Economic Integration Levels and Trade Policy Concepts

Levels of Economic Integration

The progression of economic integration levels is as follows:

• Preferential Trade Area
• Free Trade Area (FTA)
• Customs Union (CU)
• Common Market
• Economic Union
• Political Union

What is Dumping?

Dumping is the practice of selling a product at a lower price in an external market than in the domestic market. Two conditions are typically required:

1. Segmentation of markets.
2. Imperfect competition in, at least, one of the two countries.

Sometimes, dumping is defined as selling below cost.

Rules of Origin (ROO)

Requirement and Purpose

Rules of Origin define whether a good is eligible for duty-free treatment based on whether it has sufficiently originated in the partner country. They prevent trade deflection.

Trade Deflection: Redirection of international trade due to the creation of an FTA, where imports enter the low-tariff member country intended for re-export to its higher-tariff partners.

The form of economic integration that primarily requires ROO is the Free Trade Area (FTA), specifically to avoid trade deflection.

Trade Creation and Trade Diversion

Trade Diversion: A shift in the pattern of trade from low-cost world producers to higher-cost members of a Customs Union (CU) or FTA.

Trade Creation: The expansion of trade that results from the formation of a preferential trade arrangement (like an FTA).

Similarities and Differences Between Tariffs and Quotas

Similarities

• Higher domestic prices.
• Higher domestic production.
• Decrease in the level of imports.
• Decrease in the consumer surplus.
• The deadweight cost is the same (for equivalent restrictions).
• Increase in the producer surplus.

Differences

Under an equivalent quota, the quota rents (revenue generated from the restriction) may differ from tariff revenue.

Quota rights can be allocated in several ways:

1. Given to domestic producers.
2. Given to foreign producers.
3. Auctioned and retained by the government.

Negative Effects of Preferential Trade Arrangements on Outside Countries

Consider the case analysis of a tariff:

Country C (a non-member) loses because its producers have lost markets, causing the price C receives for its production to fall. The worldwide welfare effects from the formation of a preferential trading relationship are uncertain. If the arrangement is small, it hurts the outside world, but it may help the members themselves.

FTA vs. Customs Union: Differences and Examples

Both arrangements remove barriers between member countries.

Free Trade Area (FTA)

Countries are free to maintain their own individual trade barriers (tariffs) against non-member countries.

Example: NAFTA (now USMCA).

Customs Union (CU)

Members agree to set up a Common External Tariff (CET) to non-member countries, in addition to removing internal barriers.

Examples: The EU, Mercosur.