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Chapter 8
regional economic
integration
LEARNING OBJECTIVES
A
Be able to explain the different levels of regional economic

integration.
Understand the economic and political arguments for

regional economic integration.
Understand the economic and political arguments against

regional economic integration.
Be familiar with the history, current scope and future

prospects of the world's most important regional economic
agreements.
Understand the implications for business that are inherent

in regional economic integration agreements.
PA R T 3
after you have read this chapter, you should:
The European energy market

For several years now the european Union, the largest regional trading
bloc in the world, has been trying to liberalise its energy market, replacing
the markets of its 27 member states with a single continent-wide market
for electricity and gas. the first phase of liberalisation went into effect in
June 2007. When fully implemented, the ability of energy producers to sell
electricity and gas across national borders will increase competition, which
in turn should lower energy prices, force utilities to become more efficient
and boost economic growth across the region.
the road towards the creation of a single eU energy market, however,
has been anything but easy. Many national markets are dominated by a
single enterprise, often a former state-owned utility. electricitie de France,
for example, has an 87 per cent share of that countrys electricity market.
Injecting competition into such concentrated markets will prove difficult.
to complicate matters, most of these utilities are vertically integrated,
producing, transmitting and selling power. these vertically integrated
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part 3 the gloBal trade and InvestMent envIronMent
producers have little interest in letting other utilities use their transmission
grids to sell power to end users, or in buying power from other producers. For
the full benefits of competition to take hold, the eU recognises that utilities
need to be split into generation, transmission and marketing companies,
so that the business of selling energy can be separated from the businesses
of producing it and transmitting it. only then, so the thinking goes, will
independent power marketing companies be able to buy energy from the
cheapest source, whether it is within national borders or elsewhere in the
eU, and resell it to consumers, thereby promoting competition. For now,
efforts to mandate the de-integration of utilities are some way off. Indeed,
in February 2007, national energy ministers from the different eU states
rejected a call from the european Commission, the top administrative body
concerned with competition in the eU, to break apart utilities. Instead the
energy ministers asked the commission for more details about what such
a move would accomplish, thereby effectively delaying any attempt to deintegrate national power companies.
the response of established utilities to the creation of a single
continent-wide market for energy has been to try to acquire utilities in
other eU nations in an effort to build systems that serve more than one
country. the underlying logic is that larger utilities should be able to
realise economies of scale, which would enable them to compete more
effectively in a liberalised market. however, some cross-border takeover

bids have run into fierce opposition from local politicians who resent their
national energy companies being taken over by foreign entities. Most
notably, when e.on, the largest german utility, made a bid to acquire
endesa, spains largest utility, in 2006, spanish politicians sought to block
the acquisition and keep ownership of endesa in spanish hands, imposing
conditions on the deal which were designed to stop the germans from
acquiring the spanish company. In response to this outburst of nationalism, the
european Commission took the spanish government to the european Unions
highest court, arguing that Madrid had violated the commissions exclusive
powers within the eU to scrutinise and approve large cross-border mergers
in europe. perhaps somewhat ironically, during 2008 the commission
has been investigating e.on because of concerns about infringements
of eU treaty rules on the abuse of market power (in this case in german
electricity markets).
Sources: power struggles: european utilities, The Economist, 2 december 2006, p. 74; anger
management in Brussels, Petroleum Economist, april 2006, pp. 13; r. Bream, liberalization
of eU market accelerates deal-making, Financial Times, 28 February 2007, p. 4; antitrust:
Commission market tests commitments proposed by eon concerning german electricity
markets, EU (2008 C146/09), June 2008; Commission of the european Communities, report on
competition policy 2007, COMM, 2008, 368 final, June 2008, section 2.1. #
INTROduC TION
One notable trend in the global economy in recent years has been the accelerated movement towards
regional economic integration. By regional economic integration we mean agreements among
countries in a geographic region to reduce, and ultimately remove, tariff and non-tariff barriers to
the free flow of goods, services and factors of production between each other. Consistent with the
predictions of international trade theory, and particularly the theory of comparative advantage (see
p. 166), agreements designed to promote freer trade within regions are believed to produce gains
from trade for all member countries.
As we saw in Chapter 5, the General Agreement on Tariffs and Trade (GATT) and its successor,
the World Trade Organization (WTO), also seek to reduce trade barriers. With 152 member states,
the WTO has a worldwide perspective. By entering into regional agreements, groups of countries
aim to reduce trade barriers more rapidly than can be achieved under the auspices of the WTO.
In the past two decades, the proliferation of regional trade blocs that promote regional economic
integration has been unprecedented. WTO members are required to notify the WTO of any
regional trade agreements in which they participate. By 2008, nearly all the WTOs members had
notified the organisation of participation in one or more regional trade agreement(s).1
Nowhere has the movement towards regional economic integration been more successful than
in Europe. On 1 January 1993, the European Union (EU) formally removed many of the barriers
to doing business across borders within the EU, in an attempt to create a single market comprising
some 340 million consumers. However it did not stop there. By 2007 the number of EU member
states had risen to 27 (up from 12 in 1993), with a combined population of some 500 million
consumers and a gross domestic product that now compares favourably with that of the US. The
EU also launched a single currency (the euro), which has so far been adopted by 16 member states,
and members are moving towards a closer political union.
However, as the opening case illustrates, progress towards a unified pan-European market has
not always been smooth. By promoting free trade in energy across national borders, the EU hopes to
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Chapter 8 regIonal eConoMIC IntegratIon
269
increase competition and lower energy prices to consumers, but political opposition and the realities
of the existing industry structure have so far made this a difficult goal to attain. Nevertheless, while
a global market for electricity and gas is a long way off, the EU hopes to have a regional market
established and functioning relatively soon. The trend is clear: within the boundaries of the EU, at
least, a persistent movement towards greater economic integration is in place.
Similar moves towards regional integration are being pursued elsewhere in the world. In the
AsiaPacific region, the AustraliaNew Zealand Closer Economic Relations Trade Agreement
(ANCERTA, or simply CER) has resulted in free trade of all goods and nearly all services between
the two countries, and has brought about close intergovernmental cooperation. The extension of
CER to include other Pacific Ocean island nations is currently being explored.2 In South-east Asia
there is the Association of Southeast Asian Nations (ASEAN), with a membership of 10 countries
and the aim of promoting free trade and peaceful coexistence in the region. And 21 Pacific Rim
countries, including Australia, New Zealand, some ASEAN members, China, Japan and the US
have been discussing a possible pan-Pacific free trade area under the auspices of the AsiaPacific
Economic Cooperation forum (APEC). Similarly, Canada, Mexico and the US have implemented
the North American Free Trade Agreement (NAFTA), which promises to ultimately remove all
barriers to the free flow of goods and services between the three countries. There have also been
active attempts at regional economic integration in Central and South America, discussions about
establishing a hemisphere-wide Free Trade Agreement of the Americas (FTAA), and attempts at
regional economic integration in some parts of Africa.
While the move towards regional economic integration is generally seen as a good thing, some
observers worry that it will lead to a world in which regional trade blocs compete against each other.
In this possible future scenario, free trade will exist within each bloc, but each bloc will protect its
market from outside competition with high tariffs. The spectre of the EU and NAFTA turning into
economic fortresses that shut out foreign producers with high tariff barriers is worrisome to those
who believe in unrestricted free trade. If such a situation were to materialise, the resulting decline
in trade between blocs could more than offset the gains from free trade within blocs.
With these issues in mind, this chapter will explore the economic and political debate
surrounding regional economic integration, paying particular attention to the economic and
political benefits and costs of integration; review progress towards regional economic integration
around the world; and map the important implications of regional economic integration for the
practice of international business. But before tackling these objectives, we first need to examine
the levels of integration that are theoretically possible.
LE VEL S Of ECONOmIC INTEGR ATION

Several levels of economic integration are possible in theory (see Figure 8.1). From least integrated
to most integrated, they are: a free trade area, a customs union, a common market, an economic
union and a full political union.
In a free trade area, all barriers to the trade of goods and services among member countries are
removed. In the theoretically ideal free trade area, no discriminatory tariffs, quotas, subsidies or
administrative impediments are allowed to distort trade between members. Each country, however,
is allowed to determine its own trade policies with regard to non-members. Thus, for example,
the tariffs placed on the products of non-member countries may vary from member to member.
Free trade agreements are the most popular form of regional economic integration, accounting for
almost 90 per cent of regional agreements.3
The most enduring free trade area in the world is the European Free Trade Association (EFTA).
Established in January 1960, EFTA currently joins four countriesNorway, Iceland, Liechtenstein
and Switzerlanddown from seven in 1995 (three EFTA members, Austria, Finland and Sweden,
joined the EU on 1 January 1996). EFTA was founded by those Western European countries that
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figure 8.1
levels of economic
integration
Political union
Economic union
Common market
X
EU
2008
Customs union
Free trade
area
X
NAFTA
Leve
l
of In
tegr
atio
initially decided not to be part of the European Economic Community (the forerunner of the EU).
Its original members included Austria, Britain, Denmark, Finland and Sweden, all of which are now
members of the EU. The emphasis of EFTA has been on free trade in industrial goods. Agriculture
was left out of the arrangement, each member being allowed to determine its own level of support.
Members are also free to determine the level of protection applied to goods coming from outside EFTA.
Under CER, Australia and New Zealand also form a free trade zone. Other free trade areas include the
three countries party to the North American Free Trade Agreement (NAFTA), and ASEAN member
countries have recently made significant progress towards free trade within the bloc.
The customs union is one step further along the road to full economic and political integration.
A customs union eliminates trade barriers between member countries and adopts a common
external trade policy. Establishment of a common external trade policy necessitates significant
administrative machinery to oversee trade relations with non-members. Most countries that enter
into a customs union desire even greater economic integration down the road. The EU began as
a customs union and has now moved beyond this stage. Other customs unions around the world
include the Andean Community (between Bolivia, Colombia, Ecuador and Peru).4
The next level of economic integration, a common market, has no barriers to trade between
member countries, includes a common external trade policy and allows factors of production to move
freely between members. Labour and capital are free to move because there are no restrictions on
immigration, emigration or cross-border flows of capital between member countries. Establishing
a common market demands a significant degree of harmony and cooperation on fiscal, monetary
and employment policies. Achieving this degree of cooperation has proven very difficult. For years,
the European Union functioned as a common market, although it has now moved beyond this
stage. MERCOSUR, the South American grouping of Argentina, Brazil, Paraguay, Uruguay and
(as of 2006, provisionally) Venezuela, hopes to eventually establish itself as a common market.
Under CER and supporting legislation, there is a free flow of people between Australia and New
Zealand, there have been relatively few impediments to foreign investment between the countries
and business law and external trade policies are being increasingly harmonised.
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An economic union entails even closer economic integration and cooperation than a common
market. Like the common market, an economic union involves the free flow of products and
factors of production between member countries and the adoption of a common external trade
policy, but it also requires a common currency, harmonisation of members tax rates and a
common monetary and fiscal policy. Such a high degree of integration demands a coordinating
bureaucracy and the sacrifice of significant amounts of national sovereignty to that bureaucracy.
The EU is an economic union, although an imperfect one since not all members of the EU have
adopted its currency, the euro, and differences in tax rates and regulations across countries still
remain.
The move towards economic union raises the issue of how to make a coordinating bureaucracy
accountable to the citizens of member nations. The answer is through political union, in which
a central political apparatus coordinates the economic, social and foreign policy of the member
states. The EU is on the road towards at least partial political union. The European Parliament,
which is playing an ever more important role in the EU, has been directly elected by citizens
of the EU countries since the late 1970s. In addition, the Council of the European Union (the
controlling, decision-making body of the EU) is composed of government ministers from each EU
member country. Australia and the US provide two examples of even closer political union: in both
countries independent states are effectively combined into single nations. Ultimately, the EU may
move towards a similar federal structure.
ThE C A SE fOR REGIONAL INTEGR ATION

The case for regional integration is both economic and political. The case for integration is typically
not accepted by many groups within a country, which explains why most attempts to achieve
regional economic integration have been contentious and halting. In this section, we examine the
economic and political cases for integration, and look at two impediments to integration. In
the next section, we look at the case against integration.
The economic case for integration

The economic case for regional integration is straightforward. We saw in Chapter 5 how economic
theories of international trade predict that unrestricted free trade will allow countries to specialise
in the production of goods and services that they can produce most efficiently. The result is greater
world production than would be possible with trade restrictions. That chapter also revealed how
opening a country to free trade stimulates economic growth, which creates dynamic gains from
trade. Chapter 7 detailed how foreign direct investment (FDI) can transfer technological, marketing
and managerial know-how to host nations. Given the central role of knowledge in stimulating
economic growth, opening a country to FDI is also likely to stimulate economic growth. In sum,
economic theories suggest that free trade and investment is a positive-sum game, in which all
participating countries stand to gain.
Given this, the theoretical ideal is an absence of barriers to the free flow of goods, services
and factors of production among nations. However, as we saw in Chapters 6 and 8, a case can
be made for government intervention in international trade and FDI. Because many governments
have accepted part or all of the case for intervention, unrestricted free trade and FDI have proved
to be only an ideal. Although international institutions such as GATT and the WTO have been
moving the world towards a free trade regime, success has been less than total. In a world of many
nations and many political ideologies, it is very difficult to get all countries to agree to a common
set of rules.
Against this background, regional economic integration can be seen as an attempt to achieve
additional gains from the free flow of trade and investment between countries beyond those
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attainable under international agreements such as the WTO. It is easier to establish a free trade
and investment regime among a limited number of adjacent countries than among the world
community. Coordination and policy harmonisation problems are largely a function of the
number of countries that seek agreement. The greater the number of countries involved, the more
perspectives that must be reconciled, and the harder it will be to reach agreement. Thus, attempts
at regional economic integration are motivated by a desire to exploit the gains from free trade and
investment.
The political case for integration

The political case for regional economic integration has also loomed large in most attempts to
establish free trade areas, customs unions and the like. Linking neighbouring economies and
making them increasingly dependent on each other creates incentives for political cooperation
between the neighbouring states and reduces the potential for violent conflict. In addition, by
grouping their economies, the countries can enhance their political weight in the world.
These considerations underlay the 1957 establishment of the European Economic Community
(EEC), the forerunner of the EU. Europe had suffered two devastating wars in the first half of
the 20th century, both arising out of the unbridled ambitions of nation-states. Those who have
sought a united Europe have always had a desire to make another war in Europe unthinkable.
Many Europeans also believed that after World War II, the European nation-states were no
longer large enough to hold their own in world markets and politics. The need for a united
Europe to deal with the US and the politically alien Soviet Union loomed large in the minds of
many of the EECs founders. 5 A long-standing joke in Europe is that the European Commission
should erect a statue to Joseph Stalin, for without the aggressive policies of the former dictator
of the old Soviet Union, the countries of Western Europe may have lacked the incentive to
cooperate and form the EEC.
Impediments to integration
Despite the strong economic and political arguments in support of it, integration has never been
easy to achieve or sustain, for two main reasons. First, although economic integration aids the
majority, it has its costs. While a nation as a whole may benefit significantly from a regional
free trade agreement, certain groups may lose. Moving to a free trade regime involves painful
adjustments. For example, as a result of the 1994 establishment of NAFTA, some Canadian and
US workers in industries such as textiles, which employ low-cost, low-skilled labour, lost their jobs
as Canadian and US firms moved production to Mexico. The promise of significant net benefits
to the Canadian and US economies as a whole is little comfort to those who lost as a result of
NAFTA. Such groups have been at the forefront of opposition to NAFTA and will continue to
oppose any widening of the agreement.
A second impediment to integration arises from concerns over national sovereignty. Concerns
about national sovereignty arise because close economic integration demands that countries give
up some degree of control over key issues such as monetary policy, fiscal policy (such as tax policy)
and trade policy. This has been a major stumbling block in the EU. To achieve full economic union,
the EU introduced a common currency, the euro, controlled by a central EU bank. Although most
member states have signed on, Britain remains an important holdout. A politically important
segment of public opinion in that country opposes a common currency on the grounds that it
would require relinquishing control of the countrys monetary policy to the EU, which many
British people perceive as a bureaucracy run by foreigners. In 1992, the British won the right to opt
out of any single currency agreement, and the British government has yet to reverse its decision.
Similar issues may arise in the ASEAN and CER nations as the debate about the adoption of a
single currency in each of these regions intensifies.
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ThE C A SE AGAINST REGIONAL INTEGR ATION

Although the tide has been running strongly in favour of regional free trade agreements in recent
years, some economists have expressed concern that the benefits of regional integration have been
oversold, while the costs have often been ignored.6 They point out that the benefits of regional
integration are determined by the extent of trade creation, as opposed to trade diversion. Trade
creation occurs when high-cost domestic producers are replaced by low-cost producers within the free
trade area. It may also occur when higher-cost external producers are replaced by lower-cost external
producers within the free trade area. Trade diversion occurs when lower-cost external suppliers are
replaced by higher-cost suppliers within the free trade area. A regional free trade agreement will
benefit the world only if the amount of trade it creates exceeds the amount it diverts.
Suppose Australia and New Zealand imposed tariffs on imports from all countries, and then
set up a free trade area, scrapping all trade barriers between themselves but maintaining tariffs
on imports from the rest of the world. If New Zealand began to import macadamia nuts from
Australia, would this change be for the better? If New Zealand had previously produced all its
own macadamia nuts at a higher cost than Australia, then the free trade agreement has shifted
production to the cheaper source. According to the theory of comparative advantage, trade has
been created within the regional grouping, and there would be no decrease in trade with the rest
of the world. Clearly, the change would be for the better. If, however, New Zealand had previously
imported macadamia nuts from the US, which produced them more cheaply than Australia or
New Zealand, then trade has been diverted from a low-cost sourcea change for the worse.
In theory, WTO rules should ensure that a free trade agreement does not result in trade diversion.
These rules allow free trade areas to be formed only if the members set tariffs that are not higher or
more restrictive to outsiders than the ones previously in effect. However, as we saw in Chapter 6,
GATT and the WTO do not cover some non-tariff barriers. As a result, regional trade blocs could
emerge whose markets are protected from outside competition by high non-tariff barriers. In such
cases, the trade diversion effects might outweigh the trade creation effects. The only way to guard
against this possibility, according to those concerned about this potential, is to increase the scope
of the WTO so it covers non-tariff barriers to trade. However, there is no sign that this is going to
occur in the near future, so the risk remains that regional economic integration will result in trade
diversion.
REGIONAL ECONOmIC INTEGR ATION IN EuROPE

Europe has two trade blocsthe European Union (EU) and the European Free Trade Association
(EFTA). Of the two, the EU is by far the more significant, not just in terms of membership (the EU
currently has 27 members; EFTA has four), but also in terms of economic and political influence
in the world economy. Many now see the EU as an emerging economic and political superpower of
the same order as the US and Japan. Accordingly, we will concentrate our attention on the EU.
Evolution of the European union

The European Union (EU) is the product of two political factors: (1) the devastation of Western
Europe during two world wars and the subsequent desire for a lasting peace, and (2) the European
nations desire to hold their own on the worlds political and economic stage. In addition, many
Europeans were aware of the potential economic benefits of closer economic integration of the
countries.
One of the earliest forerunners of the EU, the European Coal and Steel Community (ECSC),
was formed in 1951 by Belgium, France, West Germany, Italy, Luxembourg and the Netherlands.
Its objective was to remove barriers to intra-group shipments of coal, iron, steel and scrap metal.
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With the signing of the Treaty of Rome in 1957, the European Economic Community (EEC) and
the European Atomic Community (Euratom) were established. The Merger Treaty of 1967 (signed
in 1965) then merged the ECSC, the EEC and Euratom to form the European Community (EC).
This treaty was eventually to form part of what was to become the Treaty on European Union (or
Treaty of Maastricht), which was ratified in early 1992 and came into force in November 1993.
What had previously been known as the EC then became known as the European Union.7 It should
be noted, however, that the EEC and the EC still exist within the Maastricht Treaty (this will be
discussed further later).
The EEC part of the Treaty of Rome provided for the creation of a common market. Article
3 of the treaty laid down the key objectives of the new community, calling for the elimination
of internal trade barriers and the creation of a common external tariff, and requiring member
states to abolish obstacles to the free movement of factors of production among the members. To
facilitate the free movement of goods, services and factors of production, the treaty provided for
any necessary harmonisation of the member states laws. Furthermore, the treaty committed the
EEC to establish common policies in agriculture and transportation.
The community grew in 1973, when Britain, Ireland and Denmark joined. These three were
followed in 1981 by Greece, in 1986 by Spain and Portugal, and in 1996 by Austria, Finland and
Sweden, bringing the total membership to 15 (East Germany became part of the EC after the
reunification of Germany in 1990). Another ten countries joined the EU on 1 May 2004 (eight
of them from Eastern Europe, plus the small Mediterranean nations of Malta and Cyprus), and
Bulgaria and Romania joined on 1 January 2007, bringing the total number of member states to 27
(see Map 8.1). Three more countries are currently being considered as candidates for entry into the
EU: Croatia, the former Yugoslav Republic of Macedonia and Turkey.
map 8.1
european Union members
in 2008
Iceland
Sweden
Finland
Norway
Estonia
Latvia
Lithuania
Denmark
Ireland
The Netherlands
United Kingdom
Belarus
Belgium Germany
Luxembourg
Czech Rep
France
Andorra
Portugal
Spain
Azores
(Portugal)
Russia
Poland
Ukraine
Slovakia
Austria Hungary
Moldova
Slovenia Croatia
Romania
Italy
Bosnia &
Herzg. Serbia Bulgaria
Macedonia
Albania
Greece
Switzerland
Malta
Turkey
Cyprus
Source: european Union, http://www.europarl.org.uk.
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With a population of some 500 million and a GDP approaching US$17 trillion, through these
enlargements the EU has become a global superpower. In the local context, the EU is an entity of
major importance to the AsiaPacific nations.8
Political structure of the European union

The economic policies of the EU are formulated and implemented by a complex and still-evolving
political structure. The four main institutions in this structure are the European Commission, the
Council of the European Union, the European Parliament and the Court of Justice.9
The European Commission is responsible for proposing EU legislation, implementing it, and
monitoring compliance with EU laws by member states. Headquartered in Brussels, Belgium, it is
run by a group of commissioners appointed by each member country for five-year renewable terms.
There are 27 commissioners, one from each member country. A president of the commission is
chosen by member states, and the president then chooses other members in consultation with
the states. The entire commission has to be approved by the European Parliament before it can
begin work. The commission has a monopoly in proposing European Union legislation. The
commission makes a proposal, which goes to the Council of the European Union and then to
the European Parliament. The council cannot legislate without a commission proposal in front of
it. The commission is also responsible for implementing aspects of EU law, although in practice
much of this must be delegated to member states. Another responsibility of the commission is to
monitor member states to make sure they are complying with EU laws. In this policing role, the
commission will normally ask a state to comply with any EU laws that are being broken. If this
persuasion is not successful, the commission can refer a case to the Court of Justice.
The European Commissions role in competition policy has become increasingly important to
business in recent years. Since 1990, when the office was formally assigned a role in competition
policy, the EUs competition commissioner has been steadily gaining influence as the chief
regulator of competition policy in the member nations of the EU. As with the Australian
Competition and Consumer Commission and New Zealands Commerce Commission, the
role of the competition commissioner is to ensure that no one enterprise uses its market power
to drive out competitors and monopolise markets. The commissioner also reviews proposed
mergers and acquisitions to make sure they do not create a dominant enterprise with substantial
market power.10 For example, in 2000, a proposed merger between Time Warner of the US
and EMI of the UK, both music recording companies, was withdrawn after the commission
expressed concerns that the merger would reduce the number of major record companies from
five to four and create a dominant player in the US$40 billion global music industry. Similarly,
the commission blocked a proposed merger between two US telecommunications companies,
WorldCom and Sprint, because their combined holdings of internet infrastructure in Europe
would give the merged companies so much market power that the commission argued the
combined company would dominate that market.
The Council of the European Union represents the interests of member states. It is clearly the
ultimate controlling authority within the EU, since draft legislation from the commission can
become EU law only if the council agrees. The council is composed of one representative from the
government of each member state. The membership, however, varies depending on the topic being
discussed. When agricultural issues are being discussed, the agriculture ministers from each state
attend council meetings; when transport is being discussed, transport ministers attend, and so on.
Before 1993, all council issues had to be decided by unanimous agreement between member states.
This often led to marathon council sessions and a failure to make progress or reach agreement
on commission proposals. In an attempt to clear the resulting logjams, the Single European Act
formalised the use of majority voting rules on issues which have as their object the establishment
and functioning of a single market. Most other issues, however, such as tax regulations and
immigration policy, still require unanimity among council members if they are to become law. The
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votes that a country gets in the council are related to the size of the country. For example, Britain,
a large country, has 29 votes, whereas Denmark, a much smaller state, has 7 votes.
The European Parliament, which now has 785 members, is directly elected by the populations
of the member states. The parliament, which meets in Strasbourg, France, has been primarily
a consultative rather than a legislative body. It debates legislation proposed by the commission
and forwarded to it by the council. It can propose amendments to that legislation, which the
commission and ultimately the council are not obliged to take up but often will. The power of the
parliament has recently been increasing, although not by as much as parliamentarians would like.
The European Parliament now has the right to vote on the appointment of commissioners as well
as to veto some laws (such as the EU budget and single-market legislation). One major debate now
being waged in Europe is whether the council or the parliament should ultimately be the most
powerful body in the EU. Some in Europe express concern over the democratic accountability of the
EU bureaucracy. One side thinks the answer to this apparent democratic deficit lies in increasing
the power of the parliament, while others think that true democratic legitimacy lies with elected
governments, acting through the Council of the European Union. If the Treaty of Lisbon (signed in
December 2007) is ratified, the power of the European Parliament will be strengthened. This could
occur in time for the next elections for the European Parliament, due in 2009.11
The Court of Justice, which comprises one judge from each country, is the supreme appeals court
for EU law. Like commissioners, the judges are required to act as independent officials, rather than
as representatives of national interests. The commission or a member country can bring other
members to the court for failing to meet treaty obligations. Similarly, member countries, companies
or institutions can bring the commission or council to the court for failure to act according to an
EU treaty.
The Single European Act

Two revolutions occurred in Europe in the late 1980s. The first was the collapse of communism in
Eastern Europe. The second revolution was much quieter, but its impact on Europe and the world
may have been just as profound. It was the adoption of the Single European Act by the member
nations of the European Community (EC) in 1987. This Act committed member countries to work
towards establishment of a single market by 31 December 1992.
The Single European Act was born of a frustration among members that the community was
not living up to its promise. By the early 1980s, it was clear that the EC had fallen short of its
objectives to remove barriers to the free flow of trade and investment between member countries
and to harmonise the wide range of technical and legal standards for doing business. Against
this background, many of the ECs prominent businesspeople mounted an energetic campaign
in the early 1980s to end the ECs economic divisions. The EC responded by creating the Delors
Commission. Under the chairmanship of Jacques Delors, the commission proposed that all
impediments to the formation of a single market be eliminated by 31 December 1992. The result
was the Single European Act, which was independently ratified by the parliaments of each member
country and came into force in 1987.
The objectives of the Act

The purpose of the Single European Act was to have one market in place by 31 December 1992.
The Act proposed the following changes.12
Remove all frontier controls between EC countries, thereby abolishing delays and reducing
the resources required for complying with trade bureaucracy.
Apply the principle of mutual recognition to product standards: a standard developed in
one EC country should be accepted in another, provided it meets basic requirements in such
matters as health and safety.
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Open public procurement to non-national suppliers, reducing costs directly by allowing

lower-cost suppliers into national economies, and indirectly by forcing national suppliers
to compete.
Lift barriers to competition in the retail banking and insurance businesses, which should
drive down the costs of financial services, including borrowing, throughout the EC.
Remove all restrictions on foreign exchange transactions between member countries by the
end of 1992.
Abolish restrictions on cabotagethe right of foreign truck drivers to pick up and deliver
goods within another member states bordersby the end of 1992. Estimates suggested
this would reduce the cost of transporting goods within the EC by 10 to 15 per cent.
All those changes were predicted to lower the costs of doing business in the EC, but the singlemarket program was also expected to have more complicated supply-side effects. For example, the
expanded market was predicted to give EC firms greater opportunities to exploit economies of scale.
In addition, it was thought that the increase in competitive intensity brought about by removing
internal barriers to trade and investment would force EC firms to become more efficient.
The impact of the Act

The Single European Act has had a significant impact on the EU economy.13 The Act provided
the impetus for the restructuring of substantial sections of European industry. Many firms have
shifted from national to pan-European production and distribution systems in an attempt to
realise economies of scale and to better compete in a single market. The results have included
faster economic growth than would otherwise have been the case.
However, the reality still falls short of the ideal, and progress towards a unified pan-European
market has not always been smooth. As described in the opening case on the European energy
market, so far political opposition and the realities of the existing industry structure have made
this a difficult goal to attain, but the EU hopes to have a regional energy market established and
functioning relatively soon. Thus, although the EU is undoubtedly moving towards a single
marketplace, the established legal, cultural and language differences between nations have meant
that implementation has been uneven.
The establishment of the euro

The Maastricht Treaty, the treaty on European Union that came into force in late 1993, committed
to achieve European Union through economic and monetary union (including a common currency)
as well as political union. A common currencythe eurowas introduced on 1 January 1999. By
2009 the euro will be used by 16 of the 27 member states of the European Union; these states
comprise what is often referred to as the eurozone. The remaining member countries will adopt
the euro when they fulfil certain economic criteriaa high degree of price stability, a sound fiscal
situation, stable exchange rates and converged long-term interest ratesand when adoption is
approved in the countries concerned. The current members of the eurozone had to meet the same
criteria. The criterion of a sound fiscal situation requires that budget deficits do not exceed 3 per
cent of GDP and that the public debt in each country amounts to no more than 60 per cent of
GDP. A Stability and Growth Pact was established in 1998 to ensure that these fiscal conditions
continued to be met after monetary union.
The establishment of the euro has rightly been described as an amazing political feat with few
historical precedents. Establishing the euro required participating national governments not only
to give up their own currencies, but also to give up control over monetary policy. Governments do
not routinely sacrifice national sovereignty for the greater good, which indicates the importance
that the Europeans attach to the euro. By adopting the euro, the EU has created the second-largest
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currency zone in the world after that of the US dollar. Some believe that ultimately the euro could
come to rival the US dollar as the most important currency in the world.
Eleven of the then 15 EU countries initially adopted the euro and locked their exchange rates
against each other on 1 January 1999. Greece joined two years later, bringing the number to 12.
Britain, Denmark and Sweden did not join, and are still sitting on the sidelines. Euro notes and
coins were not actually issued until 1 January 2002. In the interim, national currencies circulated
in each of the 12 euro countries. However, in each participating state, the national currency stood
for a defined value of euros. After 1 January 2002, euro notes and coins were issued and the
national currencies were taken out of circulation. By mid-2002, all prices and routine economic
transactions within the eurozone were in euros. Slovenia joined the eurozone in 2007, Cyprus and
Malta in 2008, and Slovakia in 2009.14
Benefits of the euro

The Europeans decided to establish a single currency in the EU for a number of reasons. First, they
believed that businesses and individuals would realise significant savings from having to handle
one currency rather than many. These savings come from lower foreign exchange and hedging
costs. For example, people going from Germany to France will no longer have to pay a commission
to a bank to change German deutsche marks into French francs. Instead, they will be able to use
euros. According to the European Commission, such savings should amount to 0.5 per cent of the
European Unions GDP a year.
Second, and perhaps more importantly, as the closing case shows, the adoption of a common
currency will make it easier to compare prices across Europe. This should increase competition
because it will be much easier for consumers to shop around. For example, if a person in Germany
finds that cars sell for less in France than they do in Germany, they may choose to purchase from
a French car dealer rather than from their local German car dealer. Alternatively, traders may
engage in arbitrage to exploit such price differentials, buying cars in France and reselling them in
Germany. The only way that German car dealers will be able to hold on to business in the face of
such competitive pressures will be to reduce the prices they charge for cars. As a consequence of
such pressures, the introduction of a common currency should lead to lower prices. This should
translate into substantial gains for European consumers.
Third, faced with lower prices, European producers will be forced to look for ways to reduce
their production costs to maintain their profit margins. The introduction of a common currency,
by increasing competition, should ultimately produce long-term gains in the economic efficiency
of European companies.
Fourth, the introduction of a common currency should give a strong boost to the development
of a highly liquid pan-European capital market. The development of such a capital market should
lower the cost of capital and lead to an increase in both the level of investment and the efficiency
with which investment funds are allocated. This could be especially helpful to smaller companies
that have historically had difficulty borrowing money from domestic banks. For example,
the capital market of Portugal is very small and illiquid, which makes it extremely difficult for
Portuguese entrepreneurs with a good idea to borrow money at a reasonable price. In theory, such
companies should soon be able to tap a much more liquid pan-European capital market. Currently
Europe has no continent-wide capital market, such as the NASDAQ market in the US, which
funnels investment capital to dynamic young growth companies. The euros introduction could
facilitate establishment of such a market, particularly when coupled with regulations designed to
create a single market in financial services. The long-term benefits of such a development should
not be underestimated.
Finally, the development of a pan-European, euro-denominated capital market will increase the
range of investment options open to both individuals and institutions. For example, it will now be
much easier for individuals and institutions based in, for example, Holland to invest in Italian or
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French companies. This will enable European investors to better diversify their risk, which again
lowers the cost of capital, and should also increase the efficiency with which capital resources are
allocated.15
Costs of the euro

The drawback, for some, of a single currency is that national authorities have lost control over
monetary policy. Thus, it is crucial to ensure that the EUs monetary policy is well managed. The
Maastricht Treaty called for establishment of the independent European Central Bank (ECB),
similar in some respects to the Reserve Banks in Australia and New Zealand, and the Monetary
Authority of Singapore, with a clear mandate to manage monetary policy so as to ensure price
stability. The ECB, based in Frankfurt, is meant to be independent from political pressure
although critics question whether this is the case. Among other things, the ECB sets interest rates
and determines monetary policy across the eurozone.
The implied loss of national sovereignty to the ECB underlies the decision by Britain, Denmark
and Sweden to stay out of the eurozone for now. Many in these countries are suspicious of the
ECBs ability to remain free from political pressure and to keep inflation under tight control.
In theory, the design of the ECB should ensure that it remains free of political pressure. The ECB
is modelled on the German Bundesbank, which historically has been the most independent and
successful central bank in Europe. The Maastricht Treaty prohibits the ECB from taking orders
from politicians. The executive board of the bank, which consists of a president, a vice-president and
four other members, carries out policy by issuing instructions to national central banks. The policy
itself is determined by the governing council, which consists of the executive board plus the central
bank governors from the eurozone countries. The governing council votes on interest rate changes.
Members of the executive board are appointed for eight-year non-renewable terms, insulating them
from political pressures to get reappointed. Nevertheless, the jury is still out on the issue of the
ECBs independence, and it will take some time for the bank to establish its credentials.
According to critics, another drawback of the euro is that the EU is not what economists would
call an optimal currency area. In an optimal currency area, similarities in the underlying structure
of economic activity make it feasible to adopt a single currency and use a single exchange rate as an
instrument of macroeconomic policy. Many of the European economies in the eurozone, however,
are very dissimilar. For example, Finland and Portugal have different wage rates, tax regimes and
business cycles, and they may react very differently to external economic shocks. A change in the
euro exchange rate that helps Finland may hurt Portugal. Obviously, such differences complicate
macroeconomic policy. For example, when euro economies are not growing in unison, a common
monetary policy may mean that interest rates are too high for depressed regions and too low for
booming regions. It will be interesting to see how the EU copes with the strains caused by such
divergent economic performance, especially as the Stability and Growth Pact also places limits on
fiscal policy.
The early experience

Since its establishment on 1 January 1999, the euro has had a volatile trading history against the
worlds major currency, the US dollar. After starting life in 1999 at US$1.17, the euro steadily fell
until it reached a low of 83 cents to the US dollar in October 2000, leading critics to claim that the
euro was a failure. A major reason for the fall in the euros value was that international investors
were investing money in booming US stocks and bonds and taking money out of Europe to finance
this investment. In other words, they were selling euros to buy US dollars so that they could invest
in US dollar-denominated assets. This increased the demand for US dollars and decreased the
demand for the euro, driving the value of the euro down against the US dollar.
The fortunes of the euro began improving in late 2001 when the US dollar began to weaken, and
the currency stood near US$1.50 in mid-2008. One reason for the rise in the value of the euro was
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that the flow of capital into the US had stalled as the US financial markets fell and as the fallout
from the US subprime housing finance crisis spread. Many investors were now taking money out
of the US, selling dollar-denominated assets such as US stocks and bonds, and purchasing eurodenominated assets. Falling demand for US dollars and rising demand for euros translated into
a fall in the value of the dollar against the euro. Furthermore, in a vote of confidence in both the
euro and the ability of the ECB to manage monetary policy within the eurozone, many foreign
central banks have begun to add increasingly more euros to their supply of foreign currencies.
Some currency specialists expect the growing US current account deficit to drive the dollar
down further and the euro up still higher. However, this would be a mixed blessing for the EU. A
strengthening euro, while a source of pride, will make it harder for eurozone exporters to sell their
goods abroad.16
Enlargement of the European union

One major issue facing the EU over the past few years has been that of enlargement. Enlargement
of the EU into Eastern Europe has been a possibility since the collapse of communism at the end
of the 1980s, and by the end of the 1990s (when EU members stood at 15) 13 more countries had
applied to become EU members. To qualify for EU membership the applicants had to privatise
state assets, deregulate markets, restructure industries and tame inflation. They also had to
enshrine complex EU laws into their own systems, establish stable democratic governments and
respect human rights. In December 2002, the EU formally agreed to accept the applications of
ten new member countries, and they joined on 1 May 2004. The new members include the Baltic
countries, the Czech Republic, Slovakia, Slovenia and the larger nations of Hungary and Poland.
The only new members not in Eastern Europe are the Mediterranean island nations of Malta and
Cyprus. Their inclusion in the EU expanded the union to 25 states, stretching from the Atlantic
to the borders of Russia, added 23 per cent to the landmass of the EU, and brought 75 million
new citizens into the EU. Former eastern bloc countries Bulgaria and Romania joined the EU on
1 January 2007, bringing the total number of EU countries to 27, with a total population of some
500 million and a single continental economy with a GDP now near US$17 trillion.17
Consistent with theories of free trade, the enlargement should create added benefits for all
members. However, given the small size of the Eastern European economies (together they amount
to only about 5 per cent of the GDP of the pre-enlargement EU-15) the initial impact will probably
be small. The biggest notable change might be in the EU bureaucracy and decision-making
processes, where budget negotiations among 27 nations are bound to prove more problematic than
negotiations among 15 nations.
Left standing at the door is Turkey. Turkey, which has long lobbied to join the union, presents
the EU with some difficult issues. The country has had a customs union with the EU since 1995,
and about half of its international trade is already with the EU. However, full membership has
been denied because of concerns over human rights issues (particularly Turkish policies towards
its Kurdish minority). In addition, some on the Turkish side suspect that the EU is not eager to
let a primarily Muslim nation of some 70 million people, which has one foot in Asia, join the
EU. The EU formally indicated in December 2002 that it would allow the Turkish application
to proceed with no further delay in December 2004 if the country improved its human rights
record to the satisfaction of the EU. The EU agreed to allow Turkey to start accession talks in
October 2005, but those talks are not moving along rapidly, and the nation might not join until
2010, if at all.18 Applications from Croatia and the former Yugoslav Republic of Macedonia are
currently also being considered, and the potential future membership of the EFTA countries is
being explored.
No other attempt at regional economic integration to date comes close to the EU in its boldness
or its potential implications for the world economy. Nevertheless, regional economic integration is
on the rise elsewhere, particularly in the Americas and in the AsiaPacific region.19
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REGIONAL ECONOmIC INTEGR ATION IN ThE

AmERIC A S
The most significant attempt at regional integration in the Americas is the North American Free
Trade Agreement (NAFTA). In addition to NAFTA, several other trade blocs are in the offing in
the Americas (see Map 8.2), the most significant of which seem to be the Andean Group and
MERCOSUR .20 Negotiations are also underway to establish a hemisphere-wide Free Trade Area of the
Americas (FTAA), although currently they seem to have stalled.
The North American free Trade Agreement

In 1988, the governments of the US and Canada agreed to enter into a free trade agreement, which
took effect on 1 January 1989. The goal of the agreement was to eliminate all tariffs on bilateral trade
between Canada and the US by 1998. This was followed in 1991 by talks among the US, Canada
and Mexico aimed at establishing a North American Free Trade Agreement (NAFTA) for the three
countries. The talks concluded in August 1992 with an agreement in principle, and in following year
the governments of all three countries ratified the agreement. The agreement became law on 1 January
Map 8.2
economic integration in the
americas
Continental Commerce
NAFTA
MERCOSUR
Andean Community
Central America
Caribbean community
Source: The Economist, 21 april 2001 p. 20. Copyright 2001 The Economist newspaper ltd. all rights reserved.
reprinted with permission.
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1994.21 The NAFTA countries currently have a combined population of approximately 445 million
and a GDP comparable with that of the EU. The contents of NAFTA include the following.
Abolition by 2004 of tariffs on 99 per cent of the goods traded between Mexico, Canada
and the United States.
Removal of most barriers on the cross-border flow of services, allowing financial institutions,
for example, unrestricted access to the Mexican market by 2000.
Protection of intellectual property rights.
Removal of most restrictions on foreign direct investment between the three member
countries, although special treatment (protection) will be given to Mexican energy and
railway industries, US airline and radio communications industries, and Canadian
culture.
Application of national environmental standards, provided such standards have a scientific
basis. Lowering of standards to lure investment is described as being inappropriate.
Establishment of two commissions with the power to impose fines and remove trade
privileges when environmental standards or legislation involving health and safety,
minimum wages or child labour are ignored.
The results so far

Studies of NAFTAs impact to date suggest that its initial effects have been at best muted, and
that both advocates and detractors may have been guilty of exaggeration.22 On average, studies
indicate that NAFTAs overall impact has been small but positive.23 From 1993 to 2005, trade
between NAFTAs partners grew by 250 per cent.24 Canada and Mexico are now the number one
and two trade partners of the US, suggesting that the economies of the three NAFTA nations have
become more closely integrated. In 1990, US trade with Canada and Mexico accounted for about
one-quarter of total US trade. By 2005, the figure was close to one-third. Canadas trade with its
NAFTA partners increased from about 70 per cent to more than 80 per cent of all Canadian foreign
trade between 1993 and 2005, while Mexicos trade with NAFTA increased from 66 per cent to
80 per cent over the same period. All three countries also experienced strong productivity growth
over this period. In Mexico, labour productivity has increased by 50 per cent since 1993, and the
passage of NAFTA may have contributed to this. However, the available estimates suggest that the
employment effects of NAFTA have been small.
Perhaps the most significant impact of NAFTA has not been economic, but political. Many
observers credit NAFTA with helping to create the background for increased political stability in
Mexico. Mexico is now viewed as a stable democratic nation with a steadily growing economy,
something that is beneficial to the US, which shares a 3000 km border with the country.25 However,
as witnessed by the debate and the plethora of media articles during the 2008 US presidential
election campaign, even now NAFTA continues to have its critics.26
Enlargement
One issue confronting NAFTA is that of enlargement. A number of other Latin American countries
have indicated their desire to eventually join NAFTA. The governments of both Canada and the
US are adopting a wait-and-see attitude with regard to most countries. Getting NAFTA approved
was a bruising political experience, and neither government is eager to repeat the process soon.
Nevertheless, the Canadian, Mexican and US governments began talks in 1995 regarding Chiles
possible entry into NAFTA. However, these talks have so far yielded little progress, partly because
of political opposition in the US Congress to expanding NAFTA. In December 2002, however, the
US and Chile did sign a bilateral free trade pact.27
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The Andean Community

In 1969, Bolivia, Chile, Ecuador, Colombia and Peru signed an agreement to create the Andean
Pact. Venezuela joined in 1973, and Chile withdrew in 1976. In 1997 the Andean Pact was
renamed the Andean Community. The Andean Pact was largely based on the EU model, but
was far less successful at achieving its stated goals. By the mid-1980s, the Andean Pact had
all but collapsed and had failed to achieve any of its stated objectives. There was no tariff-free
trade between member countries, no common external tariff and no harmonisation of economic
policies. Political and economic problems seem to have hindered cooperation between member
countries. The tide began to turn in the late 1980s when, after years of economic decline, the
governments of Latin America began to adopt free market economic policies. In 1990, the
heads of the then five members of the Andean PactBolivia, Ecuador, Peru, Colombia and
Venezuelamet in the Galpagos Islands. The resulting Galpagos Declaration effectively
relaunched the Andean Pact. The declarations objectives included the establishment of a free
trade area by 1992, a customs union by 1994 and a common market by 1995. This last milestone
has not yet been reached, and the Andean Community now operates as a customs union. In
December 2003, it signed an agreement with MERCOSUR to restart stalled negotiations on the
creation of a free trade area between the two trading blocs; with this in mind the MERCOSUR
member countries (see below) have been given associate member status. Those negotiations are
currently proceeding at a slow pace. In 2006, Venezuela withdrew from the Andean Community
as part of that countrys attempts to join MERCOSUR.28
mERCOSuR
MERCOSUR originated in 1988 as a free trade pact between Brazil and Argentina. The modest
reductions in tariffs and quotas accompanying this pact reportedly helped bring about an 80 per
cent increase in trade between the two countries in the late 1980s. This success encouraged the
expansion of the pact in March 1990 to include Paraguay and Uruguay. In 2006, the pact was
further expanded when Venezuela joined MERCOSUR, although it may take years for Venezuela
to become fully integrated into the pact. The Andean Community member states have also been
given associate member status.
The initial aim of MERCOSUR was to establish a full free trade area by the end of 1994 and
a common market sometime thereafter. In December 1995, MERCOSURs members agreed to a
five-year program under which they hoped to perfect their free trade area and move towards a full
customs unionsomething that has yet to be achieved.
For its first eight years or so, MERCOSUR seemed to be making a positive contribution to
the economic growth rates of its member states. But it hit a significant roadblock in 1998, when
its member states slipped into recession and intra-bloc trade slumped. Trade fell further in
1999 following a financial crisis in Brazil that led to the devaluation of the Brazilian real, which
immediately made the goods of other MERCOSUR members 40 per cent more expensive in
Brazil, their largest export market. At this point, progress towards establishing a full customs
union all but stopped. Things deteriorated further in 2001 when Argentina, beset by economic
stresses, suggested that the customs union be temporarily suspended. Brazil agreed to this
request, effectively halting MERCOSURs quest to become a fully functioning customs union.
Hopes for a revival rose in 2003 when new Brazilian President Lula da Silva announced his
support for a revitalised and expanded MERCOSUR modelled after the EU with a larger
membership, a common currency and a democratically elected MERCOSUR parliament.
However, to date, little progress has been made in moving MERCOSUR down that road, with
some critics suggesting that the customs union was, if anything, becoming more imperfect over
time. 29
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free Trade Area of the Americas

At a hemisphere-wide Summit of the Americas in December 1994, a Free Trade Area of the
Americas (FTAA) was proposed. It took more than three years for the talks to start, but in April
1998, 34 heads of state travelled to Santiago, Chile, for the second Summit of the Americas where
they formally inaugurated talks to establish an FTAA by 1 January 2005which didnt occur.
The continuing talks have addressed a wide range of economic, political and environmental issues
related to cross-border trade and investment. Although both the US and Brazil were early advocates
of the FTAA, support from both countries seems to be mixed at this point. Because the US and
Brazil have the largest economies in North and South America, respectively, strong support from
these two countries is a precondition for establishment of the free trade area.
The major stumbling blocks so far have been twofold. First, the US wants its southern neighbours
to agree to tougher enforcement of intellectual property rights and lower manufacturing tariffs,
which they do not seem eager to embrace. Second, Brazil and Argentina want the US to reduce
its subsidies to US agricultural producers and to scrap tariffs on agricultural imports, which the
US government does not seem inclined to do. For progress to be made, most observers agree that
the US and Brazil must first reach an agreement on these crucial issues. If the FTAA is eventually
established, it will have major implications for cross-border trade and investment flows within the
hemisphere. Currently, however, it is very much a work in progress, and it unlikely that there will
be much progress on establishing an FTAA in the near future.30
REGIONAL ECONOmIC INTEGR ATION IN A SIA ANd

ThE PACIfIC
In Asia and the Pacific, notable attempts at regional economic integration include the Australia
New Zealand Closer Economic Relations Trade Agreement (ANCERTA, or CER) and the Association of
Southeast Asian Nations (ASEAN). In addition, the AsiaPacific Economic Cooperation (APEC) forum
has recently emerged as the seed of a potential free trade region.
AustraliaNew Zealand Closer Economic Relations Trade Agreement

Australia and New Zealand have integrated significantly over the past quarter of a century,
following the introduction of the AustraliaNew Zealand Closer Economic Relations Trade
Agreement (ANCERTA, or CER) in January 1983. The agreement is considered a living
document and is reviewed periodically; CER ministerial forums involving the relevant Australian
and New Zealand ministers occur annually. Under this agreement and subsequent amendments
to it, free trade in merchandise between the two countries was achieved by 1990, and in services
(with minor exceptions, such as in aviation and coastal shipping) by 1989. CER superseded the
previous New Zealand Australia Free Trade Agreement (also called NAFTA) which had been in
force since January 1966 and which had applied to a more limited range of products. CER is also
used an umbrella for close inter-governmental cooperation on a whole range of issues including
customs, quarantine, transport, standards, harmonisation of business law and regulation. It is
also supported by various bilateral arrangements, such as on government procurement and on the
movement of people. Australians and New Zealanders may travel, reside, own property and work
in each others country without restrictions, and there are also reciprocal supporting agreements
on social security, health and child support.31 These various relationships are facilitated by a TransTasman Mutual Recognition Arrangement (see the accompanying Country Focus). While there
is currently no direct agreement on foreign investment (investors are subject to the policies of the
respective country), restrictions have been minimal as long as competition laws have not been
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negated; there is a high degree of cooperation between the Australian Competition and Consumer
Commission and New Zealands Commerce Commission. However, despite the high level of
trans-Tasman cooperation, disputes do occur, as demonstrated by the fresh apples controversy
discussed in the Country Focus.
CER has benefited both countries. Australia is now New Zealands principal trade and
investment partner, and New Zealand is Australias fifth-largest export market, seventh-largest
source of imports and third-largest destination for Australian investment abroad. The region has a
combined population of some 25 million and a GDP of approximately US$1000 billion (close to the
combined value of GDP in the ASEAN bloc countries). Many Australian companies now operate in
New Zealand, including retailer Harvey Norman, ANZ Banking Group, Commonwealth Bank of
Australia and Westpac Banking Corporation; the Bank of New Zealand is also part of the National
Australia Bank group. Australian airline Qantas has a subsidiary in New Zealand (JetConnect), as do
Virgin Blue (Pacific Blue) and energy supplier Origin Energy. Similarly, many New Zealand companies
now operate in Australia, including dairy producer Fonterra Co-operative Group, beverages producer
Lion Nathan, Montana Wines and electrical goods producer Fisher & Paykel.32
Overall, CER and the various supporting agreements have resulted in more than a free trade
zone. The two countries have similar external policies, the movement of people between the two
countries can occur without restriction, and there are minimal impediments to investment flows
between the countries. The countries already had similar legal systems. A formal CER investment
protocol is currently being negotiated. A Trans-Tasman Single Economic Market (SEM) agenda
is also being pursued which aims to develop a single economic market, including a seamless
regulatory environment and possibly also a common currency.33 Possible expansion to a Pacific
Agreement on Closer Economic Relations (PACER), involving Australia, New Zealand and other
Pacific island nations is also being examined.
Trade relationships with countries in other trade blocs

Besides the CER agreement with each other, Australia and New Zealand also have bilateral trade
arrangements with some of the countries in other trade blocs. Australia has bilateral agreements
with Singapore (since 2003), Thailand (since 2005) and the US (since 2005). Further bilateral trade
agreements are likely in the future with discussions in progress with China, Malaysia, South Korea,
Chile, the Gulf Cooperation Council Countries (GCCC) and Chile. New Zealand has bilateral
agreements with Singapore (since 2001), Thailand (since 2005) and has entered into a TransPacific Strategic Economic Partnership with Brunei, Chile and Singapore (fully operational since
November 2006). Bilateral trade agreement negotiations are in progress with China, Hong Kong,
the GCCC and Malaysia. Australia and New Zealand are also currently involved in discussions
with ASEAN on the establishment of an AustraliaASEANNew Zealand free trade agreement.
As Brunei, Singapore and Thailand are part of the ASEAN bloc, there are currently (indirect)
links with the other countries in the bloc; discussions on the establishment of agreements with
Malaysia, and with ASEAN as a whole, promise to strengthen these links further. Moreover, as the
US is part of NAFTA, there are also indirect links with Canada and Mexico. Links with Canada,
Singapore, Malaysia and the UK (and hence with the EU) are also facilitated through membership
of the Commonwealth group of nations, similarities in legal systems and common use of the
English language in business transactions, which also applies to the US. And as Chile, China,
Japan and South Korea are also part of APEC, current bilateral trade agreement discussions with
these countries promise to further facilitate relations within APEC.
Association of Southeast Asian Nations

The Association of Southeast Asian Nations (ASEAN) was formed in August 1967 under the
Declaration of Bangkok, and comprised Indonesia, Malaysia, the Philippines, Singapore and
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COuNTRy FoCUs
Furthering regional businessthe Trans-Tasman Mutual Recognition
Arrangement
The Trans-Tasman Mutual Recognition Arrangement (TTMRA) is a non-treaty arrangement between
the federal, state and territory governments of Australia and the government of New Zealand. The
arrangement came into force in 1998 and is reviewed every five years; it is a natural extension of
a similar arrangement that had been in force between the Australian federal, state and territory
governments since 1992 (under the Mutual Recognition Act).
The TTMRA principles state that, with a few exceptions:
a good that may legally be sold in Australia may be sold in New Zealand, and a good that may
legally be sold in New Zealand may be sold in Australia. This is regardless of differences in standards
or other sale-related regulatory requirements between Australia and New Zealand; and
a person registered to practise an occupation in Australia is entitled to practise an equivalent

occupation in New Zealand, and vice versa, without the need for further testing or examination.
The TTMRA provides a simple, low-cost and low-maintenance mechanism for overcoming
unnecessary regulatory impediments to trade in goods and the movement of skilled practitioners
between Australia and New Zealand. The TTMRA does not affect laws that regulate the manner in
which goods are sold, or laws relating to quarantine, endangered species, firearms and other prohibited
or offensive weapons, fireworks, indecent material, ozone protection, agricultural and veterinary
chemicals, and gaming machines. The TTMRA also includes a temporary exemption mechanism as well
as providing for special exemptions.
Effectively, the TTMRA exclusions give the Australian and New Zealand governments the
opportunity to control trade unilaterally, which means that trade disputes can occur between the
countries despite high levels of cooperation. This is demonstrated by the long-standing dispute in
which Australia has been blocking the importation of fresh apples from New Zealand for quarantine
reasons. This stance has been the subject of controversy and a good deal of media discussion. Australia
has also been using quarantine regulations to restrict the importation of certain fish products from its
Asian neighbours. The following article summarises the major issues involved.
Crunch time for New Zealand apples

by Tracy Sutherland
New Zealand will pursue Australia in the World Trade Organization over its restrictions on New
Zealand apple imports after a ministerial meeting yesterday failed to break the deadlock on the issue.
Trade Minister Simon Crean yesterday met his New Zealand counterpart Phil Goff in an
attempt to resolve the issue, which centres on last years decision by Biosecurity Australia to allow
New Zealand imports but to impose strict conditions that New Zealand claims makes trade almost
impossible.
New Zealand has lobbied since 1986 for the lifting of a ban on its apple imports, which is
based on concerns that they carry fire blight, a potentially devastating disease.
New Zealand has already lodged a formal complaint with the WTO over the issue, but the
Rudd Labor government was hoping the issue could be resolved bilaterally. The government
launched a formal review of Australias quarantine systems amid claims from international trading
partners that politics was interfering with science-based decisions.
Farm leaders have privately warned that Australia risks losing the WTO dispute, a development
that would undermine the credibility of Australias quarantine system and have a knock-on effect
on other agricultural sectors.
A A A
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Theyre going to go off to the WTO, said Mr Crean after the meeting.
Mr Crean said that New Zealand opposed the import risk assessment (IRA) that had been
prepared by Biosecurity Australia.
They dont like the attached protocols, they think that theyll do better in the WTO, Mr
Crean said. Weve inherited this problem, we offered to try and find a way through but we cant
change the IRA because that is science-based.
Well defend our position, he said.
Apple & Pear Australia chairperson Darral Ashton urged Mr Crean to stand firm on the
original decision and said Australia had the right under WTO rules to protect itself from imported
pests and disease
Mr Crean and Mr Goff also discussed starting negotiations for a new free-trade agreement
between the two countries and the 16 members of the Pacific Islands Forum, which includes Fiji,
Nauru, Papua New Guinea, Samoa and Solomon Islands.
Aid groups have expressed concern that Pacific countries could be hurt by a free-trade
agreement if they could not compete with their wealthy neighbours.
Australia also faces a possible WTO challenge from Thailand, China and Vietnam over a
decision that in effect bans the importing of green prawns and restricts the importing of raw,
shelled prawns.
Pacific Ocean regional integration

As mentioned above, negotiations are underway for a new free trade agreement between Australia,
New Zealand and the other members of the Pacific Islands Forum (PIF). This matter was discussed
further at the August 2008 PIF meeting, held in the Pacific island nation of Niue. Not surprisingly,
given the experiences of attempts at regional economic integration elsewhere, there are both
proponents and opponents of this development.
The PIF is an inter-governmental organisation that aims to enhance cooperation between
independent Pacific Ocean countries and represent their interests. PIF member states are Australia,
the Cook Islands, the Federated States of Micronesia, Fiji, Kiribati, the Marshall Islands, Nauru, New
Zealand, Niue, Palau, Papua New Guinea, Samoa, the Solomon Islands, Tonga, Tuvalu and Vanuatu.
New Caledonia and French Polynesia have been associate members since 2006.
Sources: australian government department of Innovation, Industry, science and research, trans-tasman mutual recognition arrangement,
http://www.innovation.gov.au/section/Industry/pages/transtasmanMutualrecognitionarrangement.aspx; t. sutherland, Crunch time for new
Zealand apples, Australian Financial Review, 7 March 2008, p. 33; t. sutherland, Us weighs into anzac stouch over apples, Australian Financial
Review, 4 september 2008, p.13; nZ close to giving us the pip, Australian Financial Review, 28 January 2008; C. James, Maybe its time for realism
about australia and Cer, Business Herald, 8 February 2006; J. Knight, Underarm bowling and australia-new Zealand trade, 18 July 2005, http://
www.australianreview.net/digest/2005/07/knight.html; t. sutherland, pacific wary of Ftas, Australian Financial Review, 20 august 2008, p.13; and
s. Morris, guest workers pay fear, Australian Financial Review, 20 august 2008, p. 13. also of interest is t.K. Jayaraman, a single currency for the
pacific Island countries: a stepwise approach, Asia-Pacific Development Journal, vol. 11, no. 1, June 2004, pp. 91111. see http://www.forumsec.org.
fj for further details on the pIF. #
Thailand. Brunei Darussalam joined in 1984, followed by Vietnam in 1995, Laos and Myanmar
in 1997 and Cambodia in 1999. ASEAN members now have a combined population of some 565
million and a combined GDP of some US$1100 billion (see Map 8.3).
The stated objectives of the ASEAN Declaration are to accelerate economic growth, social
progress and cultural development in the region, and to promote regional peace and stability. This
was re-enforced by the Vision 2020 statement on ASEANs 30th anniversary. In 2003, ASEAN
leaders resolved that an ASEAN Community would be established, comprising three pillars: the
ASEAN Security Community, the ASEAN Economic Community (AEC) and the ASEAN SocioCultural Community. The aim of the AEC is to establish ASEAN as a single market; in part this
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map 8.3
asean countries
CHINA
Philippine Sea
MYANMAR
LAOS
PHILIPPINES
THAILAND
CAMBODIA
VIETNAM
MALAYSIA
North
Pacific
Ocean
BRUNEI
SINGAPORE
PAPUA
NEW GUINEA
INDONESIA
Indian Ocean
AUSTRALIA
Source: asean website, http://www.aseansec.org/69.htm.
required the introduction of new mechanisms to strengthen the implementation of its existing
economic initiatives, including the ASEAN Free Trade Area (AFTA), which was launched in 1992.
As a result, by January 2005, tariffs on almost 99 per cent of products in an extensive inclusions
list of the ASEAN-6 (the founding five nations plus Brunei Darussalam) had been reduced to no
more than 5 per cent, with 60 per cent being tariff free. The average tariff for the ASEAN-6 had
been reduced from more than 12 per cent in 1992 to 2 per cent, with the aim of zero tariffs across
the board by 2010. So far there have been some significant exceptions. For example, Malaysia still
has some tariffs above 5 per cent on motor vehicles (to protect the Proton, and inefficient local
car makers, from foreign competition). A similar situation exists with rice in the Philippines.
While tariff reform is being phased in more gradually for the newer members (Cambodia, Laos,
Myanmar and Vietnam), tariffs on more than 80 per cent of products in the inclusion list are
already within the 05 per cent range, with the aim of achieving zero tariffs by 2015.
In July 2008, the 41st ASEAN ministerial meeting, with the theme One ASEAN at the Heart
of Dynamic Asia, underscored ASEANs commitment to establish a single market and production
base, characterised by a competitive economic region with equitable economic development and
full integration into the global economy. The meeting welcomed the ongoing implementation of the
AEC Blueprint, adopted at the ASEAN Summit in Singapore in November 2007, and the imminent
launch of the AEC Scorecard, a monitoring mechanism intended to help ensure compliance with
the provisions of the AEC Blueprint. Also noted was the significant progress made in the areas of
trade in goods, services and investment.34 ASEAN is currently pushing for free trade agreements
with Australia and New Zealand (as discussed above), China, Japan and South Korea.
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AsiaPacific Economic Cooperation

AsiaPacific Economic Cooperation (APEC) was founded in 1989 at the suggestion of Australia.
APEC currently has 21 member states, including Australia and New Zealand, as well as such
economic powerhouses as the US, Japan and China (see Map 8.4). Collectively, the member states
account for about 40 per cent of the worlds population, around 45 per cent of exports of goods
and services, more than 50 per cent of world GDP and much of the growth in the world economy.
The stated aim of APEC is to increase multilateral cooperation in view of the economic rise of the
Pacific nations and the growing interdependence within the region.
The heads of state of member countries have annual ministerial meetings, the location alternating
between member countries. The first meeting was held in Canberra in 1989; the 2008 meeting was
in Lima (Peru). Interest in APEC was heightened at the 1993 Blake Island meeting in the US, which
attempted to set out a vision for APEC. Debate before the meeting had speculated on the likely
future role of APEC. One view was that APEC should commit to the ultimate formation of a free
trade area. Such a move would transform the Pacific Rim from a geographical expression into the
worlds largest free trade area. Another view was that the APEC meeting would produce no more
than hot air and a lot of photo opportunities for the leaders involved. As it turned out, the APEC
meeting produced little more than some vague commitments from member states to work together
for greater economic integration and a general lowering of trade barriers. Significantly, however,
member states did not rule out the possibility of closer economic cooperation in the future.35
The subsequent 1994 meeting in Bogor, Indonesia, set the goals of free and open trade and
investment in the AsiaPacific by 2010 for developed economies and 2020 for developing economies,
and these have been a focus of attention since. At the 1997 Vancouver, Canada, meeting, member
map 8.4
apeC members
RUSSIA
CANADA
JAPAN
CHINA
UNITED STATES
SOUTH KOREA
TAIWAN
HONG KONG
THAILAND
VIETNAM
MALAYSIA
MEXICO
PHILIPPINES
BRUNEI
PAPUA NEW GUINEA
INDONESIA
PERU
AUSTRALIA
NEW CALEDONIA
NEW ZEALAND
APEC Members
Member
Nonmembers
CHILE
Source: asean website, http://www.apec.org.
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states formally endorsed proposals designed to remove trade barriers in 15 sectors ranging from fish
to toys. However, the vague plan committed APEC to doing no more than holding further talks.
Commenting on the vagueness of APEC pronouncements, the influential Brookings Institution,
a US-based economic policy institution, noted that APEC is in grave danger of shrinking into
irrelevance as a serious forum.
Despite the slow progress, APEC is worth watching: as recently as 2006 at the Ha Noi, Vietnam,
meeting, APEC leaders endorsed an action plan that identified specific actions and milestones to
implement the Bogor goals. Among other matters, the 2007 Sydney meeting widened the agenda
with a Declaration on Climate Change, Energy Security and Clean Development. Both issues were
given further consideration at the 2008 Lima (Peru) meeting. If APEC does eventually transform
itself into a free trade area, it will probably be the worlds largest.36
ImPLIC ATIONS fOR INTERNATIONAL BuSINESS

As we have seen, currently the most significant developments in regional economic integration are
occurring in the EU. Hence any discussion of management implications must necessarily place
some emphasis on EU experience, bearing in mind that similar conclusions could be drawn with
regard to the creation of a single market elsewhere, for example, in ASEAN, the CER countries
and NAFTA.
Opportunities
The creation of a single market through regional economic integration offers significant opportunities
because markets that were formerly protected from foreign competition are opened. For example,
in Europe before 1992 the large French and Italian markets were among the most protected. These
markets are now much more open to foreign competition in the form of both exports and direct
investment. Nonetheless, to fully exploit such opportunities, it may pay non-EU firms to set up
EU subsidiaries or run the risk of being shut out of the EU by non-tariff barriers. Non-EU firms
have rapidly increased their direct investment in the EU in anticipation of the creation of a single
market. Between 1985 and 1989, for example, approximately 37 per cent of the FDI inflows into
industrialised countries was directed at the EC. By 1991, this figure had risen to 66 per cent, and
FDI inflows into the EU have been substantial ever since (see Chapter 7).37
Additional opportunities arise from the inherent lower costs of doing business in a single market
as opposed to 27 national markets in the case of the EU, ten in the case of ASEAN, three in the case of
NAFTA or two in the case of the CER countries. Free movement of goods across borders, harmonised
product standards and simplified tax regimes make it possible for firms to realise potentially significant
cost economies by centralising production in locations where the mix of factor costs and skills is
optimal; this can be facilitated even more by supporting bilateral free trade agreements (as described
for ASEAN and the CER countries). Rather than producing a product for an individual national
market, a firm may be able to serve all countries in a region from a single location. This location must
be chosen carefully, of course, with an eye on local factor costs and skills.
For example, in response to the changes created by the EU after 1992, the US-based 3M Company
consolidated its European manufacturing and distribution facilities to take advantage of economies
of scale. Thus, a plant in Britain now produces 3Ms printing products and a German factory its
reflective traffic control materials for the entire EU. In each case, 3M chose a location for centralised
production after carefully considering the likely production costs in alternative locations within
the EU. The ultimate goal of 3M is to dispense with all national distinctions, directing R&D,
manufacturing, distribution and marketing for each product group from an EU headquarters.38
Similarly, New Zealand-based Fisher & Paykel initially used the opportunities created by CER to
establish a production plant and pursue scale economies in the larger Australian market (in 1990
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in Queensland), which was then used as part of the companys push into markets in Asia, Europe
and the Americas. Increasing Northern Hemisphere demand for the companys products meant
that additional production facilities were eventually established in the US, Italy and Thailand. And
for reasons of production cost and proximity to its major markets, Fisher & Paykel announced
in 2008 that it would be closing plants in Australia, New Zealand and the US and expanding its
existing operations in Italy and Thailand. It will also commence production in a newly acquired
factory in Mexico.39
Even after the removal of barriers to trade and investment, enduring differences in culture and
competitive practices often limit the ability of companies to realise cost economies by centralising
production in key locations and producing a standardised product for a single multicountry market.
Consider the case of Atag Holdings NV, a Dutch maker of kitchen appliances.40 Atag thought it
was well placed to benefit from the single market, but found it tough going. Atags plant is just
one-and-a-half kilometres from the German border and near the centre of the EUs population.
The company thought it could cater to both the potato and spaghetti beltsmarketers terms
for consumers in Northern and Southern Europeby producing two main product lines and
selling these standardised euro-products to euro-consumers. The main benefit of doing this is
the economy of scale derived from mass production of a standardised range of products. But Atag
quickly discovered that the euro-consumer was a myth. Consumer preferences vary much more
across nations than Atag had thought. Consider ceramic cooktops: Atag had planned to market
just two varieties throughout the EU but has found it needs 11. Belgians, who cook in huge pots,
require extra-large burners. Germans like oval pots and burners to fit. The French need small
burners and very low temperatures for simmering sauces and broths. Germans like oven knobs on
the top; the French want them on the front. Most German and French consumers prefer black and
white ranges; the British demand a range of colours including peach, pigeon blue and mint green.
Threats
Just as the emergence of single markets creates opportunities for business, it also presents a
number of threats. For one thing, the business environment within each grouping will become
more competitive. As the closing case on EU car prices shows, the lowering of barriers to
trade and investment between countries is likely to lead to increased price competition. To survive
in the tougher single-market environment, firms must take advantage of the opportunities offered
by the creation of a single market to rationalise their production and reduce their costs. Otherwise,
they will be at a severe disadvantage. It also suggests that differentiation strategies should be used
where possible to avoid cut-price competition.
A further threat to firms outside these trading blocs arises from the likely long-term improvement
in the competitive position of many firms within the areas. This is particularly relevant in the EU,
where many firms have historically been limited by a high cost structure in their ability to compete
globally with US and Asian firms. The creation of a single market and the resulting increased
competition in the EU is beginning to produce serious attempts by many EU firms to reduce
their cost structure by rationalising production. This is transforming many EU companies into
efficient global competitors. The message for non-EU businesses is that they need to prepare for the
emergence of more capable European competitors by reducing their own cost structures.
Another threat to firms outside of trading areas is the threat of being shut out of the single
market by the creation of a trade fortress. The charge that regional economic integration might
lead to a fortress mentality is most often levelled at the EU. Although the free trade philosophy
underpinning the EU theoretically argues against the creation of any fortress in Europe, occasional
signs indicate the EU may raise barriers to imports and investment in certain politically sensitive
areas such as motor vehicles. Non-EU firms might be well advised, therefore, to set up their own EU
operations. Finally, the emerging role of the European Commission in competition policy suggests
the EU is increasingly willing and able to intervene and impose conditions on companies proposing
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mergers and acquisitions. This is a threat insofar as it limits the ability of firms to pursue the
corporate strategy of their choice. While this constrains the strategic options for firms, it should be
remembered that in taking such action, the commission is trying to maintain the level of competition
in Europes single market, which should benefit consumers (see the opening and closing cases).
Chapter SummARy
this chapter pursued three main objectives: to examine the economic
and political debate surrounding regional economic integration; to
review the progress towards regional economic integration in europe, the
americas, the asiapacific region and elsewhere; and to distinguish the
important implications of regional economic integration for the practice of
international business. the chapter made the following points:
1. a number of levels of economic integration are possible in theory. In
order of increasing integration, they include a free trade area, a customs
union, a common market, an economic union and full political union.
2. In a free trade area, barriers to trade between member countries are
removed, but each country determines its own external trade policy. In
a customs union, internal barriers to trade are removed and a common
external trade policy is adopted. a common market is similar to a
customs union, except that a common market also allows factors of production to move freely between countries. an economic union involves
even closer integration, including the establishment of a common currency and the harmonisation of tax rates. a political union is the logical
culmination of attempts to achieve ever closer economic integration.
3. regional economic integration is an attempt to achieve economic gains from
the free flow of trade and investment between neighbouring countries.
4. Integration is not easily achieved or sustained. although integration brings
benefits to the majority, it is never without costs for the minority. Concerns
over national sovereignty often slow or stop integration attempts.
5. regional integration will not increase economic welfare if the trade creation
effects in the free trade area are outweighed by the trade diversion effects.
6. the Single European Act sought to create a true single market by abolishing administrative barriers to the free flow of trade and investment
between eU countries.
7. By 2009, 16 eU members will be using a common currency, the euro. the

economic gains from a common currency come from reduced exchange
costs, reduced risk associated with currency fluctuations, and increased
price competition within the eU.
8. Increasingly, the european Commission is taking an activist stance
with regard to competition policy, intervening to restrict mergers and
acquisitions that it believes will reduce competition in the eU.
9. although no other attempt at regional economic integration comes
close to the eU in terms of potential economic and political significance, various other attempts are being made in the world. the most
notable include naFta in north america; Cer, asean and apeC in the
asiapacific region; and the andean pact and MerCosUr in latin
america.
10. the movement towards single markets in the eU, the americas and the
asiapacific region will mean that many markets that were formerly
protected from foreign competition are now more open. this creates
major investment and export opportunities for firms within and outside
these regions.
11. the free movement of goods across borders, the harmonisation of
product standards and the simplification of tax regimes make it possible
for firms based in a free trade area to realise potentially enormous cost
economies by centralising production in those locations within the area
where the mix of factor costs and skills is optimal.
12. the lowering of barriers to trade and investment between countries
within a trade group will probably be followed by increased price
competition. From a business perspective this suggests that differentiation strategies should be used where possible to avoid cut-price
competition.
CRITIC AL ThINkING ANd dISCuSSION quESTIONS

1. What are the economic and political arguments for regional economic
integration? given these arguments, why dont we see more substantial
examples of integration in the world economy?
2. outline the various stages of regional economic integration and the
relationships between them. discuss the levels of integration achieved
within asean, the Cer group, the eU and naFta, as well as within
australia and Canada.
3. discuss some of the major implications of recent developments in the
european Union for asean, australian and new Zealand firms wishing
to do business in europe.
4. how should an australian or new Zealand firm that currently exports

to asean countries respond to the creation of a single market in this
regional grouping?
5. naFta has produced significant net benefits for the Canadian, Mexican
and Us economies. discuss. are there any implications for the asean
and Cer members from the experiences of these countries?
6. outline the major developments in apeC and their implications for
australian, new Zealand and asean firms.
7. asean has produced significant net benefits for its member countries.
discuss.
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8. discuss some of the major issues that australia and new Zealand
are likely to face if they progress down the path of monetary
union.
293
9. Under Cer there has been free trade in goods between australia and
new Zealand since 1990. Yet imports of new Zealand apples into
australia have been banned. how can this be?
RESE ARCh TA Sk
Use the globaledge site (http://globaledge.msu.edu/) to complete the
following exercises:
1. the enlargement of european Union into eastern europe has brought
together countries with different levels of economic development.
Choose two long-term eU member countries and two newer members.
Compare and contrast the macroeconomic situation in these countries
by analysing each countrys primary economic indicators, available from
EurostatisticsData for Short-term Economic Analysis, a statistical book,

published by eurostat. prepare a short report describing the similarities
and differences between the two groups of countries.
2. the thailandaustralia Free trade agreement is a major marketopening agreement which came into force on January 2005. Using a
resource provided by the australian government, briefly summarise the
principal outcomes on trade in goods.
CLOSING CASE
Car price differentials in the European Union
The goal of the Single European Act was to remove barriers
to cross-border trade and investment within the confines of
the European Union by 31 December 1992, thereby creating
a single market instead of a collection of distinct national
markets. Among the benefits claimed for this Act were an
increase in competition and a corresponding reduction in
prices. The move towards a single market received another
boost on 1 January 1999, when the majority of the EUs
member states at the time formally adopted the euro as a
common currency. As of 2008, 15 of the 27 member states
of the EU used the euro as their currency (these 15 countries
are referred to as the eurozone). It was claimed that the
euro would benefit European consumers by making it easier
to compare prices across nations, and should in theory lead
to the harmonisation of prices within the eurozone. For
example, due to the adoption of a common currency within
a single market, a car sold in Germany should in theory be
the same price as a car sold in France.
In the automobile market, the reality has been somewhat
different. By 2008, significant variations remained between
the prices of the same automobiles in different countries.
According to the European Commission, in January 2008
there was a 24.3 per cent differential between the price of
a Volkswagen Golf in the cheapest and the most expensive
national markets in the eurozone. There was a 32.2 per cent
differential in the price of a Ford Focus, 32 per cent in the
price of a Peugeot 207 and 38.4 per cent in the price of
an Audi A4. However, these differentials with regard to
certain models hid the fact that, on average, prices have been
converging on EU-wide norms. As of early 2008, the average

price differential of cars across countries in the eurozone was
just 4.8 per cent, a marked improvement from November
1999, when it was 17.5 per cent.
In January 2008, the average price differential of cars
across all 27 EU member states was 7 per cent. Within the
eurozone, Germany was the most expensive car market,
with 27 out of 87 car models being sold to consumers at the
highest prices in the eurozone. Finland remains the cheapest
country within the eurozone in terms of pre-tax prices, with
about a quarter of the models surveyed by the European
Commission being at their lowest price in Finland; next came
Greece and Slovenia. In the EU-27 as a whole, Denmark was
the cheapest country, with prices some 4.4 per cent lower
than in Finland. Car prices in the Czech Republic are the
highest within the EU-27, with prices 10.8 per cent above
the EU average and 4.5 per cent higher than in neighbouring
Germany.
Historically, one reason for these price differentials
within the EU is that regulations had allowed automobile
manufacturers to restrict competition between car dealers. The
block exemption clause in EU competition policy allowed
vehicle manufacturers to dictate where a dealership could be
located, to limit the number of brands that a dealer could
sell and to prohibit a dealer from selling vehicles outside
of its home country. For example, Volkswagen could tell a
dealer in Belgium that if it wanted to become (or remain)
a Volkswagen dealer, it (a) could not sell vehicles made by
other car companies and (b) could not sell Volkswagen cars
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294
to consumers in Germany. This practice effectively allowed

automobile companies to restrict competition, segment the
European market and price cars differently in various countries
to reflect underlying demand conditions.
In response to persistent complaints from consumers,
in late 2002 the European Commission scrapped the block
exemption clause and issued a new set of regulations designed
to encourage competition within the EU car market. Under
the new rules, dealers are allowed to sell anywhere they want
to, open new locations where they choose and sell more than
one brand of car if they wish. Thus, a Belgium car dealer is now
able to sell Volkswagen cars to German consumers.
Nevertheless, car price differentials, though much lower
and fairly stable in recent years, continue to be significant
across the EU, suggesting that much further convergence
may be difficult to achieve.
Sources: K. Kelly, global politics shift auto industry focus, Wards Auto World, november 2002, pp. 3940; s. Miller, Benefits of eU car sales rules are questionable, The Wall Street Journal,
17 July 2002, p. a14; t. Block, denmark ahead of the eU pack when it comes to low car prices, Financial Times, 2 august 2006, p. 5; european Commission, Car prices at 1/1/2008,
april 2008; Commission of the european Communities, report on competition policy 2007, COMM (2008) 368 final, June 2008, section 2.6.
CASE dISCuSSION quESTIONS

1. What have been the sources of significant price differentials in the
eU automobile market?
2. In a pure single market would these price differentials exist? By
what process might price differentials be eradicated?
3. Why do you think germany is the most expensive car market in
the eurozone and Finland the cheapest?
4. What do you think is likely to happen to price differentials in the

eU automobile market in the future?
5. What do you think will be the impact of the removal of the block
exemption clause on (a) competitive intensity in the eU automobile market, and (b) the profitability of automobile operations in
the eU?
NOTES
1. Information taken from World trade organization website (www.wto.
org) and current as of august 2008.
2. on this see for example t. sutherland, pacific wary of Ftas, Australian
Financial Review, 20 august 2008, p.13.
3. see www.wto.org for further details.
4. as detailed later in the chapter, the andean Community has been
through a number of changes since its inception, including name.
5. d. swann, The Economics of the Common Market, 6th ed. (london:
penguin Books, 1990).
6. see for example J. Bhagwati, Fast track to nowhere, The Economist, 18
october 1997, pp. 2124; J. Bhagwati, Free Trade Today (princeton and
oxford: princeton University press, 2002); and B. K. gordon, a high risk
trade policy, Foreign Affairs 82, no. 4, July/august 2003, pp. 10515.
7. see the european Unions website at http://www.europa.eu.int for further
details.
8. For further details see for example: www.asean.org (asean), http://www.
europa.eu.int and http://www.wto.org (World trade organisation).
9. see www.europa.eu.int for full details (accessed 18 november 2008).
10. see for example Commission of the european Communities, report on
competition policy 2007, COMM (2008) 368 final, June 2008.
11. For further details on the european parliament and the treaty of lisbon,
see http://www.europa.eu.int.
12. Further details are available at http://www.europa.eu.int (accessed
18 november 2008).
13. see for example alan riley, the single market ten years on, European
Policy Analyst, december 2002, pp. 6572; and references in the opening
and closing cases.
14. see http://www.europa.eu.int for further details on european monetary
union, including enlargement of the eurozone (accessed 18 november
2008).
15. M. Feldstein,the political economy of the european economic and
Monetary Union, Journal of Economic Perspectives 11, 1997, pp. 2342;
p. hofheinz,a capital idea: the european Union has a grand plan to make its
financial markets more efficient, The Wall Street Journal, 14 october 2002,
p. r4; C. randzio-plath, europe prepares for a single financial market,
Intereconomic, MayJune 2004, pp. 142146; t. Buck, d. hargreaves and
p. norman, europes single -financial market, Financial Times, 18 January
2005, p. 17; the gate-keeper, The Economist, 19 February 2005, p. 79;
Banking on McCreevy: europes single market, The Economist, 26
november 2005, p. 91; and Commission of the european Communities,
report on Competition policy 2007, COMM (2008) 368 final, June 2008,
section 2.2.
16. Useful references include:time for europhoria?, The Economist, 4 January
2003, p. 58;the passing of the buck?, The Economist, 4 december 2004,
pp. 7880; r. Mathieson,Us dollar may be up, but this is no rebound,
(from dow Jones newswires, singapore), Weekend Australian, 3031
august 2008, p. 41; M. grynbaum,Us outlook grim despite growth spurt
(from the New York Times), Australian Financial Review, 3031 august 2008,
Chapter-08.indd
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17.
18.
19.
20.
21.
22.
23.
24.
25.
26.
27.
28.
29.
30.
p. 18; and Why the credit crunch has lasted so long (from The Economist),
Australian Financial Review, 3031 august 2008, p. 30.
details regarding conditions of membership and the progression of
enlargement negotiations can be found at www. europa.eu.int (accessed
18 november 2008).
on turkey see for example: g. Kitney (london), success story sours for
turkey, Australian Financial Review, 31 July 2008, p. 18.
some limited attempts at regional economic integration have also occurred
in africa, notably amongst members of the southern african development
Community (sadC). For further details on sadC see www.sadc.int.
other attempts in the americas include the Central american Common Market (CaCM), the Caribbean Community (CarICoM) and the Central america
Free trade agreement (CaFta). For further details see for example EIU Views,
CarICoM single market begins, 3 February 2006; and http://www.memory.
loc.gov/frd/cs (Us library of Congress, accessed 18 november 2008).
What is naFta? Financial Times, 17 november 1993, p. 6; s. garland,
sweet victory, BusinessWeek, 29 november 1993, pp. 3031; naFta:
the showdown, The Economist, 13 november 1993, pp. 2336.
n. C. lustog, naFta: setting the record straight, The World Economy,
1997, pp. 605614; g. C. hufbauer and J. J. scott, NAFTA -Revisited:
Achievements and Challenges (Washington dC: Institute for International
economics, 2005).
W. thorbecke and C. eigen-Zucchi, did naFta cause a giant sucking
sound?, Journal of Labor Research, Fall 2002, pp. 647658; Free trade on
trial, The Economist, 3 January 2004, pp. 1316; g. C. hufbauer and J. J.
scott, NAFTA -Revisited: Achievements and Challenges (Washington dC:
Institute for International economics, 2005).
all trade figures from Us department of Commerce trade stat express,
accessed 18 november 2008 at: http://www.commerce.gov/.
J. Cavanagh et al., happy ever naFta?, Foreign Policy, september
october 2002, pp. 5865.
see for example: s. Mussenden, on free trade, big differences between
McCain, obama, McClatchy Tribune Business News, 9 July 2008;
d. greising, official: Mexico open to new naFta talks, McClatchy-Tribune
Business News, 2 august 2008; J. d. McKinnon, Us news: leaders applaud
nafta; Bush, counterparts say now isnt time to renegotiate pact, Wall
Street Journal (eastern edition), 23 april 2008, p. a3.
For further details see information accessed 18 november 2008 at:
www.nafta-sec-alena.org.
For further details see andean Community website accessed
18 november 2008 at: http://www.comunidadandina.org/endex.htm.
For recent details accessed 18 november 2008 at: http://www.mercosur.
int/msweb. the interested reader may also wish to consult:naFta is not
alone, The Economist, 18 June 1994, pp. 4748; another blow to MerCosUr, The Economist, 31 March 2001, pp. 3334; lula lays out MerCosUr
rescue mission, Latin America Newsletters, 4 February 2003, p. 7; a free
trade tug of war, The Economist, 11 december 2004, p. 54.
M. esterl, Free trade area of the americas stalls, The Economist, 19
January 2005, p. 1; M. Moffett and J. d. McKinnon, Failed summit casts
shadow on global trade talks, The Wall Street Journal, 7 november 2005,
p. a1; and Ftaa accessed 18 november at: http://www.ftaa-alca.org.
295
31. Further information may be found at http://www.dfat.gov.au

(australian department of Foreign affairs and trade); http://www.
austrade.gov.au (australian trade Commission); and http://www.
mfat.govt.nz (new Zealand Ministry of Foreign affairs and trade).
all websites accessed 18 november 2008. these sources also provide
details of the other australian and new Zealand trade agreements
and negotiations discussed in the next section.
32. Comments on country benefits are based on australian department
of Foreign affairs and trade, australian trade Commission and new
Zealand Ministry of Foreign affairs and trade sources. see http://
www.asx.com.au (asX) and http://www.nzx.com (nZX) for company
details.
33. on seM and common currency see: t. dick, push for union with new
Zealand, Sydney Morning Herald, 5 december 2006; 2006 Cer ministerial forum-joint communique, australian government department of
Foreign affairs and trade.
34. see Joint Communique of the 41st asean Ministerial Meeting,One
ASEAN at the Heart of Asia, singapore, 21 July 2008, www.asean.org/
21771.htm (accessed 18 november 2008). Further details may be found
on the asean website, accessed 18 november 2008 at: www.aseansec.
org. For an earlier reference on australias relationship with asean see
t. harcourt,love thy neighbouraustralias growing trade ties with
asean, 7 december 2004, accessed 18 november 2008 at: http://www.
austrade.gov.au/love-thy-neighbour-australia-s-growing-trade-tieswith-asean/default.aspx.
35. aimless in seattle, The Economist, 13 november 1993, pp. 3536.
36. Further details may be found on the apeC website: http://www.apec.
org. see also t. harcourt, Why apeC matters, 31 august 2007, accessed
18 november 2008 at: http://www.austrade.gov.au/Why-apeC-Matters/
default.aspx; U. pandey, Collapse of Wto talks puts spotlight back on
deal among apec, McClatchey Tribune Business News, 2 august 2008;
a. symonds and g. earl, Business speaks its mind, Australian Financial
Review, 4 august, p. 4; g. earl, apeC aims for balanced reform, Australian
Financial Review, 4 august 2008, p. 4.
37. United nations, World Investment Report, various issues (new York and
geneva: United nations).
38. p. davis, a european campaign: local companies rush for a share of eC
market while barriers are down, Minneapolis St. Paul City Business,
8 January 1990, p. 1.
39. on Fisher paykel, accessed 18 november 2008 at: http://www.fisherpaykel.
com.au or http://www.fisherpaykel.co.nz ;Case studies in trans-tasman
business, Australian Government Department of Foreign Affairs and Trade,
2002, accessed 18 november 2008 at: http://www.dfat.gov.au/geo/new_
zealand/anz_cer_20years/case_studies.htmi;F & p selling sites as work
moves offshore, Waikato Times, 9 July 2008, p. 10;Whiteware flight leaves
clean sites, The New Zealand Herald, 12 July 2008, p. C15.
40. t. horwitz, europes borders fade, The Wall Street Journal, 18 May
1993, pp. a1, a12; a singular market, The Economist, 22 october 1994,
pp. 1016; something dodgy in europes single market, The Economist,
21 May 1994, pp. 6970. For recent information on atag and its products, accessed 18 november 2008 at: see http://www.atag.nl.
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266

Be able to explain the different levels of regional economic

Understand the economic and political arguments for

Understand the economic and political arguments against

Be familiar with the history, current scope and future

Understand the implications for business that are inherent

after you have read this chapter, you should:

The European energy market

part 3 the gloBal trade and InvestMent envIronMent

effectively in a liberalised market. however, some cross-border takeover

Chapter 8 regIonal eConoMIC IntegratIon

LE VEL S Of ECONOmIC INTEGR ATION

part 3 the gloBal trade and InvestMent envIronMent

Chapter 8 regIonal eConoMIC IntegratIon

ThE C A SE fOR REGIONAL INTEGR ATION

The economic case for integration

part 3 the gloBal trade and InvestMent envIronMent

The political case for integration

Chapter 8 regIonal eConoMIC IntegratIon

ThE C A SE AGAINST REGIONAL INTEGR ATION

REGIONAL ECONOmIC INTEGR ATION IN EuROPE

Evolution of the European union

part 3 the gloBal trade and InvestMent envIronMent

Source: european Union, http://www.europarl.org.uk.

Chapter 8 regIonal eConoMIC IntegratIon

Political structure of the European union

part 3 the gloBal trade and InvestMent envIronMent

The Single European Act

The objectives of the Act

Chapter 8 regIonal eConoMIC IntegratIon

Open public procurement to non-national suppliers, reducing costs directly by allowing

The impact of the Act

The establishment of the euro

part 3 the gloBal trade and InvestMent envIronMent

Benefits of the euro

Chapter 8 regIonal eConoMIC IntegratIon

Costs of the euro

The early experience

part 3 the gloBal trade and InvestMent envIronMent

Enlargement of the European union

Chapter 8 regIonal eConoMIC IntegratIon

REGIONAL ECONOmIC INTEGR ATION IN ThE

The North American free Trade Agreement

part 3 the gloBal trade and InvestMent envIronMent

The results so far

Chapter 8 regIonal eConoMIC IntegratIon

The Andean Community

part 3 the gloBal trade and InvestMent envIronMent

free Trade Area of the Americas

REGIONAL ECONOmIC INTEGR ATION IN A SIA ANd

AustraliaNew Zealand Closer Economic Relations Trade Agreement

Chapter 8 regIonal eConoMIC IntegratIon

Trade relationships with countries in other trade blocs

Association of Southeast Asian Nations

part 3 the gloBal trade and InvestMent envIronMent

a person registered to practise an occupation in Australia is entitled to practise an equivalent

Crunch time for New Zealand apples

Chapter 8 regIonal eConoMIC IntegratIon

Pacific Ocean regional integration

part 3 the gloBal trade and InvestMent envIronMent

Source: asean website, http://www.aseansec.org/69.htm.

Chapter 8 regIonal eConoMIC IntegratIon

AsiaPacific Economic Cooperation

PAPUA NEW GUINEA