Part 3: Preferential integration Flashcards
What is preferential integration?
Economic integration that is based on discrimination
Why preferential integration? (8)
- Better market access: free trade and preferential market access
- Deeper integration: more areas are covered than in WTO
- Put pressure on WTo members to do more (faster)
- Domino effects: the more countries that enter PTS, the more it costs to be outside PTA
- Gaining credability: trade agreements can help lock in politically sensitive areas
- Non economic objectives
- First mover advantage: new issues tend to reach ambitious PTS before reching WTO
- Easier to reach deal than in multilateral context
What is shallow and deep integration?
Newer version to positive vs negative int.
Shallow: trade agreements mainly regarding border measures
Deep: PTAs including rules on other domestic policies
What types of PTAs are there and what do they imply?
Free trade agreement (FTA):
- Members liberalize trade but maintain an independent external trade policy
Free trade agreement + (FTA+):
- FTA with both something extra, ex. some domestic policies or GATS free trade
Customs Union (CU): - FTAwithin union as well as common policy againt RoW
Common Market:
Free internal movement of factors of production: labour and capital + often goods and services
Monetary Union:
- common currency
Fiscal Union:
- common fiscal policy
What are the rules on PTAs? (WTO: GATT and GATS)
For goods trade two exeptions to MFN are allowed:
1. Reciprocal PTAs (FTAs and CUs), regulated through Article XXIV= they are allowed if trade barriers don’t rise towards RoW and PTA is notifies to the WTO
- Non-reciprocal PTAs (trade preferences with developing countries), covered by enabling clause
For GATS:
Article V GATS: Allowes for MFN to be violated as long as overall level of barriers towards non-reciprocates does not rise in the sectors that are covered.
What is the atrting point to demonstrate preferential liberalization in a large country? (identical prodicivity)
How do we find Home’s import supply?
What will the initial equilibrium be?
What happens when Home imposes an MFN tariff?
What happens if Home enters PTA with Partner (only how we derive the curves) ?
- 3 countries: Home (large importer), Partner (exporter) and Row (Exporter)
- Partner and Row are identical -> same XS curves
- Perfect comepetition
- Free trade
Home’s MS: Partners XS + RoWs XS = Same intercept but a flatter curve
Initial equilibrium: MD=MS, Which will be P(ft), we find what Q Partner and RoW exports by dragging P(ft) to their XS curves
MFN tariff= applies to both partner and RoW
- The MS curve will shift up by T -> MS(mfn) -> new equilibrium MS(mfn) = MD -> new price P’
- Identical effects on Partner and RoW: lower border price P’-T and will export fewer units of the good.
- Economic effects: Dom price goes up, Quantities of imports goes down, border price goes down, exports goes down (identical loss)
PTA with Partner: No tariff towards Partner We find new MS curve by starting from the intercept of MS(mfn) -> P(a) 1. Row must always pay tariff so border price will always be domestic price - T -> P(a)-T - Row will only supply imports if domestic price above is P(a) 2. Partner does not pay tariff so it will face border price = domestic price, Will export if domestic price is above P(a). This mean that between P(a)-T and P(a), only Partner exports and at P(a) both start to export -> that is out new MS(pta) curve 3. We find new equilibrium in MD=MS(pta)
What are the ecoonomic and Welfare effects in the model describing a PTA between Home and Partner while still having a MFN tariff towards Row?
Economic Effects:
1. Domestic price in Home decreases
2.Quantity of imports increases
3, Border price for partner increases
4. Border price for RoW will ve Partner’s border price -T
5. Q of exports from Partner increases, Q of Exports from RoW decreases
Welfare Effects:
PArtners welfare increases, RoW welafre decreases
- Even though MFN tariff has not changed for Row, it is still a big disadvantage for them. For RoW free trade is best outcome, MFN is second best and PTA between Home and Partner is the worst
- Welfare in Home:
CS increases, PS decreases, Gov rev. ambiguous
net welfare is ambiguous
Initial Sit: Home importer, Partner and RoW are exporters w. identical XS
Home has PTA With Partner meaning that only RoW meets an MFN tariff, what happens is PTA i Reciprocal?
How do we do analysis?
To see this we do the same analysis but this time Parner is the importer.
Given that the exporting countries’ welfare increases, this makes the chances for overall welfare gain for Home even greater
It will be even worse for RoW
What is trade diversion?
=PTA-induced shift from low-cost production in third country to higher cost production in partner country
What is trade creation?
PTA induced shift from high cost production to lower cost production in partner country
Show the preferential liberalization between Home (small country), A (low cost exporter) and B (high cost exporter)
Perfect comp and constant returns
initial sit: MFN tariff for both A and B
Graph with P and Q
- What will border price and domestic price be?
- What will the XS curves be?
What to prices, production, consumption, imports and tariff revenue if:
- PTA with A?
- PTA with B?
Compare welafre effects of both PTAs
Since A and B are not identical, they charge diffrent prices where P(a) is lower than P(b)
Home is small -> can’t affect prices
Therfore A and B’s price levels can be interpreted as their XS curves (flat line)
Domestic prices will be P(a)+T and P(b)+T
Since A has lower price, all imports will be from A
PTA with A:
- New domestc price will be P(a)
- Border price: P(a)
- Home production decreases (trade creation)
- Home conusmption increases
- imports increases
- All tariff revenue is lost
PTA with B:
- Domestic price decreases from P(a)+T -> P(b)
- Home production decreases (trade creation)
- Home consumption increases
- Imports increases
- Imports from A are interly replaced with B import.: Trade diversion
- Border price increases from P(a) to P(b)
- All tariff revenue is lost
Welfare:
- PTA with A= Home in unambiguously better of
- PTA with B= Ambiguous results since trade diversion
What is trade deflection?
Solutions?
Trade deflections happen in FTAs when a third country want to enter market. Since Countries in FTAs can set their own tariff levels to foreign countries, a third country can deflect this by going through the an FTA country with lower tariffs and after that access the countries with higher tariffs without having to pay tariffs.
Solution:
- Border control between FTA countries (Rules of Origin)
- Though it crates frictional costs
- can add production costs - Customs union rather than PTA
- countries lose sovreighnty
What is the formula for markup?
μ = P - MC
What question does the COMP curve anwser, what is the relationship?
Ansers questions: “given a number of firms, what mark-up will the firms charge
- negative relationship between mark-up and number of firms. The more firms the more competition, more competition equals less market power which leads to smaller mark-up.
What question does BE curve answer?
For a given level of mark-up, how many firms can break-even?
Positive relationship: if we have a high level of mark-up, many firms can break-even, since they need to produce less to survive
