Trade Bloc Essay

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Trade blocs refer to groups of countries that have established preferential trade arrangements aiming at increasing trade among each other. Trade blocs have been formed along geographical lines leading to the emergence of regional bloc trading. The terms trade blocs and trade pacts are often used as synonyms in literature. Here, trade blocs are understood as trading areas formed by one or several trade pacts.

In Europe, the European Union (EU) and the European Free Trade Association (EFTA) have established an even larger trade bloc, the European Economic Area (EEA). Via free trade areas (FTAs), preferential trading is planned to be extended to the Mediterranean area and southeastern Europe.

In the Americas, several regional trade blocs have emerged, mainly based on the Southern Common Market (Mercosur), the Andean Community (ANDEAN), the Caribbean Community (Caricom), the Central American Common Market (CACM), and the North American Free Trade Agreement (NAFTA). Mercosur and ANDEAN have concluded first steps toward the establishment of the Union of South American Nations. Intra-American trade integration is further fostered through bilateral trade agreements among individual American countries that are members of different trade blocs. Moreover, an all-American agreement, the Free Trade Area of the Americas (FTAA), is being negotiated, although negotiations have recently experienced setbacks.

In the Asia-Pacific, the Association of South-east Asian Nations (ASEAN) Free Trade Agreement (AFTA), the ASEAN and China FTA, and the ongoing ASEAN plus three negotiations (with China, Korea, and Japan) have created or aim for plurilateral integration schemes fostering the emergence of an East Asian trade bloc. Furthermore, a network of bilateral trade pacts within the region has evolved. Also, the Pacific has seen several regional trade arrangements, while a multitude of trade pacts in central Asia aim to establish the economic links formerly existing within the Soviet Union.

In North Africa and the Middle East, integration attempts were launched with the Gulf Cooperation Council and the Greater Arab Free Trade Area. In Africa, high-level regional agreements have been concluded (e.g., the Southern African Customs Union and the West African Economic and Monetary Union). Nevertheless, Africa features a very low level of intraregional trade, trade pacts are overlapping, and the provisions of the agreements are rarely enforced.

Growth Of Trade Blocs

Hence, although the number of intraregional trade blocs has grown, consolidation into continent-wide trade blocs has recently stagnated. Furthermore, cross-regional trade pacts are increasingly concluded that link individual nations of different trade blocs with each other and trade blocs with individual nations of other trade blocs. Arrangements such as the Asia Pacific Economic Cooperation (APEC) that span several continents have evolved. This has led to the emergence of what Richard Baldwin calls “fuzzy leaky trade blocs.”

With the proliferation of trade blocs, their welfare implications in the short run, and their role for further worldwide multilateral trade liberalization in the long run have been extensively debated in academia.

Jacob Viner was the first to highlight the effects of trade creation and trade diversion in 1950. Trade creation occurs when domestic products are replaced by cheaper products from trade bloc members. However, members of a grouping can also reorient their trade away from low-cost nonmember countries toward higher-cost member countries, leading to trade diversion. Which effect prevails depends on the trade patterns of a country or trade bloc and the levels of tariffs prevailing prior to liberalization. Moreover, when the terms of trade of trade bloc outsiders deteriorate as products from outside the bloc get more expensive, beggar-thy-neighbor effects occur. As the size of trade blocs increases, they obtain greater bargaining power and show more aggressive trading behavior, potentially leading to trade wars. Nevertheless, Paul Krugman and Laurence Summers have argued, although not without criticism, that trade blocs of countries that naturally trade with each other due to proximity or other economic motivations are welfare enhancing, as trade diversion is minor. A different set of welfare losses is anticipated as a result of the lack of transparency because of the “spaghetti bowl” nature of trade blocs. But also welfare gains are expected to occur in the long run, because of the increased market size and competition in trade blocs leading to economies of scale and higher productivity and innovation.

Opponents And Proponents

The question of whether trade blocs are building or stumbling blocks for further multilateral liberalization has been hotly debated since Jagdish Bhagwati coined these terms. Opponents of trade blocs argue that even a small increase in trade protectionism will lead to trade diversion. Once such measures are taken, interests are created that gain from the discriminating nature of the agreements and oppose further multilateral liberalization. Moreover, trade ministries have only limited resources and when concentrating on the formation of trade blocs, multilateral trade negotiations will suffer.

Proponents of the building-block nature of trade blocs claim that member countries of trade blocs might be inclined to agree to multilateral trade talks when they fear the emergence of another trade bloc stronger than their own one. Also, countries may go further in liberalization on a bilateral or plurilateral scale than on the multilateral one, demonstrating benefits to other countries and encouraging them to pursue further liberalization. Moreover, companies lobby governments to reduce tariffs to nontrade bloc members that produce intermediate goods for them to remain competitive. Academics also emphasize that developing countries can lock in overall trade reforms and multilateral trade liberalization by committing themselves to free trade within a trade bloc.

Hence, the impact of trade blocs on welfare and on further multilateral trade liberalization is ambiguous.

Generating empirical evidence has proved to be difficult, as many of the agreements have existed for only a few years, have phased in liberalization schedules, and often coincide with a general period of economic growth. However, while computable equilibrium modeling frameworks in general have supported the trade creation argument, the recent ex post econometric studies are less clear cut.

Bibliography:

  1. Richard Baldwin, “Multilateralising Regionalism: Spaghetti Bowls as Building Blocs on the Path to Global Free Trade,” The World Economy (v.29/11, 2006);
  2. Jagdish Bhagwati and Anne O. Krueger, eds., The Dangerous Drift to Preferential Trade Agreements (American Enterprise Institute for Public Policy Research, 1995);
  3. Roberto V. Fiorentino et al., The Changing Landscape of Regional Trade Agreements—Update 2006, WTO Discussion Paper No. 12 (World Trade Organization, 2007);
  4. Laura Gomez-Mera, “How ‘New’ Is the ‘New Regionalism’ in the Americas? The Case of MERCOSUR,” Journal of International Relations and Development (v.11/3, 2008);
  5. Pravin Krishna, Trade Blocs: Economics and Politics (Cambridge University Press, 2005);
  6. Anne Krueger, “Are Preferential Trading Arrangements Trade-Liberalizing or Protectionist?” Journal of Economic Perspectives (v.13/4, 1999);
  7. Paul Krugman, “Is Bilateralism Bad?” in International Trade and Trade Policy, Elhanan Helpman and Assaf Razin, eds. (MIT Press, 1991);
  8. Scott Mcdonald, Sherman Robinson, and Karen Thierfelder, “Asian Growth and Trade Poles: India, China, and East and Southeast Asia,” World Development (v.36/2, 2008);
  9. Jaime de Melo and Arvind Panagariya, eds., New Dimensions in Regional Integration (Cambridge University Press, 1994).

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