Stages of Economic Integration: From Autarky to Economic Union As international trade and investment levels continue to rise, the

level of economic integration between various groups of nations is also deepening. The most obvious example of this is the European Union, which has evolved from a collection of autarkical nations to become a fully integrated economic unit. Although it is rare that relationships between countries follow so precise a pattern, formal economic integration takes place in stages, beginning with the lowering and removal of barriers to trade and culminating in the creation of an economic union. These stages are summarized below.(1) FREE TRADE AGREEMENTS The first level of formal economic integration is the establishment of free trade agreements (FTAs) or preferential trade agreements (PTAs). FTAs eliminate import tariffs as well as import quotas between signatory countries. These agreements can be limited to a few sectors or can encompass all aspects of international trade. FTAs can also include formal mechanisms to resolve trade disputes. The North American Free Trade Agreement (NAFTA) is an example of such an arrangement. necessary part of a free trade agreement. FTA signatory countries also retain independent trade policy with all countries outside the agreement. entering the CU area would be subject to the same tariff rates and/or import quotas regardless of the point of entry.

The elimination of the need for rules However, in order for an FTA to of origin is the chief benefit of a function properly, member countries customs union over a free trade must establish rules of origin for all area. To maintain rules of origin third-party goods entering the free requires extensive documentation by trade area. Goods produced within all FTA member countries as well as the free trade area (and subject to enforcement of those rules at the agreement) may cross borders borders within the free trade area. tariff-free, but rules of origin This is a costly process and can lead requirements must be met to prove to disputes over interpretation of the that the good was in fact produced rules as well as other delays. A CU in the exporting country. In the would result in significant absence of rules of origin, thirdadministrative cost savings and party countries seeking trade access efficiency gains. to the FTA area will choose the path In order to gain the benefits of a of least resistance the country customs union, member countries where they face the lowest opposing would have to surrender some tariff in order to gain effective degree of policy freedom entry to the entire FTA region. specifically the ability to set CUSTOMS UNION

independent trade policy. By A customs union (CU) builds on a extension, because of the increased importance of trade and economic free trade area by, in addition to removing internal barriers to trade, measures as foreign policy tools, also requiring participating nations customs unions place some limitations on independent foreign to harmonize their external trade policy. This includes establishing a policy as well. common external tariff (CET) and COMMON MARKET import quotas on products entering A common market represents a the region from third-party major step towards significant countries, as well as possibly economic integration. In addition to establishing common trade remedy containing the provisions of a Aside from a commitment to a policies such as anti-dumping and customs union, a common market reciprocal trade liberalization countervail measures. A customs (CM) removes all barriers to the schedule, FTAs place few union may also preclude the use of mobility of people, capital and other limitations on member states. trade remedy mechanisms within the resources within the area in Although FTAs may contain union. Members of a CU also question, as well as eliminating provisions in these areas if the typically negotiate any multilateral nontariff barriers to trade, such as signatory countries agree to do so, trade initiative (such as at the World the regulatory treatment of product no further harmonization of Trade Organization) as a single bloc. standards. regulations, standards or economic Countries with an established Establishing a common market policies is required, nor is the free customs union no longer require typically requires significant policy movement of capital and labour a rules of origin, since any product harmonization in a number of areas.

Free movement of labour, for example, necessitates agreement on worker qualifications and certifications. A common market is also typically associated whether by design or consequence with a broad convergence of fiscal and monetary policies due to the increased economic interdependence within the region and the effect that one member countrys policies can have on other member countries. This necessarily places more severe limitations on member countries ability to pursue independent economic policies.

Because countries are free to negotiate economic integration agreements as they see fit, in An economic union frequently practice, formal agreements rarely includes the use of a common fall neatly into one of the four stages currency and a unified monetary policy. Eliminating exchange rate discussed above. This can lead to some confusion of terminology and uncertainty improves the functioning of an economic union also confusion as to the state of economic integration in some parts by allowing trade to follow economically efficient paths without of the world. In the case of Canada, being unduly affected by exchange for example, the country is part of a rate considerations. The same is true free trade area with the United States and Mexico. However, the of business location decisions. North American Free Trade Supranational institutions would be Agreement also includes provisions required to regulate commerce that partially liberate the flow of within the union to ensure uniform labour and capital in the region an The principal advantage of application of the rules. These laws element of a common market. In establishing a common market is would still be administered at the addition, Canada has in the past the expected gains in economic national level, but countries would efficiency. With unfettered mobility, abdicate individual control in this pushed to curtail the use of trade remedy measures within North labour and capital can more easily area. America. While this represents a respond to economic signals within Basic Elements of the Stages desire to advance one aspect of the common market, resulting in a North American integration, the of Economic Integration more efficient allocation of next formal step a customs union resources. Free Trade Agreement (FTA) does not appear to be a policy ECONOMIC UNION Zero tariffs between member priority at this time countries and reduced nontariff The deepest form of economic barriers integration, an economic union adds to a common market the need Customs Union (CU) to harmonize a number of key FTA + common external tariff policy areas. Most notably, economic unions require formally Common Market (CM) coordinated monetary and fiscal CU + free movement of capital and policies as well as labour market, labour, some policy harmonization regional development, Economic Union (EU) transportation and industrial policies. Since all countries would CM + common economic policies and institutions essentially share the same economic space, it would be BLURRING THE LINES

counter-productive to operate divergent policies in those areas.