ECON 442_ R.N.

Muhia - Topic I Trade and development

Economic Integration
Definition:

Refers to: Any type of arrangement in which countries agree to coordinate their trade, fiscal,
and/or monetary policies. It involves countries cooperating and setting zero tariffs against each
other and coordinating their economic policies eg. liberalize labor and capital movements across
borders, coordinating fiscal policies and resource allocation towards agriculture and other sectors
and coordinating their monetary policies for mutual benefit.

It involves member countries committing to reduce/remove trade barriers simultaneously, and is

hence also sometimes referred to as a multilateral approach to trade liberalization.

Although it started very early, it officially was referred to as economic integration in 1950’s
when the Treaty of Rome was signed, creating the European Economic commission later ref. to
as the European Union.

The key question of interest concerning the formation of economic integration is always
whether these arrangements are a good thing, and if so, under what conditions. If not, why not,
and how can member countries best optimize their goals of global free trade gains. The
arrangements may however trigger increased incentives to raise protectionist trade barriers
against non-member countries and eventually erode any further gains. This would necessitate a
multilateral approach to trade rather than purely regional approach.

In Africa, regional integration is a natural alternative to narrow inward looking eport-

promotion and import-substitution policies as a driver of economic growth. This is informed by
the challenges of extremely small domestic markets, low capital and technology base, and
general under-development.

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 ECON 442_ R.N. Muhia - Topic I Trade and development

Degrees of economic integration:

Preferential Trade Agreement (PTA)

A preferential trade agreement is perhaps the weakest form of economic integration. In a PTA
countries would offer tariff reductions, though perhaps not eliminations, to a set of partner
countries in some product categories. Higher tariffs, perhaps non-discriminatory tariffs, would
remain in all remaining product categories. Member countries award each other MFN status by
lowering barriers on an agreed schedule of goods. NB: PTA is also used, more generally, to
describe all types of economic integration since they all incorporate some degree of "preferred"
treatment. Current example: Commonwealth System of Preferences.

Free Trade Area (FTA)

A free trade area occurs when a group of countries agree to eliminate tariffs between themselves,
but maintain their own external tariff on imports from the rest of the world. The North American
Free Trade Area (between US and Mexico) is an example of a FTA; another example is the
LAFTA (deals only on trade in goods NOT services). The rules set are designed to prevent
members from trans-shipping goods from other destinations to each other by setting up a complex
system of “Rules of Origin”.

Customs Union
A customs union occurs when a group of countries agree to eliminate tariffs between themselves
and set a common external tariff on imports from the rest of the world. It avoids the
complications of developing the “rules of Origin” guidelines, but assumes the countries can
agree on different tariff rates among the many different industries. Example is the EU, EAC and
ECOWAS.

Common Market
A common market establishes free trade in goods and services sets common external tariffs
among members and also allows for the free mobility of capital and labor across countries.
.The EU was set up as a CM in 1957 but did not actually mature into one until 2002 when free
movement of persons was actualized with the common passport. They have a common currency,
common central bank, common external tariffs etc.

Economic Union
An economic union typically will maintain free trade in goods and services, set common external
tariffs among members, allow the free mobility of capital and labor, and will also relegate some
fiscal spending responsibilities to a supra-national agency. The European Union's Common
Agriculture Policy (CAP) is an example of a type of fiscal coordination indicative of an

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economic union. However, the best current example of an Economic union is the BENELUX
countries. (An economic and Political union of 3 neighboring constitutional monarchies in
Europe created in 1944 that in addition to monetary cooperation have a common parliament.
They all use the €).

Monetary Union

Monetary union establishes a common currency among a group of countries. This involves the
formation of a central monetary authority which will determine monetary policy for the entire
group. The Maastricht treaty signed by EU members in 1991 proposed the implementation of a
single European currency, the Euro. However some of the largest economies in the region
(including UK, Sweden, Norway, Denmark, Switzerland etc.), retained their own currencies.
Several other examples of monetary unions in other territories include UEMOA and CEMAC
which both use CFA Franc (XOF and XAF respectively, which are backed by the French
Treasury which controls 50% of foreign exchange reserves of the member countries, and
pegged to the Euro. Although used in different regions, they are interchangeable and have the
same value).
Note: The progression of Economic Integration is rarely linear. In most cases one block can
present different levels of integration among its members at different times, especially where the
block is widening and deepening at the same time as the case of EAC.

Advantages of Economic Integration:

1. Enables specialization in a member countries comparative advantage industry

2. Benefits from Economies of scale (enhance markets and facilitates full utilization of
productive capacity)
3. Potential for goods and activities spillover
4. Creates room for better political and social and economic relations to thrive among
members
5. Encourages foreign investments (possibility to make larger profits within region)
6. Reduce demand for foreign currency (Import without forex)
7. Reduce regional unemployment (free movement of factors of production)
8. Incomes and resources re-distributed more efficiently
9. Production expands due to enhanced consumption
10. Administrative savings (removal of tariff centers along borders reduces administrative
costs, theft and corruption).

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Additional benefits:

 Increased returns and increased competition. Regional integration enlarges markets through the
integration of small economies, thus promoting economies of scale and intensifying competition, leading
to lower prices and expanded supply.

• Trade and location effects. Preferential reductions in tariffs within regional agreements can induce
shifts in both demand and supply. The net effects on national income depend on the costs of alternative
supply and trade policies toward non-member countries.

• Investments: Regional cooperation and bilateral agreements can attract more FDI by enlarging markets
(particularly for “lumpy” investment viable only above a certain size), reducing distortions (depending on
policy content) and lowering the marginal cost of production. Eg. expansion of gas and oil pipelies to
serve the regions, hydro resources sharing from surplus to deficit members ie become regional energy
exporters.

• Coordination and collective bargaining power: Regional integration agreements may enable countries
to coordinate negotiating positions in international forums, thus raising visibility and possibly increasing
bargaining power.

• Management of shared natural resources. Many watersheds, mineral deposits, fisheries, and sensitive
natural environments are shared among countries. Thus collaboration among regional partners is
essential to ensure sustainable management. Eg. Lake Victoria Fisheries Organization (an organ of
EAC).

• Management of “regional commons.” Effective action to combat infectious diseases, such as

HIV/AIDS and malaria, and vulnerabilities arising from climate change depend on collaborative efforts
among groups of countries. Eg. Ebola cooperation among ECOWAS countries in 2015.

• Policy lock-in and commitment mechanism. Regional agreements can provide a “commitment
mechanism” for countries’ domestic trade and other policy reforms, reducing the likelihood of policy
reversals. Such mechanisms apply to political and economic reforms.

• Better deal with shocks. Integration agreements provide insurance to members against exogenous shocks
(terms of trade shocks, conflict, changes in protectionist policies by trading partners, and impacts from
climate change). By shifting economic transactions, integration may shift the source of shocks, and a
larger market may provide alternatives to cope with some demand shocks.

• Collective Security. Regional agreements may lower the risk of conflict within the region due to
improved intraregional confidence and trust, common defense arrangements, and interdependence in key
aspects of countries’ national development. Eg. IGAD

 Research cooperation. Reduced negative impact of natural disasters through research cooperation.

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Challenges of Economic Integration in LDCs

a. Political instability (internal and intra-country strife) eg. Somalia, RSS etc, and Ethiopia-
Eritrea. Political interference and vulnerability to political whims of leaders,
b. Many LDCs produce similar products (mostly unprocessed agricultural products and minerals)
c. The more developed/industrialized regions/countries benefit more therefore “Big
Brother” attitudes emerge
d. Loss of valuable tariff revenue
e. Countries with infant industries suffer when they collapse eg. Sugar in Kenya would
collapse if borders were fully open to sugar imports
f. Lack of political will to implement protocol once signed. (Integration mostly driven by
leaders not citizenry)
g. Multiplicity of trading blocs: costly and complex to implement all.
h. Allocation of costs and benefits of integration where services and infrastructure are
shared is skewed eg. Highways and ports. Q. Are coastal countries in Africa richer
or poorer than hinterland countries?
i. Inefficient industries are killed by more efficient ones which may trigger unemployment
eg. fear of Tanzania that the more efficient Kenyan labor and industry will take over her
market
j. Potential for negative spillovers or externalities eg. older car imports into Uganda slows
down Kenya move towards clean environments,
k. May result in trade diversion where lower cost producers are replaced by higher cost
producer within the bloc.
l. International agreements that promote multilateralism are a threat to Regionalism.
m. Dependence on few primary exports.
n. Labor vs capital intensive production: lack of competition in domestic production and
low value addition hence minimal benefits to trade.
o. Underdeveloped human capital and entrepreneurship: trade driven by MNCs
p. Excessive dependence on the west for markets, capital and raw materials eg. ECOWAS region
q. Huge debt burden among members: You expect the poorest members to buy from the
richest.
r. Natural barriers to trade eg high cost of transport, inadequate transport infrastructure
services (large % of missing links)
s. Poor information flow/information asymmetry. Eg what can Kenyans sell to Burundi?
t. Diversity of political and ideological background: asymmetry.
u. High levels of vulnerabilities. War, drought, disease.
v. Predominance of an under-performing food and agriculture trade in the export-import
basket of most African countries.
w. Unfavourable world economic and trade climate.
x. Inefficient trade machinery: Corruption, inefficiency, language, poorly developed
institutions.

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Unexplored opportunities however are many, eg. utilization of Africa’s shared water resources,
Trade in energy, e-commerce, leveraging human resources and ICT.

Drivers of Regional Integration in Africa:

African leaders have underscored the imperative of greater coordination and harmonization among
the continents many regional economic communities. Key among these efforts is the Abjuja treaty
of 1991 (came into force 1994) establishing the African Economic Community, by gradually
merging the many small blocks, to overcome the constraints associated with overlapping
membership of multiple blocks. What drives integration efforts?
However, the integration remains shallow and hence not leading to increased competitiveness where
economies of scale are easy to achieve.

 Changing global trading system: Since the collapse of GATT 20 years ago, the world has
moved more to multilateral trade negotiations and away from Bilateral agreements.

 Mixed outcomes of multilateral trade agreements under a WTO-led globalization: Africa has
felt increasingly marginalized hence the drive to look for strength in numbers when
negotiating. Weak economies have fared very poorly under globalization.

 European Union: Under the expansion of ACP-EU(to 25 members) , the single European
market and the Euro have influenced Africa to engage.

 Unilateral negotiations especially by USA negotiating MFN status under the AGOA
agreement, has led to huge growth in US-Africa goods trade from $9Bn in 2001 to over
$33.3Bn in 2020.

 Inadequate funding and limited capacities has stifled to pace and depth of integration.
Member countries are frequent late in paying their dues hence growing gap between
aspirations and reality of the protocols signed.

 Multiple and overlapping memberships: Though the structures of the regional communities
vary greatly, they share the objective of reducing trade barriers and creating a larger
economic space. This has resulted in:

 Fragmented approach to economic cooperation

 Increased cost of membership
 Unhealthy rivalry for donor funds
 Contradictory obligations and loyalties
 Inconsistent objectives and operational mandates, leading to lack of coherence of
programs, and
 Duplication of efforts (eg. if all EAC members are in COMESA, why have EAC etc).

 Little complementarily across the economies: High poverty levels among members and the
resulting low effective demand (purchasing power) has meant little manufacturing and low
level of sophistication. This coupled with weak infrastructure and communication and lack
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of skilled workforce means productivity remains low.

 Few strong regional focal points. There are no strong leaders within the African blocks, as
even the so-called big brothers are seldom willing to compromise on important treaties in
order to provide leadership and persuade others to comply, due to their own vulnerabilities
eg. the near collapse of Nigeria since the commodity-price crush of 2015 that led to massive
inflation and currency depreciation and continues into 2024, quadrupling of unemployment
rate to current 33%.

 Lack of domestic pro-integration constituency due to top-down decision making and

Sidelining of civil-society.

 More success in free movement of factors of production, infrastructure cooperation,

communication, peace and security than on trade and market integration. Tariffs remain
consistently high and members are unwilling to lose tariff revenue.

 Too many competing currencies most of which are not convertible across the regions,
accompanied by multiple exchange rate regimes( pegged, managed float, independent float
etc.). Not much success I implementing common currency eg WAMU and its Eco currency,
is still not operational since signing of the West African Monetary Zone (The Gambia,
Ghana, Guinea, Liberia, Sierra Leone and Nigeria) in 2000.

 Huge transport and communication barriers: The region remains fragmented since there is
no interconnectivity of networks. For landlocked countries, transport contributes as much
as 77% to the value of exports.

 Low industrial cooperation due to the dominance of MNCs in industrial development.

 Reliance on food and agriculture to drive the economies of member countries leading to
concentration of cooperation on supporting agriculture and food security. Low productivity
and limited domestic markets translate to low incomes and increasing vulnerabilities.

 Limited energy to drive production and economic expansion: Although trade in energy is
now growing, it remains low due to poor ability to pay especially among the landlocked
poorer countries The West African gas pipeline enabling Ivory Coast and Nigeria to sell
energy to landlocked neighbors Benin, Togo, and Ghana.

 Sharing of water resources: Vey is poorly financed hence not much growth in
opportunities either for water supply, hydropower generation, transport/navigation etc.
(What examples can you get on this problem?)

 Peace and security: To protect trade opportunities, it has become a major driver for stronger
cooperation especially in the ECOWAS region.

 Free movement of people: Though fragmented and lacking harmonized strategy, most of the
regional agreements push for free movement of people, yet few implement it.

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Reading assignment:
Q. Compare the following African Regional Blocs using the following parameters? NB. Use only current
data (Oldest 2022)
i. EAC
ii. ECOWAS
iii. COMESA
iv. UEMOA
v. SADC
vi. AfCFTA

Parameters:

 Historical uniqueness of its formation/Origin,

 Form of economic /trade integration (key institutions),
 Size ( Population, GDP and Per capita GDP, Number of members, geographical area),
 Volume of trade between members (Intra trade): Big brother vs. small brother share,
 Key unique achievements and current challenges as an economic block
 Direction currently being taken ie. what’s on discussion currently.

Note:
Look for up-to-date information on these issues and avoid relying on abstract non-scientific sources of
information.