to strategically delegate power to more protectionist representatives. Contrary to most of the existing literature, we show that strategic delegation may imply that free trade areas increase welfare compared to customs unions. Moreover, the model also indicates that free trade areas are more likely to be politically viable than customs unions.

A neo-Ricardian critique of the traditional static theory of trade, customs unions and common markets

The vast majority of meaningful discussions about the processes of economic integration and liberalization of trade have so far revolved around the neoclassical theory. This paper is based on the neo-Ricardian theory, briefly investigates the issues of free trade, customs unions and common markets, and shows that the relevant neoclassical propositions do not hold and/or make no sense in a world ‘of production of commodities by means of commodities’. Thus, the fundamental theoretical presuppositions of the aforesaid debate are called in question.common markets; customs unions; free trade; neo-Ricardian theory; traditional static theory

Welfare Implications of Regionalism in the GATT: The Presence of Foreign Ownership

This paper examines the welfare implications of an existence of free trade agreements (FTAs) and customs unions (CUs) in the GATT system, in the presence of cross-foreign ownership among countries. In particular, two GATT regimes are analyzed: a pure GATT regime without any regional free trade agreements, and modified GATT regime with either an FTA or a CU. This paper argues that, when foreign ownership exists significantly between the countries, no countries in the GATT have an incentive to form a regional trade agreement before they participate in multilateral tariff negotiations.Most Favored Nation Clause, Free Trade Agreements, Customs Unions, Foreign Ownership

Camouflaged Trade Agreements

We raise the possibility that at least some of the free trade areas observed in practice are customs unions in disguise. We distinguish between generalized and standard customs unions. While members of the former can choose different external tariff rates, members of the latter levy a common external tariff. The chief insight is that, in practice, it is typically not possible to differentiate between a generalized customs union and a free trade area. We demonstrate that generalized customs unions will be established and offer an ex­planation for the design of Article XXIV of the General Agreement on Tariffs and Trade

Camouflaged Trade Agreements

We raise the possibility that at least some of the free trade areas observed in practice are customs unions in disguise. We distinguish between generalized and standard customs unions. While members of the former can choose different external tariff rates, members of the latter levy a common external tariff. The chief insight is that, in practice, it is typically not possible to differentiate between a generalized customs union and a free trade area. We demonstrate that generalized customs unions will be established and offer an ex­planation for the design of Article XXIV of the General Agreement on Tariffs and Trade

North-South Customs Unions and International Capital Mobility

This paper examines the implications of a North-South trade accord where investments in the Southern partner nation exhibit country risk. Our analysis demonstrates that North-South trade accords can serve as credibility-enhancing mechanisms that induce additional foreign capital inflows into Southern partner nations. The presence of sovereign risk changes the tradeoffs between trade creation and diversion, enhancing the potential for regional trade accords to increase the welfare of accord members.

North-South customs unions and international capital mobility

The primary distinction in a North-South trade accord is likely to be that the Southern nation experiences more capital scarcity than its Northern trade partner. So the trade accord's impact on the Southern trading partner's ability to attract capital may have welfare implications for both nations. The authors extend the traditional analysis of customs unions to allow for international capital movements. Their results indicate that trade accords may affect the ability of Southern nations to attract capital and may divert capital between Southern nations. Moreover, the welfare implications of North-South trade accords may differ from those that predict the North American Free Trade Agreement's (NAFTA) minor third-country effects, holding factor endowments constant. The key implications of North-South trade accords such as NAFTA are generally perceived to involve their impact on investment flows. The authors try to understand the channels through which trade accords can affect North-South investment flows. A potential link between trade accords and investment flows may be how the accords affect the ability of the Southern partner government to make commitments about the treatment of foreign investment. They show that these accords can affect both the magnitude and pattern of inward foreign investment and production, implying the possibility that both trade and financial diversioncan stem from a bilateral regional trade accord. Novel effects that emerge under sovereign risk must be addressed when assessing the welfare implications of trade accords. The greatest gains from integration are still achieved when integration takes place between the countries with the greatest potential gains from trade. But the authors make a distinction: these gains now include both current trade and inter-temporal trade through foreign investment.Environmental Economics&Policies,Economic Theory&Research,Payment Systems&Infrastructure,International Terrorism&Counterterrorism,Fiscal&Monetary Policy,Trade and Services,Economic Theory&Research,Environmental Economics&Policies,TF054105-DONOR FUNDED OPERATION ADMINISTRATION FEE INCOME AND EXPENSE ACCOUNT,Trade and Regional Integration

Multilateral trade liberalization and political disintegration - implications for the evolution of free trade areas and customs unions

The author combines two theories - one about how multilateral trade liberalization affects regional integration, the other about how it affects political disintegration - to explain why the ratio of free trade areas to customs unions has increased over time. Ethier argues (1998, 1999) that multilateral trade liberalization led to the recent wave of regional integration arrangements. Alesina and others (1997), in discussing the number and size of countries, argue that multilateral trade liberalization leads to political disintegration, with an increase in the number of countries. Combining the two arguments, the author hypothesizes that as multilateral trade liberalization proceeds, and the number of regional integration arrangements increases, the ratio of free trade areas to customs unions also increases. The data, which show that ratio increasing in the 1990s, are consistent with the hypothesis.Environmental Economics&Policies,Economic Theory&Research,Rules of Origin,Earth Sciences&GIS,Trade Policy,Rules of Origin,Earth Sciences&GIS,TF054105-DONOR FUNDED OPERATION ADMINISTRATION FEE INCOME AND EXPENSE ACCOUNT,Trade and Regional Integration,Economic Theory&Research