Download The Evolution of the Euopean Single market

L3 Free Trade & The
Real World
Sloman Chapter 23, p664668
Swann Chapter 1
Free Trade & the Real World
There are a number of key influences affecting world trade today
1. Historical Protectionism, exacerbated by the great
recession between the world wars, led to very low levels
of international trade.
2. Post WWII, 23 nations formed the GATT with the object of
reducing tariffs and, more recently, other trade barriers.
- Slow progress, and some continuing, and highly contentious,
stumbling bocks, e.g. Agriculture and Textiles
3. These problems have led some regions (most notably the
EU) to go down the path of Preferential Trading
Arrangement as a sort-of Free Trade ‘half-way house’
PREFERENTIAL TRADING
• Preferential Trading Arrangement as a form
of Free Trade:
– free trade areas
– customs unions
– common markets
PREFERENTIAL TRADING
• Preferential Trading Arrangement as a form
of Free Trade:
• Free Trade Areas
– Each country maintains its pre-existing tariffs
against third countries (NAFTA, ASEAN).
– Need to prevent back-door trades.
• Customs Union
– Adopt a common EXTERNAL tariff.
PREFERENTIAL TRADING
•Common Market
– A common system of regulations governing
production, employment and trade
– Free movement of labour & capital markets and a
common market for services and government
procurement
– Other issues are possibly law, macroeconomic
policy and a common currency/fixed exchange rate.
Reminder - Why we trade
• 1. Different tastes
– (same Technology & Factors)
• 2. Different technology or physical capabilities
– (Patented R&D, Land/Minerals)
• 3. Differences in Factor Endowments
– Labour/Capital
• 4. Differences in Taxes - e.g. Corporation tax, alcohol,
• 5. (Differences in, or restrictions on) Competition
– (Monopoly pushes prices up)
• 6. One Special case: Can trade even if we are
identical
– Increasing Returns to Scale
Applying Free Trade Analysis to the EU
• Trade due to differences in tastes
– clearly an element but hard to measure. But
when combined with other factors clearly
welfare enhancing
• Trade due to differences in technology
– Would clearly have been an issues in the early
stages of EU (1960’s & 70’s). Liberalisation of
capital flows, the ability of firms to locate and
reverse engineer traded goods has reduced
this issue. Patents and IP still an issue. Clearly
still an issue for emerging economies.
Trade due to differences in endowments
– Originally regarded as the key motive for trade, and
even with original 6 : Germany, France, Italy, Belgium
Luxembourg & Netherlands seen as a factor. When
UK, Ireland & Denmark join, followed by Spain
Portugal & Greece trade still seen as shake out of
comparative advantage due to vague factor
endowment reasons
• But factor endowments are also endogenous and
improved financial capital flows makes endowment of
physical capital less crucial.
– Now endowment of skilled capital versus unskilled
capital seen to be more crucial.
• Hence Lisbon Agenda
– But no longer sure how important differences are
Trade due differences in taxes
• – this is a mildly important issue in the EU.
– Technically this sort of trade is a distortion.
– In a true single market the ‘cheapest’, most
efficient producer should win out but if exercise
taxes, local rates, or low corporate tax rates or
financial taxes and/or regulatory regimes affects
production (firm location) and consumption
patterns (alcohol, cigs & petrol) then this might
be a problem.
• But US, Canada, Australia or even UK &
German regions no different.
Appling Free Trade Analysis to the EU
• Trade due to increasing returns to scale
• This was seen as the major advantage of the
‘1992’ single market exercise.
– Abolitions of non-tariff barriers to trade crucial.
Common technical specifications and
requirements
– Estimates 6-12% of GNP. Big bang!!
– Larger Market allows greater specialisation AND
improves our competitive position v.v. the rest
of the world.
• But again skills, patents & IP crucial for
Increasing Returns to scale– Lisbon Agenda
Single market versus Fortress Europe
• But our arguments above were for freer trade.
• PTA is not free trade, just a sub-set of countries
with free trade towards themselves and trade
restrictions on everyone else
• In addition, in the case of the EU some very
special types of distortions/restrictions e.g.
Agriculture (CAP) and Textiles (Multi-Fibre
Agreement).
• So is a PTA a move towards Free Trade?
• Or have we created Fortress Europe?
• And does that matter?
Consumer and
Producer Surplus
Chapter 4 Sloman
p94 &95
Chapter 11
p292 & 299
Demand Curve with market Price of £8
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
However, some consumers were prepared to pay £20 for the
good
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
However, some consumers were prepared to pay £20 for the
good
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
So all these people have essentially saved £12
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
Similarly, some people were prepared to pay £16
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
Similarly, some people were prepared to pay £16
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
Similarly, some people were prepared to pay £16
E
Price (£ per kg)
20
So they have all saved
£8
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
Similarly, some people were prepared to pay £12
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
Similarly, some people were prepared to pay £12
E
Price (£ per kg)
20
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
20
Price (£ per kg)
In general, everyone along the
demand curve who was willing to
pay more than £8 is gaining
E
D
16
C
12
B
8
A
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
In general, everyone along the
demand curve who was willing to
pay more than £8 is gaining
Price (£ per kg)
20
16
12
B
8
4
Demand
0
0
100
200
300
400
500
Quantity (tonnes: 000s)
600
700
800
Pmax
This area represents the gain of the
Consumer OR
Consumer Surplus
20
16
12
Px*
B
8
4
Demand
0
0
100
200
300
400
X*
600
700
800
Pmax
This area represents the gain of the
Consumer OR
Consumer Surplus
20
16
CS =
12
Px*
½ X(Pmax-Px*)
B
8
4
Demand
X*
0
0
100
200
300
400
X*
600
700
800
The cost of protection
P
Sdom (=MC)
Pw
Similarly, firms also
gain from selling at
market price
compared with the
price they were
prepared to supply Dat
dom
O
Q
The cost of protection
P
Sdom (=MC)
Pw
Similarly, firms also
gain from selling at
market price
compared with the
price they were
prepared to supply Dat
dom
O
Q
• Market Consumer Surplus
The cost of protection
P
Sdom (=MC)
Ddom
O
Q
The cost of protection
P
Sdom (=MC)
PW
S world
Ddom
O
Q
The cost of protection
P
Sdom (=MC)
S world
PW
Ddom
O
Q1
Q2
Q
The cost of protection
P
Sdom (=MC)
a
PW
c
b
S world
Ddom
O
Q1
Q2
Q
The cost of protection
P
Consumer
Surplus
a
PW
c
Sdom (=MC)
b
S world
Producer
Surplus
Ddom
O
Q1
Q2
Q
The cost of protection
P
•New Diagram
a
PW + t
Tariff c
PW
Sdom (=MC)
S world
b
+ tariff
S world
Ddom
O
Q1
Q2
Q
The cost of protection
P
Sdom (=MC)
a
PW + t
Tariff c
PW
S world
b
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
The cost of protection
P
Sdom (=MC)
Consumer Surplus
a
PW + t e
Tariff c
PW
d
S world
b
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
The cost of protection
P
Loss of
CS=1+2+3+4
a
Sdom (=MC)
Gain of PS
=1
PW + t e
Tariff c
PW
d
1
2
3
4
S world
b
f
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
The cost of protection
P
Tariff Revenue =3
Sdom (=MC)
a
PW + t e
Tariff c
PW
d
1
2
3
4
S world
b
f
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
The cost of protection
P
Sdom (=MC)
a
PW + t e
Tariff c
PW
Welfare Loss = 2+ 4
d
1
2
3
4
S world
b
f
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
The cost of protection
Overall Loss of CS=1+2+3+4
P
a
Gain in PS=1
Tariff Revenue=3
Welfare Loss = 2+ 4
PW + t e
Tariff c
PW
d
1
2
3
4
S world
b
f
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
The cost of protection
Overall Loss of CS=1+2+3+4
P
a
Gain in PS=1
Tariff Revenue=3
Welfare Loss = 2+ 4
PW + t e
Tariff c
PW
d
2
3
4
S world
b
f
+ tariff
S world
Ddom
O
Q1
Q3
Q4
Q2
Q
Preferential Trading: Trade creation
P
SUK
P1
PEU + tariff
DUK
O
Q
Trade creation
P
SUK
P1
PEU + tariff
DUK
O
Q2
Q1
Q
Trade creation
P
SUK
P1
PEU + tariff
P2
PEU
DUK
O
Q2
Q1
Q
Trade creation
P
SUK
P1
PEU + tariff
P2
PEU
DUK
O
Q4
Q2
Q1
Q3
Q
Trade creation
P
SUK
P1
P2
1
2
3
PEU + tariff
4
PEU
DUK
O
Q4
Q2
Q1
Q3
Q
Trade creation
P
SUK
Gains
P1
P2
1
2
3
PEU + tariff
4
PEU
DUK
O
Q4
Q2
Q1
Q3
Q
Trade diversion
P
SUK
PEC+ tariff
P1
PNZ + tariff
PEC
PNZ
P3
DUK
O
QSUK
QDUK
Q
Trade diversion
P
SUK
PEC+ tariff
P1
PNZ + tariff
P2
PEC
PNZ
P3
DUK
O
Q*SUK QSUK
QDUK Q*DUK
Q
Trade diversion
P
SUK
P1
P2
1
2
3
4
P3
PNZ + tariff
PEC
PNZ
DUK
O
Q*SUK QSUK
QDUK Q*DUK
Q
Trade diversion
P
SUK
Gains
Losses
P1
P2
1
2
3
4
5
P3
PNZ + tariff
PEC
PNZ
DUK
O
Q*SUK QSUK
QDUK Q*DUK
Q
Trade diversion
P
Gains
SUK
Losses
P1
P2
P3
PNZ + tariff
1
2
3
5
4
PEC
PNZ
DUK
O
Q4
Q2 Q1
Q3
Q
THE EUROPEAN UNION
• Non-tariff barriers pre 1993
– quotas and other quantitative restrictions
 Airline
restrictions
 Government
procurement
– cost-increasing barriers
 Taxing
foreign products more
 Subsidies
to domestic firms
– barriers to entry
 Technical
regulations
 Non-recognition
of qualifications
THE EUROPEAN UNION
• Non-tariff barriers pre 1993
– quotas and other quantitative restrictions
– cost-increasing barriers
– barriers to entry
•The single market
•the Single European Act
•(1987) 300 measures - implementation in
‘1992’
PREFERENTIAL TRADING
•free trade areas
•customs unions
•common markets
– A common system of regulations governing production,
employment and trade
– Free movement of labour & capital markets and a
common market for services and government
procurement
– Other issues are possibly law, macroeconomic policy
and a common currency/fixed exchange rate.
THE EUROPEAN UNION
• Non-tariff barriers pre 1993
– quotas and other quantitative restrictions
– cost-increasing barriers
– barriers to entry
• The single market
– the Single European Act
– (1987) 300 measures - implementation in ‘1992’
•Mutual recognition,
•race to the bottom & Majority Voting (but not taxes)
THE EUROPEAN UNION
• The benefits of the single market
– trade creation
– reduction in the direct costs of barriers
– economies of scale
– greater competition: short run
– greater competition: long run
• Criticisms of the single market
– radical economic change is costly
– adverse regional multiplier effects
– development of monopoly / oligopoly power
– trade diversion
• The future of the EU?
WinEcon Links
• WinEcon does not have many links relevant to
the material in these lectures but there are a few
that may be beneficial.
• A good link is Understanding Consumer
Surplus
• 5.4.5 Looks at The Effect of a Tariff on Imports
But this largely repeats what is covered in the
lecture
• 17.5 17.5. The Direction of International Trade
gives a good background on World Trade
patterns.
• Remember for these links to work you must have
WinEcon on your machine or be in the Strathcona
Labs or insert your WinEcon CD from the Sloman
textbook.