International Trade and Economic Integration
Most-Favored-Nation (MFN) and Anti-Dumping
Most-Favored-Nation (MFN): Treating other people equally. “Under the WTO agreements, countries cannot normally discriminate between their trading partners. Grant someone a special favor (such as a lower customs duty rate for one of their products) and you have to do the same for all other WTO members.” (WTO)
Anti-dumping: In economics, “dumping” is a kind of predatory pricing, especially in the context of international trade. It occurs when manufacturers export a product to another country at a price either below the price charged in its home market or below its cost of production.
Exchange Rates
The exchange rate: The price of a currency in terms of another currency.
Fixed Exchange Rates:
- Pros: Certainty in trade.
- Cons: May create instability, market pressure.
Flexible Exchange Rates:
- Pros: No intervention needed.
- Cons: Uncertainty.
Economic Integration
Economic integration is the unification of economic policies between different states through the partial or full abolition of tariff and nontariff restrictions on trade taking place among them prior to their integration. According to Lindert and Kindleberger:
Stages of Economic Integration
1) Free Trade Area
In such an area, the trade barriers amongst member countries are removed but they keep their own barriers with third countries. In this situation, the countries still need customs to check that no product from a third country is passed as a product from the union.
2) Customs Union
Members not only remove trade barriers amongst them but also adopt a common set of external barriers. That way, it is not necessary to have customs inspection at the borders.
3) Common Market
Members not only remove trade barriers and have a common external policy but also allow full freedom of factor flow (capital and labor).
4) Full Economic Union
Member countries unify all their economic policies, including monetary, fiscal, and welfare. We can find different stages ranging from having a common policy on product regulation to currency or fiscal. In the EU, we can find that we have an Economic and Monetary Union, and while we aspire to have a complete Union, fiscal policies are still dependent on national governments. The United States could be considered a full economic union in its beginning.
Advantages of Economic Integration
Economic integration searches for higher productivity and the pursuit of comparative advantages that increase the benefit for society. Some advantages are:
- Higher competence.
- Higher achievement on economies of scale.
- Widening the range of available products.
- Possibility of new activities and development of the production structure.
- Elimination of custom procedures.
Trade Creation and Trade Diversion
We can also find that there are two effects: Trade Creation and Trade Diversion.
Trade creation occurs since eliminating barriers increases trade between member countries.
Trade Diversion occurs because imports from third countries are substituted by suppliers from the Union.
European Monetary System (EMS)
In 1972, the prime ministers of the member countries approved the progressive construction of the economic and monetary union. In 1979, the EMS (European Monetary System) kicked off, which aimed at reaching exchange rate stability. Prior to that, after the collapse of the Bretton Woods fixed exchange system, the countries of the ECC decided to use a +/- 2.25% exchange rate fluctuation (the currency snake).
European Central Bank (ECB)
ECB: The main goal of the ECB is to keep the purchasing power of our currency and price stability.
Inflation and Exchange Rates
The rate of inflation in a country can have a major impact on the value of the country’s currency and the rates of foreign exchange it has with the currencies of other nations. However, inflation is just one factor among many that combine to influence a country’s exchange rate.
Inflation is more likely to have a significant negative effect, rather than a significant positive effect, on a currency’s value and foreign exchange rate. A very low rate of inflation does not guarantee a favorable exchange rate for a country, but an extremely high inflation rate is very likely to impact the country’s exchange rates with other nations negatively.
Inflation is closely related to interest rates, which can influence exchange rates. Countries attempt to balance interest rates and inflation, but the interrelationship between the two is complex and often difficult to manage. Low-interest rates spur consumer spending and economic growth, and generally positive influences on currency value. If consumer spending increases to the point where demand exceeds supply, inflation may ensue, which is not necessarily a bad outcome. But low-interest rates do not commonly attract foreign investment. Higher interest rates tend to attract foreign investment, which is likely to increase the demand for a country’s currency.