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Chapter 8. CROSS-NATIONAL COOPERATION
Regional economic integration
Cross-national cooperation (agreements among countries) results in greater integration of economies. Economic integration is the political and economic agreements among countries that give preference to member countries in the agreement. Economic integration has a significant influence on MNEs because it defines the size of markets and the rules by which companies need to operate. There are several types of cross-nation cooperation: bilateral agreements, regional integration, and global integration.
II. BILATERAL AGREEMENTS
Bilateral agreements involve negotiation by two partner nations to meet mutual trading objectives. Often, two countries cooperate to circumvent (go around) the multilateral trading system that they see as “unfair” to them. This chapter will however focus on cooperation that involves several countries.
III. GLOBAL INTEGRATION
Global integration is worldwide economic efforts to reduce tariff and nontariff barriers to the free flow of goods, services, and other factors of production (e.g. labor, capital). There are a number of global integration efforts:
A. The World Trade Organization (WTO):
The World Trade Organization is the primary multilateral forum through which governments conclude trade agreements and settle associated disputes. WTO replaced the General Agreement on Tariffs and Trade (GATT). Established in 1947, GATT was a multilateral agreement that governed the international trade of goods. Its main objective was to abolish quotas and reduce tariffs. Several rounds of negotiations took place to address multiple violations of GATT agreements. The outcome of those negotiations was the replacement of GATT by the WTO in 1995.
The World Trade Organization is a permanent world trade body created for the purposes of (i) facilitating reciprocal trade negotiations and (ii) enforcing trade agreements between or among member nations. The WTO improved GATT by covering trade in services, intellectual property protection, trade dispute settlement (e.g. dispute over subsidies and tariffs), and reviews of trade policies. Currently the 153-member countries of the WTO collectively account for more than 97 percent of the value of world trade.
B. Commodity agreements:
A commodity agreement is designed to stabilize the price and supply of a primary commodity such as petroleum (oil), natural gas, copper, etc. If effective, commodity agreements can alleviate adverse consequences of both long-term trends and short-term fluctuations in commodity prices for the world economy. The most important commodity agreement is the Organization of Petroleum Exporting Countries (OPEC). OPEC represents several oil producing countries and its purpose is to control the quantity produced in order to minimize fluctuations in oil prices.
C. Other global integration efforts:
The United Nations (UN): The UN was established in 1945 to promote international peace and security and to help with global issues such as economic development, antiterrorism, and humanitarian relief. The UN has several specialized entities, including UNICEF and UNCTAD.
The United Nations International Children’s Emergency Fund (UNICEF) was created to address the needs of children, first in war-torn Europe, and later, in less developed countries. The UN Conference on Trade and Development (UNCTAD) was established to tackle problems of the developing world concerning trade issues.
Non-Government Organizations (NGOs): NGOs are private and non-profit volunteer institutions such as the Red Cross, Doctors Without Borders, that are undertaking transnational activities whose main focus is human rights, humanitarian assistance to displaced people in war zones, etc. Today, NGOs are highly active in less developed countries.
Global integration efforts also include institutions such as the World Bank and the International Monetary Fund. These two institutions are discussed in later chapters.
Regional integration is the economic cooperation of countries in the same geographic proximity. Integration efforts are taking place in every continent.
A. Levels of regional integration:
Basic levels of regional integration are:
– Free Trade Agreements (FTA): these are integration efforts whereby all trade barriers are abolished among member nations, but each member nation has its own trade policies (i.e. barriers) with non-member countries.
– Customs Unions: integration efforts that abolish all trade barriers among member nations, plus common trade policies with non-member countries.
– Common Market: all of the above, plus free movement of goods, people and capital.
– Economic Union: all of the above, plus coordination and harmonization of monetary and fiscal policies in a single economic entity.
– Monetary Union: all of the above, plus adoption of a common currency.
– Political Union: all of the above, plus establishment of a supranational political structure dedicated to dealing with common political and economic affairs.
B. Effects of regional integration:
Regional economic integration can affect member countries in social, cultural, economic, and/or political ways. Regional integration has static as well as dynamic effects:
– Static effects: they represent the shifting of resources from inefficient to efficient firms as trade barriers fall. Static effects may occur when either of two conditions occurs:
Trade creation: occurs when production shifts from less efficient domestic producers to more efficient regional producers for reasons of absolute or comparative advantage.
Trade diversion: occurs when, as a result of the imposition of common external barriers, trade shifts from more efficient external sources to less efficient suppliers within the group.
– Dynamic effects: they represent the gains from overall market growth, the expansion of production, the realization of greater economies of scale and scope, and the increasingly competitive nature of the regional market.
C. Major regional integration groups:
1. The European Union (EU):
The European Union represents the most integrated region in the world. Integration efforts in Europe started shortly after the end of World War II.
+ The European Commission: it provides the EU’s political leadership, i.e., it proposes and implements EU legislation, and it monitor compliance with EU laws by member nations.
+ The European Council: it passes laws, and makes and enacts major policies.
+ The European Parliament: it has three major responsibilities: legislative power, control over the budget, and supervision of executive decisions.
+ The European Court of Justice: it ensures consistent interpretation and application of EU treaties. It also serves as an appeals court for individuals, firms, and organizations fined by the commission for infringing upon the laws.
The Single European Act: it is designed to eliminate all trade barriers in Europe.
Monetary Union: Signed in 1992, the Treaty of Maastricht led to the creation of a single currency, the Euro, to be launched in 1999. However, not all members have adopted the euro.
Expansion: The EU has been expanding and has 28 members (Brexit, or exit of the United Kingdom, may bring the number of members down to 27).
Challenges facing the EU: One challenge is the economic disparity among members. Compared to traditional members (e.g. Germany, France, Netherlands), several new members are poor, newly democratized economies. This can seriously strain EU financial resources. Another challenge is the issue of governance, because economically large members of the EU fear that the addition of so many new countries will weaken their control and influence.
Implications of the unification of Europe for MNEs:
+ Site location: As EU is a single market, the location of MNEs’ facilities should take into account the total production costs (i.e. labor, transportation).
+ Entry strategy: MNEs need to decide whether to enter the EU market through new investments, expanding existing investments, joint ventures, or mergers and acquisitions.
+ National differences: MNEs should determine if standardization is better, given persistent national differences (economic growth rates, cultural traditions).
2. North American Free Trade Agreement (NAFTA):
Effective January 1, 1994, the North American Free Trade Agreement (NAFTA) incorporates Canada, Mexico, and the United States into a regional trade bloc of countries with somewhat different cultures, populations, and income levels.
Purpose of NAFTA: NAFTA calls for the elimination of tariff and nontariff barriers, the harmonization of trade rules, the liberalization of restrictions on services and foreign investment, the enforcement of intellectual property rights, and a dispute settlement process. NAFTA makes logical sense in terms of geographical location and trading importance.
Benefits of NAFTA: Canada and the U.S. benefit from low-cost agricultural products from Mexico. Also, U.S. producers benefit from a growing Mexican market (Mexican incomes are steadily rising because of substantial inflows of FDIs from US MNEs).
Trade diversion: NAFTA is a good example of trade diversion because Canadian and U.S. companies have shifted some production facilities to Mexico from Asia due to the benefits of the trade agreement and NAFTA privileges.
NAFTA privileges: MNEs are granted tariff privileges if they are located in a NAFTA country. For example, the rule of origin states that to qualify for more liberal tariff conditions, at least 50% of the cost of the content (e.g. components) need to originate within the region.
Challenges posed by NAFTA: First, due to low wages in Mexico, U.S. companies invested significantly in the country (instead of staying in the US). As a result, Wal-Mart is now the largest employer in Mexico. Second, according to some estimates, 1.3 million farm jobs were eliminated in Mexico due to competition from American farmers. In turn, some of the Mexican workers who had lost their job illegally cross the border in their search for work in the United States (this argument is increasingly being disputed, because Mexicans are now finding work at home, as more US MNEs are investing in Mexico, therefore creating jobs there).
Implications of NAFTA for MNEs: Because NAFTA countries are seen as one large market, MNEs are re-examining their trade and investment strategies. For example, automotive and electronics firms are rationalizing their production (by concentrating their activities in one location), and standardizing their products. Although much low-end manufacturing has moved south to Mexico, more sophisticated manufacturing and services operations are increasing in the United States.
Regional Economic Integration in the Americas:
Although there are several regional economic groups in the Americas, regional integration in Latin America has not been particularly successful. The reason is that many countries rely more on the United States for trade than on members of their own groups.
The largest regional trade group in South America is MERCUSOR. It is comprised of Brazil (the most populous country and the largest economy in Latin America), Argentina, Paraguay, Uruguay, Chile, Bolivia, Colombia, Ecuador, and Peru.
4. Regional Economic Integration in Asia:
Regional economic integration has not been as successful in Asia as it was in Europe or North America, in part because most Asian countries have relied on U.S. and European markets for their exports. Also, for a variety of reasons, several Asian nations do not get along well.
Asia’s most important trading groups include ASEAN AND APEC. ASEAN (Association of Southeast Asian Nations) was formed in 1967 for the purpose of cutting tariffs on interzonal trade to a maximum of 5%. It is comprised of Brunei, Cambodia, China, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Thailand, and Vietnam. ASEAN holds great promise for market and investment opportunities because of its large market size.
APEC (Asia Pacific Economic Cooperation) was founded in 1989 to promote multilateral economic cooperation in trade and investment in the Pacific Rim (countries that border both sides of the Pacific Ocean). It is comprised of 21 nations, including the United States. Progress toward free trade is hampered by the number of members, the geographic distances between nations, and the lack of a binding treaty.
5. Regional economic integration in Africa:
There is one continent-wide grouping called the African Union, and several regional trade groups. These include the Southern Africa Development Community (SADC), the Common Market for Eastern and Southern Africa (COMESA), the Economic and Monetary Community of Central Africa, and the West African Economic and Monetary Union (WAEMU).
Integration efforts in Africa are the least effective. One major problem with African countries is that they rely more on their former colonial powers and other developed markets for trade than they do on each other. In addition, the leaders of African nations are more preoccupied in supporting each other to stay in power than in developing their economies.
V. IMPLICATIONS OF ECONOMIC INTEGRATION FOR MNEs
Economic integration is reinforcing the trend toward globalization of markets. As economies integrate and become increasingly interdependent, MNEs need to address two strategic issues:
With the harmonization of trade and investment policies and of product standards, MNEs have an opportunity to realize cost economies by centralizing production in few optimal locations. Rationalization may however be constrained by persistent country differences (e.g. is European Union a one unified market or several national markets that are simply integrated?).
2. Regional versus global focus:
While the trend toward globalization is increasing, there may be situations where MNEs should “regionalize” their activities. This is particularly the case when an integrated region provides preferential treatment for members, and discriminate against mon-members (e.g. certain products are granted the NAFTA status based on the “rule of origin”).