REGIONAL ECONOMIC INTEGRATION

THE CASE

Manuel Lucangeli

MA International Business

Political and Economical Environment of International Business

London Metropolitan University

May 2004

CONTENTS

1. INTRODUCTION..........................................................................................3

2. MOTIVATIONS FOR THE INTEGRATION: A “NEW REGIONALISM”......4

3. THE BLOC...................................................................................................5

3.1. THE REGIONAL INTEGRATION PROCESS..............................................5

3.2. INSTITUTIONS AND BODIES.....................................................................6

3.3. TRADE AND INVESTMENTS FLOWS OUTLOOK.....................................6

4. THE CRISIS OF MERCOSUR: AN STRUCTURAL PROBLEM.................7

5. FUTURE CHALLENGES.............................................................................9

5.1. THE INTERNAL AGENDA...........................................................................9

5.2. THE FOREIGN AGENDA..........................................................................10

MERCOSUR and the FTAA....................................................................................10

MERCOSUR – EU Relations...................................................................................11

6. CONCLUSIONS.........................................................................................11

7. References.................................................................................................13

2

1. Introduction

MERCOSUR (Southern Common Market) is a politic and economic bloc in South

America, which includes Argentina, Brazil, Paraguay and Uruguay as full members, and

Bolivia and Chile as associate members. The aim of the bloc is achieve a common

market where the free movement of goods, services, capital and people is

complemented by a common external tariff and policy co-operation among its member

countries. The bloc is the 4th largest economy in the world coming after the EU, the

NAFTA and Japan; it has a total GDP of around US$ 1 trillion and a population of 210

million1.

The MERCOSUR’s goals are not only economical but also include areas from macro-

economic co-ordination, harmonisation of social and labour policies, harmonisation of

laws, political and security cooperation, environmental protection, military co-operation

and regional guarantees for the preservation of democracy and respect of human rights.

The motivations for the integration are the result of a “new regionalism” in Latin

America, which followed the region economic collapse of the 1980’s. Nevertheless, in

the last years several economic and political crises within the region have affected the

MERCOSUR development. Therefore the bloc still needs to make efforts in different

areas in order to complete its integration. This implies to achieve the completion of the

internal market, a stronger institutionalization and the integration into regional and

international context.

Accordingly, this essay will describe the principal issues related to the MERCOSUR’s

integration process, try to identify the causes of the crisis that has affected the bloc in

the last years and at the same time, the future challenges facing MERCOSUR regarding

to its integration process as well as its relation with other economic blocs, principally

the NAFTA and its proposed extension, the FTAA, and the EU.

1 GDP (current US$) 2001. Source: World Bank Group. (2004). Available from http://www.worldbank.org/data/databytopic/gdp.html

3

2. Motivations for the Integration: a “New Regionalism”

The motivations for the creation of MERCOSUR are a result of a “new regionalism” in

Latin America, which represent a major shift in Latin America’s development paradigm

after the debt crisis and the region’s economic collapse of the 1980’s. The old

regionalism had supported the idea of “import substitution industrialization (ICI) model

of development” (Devlin and Estevadeordal, 2001, p. 3). The new regionalism surged

within an international framework characterized by the consolidation of large economic

blocs (EU, NAFTA) and it is viewed as having the main following objectives (Iglesias,

2000; Devlin and Estevadeordal, 2001):

Strengthening structural economic reforms: the motive of the new regionalism is to

create a strategic policy tool to reinforce the structural economic reform process in a

period of highly competitive globalization. Regional integration is viewed as an

additional policy tool to complement and strengthen national reform processes.

Economic transformation: while liberalization and increased participation in the

world economy are viewed as instrumental to modernizing the region, countries

have serious vulnerabilities because of a low export base and insufficient

competitiveness of much of the private sector’s export supply. The reciprocal

openness, guarantees of market access, preferences and other aspects of a regional

scheme can provide new opportunities for export experience and diversification

Attracting foreign direct investment: there is worldwide competition between

developing countries to attract FDI because of its potential to improve export

networks, and technological, know-how and institutional modernization. By creating

a larger market with local advantages, a regional agreement can help countries

compete for attracting FDI.

Geopolitic: a group of countries can use a regional agreement to establish a safety

net for fragile democracies, promote disarmament and peace among neighbors, and

enhance bargaining power in international forum. This last motive was behind the

decisions of MERCOSUR to negotiate trade agreements cooperation to exploit more

fully the advantages of a maturing regional market.

4

3. The Bloc

3.1. The Regional Integration Process

Following the elections of civil regimes in Brazil and Argentina, these countries agreed

to set the stage for a common market between them within ten years, with the gradual

elimination of all tariff barriers and harmonization of the macroeconomic policies of

both nations. After the adhesion of Paraguay and Uruguay a new treaty was signed by

all four countries the 26th of March of 1991 in Asunción, Paraguay, providing for the

creation of a common market among the four participants, to be known as the Southern

Common Market (MERCOSUR). The Treaty established the goals in order to create the

common market, allowing for the free movement of goods, capital, labour, and services

among the four countries. The formation of a common market was to go into force the

1st of January of 1995. The integration process followed by MERCOSUR to date has

been inspired by the EU experience (particularly in opting for a common market and a

common external tariff) (European Commission, 2002).

The following table shows some of the principal facts related to the integration process:

1988 Treaty for Integration, Cooperation and Development (Argentina and

Brazil).

1990 Brazil and Argentina signed the Act of Buenos Aires. It anticipated that

the common market would come into effect in 1995. It contemplated the

gradual elimination of all tariff barriers and the harmonization of the

macroeconomic policies of both nations.

1991 Treaty of Asuncion. Uruguay and Paraguay joined. Southern Common

Market (MERCOSUR)

1994 Treaty of Ouro Preto. It established an institutional structure for

MERCOSUR, inspired by the EU example, and created the basis for the

launching of the Customs Union

1995 The MERCOSUR CET (Common External Tariff) entered into force.

1996 Chile and Bolivia joined as associate members

5

1997 Montevideo Protocol on Trade in Services. Equal treatment for service

providers of all member countries.

2002 Olivos Protocol. The constitution of a Permanent Legal Tribunal (in

Asuncion) was decided.

2006 Objective: complete liberalization of trade in services within the group.

3.2. Institutions and Bodies

“The Treaty of Ouro Preto (in 1994) established an institutional structure for

MERCOSUR, which was inspired by the example of the EU”. “The institutions of

MERCOSUR consist of a Common Market Council, a Common Market Group, a

Commercial Commission and numerous Technical Committees, Working Groups and

Ad Hoc Groups, which all deal with specific areas of policy such as industry,

competition, the environment, co-operation, agriculture or customs”. “Other

MERCOSUR institutions are the Joint Parliamentary Committee, the Economic and

Social Consultative Forum and the Administrative Secretariat of MERCOSUR.

Nevertheless, all these institutions are still at a low level of development, although

MERCOSUR is trying to make an effort on institutionalisation” (European

Commission, 2002, p.13).

3.3. Trade and Investments flows outlook

Trade has constituted the most dynamic growing factor of the MERCOSUR’s

integration process. Within the MERCOSUR trade grew by 9,2% on average per year

between 1990 and 1999, compared to a world average of 6,6% during the same period.

However, the economic recession the block suffered between 1999-2002 has affected

the performance of intra-regional trade, especially in 2001, in which the Argentinean

crisis has strongly impacted the intra-regional trade (European Commission, 2002,

p.13).

Foreign Investment into MERCOSUR including Chile has grown rapidly over the last

decades from a level of US$ 6,1 billon annual average in the period of 1990-94, to US$

6

35,6 billon, annual average in the period of 1995-99, representing an almost six-fold

increase. In 1999 FDI reached a record level of US$ 61,9 billon. The implementation of

market economic reforms and major privatisation has driven this development.

However, the economic crisis that hit the whole region since 2000 has reduced the

amount of FDI to of US$ 48,5 billon in 2000, US$ 30,7 billon in 2001, and US$ 19,4

billon in 2002, influenced by the Brazilian crisis of 1999 and the Argentinean crisis of

2001/02. Nevertheless, for the period 1990-2002 MERCOSUR including Chile FDI

stocks totalise US$ 327,3 billon, which represent around 76% of all investment that has

gone into the Latin American region (ECLAC, 2003).

4. The crisis of MERCOSUR: an structural problem

Although MERCOSUR has been a very successful initiative in the political sphere,

generating a zone of peace and cooperation between countries in South America, the

progress in trade liberalization suffered serious setbacks in the recent years.

The problems facing the MERCOSUR’s integration are closely related to the economic

crises that the Region has suffered in the recent years. The Region was particularly

vulnerable to the volatility of capital flows and MERCOSUR economies have

demonstrated a limited ability to adapt to these scenarios, either because of external

shocks, excessive public indebtedness or because of wrong exchange rate policies. That

situation has affected everything else, deteriorating the Balance of Payments, the fiscal

balance and the previously agreed trade rules (Heymann, 2001; Inter-American

Development Bank and INTAL, 2003).

Additionally, capital flight forced the MERCOSUR countries to increase interest rates,

which had an adverse impact on servicing public debt and forced a recessive fiscal

adjustment. Together with the reduction in private economic activity associated with the

increase in interest rates, this strongly reduced tax yields, generating a recessive budget

adjustments that, in the Argentine case, ended in financial crisis, which affect the whole

region (Heymann, 2001; Inter-American Development Bank and INTAL, 2003).

7

As a result those crises, in practice, the countries did not respect the rules they had

previously agreed, they resorted frequently to unilateral non-tariff restrictions to slow

down imports from their commercial partners, and they became involved in multiple

trade disputes, in which the arbitration or conflict-resolution mechanisms were neither

operative nor effective (Heymann, 2001; Inter-American Development Bank and

INTAL, 2003).

Accordingly, the crisis of MERCOSUR is related to “a lack of progress in

implementation of key structural reforms necessary to ensure fiscal and monetary

stability and to secure sustained economic growth” (European Commission, 2002, p.8).

“At the regional level, the lack of real macro-economic convergence, differing monetary

arrangements and lack of co-ordination of sector policies have blocked progress towards

deeper economic integration”. As a result of that, the effective implementation of the

customs union has been retarded. Additionally, the lack of appropriate supranational

institutions has impeded progress towards deeper integration” (European Commission,

2002 p. 17).

At the political level, the mentioned crisis has been a result of “the lack of a shared

vision between the member countries”. “In particular, given the economic and political

weight of the two larger countries, Argentina and Brazil, the process of integration is

shaped by their respective national agendas. The strategic choices in their external

policy have determined the direction and momentum of MERCOSUR integration. The

fact is that their positions at times have tended to diverge in important ways have been

an obstacle to closer integration”. Nevertheless, in spite of all these difficulties the new

governments of Brazil and Argentina consider MERCOSUR as strategic by the

fundamental fact that any alternative to MERCOSUR would be worse: MERCOSUR

was created out of necessity. Therefore, as part of a strategy to provide a new impetus to

the process of integration, MERCOSUR countries agreed to re-launch the process of

integration in order to strengthen the bloc internally as well as externally. This strategy

consists of the identification of the MERCOSUR main problems in order to provide

proposals to solve these issues (European Commission, 2002, p. 17).

8

5. Future Challenges

5.1. The Internal Agenda

MERCOSUR’s primary objective has been intraregional trade liberalisation through the

establishment of a customs union. In sense, the Treaty of Asunción defined the

implementation of automatic tariff reductions among the member countries and the

Common External Tariff (CET) entered into force in 1995. Nevertheless, the customs

union should be fully implemented by 2006. Therefore, the MERCOSUR’s internal

agenda priorities are the establishment of a complete and effective customs union and

the coordination of policies towards the establishment of a common market. That

implies the reformulation of the system of dispute settlements, identification and

elimination of intra-regional barriers to trade and the elaboration of common trade

disciplines to prevent the imposition of trade barrier measures (European Commission,

2002; Inter-American Development Bank and INTAL, 2003).

Completing the regional integration process also includes a deepening the regional

physical integration efforts, progress in the integration of the services markets, labour

and capital markets integration and labour, harmonization and adoption of key laws

including in the fields of competition, intellectual and industrial property rights, public

procurement, trade in services and investments should further foster the integration of

MERCOSUR countries into a single market (European Commission, 2002; Inter-

American Development Bank and INTAL, 2003).

In order to strengthen the macroeconomic co-ordination and the dispute settlement

mechanism, the Olivos Protocol (“Protocolo de Olivos”) in 2002 defined the

constitution of a Permanent Legal Tribunal. Furthermore, the creation of a

MERCOSUR’s Monetary Institute with the perspective of a future single currency is

being considered (European Commission, 2002; Inter-American Development Bank and

INTAL, 2003).

9

5.2. The Foreign Agenda

MERCOSUR's external covers processes of negotiation and consultation with

individual countries and regional arrangements, across and beyond the hemisphere.

Treaties creating free trade areas with Chile and Bolivia were signed in 1996, a

framework agreement with the Andean Pact was signed in 1998, and a complementation

agreement towards a free trade agreement with Mexico was signed in 2002.

MERCOSUR is also currently engaged in negotiations with the European Union for the

liberalisation of trade, and it is active force in the Free Trade Area of the Americas

negotiating process. Other important consultations are being held with a variety of

partners such as SADC (South African Development Community), CER (Australia-

New Zealand Closer Economic Relations Trade Agreement), India, Korea, China and

Israel (Inter-American Development Bank and INTAL, 2003).

MERCOSUR and the FTAA

One of the most important negotiations is related to the establishment of the Free Trade

Area of the Americas (FTAA or ALCA). In December of 1994, in Miami, thirty-four

democracies of the American Continent agreed to negotiate a region wide free trade

area by the year 2005. This objective was reaffirmed in the Quebec meeting, in 2001. A

major obstacle includes reaching a balanced agreement since the different economies

are characterised by large disparities in size, structure, and level of development.

MERCOSUR, members firmly support an agreement based on the principle of the

“single undertaking”, which presumes that agreements are signed only after solutions

have been arrived at in all the areas being negotiated. MERCOSUR and Mexico signed

an Economic Complementation Agreement to progressively work towards an FTA in

2002. MERCOSUR countries also announced their objective of pursuing bilateral

negotiations with Canada and the US based on 4+1 format (Rose Garden Agreement,

1991) (European Commission, 2002, p.14; Inter-American Development Bank and

INTAL, 2003).

10

MERCOSUR – EU Relations

“The main instrument of EU policy towards the MERCOSUR countries is to complete

the negotiation of the Interregional Association Agreement between the EU and

MERCOSUR”. “A key component of these negotiations is trade aiming at bilateral,

gradual and reciprocal trade liberalisation, without excluding any sector, and in

accordance with WTO rules”. “A key EU objective is that a EU-MERCOSUR

agreement should assure an equivalent level of circulation of goods, services and capital

within the respective markets. The ultimate objective will be to build up a Political and

Economic Association Agreement between the EU and MERCOSUR”. Additionally “a

definitive progress has been made and EU and MERCOSUR have agreed a democracy

and human right clause, the reaffirmation of the political principle of good governance

and a renewed political mechanism is conceived, including new areas such as foreign

policy, security and terrorism” (European Commission, 2002, pp. 15-16).

6. Conclusions

MERCOSUR today is an economic reality of continental dimensions. It Comprises an

area of around 12 million square kilometres, or more than four times the size of Europe,

and represents a potential market of 210 million people and a joint GDP of around US$

1 trillion, which places it among the four largest economies of the world after the

European Union, NAFTA, and Japan.

The motivations for the creation of MERCOSUR can be found as a result of the “new

regionalism” trend within Latin America, which represent a major shift in Latin

America’s development paradigm after the debt crisis and the region’s economic

collapse of the 1980’s. Among the main objectives of this new regionalism are

strengthening structural economic reforms, achieving economic transformation,

attracting foreign direct investment and a geopolitical objective, which comprises

establishing a safety net for fragile democracies, and enhancing bargaining power in

international forum. Accordingly, the commercial integration promoted by

11

MERCOSUR also favours the achieving of objectives in other areas such as education,

justice, culture, transport, energy, the environment and agriculture.

The massive inflow of foreign investment into the MERCOSUR in the last decade,

previous the crisis that affect the Latin American region shows its attractiveness in

terms of growth potential. Nevertheless MERCOSUR has to make progress in the

integration process in order to create a dynamic regional investment climate, since

investment on a regional scale depends on free access to the whole MERCOSUR

market. Therefore, in order to protect the investment environment and encourage

investments based on a regional scale, there is need for the countries to move ahead

with a stronger institutionalisation and the establishment of a single investment space,

which guarantee a clear system of rules.

The MERCOSUR’s negotiations with countries and other economic bloc, such as the

European Union and the unified participation of the group in the negotiations for the

FTAA are a positive element of the regional integration process that should be

reinforced as it strengthens the bloc’s bargaining position and its importance on the

international context.

12

7. References

Arenas, M. (2002) ‘Economic Relations of the European Union and Mercosur’, Jean

Monnet/Robert Schuman Paper Series Vol. 1 No. 9 October 2002. Available from

http://www.miami.edu/EUCenter/mariela.pdf

Berlinski, J. (2003) ‘GATS Commitments and Policy Issues of MERCOSUR and

NAFTA countries, FTAA Series Brief 6, July 2003, MERCOSUR Economic research

Network. Available from http://www.redmercosur.org.uy/brief6eng.pdf

Devlin, R. and Estevadeordal, A. (2001) ‘ What’s New in the New Regionalism in the

Americas’, Institute for the Integration of Latin America and the Caribbean (INTAL),

Integration, Trade and Hemispheric Issues Division (ITD) and Statistics and

Quantitative Analysis Unit (STA), Working Paper 6. Available from

http://www.iadb.org/res/publications/pubfiles/pubS-106.pdf

ECLAC - United Nations (2003) ‘Foreign Direct Investment in Latin America and the

Caribbean 2002’, LC/G.2198-P April 2003. Available from

http://www.eclac.cl/publicaciones/DesarrolloProductivo/8/LCG2198/ForeignInvestmen

t2002.pdf

European Commission (2004) ‘TWELFTH MEETING OF THE MERCOSUR - EUROPEAN

UNION BI-REGIONAL NEGOTIATIONS COMMITTEE: FINAL CONCLUSIONS’, 8 – 12 March

2004 Buenos Aires-Argentina. Available from

http://europa.eu.int/comm/external_relations/mercosur/bacground_doc/

brnc04_08_03_en.pdf

European Commission (2004) ‘ The EU’s Relations with Mercosur’. EU’s official web

page. Available from http://europa.eu.int/comm/external_relations/mercosur/intro/#3

13

European Commission (2002) ‘MERCOSUR-European Community: Regional Strategy

Paper 2002-2006’. CSP MERCOSUR. September 10, 2002. European Commission.

External Relations Directorate General. Directorate General Latin America.

MERCOSUR Chile Unit. MERCOSUR Desk. Available from

http://europa.eu.int/comm/external_relations/MERCOSUR/rsp/02_06en.pdf

Heymann, D. (2001) ‘Regional Interdependencies and Macroeconomic Crises: Notes on

MERCOSUR’, Serie Estudios y Perspectivas 5, United Nations, CEPAL, ECLAC

Buenos Aires Office. Available from

http://www.eclac.cl/publicaciones/Buenosaires/7/LCL1627P/SerieBsAs5.pdf

Iglesias, E. V. (2000) ‘Twelve Lesson from Five Decades of regional Integration in

Latin America and the Caribbean’, Inter-American Development Bank, Presentation to

the Conference celebrating the 35th Anniversary of the Institute for the Integration of

Latin America and the Caribbean (INTAL). Available from

http://www.iadb.org/INT/Trade/1_english/2_WhatWeDo/Documents/c_OtherPubs/

Speeches/e_talk%20points%20intal%2035%20years%20Eng.pdf

Inter-American Development Bank and INTAL. (2003) ‘Report MERCOSUR 2001-

2002’. Inter-American Development Bank, MERCOSUR, Report 8. Available from

http://www.iadb.org/intal/ingles/publicaciones/inf_subreg/MERCOSUR_Report_8.PDF

Laens, S. and Terra, M. I. (2003) ‘INTEGRATION OF THE AMERICAS: WELFARE EFFECTS

AND OPTIONS FOR THE MERCOSUR’ FTAA Series Brief 3, July 2003, MERCOSUR

Economic research Network. Available from

http://info.pue.udlap.mx/lacea2003/docts/TERRA-INES.PDF

Lorenzo, F. and Osimani, R. (2003) ‘Negociations of the Mercosur with the FTAA and

the US’, FTAA Series Brief 1, July 2003, MERCOSUR Economic research Network.

Available from http://www.redmercosur.org.uy/brief1eng.pdf

14

Masi, F. and Wise, C. (2003) ‘ Negotiating the FTTA between the main players: The

US and MERCOSUR FTAA Series Brief 8, July 2003, MERCOSUR Economic research

Network. Available from http://www.redmercosur.org.uy/brief8eng.pdf

Magone, J. M. (2002) ‘CHALLENGING THE MONROE DOCTRINE? The Relations between

the European Union and Mercosur’. Department of Politics and International Studies,

University of Hull, Hull, UK. Paper presented at the workshop “Dynamics of the

European Union” of the Annual Conference of the Political Studies Association of the

United Kingdom, University of Aberdeen on 5-7 April 2002. Available from

http://www.psa.ac.uk/cps/2002/magone.pdf

MERCOSUR. (2004) Official web page http://www.mercosur.org.uy/

O’Keefe, T. A. (2003) ‘A RESURGENT MERCOSUR: CONFRONTING ECONOMIC CRISES AND

NEGOTIATING TRADE AGREEMENTS’ THE NORTH-SOUTH AGENDA PAPERS, SIXTY JANUARY

2003, A publication of The Dante B. Fascell North South Center, University of Miami.

Available from http://www.miami.edu/nsc/publications/pub-ap-pdf/60AP.pdf

Osimani, R. (2003) ‘MERCOSUR and FTAA trade: Overview and some indicators of

Relevance’, FTAA Series Brief 2, July 2003, MERCOSUR Economic research Network.

Available from http://www.redmercosur.org.uy/brief2eng.pdf

Quintella S. R. (2002) ‘Impact of a Country-crisis on an Integrated Market: A Study of

The Argentinean crisis and its Consequences to the Mercosur’, Industrial and Financial

Economics Master Thesis No 2002:56 Graduate Business School. School of Economics

and Commercial Law Göteborg University ISSN 1403-851X. Available from

http://www.handels.gu.se/epc/archive/00002787/01/gbs_thesis_2002_56.pdf

Vaillant, M. and Ons, A. (2003) ‘ Winners and Losers in a Free Trade Area between

The United States and MERCOSUR’ FTAA Series Brief 7, July 2003, MERCOSUR

Economic research Network. Available from

http://www.redmercosur.org.uy/brief7eng.pdf

15