Some Basic Characteristics of the Regional Trade Agreements

Kim Them Do

Notes: The following text is excerpted from my earlier research paper. Due to my busy schedule, I cannot update the latest development of the current Foreign Trade Agreement such as CPTTP and RCEP.  I would like to revert to the current issue of ASEAN and APEC in the near future.

Many terms are used in the trade literature to describe this arrangement: it is variously called a free trade agreement (FTA), a regional trade agreement (RTA), a trade and investment agreement (TIA) and a preferential trade agreement (PTA). These terms are often used indistinguishably and interchangeably.

Faced with such semantic ambiguity this article suggests using RTA as an umbrella term to refer to trade arrangements at the regional level in the broadest sense. The term “regional” may be used in contrast to “multilateral” and “national” in the current trade policy discourse.

RTAs are not a new phenomenon in world trade history. The first RTA was Deutsche Zollverein, a customs union formed in 1834 by eighteen small states.  RTAs aim to remove trade barriers and to achieve economic integration between the contracting partners at regional level.

Theoretically, this integrative arrangement comprises five stages: a free trade area, a customs union, a common foreign trade policy, a common market and political harmonization through supranational institutions.

Practically, there are two main categories of RTAs: non-reciprocal agreement and partial scope agreement. The former is often used by developed countries; it helps the economy of developing countries by opening the domestic market unconditionally through an economic development assistance program. The latter is only used among and between developing countries themselves. They prefer exchanging in a limited range of products as a preference of trade policy. Arguably, they cannot implement a comprehensive RTA effectively due to political reasons or limited capacity.

It is hard to generalize about how countries proceed with their RTA policy as this varies from country to country. There are diverse factors worth exploring: political and economic power, preferences in trade policy, institutional maturity, human resources, the objectives pursued and so on. Understandably, developed countries have much political power and larger domestic markets whereas developing countries have no strong bar-gaining position in negotiations.

At first, a trading partner may propose an RTA project by suggesting a limited scope of trade exchange and conducting a feasibility study. For this reason it is impossible to design a comprehensive model of a RTA exactly and in detail here. Rather than reaching a comprehensive arrangement in a common trade policy, trade negotiators prefer limiting to negotiate some scope of trade liberalization objective, for instance export of agricultural products. Developing countries often suggest that some sectors may be completely or partially outside the scope of negotiation; trade in services is often the case.

Most importantly, they focus on the significance of the Rules of Origin regime; this issue should be always a major item in the negotiation of RTAs because it determines the location of production and value adding to products, particularly as a means of protecting domestic industry. Schedules and modalities of implementation are important issues to be discussed in the negotiation. After successful negotiation and signing, ratification can be difficult for the trade officials even though it is a home affair. In certain cases domestic lobbying pressure has caused difficulties with the ratification or implementation processes.

The economic effects of RTAs are highly controversial in trade literature. Two familiar aspects of this debate are the static and dynamic effects. Key issues relating to static effects are trade diversion and trade creation.

The trade diversion effect has arguably been the most significant problem with regard to the development of RTAs: producers locating outside the RTA area are not in position to enjoy the tariff reductions incurred by the RTA’s internal liberalization and so an outsider may offer a more competitive product than an insider.

On the other hand, trade creation is a positive effect of RTA because the most effective producers within the RTA area can expand their market power easily in the internal market. In practice, the net welfare effect between trade diversion and creation is very difficult to assess. It is a question of empirical evidence because there are so many factors involved: the levels of trade protection, intra-industry trade and specialization, and so on.

Not only the static but also the dynamic effects of RTAs matter to the trade negotiators. A key argument in this rationale is economy of scale. Arguably, RTA would create an internal specialization of production among member countries. Due to competitive pressure within the FTA area, the market would be more integrated than before while the most competitive producers would expand their production, sharing the internal market. Increased competition would lead to improved efficiency and investment in new technologies, not only for the firms engaged but also for the countries concerned. Member countries generally benefit immensely from market integration effects because the structural change leads to the formation of an attractive environment for further economic development.

However these dynamic factors are variable and difficult to determine. Some of these difficulties are familiar: pre-RTA economic data are often insufficient; the political and socio-economic situation or objectives pursued may be changed over time; some further particularities need to be deeply examined. Viewed from this perspective it is difficult to verify a pure gain from trade effects because it depends more on others’ public policies than on a calculation of trade policy. Most significantly, a multi-disciplinary approach is needed to provide a comprehensive understanding of this issue. 

As discussed above, the number of RTAs has dramatically increased and this trend is becoming global: not only developed but also developing countries are beginning to pay closer attention to the significance of RTAs and have intensified their RTA activities. There are many practical reasons for why they presently choose regionalism: multilateralism is not longer attractive approach to follow and the WTO may not be able to advance multilateral trade liberalization objectives or promote deeper economic integration regionally as generally presumed. Instead, it is easier for some countries to negotiate special issues (e.g. environment, competition and trade in services) with the other partner in the background of the RTA than to take the WTO approach.

The most ambitious objective of developing countries in trade policy is to access large and/or regional markets; e.g. the US and the EU markets seem to be the best destination of export products; entry into a global market seems to them to be unfeasible. Arguably, if the integrated regional market became more attractive, foreign direct investment of global firms might expand rapidly.

Viewed from a legal perspective, the most important benefit of RTAs is that few countries may create commitments beyond the scope of existing WTO obligations. The basic principle of the WTO is the Most Favored Nation (MFN) clause: any concession granted to one member has to be granted to any other member.

The WTO law on RTAs aims to maximize trade creation and minimize the trade diversion effect in constituting three provisions for exceptions to WTO law (Art. XXIV, Art. V and the 1979 Enabling Clause).

The basic requirements for these exceptions are that such an RTA shall comprise “substantially all the trade” and that “the duties and other regulations” in force after the creation of the RTA shall not be higher than those in force before. If the signatories fulfill these conditions, it may be assumed that trade barriers do not arise among them. 

It is impossible both to provide a list of all existing RTAs and to discuss their characteristics in detail here. Some of the most cited examples of RTAs in the trade literature are: EG, EFTA, MERCOSUR and NAFTA. Some of the latest developments in RTAs are implemented in East Asia, Oceania and Pacific America. Some of the latest RTA projects in the EU are: the EU-Palestine Authority, EU-Morocco, EU-Chile and EU-Mexico. The US is engaged not only in the NAFTA but also in other RTA projects, including US-Chile and US-Singapore. The emerging China, now recognizing the importance of RTAs, has signed FTAs with ASEAN, Chile, New Zealand and Australia.

In sum, most states have come to know the greater significance of the RTAs in removing trade barriers in the regional market integration process and improving the investment environment of member countries. Not only the signatories but also the consumers and firms in the region can benefit from the welfare effects of these RTAs.

Some regional powers have begun paying attention to the contributory role of competition law and policy in facilitating trade promotion and are including their provisions in their RTAs. The link between regional competition law and regional trade law is the core hypothesis of the following discussion. Before examining the main question of whether or not trade regionalism makes a positive contribution to the regulatory framework on competition law and policy, it is helpful to outline some typical RTAs that can serve as a basis for this discussion.