Victoria Garcia-Rubiales
ID #: 4842555
Section Leader: Bruce
Lusignan
EDGE Section: World Trading
Blocs
The definition of a trading bloc varies widely. However, one definition that encompasses the main attributes of trading blocs and touches on the reasons that countries may have for forming such an organization is that given by the United States National Policy Association. According to this definition, a trading bloc is defined by four characteristics, it:
1) participates in a special trade relationship established by a formal agreement that promotes and facilitates trade within that group of countries in preference to trade with outside nations by discriminating against nonmembers;
2) has attained or has as a stated goal the deepening of trade liberalization or integration with the objective of establishing a free trade area, customs union, or common market;
3) strives to reach common positions in negotiations with third countries, with other trade blocs, or in multilateral forums; and
4) attempts to coordinate national economic policies to minimize disruption to intrabloc economic transactions.[2]
Trading blocs are created because according to the theory of comparative advantage, countries should specialize in producing those goods in which they have a comparative advantage; that is, those goods that they have a lower opportunity cost of production than other nations. By specializing in the production of these goods, a group of nations as a whole can produce, and therefore consume, a greater quantity of each product. However, as countries become more specialized in the production of goods, it becomes necessary to trade with countries that need these goods or that have resources that are not available in that nation. Due to this factor, as nations become more specialized, they also become increasingly dependent on their trading partners. Furthermore, since smaller countries with fewer resources and land are generally less powerful than larger nations, the need arises to develop economic alliances to gain buying and selling power. Hence, trading blocs arise.
Trading blocs provide many economic benefits to their members. These can be grouped in two categories: competition and scale effects, and trade and location effects. Competition and scale effects refer to the benefits that arise from the possible increase in foreign direct investment, from the formation of economies of scale, and from increased competition as separate national markets become more integrated into a single market. By creating larger markets, trading blocs may assist in attracting foreign direct investment. When foreign firms want to supply a product to a country, they have two options: to import it or to build a local plant. Importing has the disadvantages created by tariffs and by other trade barriers that may be used. However, domestic production is riskier in that a certain amount of sales have to be made for the initial investment to be profitable. Therefore, a company may still choose to import the product even with the disadvantages that this entails. However, by increasing market size and making markets more competitive, trading blocs favor the lower marginal costs of locally producing products rather than importing them, and therefore often lead to an increase in foreign direct investment. In fact, this was observed to be the case in Mexico where foreign direct investment more than doubled the year after it joined NAFTA. Similarly, following the formation of the European Union, the EU’s share of worldwide inward foreign direct investment flows increased from 28% to 33% during the period from 1982 to 1993.[3]
Creating large markets not only serves an important function by increasing the amount of foreign direct investment, it also allows for economies of scale. Many nations are not large enough to support the production of goods with large economies of scale because they lack large enough markets in which to sell their products or from which to obtain inputs. Trading blocs can provide these and consequently allow for economies of scale to be achieved. By allowing for bulk production, economies of scale decrease the average cost of production by making it more efficient. However, the development of economies of scale may mean that there are only a few producers of each product, which could lead to the establishment of high monopoly prices. On the other hand, trading blocs bring producers in member countries into closer contact, thereby increasing competition among them. This leads to the erosion of monopoly positions and consequently promotes efficiency gains within firms. This effect is not only felt by producers in the member states; producers in nonmember nations will also experience these changes and have to adapt their pricing and the quality of their products to be able to compete in a more efficient market. Therefore trading blocs result in a more efficient market.[4]
Trading blocs also result in trade and location effects. By eliminating tariffs, imports from other member countries will become cheaper, so demand patterns will change. Consumers and firms will buy products from the cheapest source without price distortions, thereby ensuring that production is allocated to those firms with a comparative advantage in production. This will increase the market’s efficiency by allowing a greater quantity of products to be manufactured with the same amount of resources and consequently result in higher levels of consumption.[5]
THE EUROPEAN UNION
The European Union demonstrates how the formation of a trading bloc can lead to significant economic benefits to member countries. It is currently “the most significant and influential of international economic integration schemes”[6] for three reasons: it includes some of the most advanced nations of the western world, it is the oldest such scheme, and it is the scheme with the most involved and demanding level of international integration. The EU’s global importance is due to its relative weight in the world. The only trading bloc comparable in importance to the EU is the North American Free Trade Agreement (NAFTA) The EU as a whole has a population of 376 million and a GDP of US$ 7,837 billion, both of which are similar to NAFTA’s population of 411 million and GDP of US$ 11,100 billion,[7] and the EU has a higher per capita GNP than NAFTA. Furthermore, the EU is currently the world’s largest trading entity. It buys about 21% of total US exports of goods and services, and receives more than 41% of total US foreign direct investment.[8]
The idea of forming a broader European economic union was first proposed by France during the interwar period as a possible solution to the political and economic problems. But it was not until 1947 with the establishment of the Economic Commission for Europe (ECE) that concrete steps towards regional integration were taken. The ECE was established in Geneva as a regional organization of the United Nations with the objective of taking measures to secure the economic restructuring of Europe after World War II.[9] The creation of the European Free Trade Association in 1960, which grouped Denmark, Norway, Portugal, Sweden, Switzerland and the United Kingdom, and had purely economic objectives, was the second regional integration agreement in Europe. But it was not until 1950 that the European Union was created by Belgium, France, West Germany, Italy, Luxembourg and the Netherlands. This original group of nations was expanded with the enlargement waves of the 1970s and 1980s, and in fact, the EU is currently composed of fifteen countries: Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, the Netherlands, Portugal, Spain, Sweden, and the United Kingdom.
The initial objectives of the European Economic Community as stated in Article 3 of its treaty are the following:
1. The establishment of free trade between the member nations such that all impediments on intra-union trade are eliminated…
2. The creation of an intra-union free market for all factors of production by providing the necessary prerequisites for ensuring perfect factor mobility…
3. The formation of common policies with regard to particular industries which the members deemed it necessary to single out for special treatment, namely, agriculture and transport.
4. The application of procedures by which the economic policies of the member nations could be coordinated and disequilibria in their balances of payments can be remedied.
5. The creation of a European Social Fund (ESF) in order to improve the possibilities of employment for workers and to contribute to the raising of their standards of living.
6. The establishment of a European Investment Bank (EIB) to facilitate the economic expansion of the EEC by opening up fresh resources.
7. The establishment of a common commercial policy vis-à-vis the outside world.[10]
The European Union has not only succeeded in achieving these objectives it is also a particularly successful example of how the formation of a trading bloc can lead not only to economic benefits derived from comparative advantage, economies of scale, and the lifting of internal trade barriers, but also to both political and economic benefits as a result of increased international power. In fact two different theories that have been suggested as to the distribution of power in the world place the EU as one of the most powerful players in international affairs. One theory describes the world as a quartet of four equally powerful players, which are: the United States, the European Union, Russia, and the rest of the world. Therefore, it places the EU as equally significant as both the US and the whole world excluding Russia and the US. Another theory describes the world is dominated by three main forces: the US, the EU, and Japan. It then suggests that this Triad could be involved in “fierce competition, economic rivalry, and even political conflict,”[11] thereby placing the EU as an equal to the US in both economic and even political issues.
The European company Airbus Companie provides an example of how European cooperation has strengthened the power of individual European countries, and even made the European Union an equal to the United States. It has been stated that “one impossible thing to believe in the 1960s…was that anyone could ever challenge the ascendancy of the powerful American companies that manufactured commercial aircraft.”[12] However, Airbus has achieved precisely this by increasing its worldwide market share from 21% to almost 50% over the past five years. It was established in 1970 as a European consortium of French and German companies and later expanded to include Spanish and U.K. companies as well, and it is truly representative European diversity. Airbus’ employees represent over 50 different nationalities and speak over 20 different languages, and this diversity has become an asset as it enables Airbus to work with a wide range of customers by speaking their language and understanding their individual culture.[13] Furthermore, Airbus originated not only as a business venture, but as a political project as well. As early as 1982, the European Community provided political support for the Airbus partner governments in their dispute with the United States. Airbus acquired a great deal of symbolism for the European Community, as it became a unique success story of European collaboration.[14]
By overcoming national divides, sharing development costs, collaborating in the interests of a greater market share, and even agreeing a common set of measurements and a common language, Airbus changed the face of the business, and brought airlines, passengers and crews the benefits of real competition.[15]
Airbus has succeeded in becoming the largest player in the Chinese aircraft market and is aiming to expand its share to take over 50% of the Chinese market. Cooperation between Airbus and Chinese aviation companies began in 1985 with the North China Administration of China Civil Aviation, now known as China Eastern Airlines, as Airbus’ first Chinese client. But since then Airbus’ share of the Chinese market has greatly expanded and Shenyang Aircraft Corporation, Xi’an Aircraft Industry (Group) Co. Ltd, Chengdu Aircraft Industry (Group) Co. Ltd., and Guizhou Aviation Industry Group have also entered cooperation with Airbus.[16] In fact, even though Airbus did not enter China until much later than Boeing, it has managed to overtake Boeing and to get 58% of the total orders that China made to the two firms between 1996 and 2000.[17] Furthermore, it is particularly significant that part of the reason for which the Chinese are shifting their loyalty from Boeing to Airbus is as a symbolic gesture against American imperialism. This shows the increasing importance of European countries in the global market since they are now in a position to be equal competitors with the US.
However, Airbus has not been satisfied with limiting its expansion to the Chinese markets and it aims to take over at least 50% of the aircraft market share worldwide. It already has orders for the A380 carrier from Singapore Airlines and the Australian Qantas Airways.[18] Furthermore, it is currently expanding into the Japanese aircraft market, the third-largest aircraft market after the US and China. This development is not only extremely significant because of the size of the Japanese market, it is also particularly noteworthy because Japan has traditionally had a very strong connection to the United States and has consequently been very loyal in maintaining strong commercial ties to American corporations and to Boeing in particular.
Boeing is currently still the main supplier of aircrafts for Japan Airlines, and Boeing planes currently account for 84% of Japan’s commercial aircrafts. It has been nurturing this relationship with Japan Airlines since 1953, and this has clearly paid off as demonstrated by the fact that only during the period from 1970 to 1998 Japanese Airlines spent $14.4 billion on Boeing planes. This strong alliance between the Japanese and American airline industries was further cemented in 1990 when All Nippon Airways and Japan Airlines Co. ordered the first Boeing 777 jet craft.[19] However, Airbus’ aggressive business practices and the quality of its planes are starting to cause a rupture in this relationship. Airbus is entering the market with the A380 jumbo jet, but Boeing is scared that if the Japanese like the A380 they will start to buy more of Airbus’ smaller planes as well. Airbus is offering steep discounts on the A380, and has already secured several Japanese customers. If this trend continues and the Japanese buy the A380, “Airbus will become the regional and likely worldwide leader in the market for big jets. It would also make Airbus, not Boeing, the world’s undisputed No. 1 commercial jetmaker.”[20]
Most would agree that judging from the European Union’s success and from its growing importance in international affairs, the EU has discovered the “secret” of how to succeed in an ever more interconnected and interdependent world. The EU’s growing size demonstrates that the current nations are still looking for ways to further improve their current situation and to avoid becoming stagnant. It seems imminent that most if not all European nations will eventually become members of the EU as they realize the benefits that this entails. This shows promise that the European Union will continue to prosper, develop, and become the first consortium of nations to be a major power in international affairs.
Airbus. 2003. <http://www.airbus.com/about/history.asp>
“Airbus Aims to Achieve at Least 50% Market in China.” People’s Daily 1 March 2002. <http://english.peopledaily.com.cn/200202/28/eng20020228_91178.shtml>
Bernal, Richard L. Trade Blocs: Regionally Specific Phenomenon or a Global Trend? Washington, D.C.: National Policy Association, 1997.
De Melo, Jaime, and Arvind Panagariya. The New Regionalism in Trade Policy. Washington, D.C.: The International Bank for Reconstruction and Development, The World Bank, 1992.
El-Agraa, Ali M. Economic Integration Worldwide. London, Great Britain: Macmillan Press Ltd., 1997.
Hall, Peter, ed. Europe 2000. London: Gerald Duckworth & Co. Ltd., 1977.
Heng, Li. “Airbus Joins Hands with China Aviation Industry for Business Expansion.” People’s Daily 27 June 2002. <http://english.peopledaily.com.cn/200206/26/eng20020626_98590.shtml>
Holmes, Stanley, Chester Dawson, and Carol Matlack. “Airbus vs. Boeing: Rumble Over
Tokyo.” BusinessWeek Online. 2 Apr. 2001. <http://www.businessweek.com/magazine/content/01_14/b3726111.htm>
Leibfried, Stephan, and Paul Pierson, eds. European Social Policy: Between Fragmentation and Integration. Washington, D.C.: The Brookings Institution, 1995.
Ministry of Economy, Trade and Industry (METI). Promotion of Economic Partnership Dec. 2002. < www.meti.go.jp/english/information/downloadfiles/cFTA0212e.pdf>
McGuire, Steven. Airbus Industrie: Conflict and Cooperation in US-EC Trade Relations. New York: St. Martin’s Press, Inc., 1997.
McIntyre, Ian. Dogfight: The Transatlantic Battle Over Airbus. Westport, CT: Praeger Publishers, 1992.
RICS Europe. “Seasonal Optimism for Turkey.” European Alert Dec. 2002. <http://www.rics.org.uk/downloads/brief/european_alert_december.pdf>
The World Bank. Trade Blocs. New York: Oxford University Press Inc., 2000.
[1] The World Bank. Trade Blocs. New York: Oxford University Press Inc., 2000. 1.
[2] Bernal, Richard L. Trade Blocs: Regionally Specific Phenomenon or a Global Trend? Washington, D.C.: National Policy Association, 1997. 3.
[3] World Bank, 37.
[4] World Bank, 29.
[5] World Bank, 39.
[6] El-Agraa, Ali M. Economic Integration Worldwide. London, Great Britain: Macmillan Press Ltd., 1997. 97.
[7] Ministry of Economy, Trade and Industry (METI). Promotion of Economic Partnership Dec. 2002. < www.meti.go.jp/english/information/ downloadfiles/cFTA0212e.pdf>
[8] Bernal, 4.
[9] El-Agraa, 101.
[10] El-Agraa, 110.
[11] Bernal, 1.
[12] McIntyre, Ian. Dogfight: The Transatlantic Battle Over Airbus. Westport, CT: Praeger Publishers, 1992. 1.
[13] Airbus. 2003. <http://www.airbus.com/about/history.asp>
[14] McGuire, Steven. Airbus Industrie: Conflict and Cooperation in US-EC Trade Relations. New York: St. Martin’s Press, Inc., 1997. 34.
[15] Airbus.
[16] Heng, Li. “Airbus Joins Hands with China Aviation Industry for Business Expansion.” People’s Daily 27 June 2002. <http://english.peopledaily.com.cn/200206/26/eng20020626_98590.shtml>
[17] “Airbus Aims to Achieve at Least 50% Market in China.” People’s Daily 1 March 2002. <http://english.peopledaily.com.cn/200202/28/eng20020228_91178.shtml>
[18] Holmes, Stanley, Chester Dawson, and Carol Matlack. “Airbus vs. Boeing: Rumble Over Tokyo.” BusinessWeek Online. 2 Apr. 2001. <http://www.businessweek.com/magazine/content/01_14/b3726111.htm>
[19] Holmes.
[20] Holmes.
[21] RICS Europe. “Seasonal Optimism for Turkey.” European Alert Dec. 2002. 1. <http://www.rics.org.uk/downloads/brief/european_alert_december.pdf>.