ECONOMIC INEGRETION

GLOBLE ECONOMIC & FINANCE

A PROJECT SUBMITTED
TO THE UNIVERSITY OF MUMBAI
FOR THE DEGREE OF
MASTERS IN COMMERCE
SEMESTER - 1
IN THE PARTIAL FULFILLMENT REQUIREMENT
OF THE COURSE
(ACADEMIC YEAR 2015-16)
BY

RAHUL P. CHUDASAMA
ROLL NUMBER:UNDER THE SUPERVISION OF
PROF:-MEDHAVINI KHARE
KIRAN JHADAV
DEPARTMENT OF MCOM
BHARTIYA VIDYA BHAVANS
HAZARIMAL SOMANI COLLEGE OF ARTS AND SCIENCE
DATE
PLACE - MUMBAI

SIGN OF EXTERNAL
SUPERVISOR

SIGN OF INTERNAL
SUPERVISOR

CERTIFICATE
This is to certify that this project report entitled
GLOBAL ECONOMICS Submitted by RAHUL P.
CHUDASAMA
in
partial
fulfillment
of
the
requirement for the degree Master of Commerce
(M.Com) Part 1 (Semester 1) is a bonafide research
work completed under my guidance and
supervision .No part of this project has ever been
submitted for other degree .the assistant rendered
during the course of the study has been duly
acknowledged.

External Examiner
Examiner

DATE-

Internal

DECLARATION
Certified that I RAHUL P CHUDASAMA of Master of Commerce
(M.com) Part 1 (Semester 1) have prepared titled Global Economics
Under the guidance of Prof. MEDHAVINI KHARE and KIRAN
JHADAV. Department of Commerce Bhavans Hazarimal Somani
College. Chowpatty, Mumbai in partial fulfillment of the requirement for
the degree of Master of Commerce (M.com). Their by no part of this
project has ever been submitted any other degree.

RAHUL P. CHUDASAMA
Roll No.
M.com (part-1)

INDEX

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Contents
Introduction
Definition
Objective
Stages
Economic Theory
Success Factor
Obstacle of global
economic
Global economic
integration
Financial integration
Advantages &
Disadvantages

ECONOMIC INTEGRATION
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
taking place among them prior to their integration. This 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 and increase of economic
productivity of the states.
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.

DEFINITION OF ECONOMIC INTEGRATION

An economic arrangement between different regions
marked by the reduction or elimination of trade barriers
and the coordination of monetary and fiscal policies. The
aim of economic integration is to reduce costs for both
consumers and producers, as well as to increase trade
between the countries taking part in the agreement.
The combination of several national economies into a
larger territorial unit.
_ It implies the elimination of economic boarders

between countries.
_ Economic borders: any obstacle which limits the
mobility of goods services and factors of production
between countries.
Jan Tinbergen: all processes of economic
integration include two aspects:
Negative integration: the elimination of obstacles.
Positive integration: harmonization, coordination of
existing instruments.

OBJECTIVES
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 that it is meant to lead to
higher productivity. This is one of the reasons for the
global scale development of economic integration, a
phenomenon now realized in continental economic
blocks such as ASEAN, NAFTA, SACN, theEuropean Union,
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.[3] 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 producers 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.[4] 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
forLiechtenstein 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. TheZollverein or German Customs
Union of 1867 paved the way for German (partial)

unification under Prussian leadership in 1871. "Imperial

free trade" was (unsuccessfully) proposed in the late 19th
century to strengthen the loosening ties within 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.

STAGES
The degree of economic integration can be categorized
into seven stages:[5]
1. Preferential trading area
2. Free trade area
3. Customs union
4. Common market
5. Economic union
6. Economic and monetary union
7. Complete economic integration

Preferential trading area

A preferential trade area (also preferential trade
agreement, PTA) is a trading bloc that gives preferential
access to certain products from the participating
countries. This is done by reducingtariffs but not by
abolishing them completely. A PTA can be established
through a trade pact. It is the first stage of economic
integration. The line between a PTA and a free trade
area (FTA) may be blurred, as almost any PTA has a main
goal of becoming a FTA in accordance with theGeneral
Agreement on Tariffs and Trade.

Free trade area

A free-trade area is the region encompassing a trade
bloc whose member countries have signed a free
trade agreement (FTA). Such agreements involve
cooperation between at least two countries to reduce
trade barriersimport quotas and tariffs and to
increase trade ofgoods and services with each other.[1] If
people are also free to move between the countries, in
addition to FTA, it would also be considered an open
border. It can be considered the second stage
of economic integration.

Customs union
A customs union is a type of trade bloc which is
composed of a free trade area with a common external
tariff. The participant countries set up common external
trade policy, but in some cases they use different import
quotas. Common competition policy is also helpful to
avoid competitiondeficiency.[1]
Purposes for establishing a customs union normally
include increasing economic efficiency and establishing
closer political and cultural ties between the member
countries.
It is the third stage of economic integration.

Common market
A common market is usually referred to as the first
stage towards the creation of a single market. It usually is
built upon a free trade area with relatively free movement
of capital and of services, but not so advanced in
reduction of the rest of the trade barriers.

Economic union
An economic union is a type of trade bloc which is
composed of a common market with a customs union.
The participant countries have both common policies on
product regulation, freedom of
movement of goods, services and the factors of
production (capital and labour) and a common external
trade policy. When an economic union involves unifying
currency it becomes a economic and monetary union.

Economic and monetary union

An economic and monetary union is a type
of trade bloc which is composed of an economic
union (common market and customs union) with
a monetary union. It is to be distinguished from a
mere monetary union (e.g. the Latin Monetary Union in
the 19th century), which does not involve a common
market. This is the sixth stage of economic integration.
EMU is established through a currency-related trade pact.
An intermediate step between pure EMU and a complete
economic integration is the fiscal union.

Complete economic integration

Complete economic integration is the final stage

of economic integration. After complete economic
integration, the integrated units have no or negligible
control of economic policy, including full monetary union
and complete or near-complete fiscal
policy harmonisation.
Complete economic integration is most common
within countries, rather than
withinsupranational institutions. An example of this are
the original thirteen colonies of the United States of
America, which can be viewed as a series of highly
integrated quasi-autonomous nation states. In this
example it is true that complete economic integration
results in a federalistsystem of governance as it requires
political union to function as, in effect, a single economy .

Economic Theory
The framework of the theory of economic integration
was laid out by Jacob Viner (1950) who defined the trade
creation and trade diversioneffects, the terms introduced
for the change of interregional flow of goods caused by
changes in customs tariffs due to the creation of an
economic union. He considered trade flows between two
states prior and after their unification, and compared
them with the rest of the world. His findings became and
still are the foundation of the theory of economic
integration. The next attempts to enlarge the static
analysis towards three states+world (Lipsey, et al.) were
not as successful.

The basics of the theory were summarized by

the Hungarian economist Bla Balassa in the 1960s. As
economic integration increases, the barriers of trade
between markets diminish. Balassa believed that
supranational common markets, with their free
movement of economic factors across national borders,
naturally generate demand for further integration, not
only economically (via monetary unions) but also
politicallyand, thus, that economic communities
naturally evolve into political unions over time.
The dynamic part of international economic integration
theory, such as the dynamics of trade creation and trade
diversion effects, the Pareto efficiency of factors (labor,
capital) and value added, mathematically was introduced
by Ravshanbek Dalimov. This provided an
interdisciplinary approach to the previously static theory
of international economic integration, showing what
effects take place due to economic integration, as well as
enabling the results of the non-linear sciences to be
applied to the dynamics of international economic
integration.
Equations describing:
1.enforced oscillations of a pendulum with friction;
2.predator-prey oscillations;
3.heat and/or gas spatial dynamics (the heat
equation and Navier-Stokes equations)
were successfully applied towards:
1.the dynamics of GDP;
2.price-output dynamics and the dynamic matrix of the
outputs of an economy;

3.regional and inter-regional migration of labor income

and value added, and to trade creation and trade
diversion effects (inter-regional output flows).
The straightforward conclusion from the findings is that
one may use the accumulated knowledge of the exact
and natural sciences (physics, biodynamics, and chemical
kinetics) and apply them towards the analysis and
forecasting of economic dynamics.
Dynamic analysis has started with a new definition
of gross domestic product (GDP), as a difference between
aggregate revenues of sectors and investment (a
modification of the value added definition of the GDP). It
was possible to analytically prove that all the states gain
from economic unification, with larger states receiving
less growth of GDP and productivity, and vice versa
concerning the benefit to lesser states. Although this fact
has been empirically known for decades, now it was also
shown as being mathematically correct.
A qualitative finding of the dynamic method is the
similarity of a coherence policy of economic integration
and a mixture of previously separate liquids in a retort:
they finally get one colour and become one liquid.
Economic space (tax, insurance and financial policies,
customs tariffs, etc.) all finally become the same along
with the stages of economic integration.
Another important finding is a direct link between the
dynamics of macro- and micro-economic parameters such
as the evolution of industrial clusters and the GDP's
temporal and spatial dynamics. Specifically, the dynamic
approach analytically described the main features of the
theory of competition summarized by Michael Porter,
stating that industrial clusters evolve from initial entities
gradually expanding within their geographic proximity. It

was analytically found that the geographic expansion of

industrial clusters goes along with raising their
productivity and technological innovation.
Domestic savings rates of the member states were
observed to strive to one magnitude, and the dynamic
method of forecasting this phenomenon has also been
developed. Overall dynamic picture of economic
integration has been found to look quite similar to
unification of previously separate basins after opening
intraboundary sluices, where instead of water the value
added (revenues) of entities of member states interact.

Success factor
Among the requirements for successful development
of economic integration are "permanency" in its evolution
(a gradual expansion and over time a higher degree of
economic/political unification); "a formula for sharing joint
revenues" (customs duties, licensing etc.) between
member states (e.g., per capita); "a process for adopting
decisions" both economically and politically; and "a will to
make concessions" between developed and developing
states of the union.
A "coherence" policy is a must for the permanent
development of economic unions, being also a property of
the economic integration process. Historically the success
of the European Coal and Steel Community opened a way
for the formation of the European Economic
Community(EEC) which involved much more than just the
two sectors in the ECSC. So a coherence policy was
implemented to use a different speed of economic
unification (coherence) applied both to economic sectors

and economic policies. Implementation of the coherence

principle in adjusting economic policies in the member
states of economic block causes economic integration
effects.

Obstacles to economic integration

Obstacles standing as barriers for the development
of economic integration include the desire for
preservation of the control of tax revenues and licensing
by local powers, sometimes requiring decades to pass
under the control of supranational bodies. The experience
of 1990-2009 has shown radical change in this pattern, as
the world has observed the economic success of the
European Union. So now no state disputes the benefits of
economic integration: the only question is when and how
it happens, what exact benefits it may bring to a state,
and what kind of negative effects may take place.[citation
needed]

Global economic integration

With economics crisis started in 2008 the global
economy has started to realize quite a few initiatives on
regional level.

It is unification between the EU and US, expansion of

Eurasian Economic Community (now Eurasia Economic
Union) by Armenia and Kirgyzstan. It is also the creation
of BRICS with the bank of its members, and notably high
motivation of creating competitive economic structures
within Shanghai Organization, also creating the bank with
many multi-currency instruments applied. Engine for such
fast and dramatic changes was insufficiency of global
capital, while one has to mention obvious large political
discrepancies witnessed in 2014-2015. Global economy
has to overcome this by easing the moves of capital and
labor, while this is impossible unless the states will find
common point of views in resolving cultural and politic
differences which pushed it so far as of now.

Financial integration
Financial integration is a phenomenon in which
financial markets in neighboring, regional and/or global
economies are closely linked together. Various forms of
actual financial integration include: Information
sharing among financial institutions; sharing of best
practices among financial institutions; sharing of cutting
edge technologies (through licensing) among financial
institutions; firms borrow and raise funds directly in the
international capital markets; investors directly invest in
the international capital markets; newly

engineered financial products are domestically innovated

and originated then sold and bought in the international
capital markets; rapid adaption/copycat of newly
engineered financial products among financial
institutions in different economies; cross-border capital
flows; and foreign participation in the domestic financial
markets.
Because of financial market imperfections, financial
integration in neighboring, regional and/or global
economies is therefore imperfect. For example, the
imperfect financial integration can stem from the
inequality of the marginal rate of substitutions of
different agents. In addition to financial market
imperfections, legal restrictions can also hinder financial
integration. Therefore, financial integration can also be
achieved from the elimination of restrictions pertaining to
cross-border financial operations to allow (a) financial
institutions to operate freely, (b) permit businesses to
directly raise funds or borrow and (c) equity and bond
investors to invest across the state line with fewer [or
without imposing any] restrictions.[1] However, it is
important to note that many of the legal restrictions exist
because of the market imperfections that hinder financial
integration. Legal restrictions are sometimes second-best
devices for dealing with the market imperfections that
limit financial integration. Consequently, removing
the legal restrictions can make the world
economy become worse off. In addition, financial
integration of neighboring, regional and/or global

economies can take place through a formal international

treaty which the governing bodies of these economies
agree to cooperate to address regional and/or global
financial disturbances through regulatory and policy
responses.[1] The extent to which financial integration is
measured includes gross capital flows, stocks of foreign
assets and liabilities, degree of co-movement of stock
returns, degree of dispersion of world-wide real interest
rates, and financial openness.

Advantages Of Economic Integration

Trade Creation: Member countries have (a) wider
selection of goods and services not previously
available; (b) acquire goods and services at a lower
cost after trade barriers due to lowered tariffs or
removal of tariffs (c) encourage more trade
between member countries the balance of money
spend from cheaper goods and services, can be
used to buy more products and services
Greater Consensus: Unlike WTO with hugh
membership (147 countries), easier to gain
consensus amongst small memberships in regional
integration
Political Cooperation: A group of nation can have
significantly greater political influence than each
nation would have individually. This integration is
an essential strategy to address the effects of
conflicts and political instability that may affect the
region. Useful tool to handle the social and
economic challenges associated with globalization
Employment Opportunities: As economic
integration encourage trade liberation and lead to
market expansion, more investment into the
country and greater diffusion of technology, it

create more employment opportunities for people

to move from one country to another to find jobs or
to earn higher pay. For example, industries
requiring mostly unskilled labor tends to shift
production to low wage countries within a regional
cooperation

Disadvantages Of Economic Integration

Creation Of Trading Blocs: It can also increase
trade barriers against non-member countries.
Trade Diversion: Because of trade barriers, trade is
diverted from a non-member country to a member
country despite the inefficiency in cost. For
example, a country has to stop trading with a low
cost manufacture in a non-member country and
trade with a manufacturer in a member country
which has a higher cost.
National Sovereignty: Requires member countries
to give up some degree of control over key policies
like trade, monetary and fiscal policies. The higher
the level of integration, the greater the degree of
controls that needs to be given up particularly in
the case of a political union economic integration
which requires nations to give up a high degree of
sovereignty