preferential trade blocks

7/31/2019 Preferential Trade Blocks

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PREFERENTIAL TRADE

AGREEMENT


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Definition

A trade pact between countries that reduces tariffs for certain products tothe countries who sign the agreement. While the tariffs are not necessarilyeliminated, they are lower than countries not party to the agreement.

A Preferential trade area (also Preferential trade agreement, PTA) isa trading blocwhich gives preferential access to certain products from theparticipating countries. A PTA can be established through a trade pact. It isthe first stage ofeconomic integration. The line between a PTA anda Free trade area (FTA)may be blurred, as almost any PTA has a main

goal of becoming a FTA in accordance with the General Agreement onTariffs and Trade.


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Preferential Trading Agreements preferential trading agreements under which the

participating countries, lower tariffs with respect to

each other but not the rest of the world. The GATT-WTO prohibits such

agreements.

The formation of preferential trading

agreements is allowed if they lead to free tradebetween the agreeing countries.


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Are preferential trading agreementsgood? Trade creation

Occurs when the formation of a preferential trading

agreement leads to replacement of high-costdomestic production by low-cost imports from other

members.

Trade diversion

Occurs when the formation of a preferential trading

agreement leads to the replacement of low-costimports from non members with higher-cost imports

from member nations.


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Free trade can be established among several WTOmembers as follows:

A free trade area allows free-trade among members, buteach member can have its own trade policy towards non-member countries.

Example: The North American Free Trade Agreement(NAFTA) creates a free trade area.

A customs union allows free trade among members andrequires a common external trade policy towards non-member countries.

South Africa, Botswana, Lesotho and Swaziland establishedthe Southern African Customs Union (SACU) in 1969 as a

continuance of their custom union arrangements, which arein force since 1910.

A common market is a customs union with free factormovements (especially labor) among members.

Example: The European Union (EU) is a full customs union.


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Trade bloc

A trade bloc is a type of intergovernmental agreement, often part of a

regional intergovernmental organization, where regional barriers to trade

(tariffs and non-tariff barriers) are reduced or eliminated among the participating

states

Trade bloc mostly encourages regional trade

Trade blocs can be stand-alone agreements between several states (such as

the North American Free Trade Agreement (NAFTA) or part of a regional

organization (such as the European Union).

Trade blocs can fall into different categories, such as: preferential trading areas, freetrade areas, customs unions, common markets and economic and monetary unions.


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Economic integration

Term used to describe how different aspects between economies are

integrated.

As economic integration increases, the barriers of trade between markets

diminishes

The most integrated economy today, between independent nations, is

the European Union and its euro zone.

The degree of economic integration can be categorized into six stages:

Preferential trading area

Free trade area

Customs union

Common market

Economic and monetary union

Complete economic integration


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Levels of integration

Preferential trade agreement

countries giving reciprocal concessions

- often countries already linked closely - sometimes for specific goods

e.g. US-Canada auto pact (before NAFTA)

Free trade area (FTA)

very low internal trade barriers

aim to eliminate all trade restrictions

no unified policy for outside FTA e.g. NAFTA

Customs union

similar to FTA, but

- common external tariffs

- joint position in world trade negotiations

Common market

customs union plus movement of factors

especially labor and capital

e.g. Western Europe in 1970s and 1980s


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Free trade

Is a type of trade bloc, a designated group of countries that have agreed to eliminate

tariffs, quotas and preferences on most (if not all) goods and services traded between

them.

It can be considered as second stage of economic integration

Unlike a customs union, members of a free trade area do not have a common

external tariff (same policies with respect to non-members), meaning different quotas

and customs

The aim of a free trade area is to so reduce barriers to easy exchange that trade can

grow as a result of specialisation, division of labour, and most importantly via (the

theory and practice of) comparative advantage


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Additional Gains from Free Trade

Protected markets in small countries do not allow firms

to exploit scale economies.

The presence of scale economies favors free trade

that generates more varieties and results in lowerprices.

Free trade, as opposed to managed trade, provides

a wider range of opportunities and thus a wider scope

for innovation.


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Free Trade and Efficiency

In the case of a small country, free trade is the best policy.

The Case for Free Trade

World price

plus tariffWorld price

Price, P

Quantity, Q

S

D

Consumptiondistortion

Productiondistortion


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EXAMPLES FOR PTA

the European Union and the ACP countries

India and Afghanistan

India and Mauritius

the North American Free Trade Agreement (NAFTA) the Generalized System of Preferences

the Cotonou Agreement.


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Venezuela- Preferential trade agreements signed between Chile and Venezuela givethe Chilean exporters considerable advantage over U.S. fruit suppliers.

Bolivia - Bolivia's trade with neighboring countries is growing, in part because ofseveral regional preferential trade agreements it has negotiated.

PERU - Some countries (not including the United States) avoid tariffs on a number oftheir exports to Peru because of preferential trade agreements.

Panama - Panama is not a party to any agreements providing completely free trade,but does have bilateral preferential trade agreements with Costa Rica, El Salvador,Honduras, Guatemala, Nicaragua and the Dominican Republic.

Hungary has concluded a number of preferential trade agreements, including theEurope Agreement between Hungary and the European Community and their MemberStates (December 1991). In June 1993, the EU agreed to accelerate the agreement'sprovisions and reaffirmed its commitment to Hungary's full membership.

France and other EU member states have a network of preferential tradeagreements that is expanding rapidly.


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NAFTA

is an agreement signed by the governments of the United States, Canada,

and Mexico creating a trilateral trade bloc in North America. The goal of NAFTA was to eliminate barriers to trade and investment between the

USA, Canada and Mexico.

agreement December 1992,ratified 1993,implementation 1994-2008

US proponents of NAFTA

- trade benefits

- reduce immigration pressures- prosperity, stability, democracy for Mexico

General features

elimination of trade barriers

- in 10 years

- 15 for special products (e.g. agriculture)

no common external tariff restrictive rules of origin

- goods must have a substantial transformation

- e.g. 60% of autos must be locally made

- e.g. textiles must be made from NAFTA yarn


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Specific features

investment

national treatment dispute settlement by international tribunals

exempt Canadian cultural industries

Environment

Commission on Environmental Cooperation

has country enforced its environmental policy?

fines or trade sanctions can be imposed

Safetyvalve pre-NAFTA measures allowed if import surge

Transportation

no barriers eventually

No permanent independent organization

NAFTA functions through meetings

of country officials


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EUROPEAN UNION

formerly European Common Market,

European Community (EC)

fifteen members, 370 million people

eleven official languages

10 new members in May 2004

3 more applicants negotiating for membership

History

origins - Europe's devastation after 1939-45

economic integration as political move

1951, 6 countries in Coal and Steel Community

Treaty of Rome, 1957

- European Economic Community

- customs union- UK rejects

1950's 1980's - success

- new European political institutions

- 6 new members (UK in 1973)

- increased trade, capital, labor flows


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Common market + positive measures to

reduce market frictions

transactions costs

legal rules coordinated

common standards, financial regulations, etc

transportation problems

coordinate roads, rail, etc

no border checkpoints

exchange rate uncertainty

coordination of macro policies

possibly single currency

Success reveals three problem areas

microeconomic natural and administrative barriers

Macroeconomic- different currencies, instability

politics conflicts between "Europe" and countries


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Evolution

Traced back to 1500s in Europe when mercantilism developed

Mercantilism -Mercantilism is an economic theory that holds that the prosperity of a

nation is dependent upon its supply of capital, and that the global

volume of international trade is "unchangeable."

Prosperity of Britain Union, Free trade thoughts of Netherlands etc paved way GATT article XXIV sanctioned free trade areas and custom unions

Jacob Viner performed static analysis of PTA in 1950

Vinerian approach said PTA could be trade diverting or trade creating

1957- evolution of European union and EFTA enhanced PTA

Vinerian approach reworked by Paul Wannacott & Mark hutz-1989

By Lawrence Summers in 1991

World Banks Export- oriented industrialisation policy also promoted PTA


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Preferential rules of origin

Countries use the system of certification of origin most commonly calledrules of origin, where there is a requirement for the minimum extent oflocal material inputs and local transformations adding value to the goods

Establish criteria for determining the country or customs territory from whicha product originates

Allow customs authorities to distinguish between goods that are and that

are not eligilble for preferential treatement Rules determine the eligibility of products for tariff preferences undervarious types of trade agreements

PTA s could alter global trade patterns in textiles and apparels significantlyto the advantage of members and dis advantage of nonmembers

New PTA rules that US and EU follow, allow some flexibility

Administering of rules of origin will impose costs on firms and governments,

so economic cost factor should be considered Simplification and harmonization of rules of origin is part of the future

program of work for the WTO


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PREFERNTIAL TRADE

AGREEMENTS IN ASIA AND PACIFICREGION


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REASONS FOR ESTABLISHMENT OF PTAs

(a) recognition of the political needs of member nations;

(b) geographic proximity of the partners;

(c) dissatisfaction with the GATT/WTO process for trade liberalization;

(d) the opportunity to address issues not addressed by WTO or not

effectively addressed, such as barriers to services trade, foreign investment

flows, various non-tariff barriers and labour, and

environmental standards; and

(e) a response to regional trade agreements formed or forming elsewhere,

including a reflection of the fear of exclusion from major markets. This

domino effect (Baldwin, 1996) is clearly evident in the Asian and Pacific

region, with the Association of Southeast Asian Nations (ASEAN), Japan,the Republic of Korea, Singapore, Chile and New Zealand showing initial

interest in PTAs in the 1990s. By 2000,the United States of America,

Australia, individual ASEAN members such as Thailand, and China had

joined the trend, and the momentum has since continued.


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CONCERNS ASSOCIATED WITH PTAs

Various concerns can be mentioned in association with PTAs, including the

well-known possibilities of :

trade diversion rather than creation,

concentration on regional arrangements diverting scarce negotiating

resources away from multilateral negotiations,

the administrative costs and confusion that could result from a plethora of

overlapping trade agreements (Hilaire and Yang, 2003).

there is clearly the risk that a hub-and-spoke system will dominate, with

these leading economies as the hubs.

Zhai (2006) considered the possibility of China or Japan being regional

hubs.

Agriculture, of course, is the problematic sensitive sector in many of thecompleted agreements as well as in ongoing negotiations. Asia-Pacific

PTAs have followed a variety of approaches in incorporating agricultural

preferences, and the agreements range from quite comprehensive to very

restrictive coverage.


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MOTIVATION AND METHODOLOGY

This study is motivated by the many PTAs that are being simultaneously negotiated

and implemented in the Asian and Pacific region with potential to interact and change

outcomes, perhaps in ways that may not have been anticipated.

China is involved in a range of agreements; those already in force include

agreements with ASEAN, Chile, New Zealand, Pakistan, Hong Kong, China, and

Macao, China (from 1 October 2008), while other partner countries now at the study,

consultation, negotiation or ratification stage include Australia and the Republic ofKorea.

ASEAN has agreements or negotiations with Australia and New Zealand, Japan, the

Republic of Korea and the European Union. The web of agreements becomes even

more tangled when considering those agreements involving individual ASEAN

member countries.

The Global Trade Analysis Project (GTAP) dynamic model is applied to bilateral andregional trade analyses in the Asian and Pacific region. In particular, a number of

Chinas possible preferential agreements are examined, the implications of these

trading partners also liberalizing among themselves are considered.


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Model and baseline

The GTAP-Dyn model permits capital accumulation, together with international

mobility and foreign ownership of capital

Under this model-Five primary factors of production (land, natural resources, physical

capital, and unskilled and skilled labour) combine with intermediate inputs, including

imports, to produce final output.

The current study uses version 6 of the GTAP database, comprising 87 economic

regions, and 57 sectors (Dimaranan, 2006), extended to facilitate analysis of dynamic

capital accumulation.

First a baseline model is developed, up to 2020, from the benchmark GTAP 6

dynamic database projection.

The baseline simulation captures some of the significant ways in which the structure

of the world economy is anticipated to change by 2020. Changes in the structure of

production for each region are driven by differences in the relative rates of factoraccumulation, including endogenous capital growth. These combine with different

factor intensities in each sector, as well as price and income elasticities


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Liberalization scenariois

1.Bilateral agreements (hub-and-spoke)

All bilateral tariffs are removed between China (the hub) and three regions:Australia and New Zealand in 2009; ASEAN countries in 2010 (new ASEANcountries in 2015);a and the Republic of Korea in 2012.

2.Regional free trade area (RFTA) All bilateral tariffs are removed within an FTA comprising China, ASEAN,

the Republic of Korea, Australia and New Zealand. The timing ofliberalization is as for scenario 1, but now also liberalizing trade between

ASEAN, Australia and New Zealand and the Republic of Korea in 2013(extended to 2017 for tariffs imposed by new ASEAN countries).

3. Regional free trade area with sensitive products (RFTA-Sensitive) As for scenario 2, but with sensitive sectors not liberalized. For Asian

countries, sensitive products are assumed to be the rice, cattle and sheepmeat, and dairy product sectors. For Australia and New Zealand, thesectors assumed to be sensitive are textiles, wearing apparel and leatherproducts.

4. APEC Developed APEC countries are assumed to fully liberalize their tariffs by

2010, and developing countries by 2020.

a Intra-ASEAN tariffs are also eliminated.


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Determinants of successful PTAs

Preferential agreements that are most likely to produce benefits are those with

the following characteristics:

(i) large and diverse membership;

(ii) low external MFN tariffs;

(iii) comprehensive coverage in terms of measures, sectors and products, with

few exemptions;

(iv) liberal rules of origin; and

(v) inclusion of measures to facilitate trade and to promote cross-border

competition.

In addition, well-designed agreements also need to be supported by

effective monitoring and enforcement mechanisms to ensure consistentimplementation.


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Effects of PTA s Inclusion of sensitive sectors and the provisions on services ,investment,

and trade facilitation

Some PTAs, such as ASEAN-China CEC, include agriculture, and

consistent implementation of these agreements could create a momentum

for further agricultural liberalisation

Most PTAs include provisions on services, investment, and trade facilitation,

although the provisions generally lack specifics and a time table forimplementation.

The proliferation of Asia Pacific PTAs increases the bias toward

intraregional trade and raises the risk of trade diversion, especially because

the MFN tariff rates in some countries are high and strongly dispersed.

Administrative complications could severely diminish any potential benefits

of PTAs and further accentuate trade diversion.

Preferential agreements could potentially inhibit the processes of cross-

border production networking which has been central to the regions

successful integration.

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