Economic integration

International agreements on economic integration related to the EU and EFTA.

Economic integration is the unification of economic policies between different states, through the partial or full abolition of tariff and non-tariff restrictions on trade.

The trade-stimulation effects intended by means of economic integration are part of the contemporary economic Theory of the Second Best: where, in theory, the best option is free trade, with free competition and no trade barriers whatsoever. Free trade is treated as an idealistic option, and although realized within certain developed states, economic integration has been thought of as the "second best" option for global trade where barriers to full free trade exist.

Economic integration is meant in turn to lead to lower prices for distributors and consumers with the goal of increasing the level of welfare, while leading to an increase of economic productivity of the states.

Objective

There are economic as well as political reasons why nations pursue economic integration. The economic rationale for the increase of trade between member states of economic unions rests on the supposed productivity gains from integration. This is one of the reasons for the development of economic integration on a global scale, a phenomenon now realized in continental economic blocs such as ASEAN, NAFTA, SACN, the European Union, AfCFTA and the Eurasian Economic Community; and proposed for intercontinental economic blocks, such as the Comprehensive Economic Partnership for East Asia and the Transatlantic Free Trade Area.

Comparative advantage refers to the ability of a person or a country to produce a particular good or service at a lower marginal and opportunity cost over another. Comparative advantage was first described by David Ricardo who explained it in his 1817 book On the Principles of Political Economy and Taxation in an example involving England and Portugal.[1] In Portugal it is possible to produce both wine and cloth with less labour than it would take to produce the same quantities in England. However the relative costs of producing those two goods are different in the two countries. In England it is very hard to produce wine, and only moderately difficult to produce cloth. In Portugal both are easy to produce. Therefore, while it is cheaper to produce cloth in Portugal than England, it is cheaper still for Portugal to produce excess wine, and trade that for English cloth. Conversely England benefits from this trade because its cost for producing cloth has not changed but it can now get wine at a lower price, closer to the cost of cloth. The conclusion drawn is that each country can gain by specializing in the good where it has comparative advantage, and trading that good for the other.

Economies of scale refers to the cost advantages that an enterprise obtains due to expansion. There are factors that cause a producer’s average cost per unit to fall as the scale of output is increased. Economies of scale is a long run concept and refers to reductions in unit cost as the size of a facility and the usage levels of other inputs increase.[2] Economies of scale is also a justification for economic integration, since some economies of scale may require a larger market than is possible within a particular country — for example, it would not be efficient for Liechtenstein to have its own car maker, if they would only sell to their local market. A lone car maker may be profitable, however, if they export cars to global markets in addition to selling to the local market.

Besides these economic reasons, the primary reasons why economic integration has been pursued in practise are largely political. The Zollverein or German Customs Union of 1867 paved the way for partial German unification under Prussian leadership in 1871. "Imperial free trade" was (unsuccessfully) proposed in the late 19th century to strengthen the loosening ties within the British Empire. The European Economic Community was created to integrate France and Germany's economies to the point that they would find it impossible to go to war with each other.