131

CHAPTER 9
International Cooperation Among Nations

After studying this chapter students should be able to:

> Explain the importance of GATT and the WTO to international businesses.
> Contrast the different forms of economic integration among cooperating
countries.
> Analyze the opportunities for international businesses created by completion of
the EU’s internal market.
> Describe the other major trading blocs in today’s world economy.

LECTURE OUTLINE

OPENING CASE: Trade and Prosperity: The Case of Mexico

The opening case examines Mexico's recent economic development and concludes
that Mexico's success is based on its openness to international trade and investment.

Key Points

• From 1917 to 1982, Mexico relied on inward looking economic policies such as
high tariffs, restrictions on FDI and government ownership of business.

• The last four Mexican presidents have reversed these policies by lowering
tariffs, privatization, encouraging FDI, and joining the GATT and WTO.

• Mexico's participation in NAFTA and recent agreement with the EU further

opened its economy to the outside world.

• Many industries in Mexico are now booming.

CHAPTER SUMMARY

Chapter Nine explores how nations cooperate to minimize trade restrictions. The
chapter begins with a discussion of the General Agreement on Tariffs and Trade, then
examines economic integration and other types of regional trading blocs.
132 > Chapter 9

I. THE GENERAL AGREEMENT ON TARIFFS AND TRADE AND THE WTO

The General Agreement on Tariffs and Trade (GATT) is a multilateral treaty designed to
minimize trade barriers. GATT went into effect in 1948. It provided a forum for trade
ministers to discuss policies and problems of common concern. GATT’s mission was
adopted by the World Trade Organization (WTO) which replaced GATT in 1995.

The Role of the General Agreement on Tariffs and Trade

• The goal of GATT was to promote a free and competitive trading environment
that benefits efficient producers. To that end, GATT sponsored international
negotiations, called “rounds,” to reduce trade barriers (both tariff and nontariff).
GATT successfully oversaw a reduction of tariffs from an average of over 40% in
1948 to approximately 3% today, and promoted a dramatic increase in world trade.
Discuss Table 9.1 and Figure 9.1 here.
• To ensure that international trade is conducted on a nondiscriminatory basis,
GATT follows the most favored nation (MFN) principle which requires one nation
to treat a second nation no worse than it treats any third nation. Any preferential
treatment that is extended to one country must be extended to all countries. Thus,
the principle implies multilateral rather than bilateral trade negotiations.

Discuss Bringing the World into Focus:

Most Nations are Favored
Though not required to do so, WTO member countries often
grant MFN status to countries not belonging to the WTO. In
the U.S. only a few countries (such as Afghanistan, Cuba, Laos, North Korea,
Libya, and Vietnam) are excluded. The Clinton administration changed the term
"Most Favored Nation" (MFN) to "Normal Trade Relations" (NTR).

• There are two exceptions to the MFN clause. First, in an effort to assist poorer
nations with economic development, GATT permits nations to lower tariffs to
developing countries without lowering them for more developed countries. For
example, the U.S. follows the Generalized System of Preferences (GSP) code to
offer developing nations reduced tariffs. Second, regional agreements promoting
economic integration such as the EU or NAFTA are exempt from the MFN clause.
• Nations following GATT principles are still able to protect domestic industries by
finding loopholes in the Treaty. For example, countries may adopt quotas and other
nontariff barriers yet still comply with the GATT.
• The final meeting of GATT took place in Uruguay. The round was ratified in
1994, and took effect in 1995. As in previous rounds, negotiations focused on
reducing tariff barriers. Negotiations also took place to reduce nontariff barriers to
trade. Other key areas that were considered include: agricultural policy, trade in
services, intellectual property rights, and the creation of the World Trade
Organization.

The World Trade Organization

• The World Trade Organization (WTO) was founded in 1995, and is comprised of
131 member countries and 30 observer countries. The WTO has three primary
goals: to promote trade flows by encouraging nations to adopt non-discriminatory
and predictable trade policies, to reduce remaining trade barriers through
 International Cooperation Among Nations > 133

multilateral negotiations, and to establish impartial procedures for resolving trade

disputes among members. Discuss Figure 9.2 here.
• Problem Sectors. One challenge facing the WTO is dealing with sectors of the
economy such as agriculture and textiles that most nations protect. Groups
including the Cairns Group (a group of major agricultural exporters) have
pressured the WTO to ensure the Uruguay Round policies dealing with agricultural
trade are implemented according to schedule. Similarly, developing countries are
monitoring the dismantling of the Multifibre Agreement (MFA), which created a
complex array of quotas and tariffs on trade in textiles and apparel.
• The General Agreement on Trade in Services (GATS). The WTO is also
focusing on reducing barriers to trade in services. One approach currently in use is
the principle of national treatment, in which a country treats foreign firms the same
as it treats domestic firms. The WTO will begin negotiating a new GATS agreement
by 2000.
• Agreement on Trade-Related Aspects of Intellectual Property Rights
(TRIPS). The third challenge for the WTO is intellectual property rights (patents,
copyrights, trademarks, and brand names). Efforts, agreed upon at the Uruguay
round, to improve intellectual property right protection will be phased in over the
space of a decade.

Teaching Note:
Instructors may wish to discuss the Clinton
Administration’s position toward China concerning
intellectual property rights. Topics that could be
discussed include who is being hurt and who is being helped by the lack of patent
protection in China, and the implications of Clinton’s position for U.S. firms, as well
as their Chinese counterparts.

• Trade-Related Investment Measures Agreement (TRIMS). The TRIMS

agreement is a start toward eliminating national regulations on FDI which may
distort or restrict trade. It affects trade balancing rules, foreign exchange access,
and domestic sales requirements.
• Enforcement of WTO Decisions. The WTO, unlike its predecessor GATT, has
more power to punish violators of the WTO rules. Most experts feel that the WTO
has been successful in implementing its policies during its first three years of
existence.

Discuss Bringing the World into Focus:

The WTO Makes Headlines
Newspapers headlines in November 1999 were filled with
stories about thousands of protesters filling the street of
Seattle, Washington protesting the WTO meetings being held there. Union
members, human rights advocates and environmentalists all gathered to protest
against the WTO feeling that it was putting the interest of MNCs ahead of
everything else.
134 > Chapter 9

II. REGIONAL ECONOMIC INTEGRATION

Forms of Economic Integration

Countries are seeking to integrate their economies to open new markets for their
businesses and lower prices for their consumers. There are five types of regional
economic integration between countries.

1. Free Trade Area

• A free trade area eliminates all barriers to trade among member

countries, but allows each country to establish its own external trade barriers.
The North American Free Trade Area (NAFTA) is an imperfect example of a free
trade area.
• A problem with free trade areas is the potential for trade deflection
whereby non-member countries try to avoid trade barriers by initially exporting
their products to a member country with low trade barriers, then re-exporting the
products to a member country with high trade barriers.
• Most free trade agreements specify rules of origin, which detail the
conditions under which a good is classified as a member or non-member good
to try to prevent trade deflection.

2. Customs Union

• A customs union combines the elimination of barriers to internal trade

among member countries with the adoption of common external trade policies
toward non-members. Trade deflection is not an issue in a customs union since
member countries treat non-members in a uniform manner. A current example
of a customs union is the Mercosur Accord, an agreement between Argentina,
Brazil, Paraguay, and Uruguay.

3. Common Market

• A common market combines the elements of a customs union with a

policy that allows for the mobility of factors of production. Productivity is
expected to rise in a common market because factors of production are free to
locate where the returns to them are highest. The European Union is an
example of a common market.

4. Economic Union

• An economic union eliminates trade barriers between member

countries, establishes a common external trade policy, follows a policy of factor
mobility, and coordinates economic policies of member countries. An example
of an economic union is the Belgium-Luxembourg Economic Union. In addition,
the European Union is currently moving toward economic union status.
 International Cooperation Among Nations > 135

5. Political Union

• A political union combines the elements of an economic union with the

added feature of complete political integration. The United States, transformed
from 13 separate colonies into one, is an example of a political union.
• Figure 9.3, which summarizes the five forms of economic integration,
should be discussed here.

The Impact of Economic Integration on Firms

• Regional economic integration has both advantages and disadvantages for

businesses. On the positive side, because the elimination of trade barriers among
member countries opens up new markets, firms can gain scale economies from
longer production runs. The lower costs also provide an advantage when operating
in non-member countries. However, competition in the home market may be
increased as firms in non-member countries increase their investment as they seek
insider status.
• Economic integration may help a country as a whole, but hurt particular sectors
or communities within a country. Therefore, integration is not always fully supported
and agreements frequently include certain exemptions.

Teaching Note:
Most students are aware of some of the controversy
surrounding the North American Free Trade Agreement.
Instructors may wish to create a debate situation in which students are asked to
play the role of an American worker who has lost his job to a Mexican worker.

• Controversy surrounds the growth of regional trading blocs because of their

uncertain impact on the global market. Trading blocs encourage trade creation
because they promote efficiency by reallocating production from high-cost
producers to low-cost producers within the trading bloc. However, efficiency is hurt
by trade diversion, the shifting of production to higher-cost internal producers from
lower-cost external producers, whose products become uncompetitive in the
internal market when faced with high trade barriers. The net effect of trade creation
as compared to trade diversion determines whether the creation of the trading bloc
is beneficial to international trade. The text provides an example of how the
creation of the EU affects international trade in apples.

III. THE EUROPEAN UNION

• The European Union (EU) is the most important trading bloc in the world today.
Fifteen countries currently “belong” to the EU, making it the world’s richest market,
with a total GDP of $8.3 trillion. Discuss Table 9.2 and Map 9.1 here.
• The European Economic Community (EEC) was established at the Treaty of
Rome in 1957 by six nations (Belgium, France, Luxembourg, Germany, Italy, and
the Netherlands). The goal of the EEC was to create a common market. The name
EU was a result of a name change in 1993.
136 > Chapter 9

Governing the European Union

• The EU is governed by four organizations. The Council of the Economic

Union, made up of 12 members, each of whom is responsible to his or her home
government, is the EU’s main decision-making body. Because of its composition,
the Council reflects the desire of member states to retain national sovereignty and
power. The European Commission is composed of 17 individuals whose loyalty is
to the EU rather than their home countries. Its mandate is to be “guardian of the
Treaties.” The European Parliament, made of 567 elected representatives, is the
weakest of the governing bodies. It originally acted in a consultative manner in EU
policy making, but has expanded its role under the Maastrict Treaty. Finally, the
European Court of Justice interprets the meaning of EU law and ensures that EU
regulations and policies are followed by member states.
• The Legislative Process. The legislative process in the EU, which is usually
initiated by the Commission, is a complicated one. In fact, transforming a
Commission proposal into law may take years. Discuss Figure 9.4 here.
• The complex process reflects the desires of member countries to retain their
sovereignty yet create a supranational government.

Discuss Venturing Abroad: Lobbying the European Union

This Venturing Abroad Box discusses how firms can influence
EU decision makers in their legislative actions. EU decision
makers have the difficult job of juggling the diverse interests of
member nations, and consequently may not take into consideration the interests of
foreign firms. Lobbying either the Commission or an ally on the Council may
prevent adverse legislative proposals from being passed. This Box fits in well with a
discussion of the EU, with a discussion of trade barriers, and with Discussion
Questions 2, 3, and 5.

The Struggle to Create a Common Market

• As a result of pressures from domestic special interest groups, the process of

transforming the members of the EU into a common market was a slow one. Even
through the 1980s, firms doing business within the area had to comply with 12
different sets of national laws and regulations. The text provides several examples
of the regulations followed by different members of the EU.
• Initially, the EU relied on a process of harmonization (whereby the EC
encouraged members to voluntarily adopt common “harmonized” regulations) to
eliminate conflicting regulations. However, because the process moved so slowly
(see the text for some examples) one of the EC’s governing bodies, the European
Commission, issued the White Paper on Completing the Internal Market. The White
Paper called for accelerated progress on ending all trade barriers and restrictions
on the movement of the factors of production.
• Countries that accepted the White Paper signed the Single European Act and
adopted its goal of completing the transformation to a common market by the end of
1992. The goal is known as EC ‘92. Substantial progress toward meeting the goal
in the areas of physical, technical, and fiscal barriers has been made.
 International Cooperation Among Nations > 137

From Common Market to Economic Union

• Many Europeans have argued for further integration, suggesting that the EU
become an economic union. To that end, the Treaty on European Union (also
known as the Maastricht Treaty) was reached in 1991. The treaty came into force
in 1993.
• The Maastrict Treaty rests on three “pillars” designed to further the economic
and political integration of Europe. First is the agreement to create a common
foreign and defense policy among member states. Second is an agreement to
cooperate on police, judicial, and public safety matters. Third are new provisions to
create an economic and monetary union among member states to augment the
basic European Community agreement.
• The Maastrict Treaty also grants citizens the right to live, work, vote, and run for
election anywhere within the EU, and strengthens the power of the EU’s legislative
body, the European Parliament, in budgetary, trade, cultural, and health matters. In
addition, a cohesion fund was created to funnel economic development aid to
countries with a GDP less than 90% of the EC average. Finally, the name change
mentioned earlier occurred as the EC became the EU.
• The most important and controversial aspect of the Maastrict Treaty is the
creation of economic and monetary union (EMU) among members. The EMU will
created a single currency, called the euro, for the EU, and ultimately a single EU
central bank. Denmark, Sweden and the UK chose not to become charter
members of the single currency bloc. The euro came into being on January 1, 1999
when the 11 charter participants irrevocably fixed the value of their national
currencies to the euro.
• During a three year transition period the euro exists only as a bookkeeping
currency. Actual euro coins and currency will be put into circulation at the
beginning of 2002.
• The ultimate goal of the EU, the creation of a single EU currency, implies that
countries lose their ability to control their own domestic monetary supplies and
economic destinies, and thus the goal will not be reached without controversy.
• In order to participate in the EMU, member countries must meet certain
convergence criteria relating to inflation rates, interest rates, currency values,
government budget deficits, and government debt.
• The EU’s most recent step toward integration is the Treaty for Europe (also
known as the Treaty of Amsterdam) which was signed in 1997. The agreement
allowed for a strong commitment to attack the EU’s high levels of unemployment, a
strengthening of the role of the EU’s Parliament, and the establishment of a two-
track system.
• Future EU Challenges. Other conflicts continue to be waged within the EU.
For example, state aid to industry has been of particular concern to members.
While the EU prohibits national governments from making subsidies that result in a
distortion of competition, many governments still assist domestic companies that
are in danger of bankruptcy.
• Another controversy surrounds the question of whether and when the EU
should expand its membership. At the heart of the controversy is the “wider vs.
deeper” question. Supporters of the wider side suggest that the EU should rapidly
expand its membership, even if it makes integration more difficult, while proponents
of the deeper side argue that slow expansion is more appropriate.
138 > Chapter 9

IV. OTHER REGIONAL TRADING BLOCS

The success of the EU in enriching its members has spawned the development of new
trading blocs. Today, nearly every continent has at least one regional trading group.
Europe contains not only the EU, but also the European Free Trade Area (EFTA).
Members of EFTA include Iceland, Liechtenstein, Norway, and Switzerland.

The North American Free Trade Agreement

• The North American Free Trade Agreement (NAFTA) was implemented in

1994 to reduce barriers to trade and investment among Canada, Mexico, and the
United States. The agreement was built upon a trade agreement that had been
signed between the U.S. and Canada six years earlier and upon the extensive
amount of trade that already existed between the three countries. The agreement
will be phased in over a 15 year period.
• Trade negotiators also made an effort to prevent the establishment of
screwdriver plants (factories in which very little transformation of the product is
undertaken) in Mexico as a means of evading U.S. and Canadian tariffs by
developing detailed rules of origin defining whether a good should qualify for
preferential tariff treatment or not. The text provides an example of how such a
situation might occur in the auto industry.
• The agreement provides certain industries with special treatment, a concession
that was made in order to ensure that the agreement would be accepted by the
three countries. Expansion of the agreement has been endorsed by all three
countries; however, the U.S. has been unable to proceed because of the lack of
presidential fast-track authority, which would give the president the authority to
negotiate trade treaties with other countries.

Other Free Trade Agreements in the Americas

• Other free trade agreements are currently being negotiated. Mexico in particular
has been active in that respect, negotiating an agreement with Chile, an agreement
with Venezuela and Columbia, and an agreement with five of its Central American
neighbors.

• The Caribbean Basin Initiative (CBI) to facilitate the economic development of

the nations of Central America and the Caribbean Sea was initiated by the U.S. in
1983. By offering duty free access to the U.S. for a wide range of products, the
U.S. is hoping to stimulate investment by U.S. and other foreign firms in industries
that do not have much of a presence in the Caribbean Basin countries. The CBI
overlaps two regional free trade areas, the Central American Common Market
(CACM) and the Caribbean Community and Common Market (CARICOM). Discuss
Table 9.3 and Map 9.2 here.
• The Mercosur Accord is an agreement between Argentina, Brazil, Paraguay,
and Uruguay to cut internal tariffs and establish common external tariffs. The
agreement is expected to revitalize the stagnating economies of Brazil and
Argentina by stimulating new flows of FDI.
• Response to Mercosur by businesses has been mixed. Some have quickly
taken positions that allow them to capitalize on the opportunities created by the
accord while others fear an influx of cheaply made products will make it more
difficult to compete.
 International Cooperation Among Nations > 139

• The Andean Pact was established in 1969 to promote free trade among Bolivia,
Chile, Columbia, Ecuador, and Peru. The objective of the agreement was to make
these small nations competitive with the continent’s larger countries. Membership
has changed over the years (Venezuela joined in 1973 and Chile dropped out in
1976), and at least for the first twenty years, the agreement was not successful.
• The initial lack of success of the Andean Pact has primarily been blamed on the
protectionist, import-substitution policies adopted by most members, and to a lesser
extent on geography problems. In 1992, following a decision to reinvigorate the
agreement, the Andean nations established a customs union for most goods. Thus
far, internal trade is increasing, but progress toward establishing common external
tariffs has been slow.

Trade Agreements in the Asia-Pacific Region

• The Australia-New Zealand Agreement. The Australia-New Zealand Closer

Economic Relations Trade Agreement (known as CER), took effect in 1983. Its
goal is to expand trade and straighten links in a diverse set of areas including
investment, marketing, tourism, and transport. Most analysts agree that it has been
highly successful.
• The ASEAN Free Trade Area (AFTA) began in 1993 through a resolution of the
Association of South East Asian Nations (ASEAN) was founded in 1967 by
Brunei, Indonesia, Malaysia, the Philippines, Singapore, and Thailand to promote
regional political and economic cooperation. The ASEAN Free Trade Area was
established to promote intra-ASEAN trade. Discuss Map 9.3 here.
• The ASEAN trading bloc was established for two reasons. First, a decrease in
government control of national economies has stimulated local entrepreneurs and
attracted FDI. Second, it is a defensive response to the growth of other regional
trading blocs. The creation of the Asian Free Trade Area (AFTA) has quickly
attracted the attention of firms.
• AFTA has three principle objectives: to liberalize trade in ASEAN, to attract
foreign investors, and to adapt ASEAN to changing economic conditions. The
Common Effective Preferential Tariff (CEPT) is the mechanism under which free
trade will be achieved.
• The Asia-Pacific Economic Cooperation (APEC), started in 1989, is the
primary regional vehicle for promoting open trade and practical economic
cooperation. APEC currently has 21 members from around the region. The most
recent meeting of the group resulted in measures to reduce both tariff and nontarriff
barriers for manufactured and service trade. Show Map 9.4 here.

African Initiatives

• Ten African nations created the South African Development Coordination

Conference (SADCC) in 1980 to promote the development of their regional economy.
It also has plans to develop a regional common market.
• The Economic Community of West African States was formed by sixteen
African nations in 1975 to cooperate on regional economic development programs.
The Economic Community of Central African States was established in 1983 for
similar reasons. Neither initiative has shown much success, in part because of
transportation problems between nations, and in part because of a lack of an economic
and political system to encourage intra-bloc trade. Discuss Map 9.5 here.
140 > Chapter 9

CA

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CL
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Will Whirlpool Clean Up in Europe?

The closing case details the moves that Whirlpool is making in Europe to capitalize on
the benefits of the common market.

Key Points

• White goods makers (producers of appliances such as refrigerators,

dishwashers and ovens) are looking forward to the creation of common market in
Europe with anticipation because they hope that it will end, or at least minimize, the
differences between the various country markets for their goods.

• Producers believe that the EU’s harmonization of product standards will allow it
to standardize its output, and minimize the current situation in which products must
be customized for each market.

• Whirlpool, the largest white goods manufacturer in the world, is particularly

interested in capitalizing on the changes that are occurring within the EU. The
company believes that it can turn the cost savings that result from producing and
marketing a more standardized product into added value for its European
customers, and in doing so, create a competitive advantage for itself.

• Whirlpool’s purchase of Netherlands-based Philips Industries’ white goods

operations was its initial step in conquering the European market. In addition, the
company has developed a strategy whereby it targets various segments of the
market with different brands. Its market is segmented according to income level.

• Whirlpool has also consolidated its national sales offices into five regional
operations. It anticipates this will help it cut costs and enhance productivity and
allow for pan-European promotional campaigns. The centralization of Whirlpool’s
European operations has facilitated technology transfer between its North American
and European operations.

• Logistics, information technology, and consumer services operations have also

been centralized to capitalize on the advantages of the EU. Manufacturing has
been reorganized so that production of different appliances is concentrated in
certain areas.

• Although these strategy changes appear to be working, they are working slowly,
and the company has seen its European revenues increase by only 13% since
1990. Other companies, including Sweden’s Electrolux, have already followed
Whirlpool’s lead, and are making similar strategic changes.

Case Questions
 International Cooperation Among Nations > 141

1. What are the advantages of consolidating production of product lines at single

factories in the EU? What are the disadvantages?

The elimination of national borders within the EU allows a company to achieve

significant economies of scale by consolidating production of product lines at single
factories. Companies producing at single locations can reduce the overhead
associated with multiple production sites in terms of machinery, inventory, raw
materials, and labor. In addition, single location production may better promote the
use of cross-functional teams at the design stage than would a multiple production
location system. Some disadvantages of single location production include
problems associated with strikes or other factory slowdowns that could significantly
affect the output of the company in question. Companies with multiple production
locations facing similar slowdowns may have the option of shifting production to an
alternate location. In addition, companies employing a single production location
system may tend to emphasize standardization where it is not appropriate.

2. Should Whirlpool continue to produce and market its three product lines
(Bauknecht, Whirlpool Philips, and Ignis) which will span the entire white goods
market, or should it focus on one market niche?

Most students will probably argue that Whirlpool should continue with its strategy of
producing and marketing its three product lines because the strategy acts as a
hedge against economic cycles. It should also be pointed out that this strategy
does not prevent Whirlpool from standardizing various internal components among
the three lines and in doing so, capturing significant economies of scale. However,
some students may argue that by producing products that span the entire white
goods market, Whirlpool is taking the chance that its premium line will not be
perceived to be as upscale as that of a firm that is only known for its premium line.
Whirlpool’s current use of three brand names may prevent this misperception from
taking place, but if it continues to move toward using the Whirlpool name on all of its
products, it may run into difficulties. Some students may also argue that Whirlpool
may actually cannibalize its own sales if consumers believe that one Whirlpool
product is as good as the next (and thus, do not purchase the Bauknecht line).

3. What benefits will Whirlpool gain by broadening the Whirlpool brand name from a
North American brand to a global brand?

Whirlpool can expect to gain numerous benefits by broadening its Whirlpool brand
name from a North American brand name to a global brand name. Certainly
promotional campaigns will be facilitated by the use of a single brand name, as will
the manufacturing process. In addition, Whirlpool may be able to create global
brand recognition similar to that of Coca-Cola or McDonald’s that would facilitate
further global expansion. However, it is important to note that a disadvantage of
creating a brand name is that a problem (for example, poor quality) will be carried to
other countries that share the brand name.
Teaching Note:
Instructors may want to explore the case of Nissan with
regard to brand name. Nissan initially entered the U.S.
market using the brand name Datsun. Later, Nissan
began the process of extending the Nissan name to the U.S. market by labeling its
142 > Chapter 9

cars and advertisements with both the Datsun name and the Nissan name. Today,
Nissan markets all of its cars with the Nissan name.

4. In light of the aggressive responses of Electrolux and Bosh-Siemens, should

Whirlpool revise or abandon its European Strategy?

Whirlpool's strategy is basically sound. The consolidation of the European market

does allow for the economies of scale Whirlpool is seeking. However, consumer
tastes still vary across Europe. Some adjustments to Whirlpool's strategy may be
necessary -- perhaps focusing more directly on the low cost segment. However,
given the size of the EU market, Whirlpool must remain a player.

5. Do you think it is possible to design and sell the same basic appliances around the
world?

Most students will probably agree that it is not possible to sell the same basic
appliances around the world, if for no other reason than the fact that voltage
requirements differ around the world. Beyond this basic difference however, are the
cultural dissimilarities that would make it difficult to successfully sell the same
appliance around the world. The case provides some examples of how certain
countries prefer certain features in washing machines. A company that tried to
meet all of the different preferences with one product would probably end up
producing an “average” product that pleased no one. There is, however, room for
some standardization. Whirlpool, for example, produces many of its products with
the same internal components, but customizes the outward features to meet local
preferences. 1

Additional Case Application

Case question five presents an opportunity for an interesting debate. Instructors
can assign students to argue for one side (standardization) or the other
(localization), and ask students to prepare for the debate by finding examples of
firms that follow either a strategy of standardization or localization. Since students
will probably focus on products in their debate, instructors may wish to introduce the
idea of services, and raise the question of whether services offer greater or fewer
possibilities for standardization.
W

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P
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1. What does most favored nation (MFN) mean?

MFN is a trading status that grants the recipient the same tariff rates as the importing
country gives its preferred trading partners. All members of the WTO are expected to grant
MFN status to other WTO member countries.
2. Under what conditions can WTO members not use MFN when dealing with one another?

The WTO permits members to give below MFN rates in order to assist poorer countries in
their development efforts. Also, lower than MFN rates are permitted within regional trading
blocs such as the EU and NAFTA.
 International Cooperation Among Nations > 143

3. How does the WTO differ from GATT?

The World Trade Organization has been charged with the implementation of the Uruguay
Round. While GATT focused primarily on trade in goods, the WTO’s scope is much
broader; it will act as the world’s advocate and monitor of more open and free trade in
goods, services, and technology. Moreover, unlike its predecessor, the WTO has the
power to enforce its policies.

4. How do the various forms of economic integration differ?

There are five forms of regional economic integration. A free trade area eliminates all
barriers to trade among member countries, but allows each member to establish its own
trade policies against non-members. A customs union involves free trade among member
countries, and follows a common external trade policy toward non-members. A common
market eliminates tariffs among member countries, follows a common external trade policy,
and eliminates barriers that inhibit the movement of factors of production. In an economic
union, barriers to trade among member countries are eliminated, a common external trade
policy is established, factors of production move freely between countries, and economic
policies are coordinated. Finally, a political union further integrates nations by
encompassing complete political integration.

5. Why do free trade areas develop rules of origin?

Rules of origin specify the conditions under which a good is classified as a member or a
non-member good. Free trade areas develop rules of origin to prevent trade deflection
from destroying their tariff policies toward non-members.

6. What was the goal of the Treaty of Rome?

The Treaty of Rome was signed in 1957 by Belgium, France, Luxembourg, Germany, Italy,
and the Netherlands. Under the Treaty, the countries agreed to create a common market
by eliminating internal barriers to trade, developing common external trade policies, and
improving factor mobility.

7. Describe the four major organizations governing the EU.

The Council of the European Union, made up of representatives of each member country,
is the EU’s main decision-making body, and because of its composition, reflects the desires
of member countries to maintain sovereignty. The Commission of the EU is comprised of
17 elected representatives who focus on the interests of the EU itself, rather than the
interests of individual member countries. The representatives of the European Parliament
initially played a consultative role in EU policy making, but have expanded their capacity
under the Maastrict Treaty. Finally, the Court of Justice interprets the meaning of EU law
and ensures that EU regulations and policies are followed.
8. What are NAFTA's major provisions?

Under NAFTA, tariffs will be reduced over a 15 year period, investments restrictions will be
eliminated in most sectors, some white collar movement will be allowed, other countries
may enter the Area, member countries can leave after giving 6 months notice, trade
144 > Chapter 9

disagreements will be resolved through arbitration, and snap-back tariffs will be allowed if a
surge of imports hurts a domestic industry

9. What is the Caribbean Basin Initiative? What is its goal?

The Caribbean Basin Initiative facilitates the development of Central American and
Caribbean Sea nations. It was initiated by the U.S. to stimulate investment by domestic,
U.S., and other foreign firms in industries that lack a presence in the Caribbean Basin
nations.

10. What efforts have South American countries made to regionally integrate their economies?

Latin American nations have made various efforts to regionally integrate their economies.
Mexico and Chile signed a free trade agreement in 1971. Mexico also worked with
Venezuela and Columbia in 1971 to reduce trade barriers against each other’s goods.
Mexico is additionally seeking free trade agreements with its five Central American
neighbors. The Mercosur Accord created a customs union between Argentina, Brazil,
Paraguay, and Uruguay in 1991. Finally, the Andean Pact, established in 1969, promotes
free trade between Bolivia, Chile, Columbia, Ecuador, and Peru. The agreement was
expanded to custom’s union status in 1992.

Questions for Discussion

1. Consider the opening case. How has Mexico's success affected the Canadian and U.S.
economies?

Mexico's prosperity has benefited the U.S. and Canada. Mexico's improved economy
strengthens demand for foreign goods (i.e., goods from the U.S. and Canada).
Privatization has provided greater opportunities for U.S. and Canadian firm's to expand into
Mexico.

2. How does the WTO affect operations of large MNCs? Did MNCs benefit from the
successful completion of the Uruguay Round?

The purpose of the WTO is to eliminate, or at least minimize, barriers to trade between
countries. For large multinational companies, this effort can be both advantageous and
disadvantageous. Because trade barriers limit an MNC’s ability to export to some markets,
the elimination of trade impediments would generally be seen as advantageous. However,
in some situations MNCs are protected from foreign competition by trade barriers. If the
trade barriers are eliminated, this protection would be lost, and thus, the efforts of the WTO
would negatively affect a company’s operations. The Uruguay round of negotiations
focused on intellectual property rights (among other areas), and implemented a protection
policy that will be phased in over a period of ten years. MNCs with proprietary property will
clearly benefit from this policy. In addition, some MNCs will benefit from the continued
effort to reduce trade barriers.

3. Should international businesses promote or fight the creation of regional trading blocs?

The answer to this question depends on whether a firm is on the inside looking out, or on
the outside looking in. For companies that operate in a member country, regional trading
blocs offer significant opportunities associated with larger markets. However, the
 International Cooperation Among Nations > 145

marketplace will probably become more competitive. Regional trading blocs are usually
regarded negatively by non-member firms because they may find themselves completely
shut out of a particular market. In fact, the threat of a “Fortress Europe” prompted many
outside firms to establish operations within the EU in the late 1980s.

4. What strategies can North American and Asian firms adopt to ensure access to the
enormous EU market?

North American and Asian firms are in the unfortunate position of being on the outside
looking in when it comes to the EU (see Discussion Question 2). To ensure access to the
enormous EU market, North American and Asian firms should attempt to establish
operations within the EU. The goal of this strategy is to appear to be an insider, and can
therefore be accomplished either by establishing a wholly owned subsidiary, acquisition, or
forming an equity-based strategic alliance. Firms that adopt a strategy of investment will
avoid the risk that is associated with an export strategy of being shut out of the market.

5. Is the abandonment of import substitution policies by South American governments a

necessary condition for the success of the Andean Pact and the Mercosur agreement?

The Andean Pact and the Mercosur agreement are both examples of customs unions. A
customs union involves the elimination of trade barriers between members and the
establishment of a common external trade policy. A policy of import substitution implies
that governments will erect trade barriers to protect certain domestic industries that without
the protection would not be successful. Thus, one could argue that a country cannot
successfully follow a policy of import substitution and be a member of a customs union
simultaneously.

6. Of what importance are rules of origin to international businesses?

Rules of origin detail the conditions under which a good is classified as a member or a non-
member good. They are important to international businesses because they determine
whether a product qualifies for preferential treatment. International businesses are
affected by rules of origin in at least two ways. First, they affect the cost (and strategy) of a
company’s products, and second, they affect the price (and strategy) of rivals’ products.

7. Why does the MFN principle promote multilateral, rather than bilateral, negotiations among
WTO members?

The MFN principle requires one nation to treat a second nation no worse than it treats any
third nation. The purpose of the principle is to promote international trade and help
international businesses compete in world markets by ensuring that trade is conducted in a
nondiscriminatory manner. If the policy permitted bilateral trade negotiations, it would
breach the basic principles behind GATT of reducing trade barriers and increasing world
trade.
146 > Chapter 9

Entr

THE

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EU

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Essence of the exercise
This exercise requires students to consider the impact of adding one of the countries that has
applied for membership in the EU to the economic union. The exercise suggests examining
the EU’s website as a starting point for the analysis.

AL

LD
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IN

UI
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G
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B

B
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L
Essence of the exercise
This exercise is designed to further the student’s understanding of the implications of NAFTA.
The exercise requires students to identify products that have benefited from the agreement
and products that face threats as a result of NAFTA. Instructors should be aware that this
exercise requires a fair amount of preparation by the student.

Answers to the follow-up questions.

1. Has NAFTA provided new market opportunities for some of the products you discussed?
Why or why not?

The exercise asks students to identify twelve different products (two products from each
country that have been helped and two products from each country that have been hurt by
NAFTA). Students will probably choose a wide range of products, and therefore responses
will differ. Students will probably come to the conclusion that the production of products will
move to the most efficient location and help or hurt a country’s production of that product
accordingly.

2. Has it increased competition by other producers?

Depending on the products chosen, students may respond affirmatively or negatively. One
would expect that competition will have increased for producers whose products had been
produced in all three member countries, but not for producers who had been the sole
manufacturer in the bloc.

3. Have the effects of NAFTA on each product been consistent with what either advocates or
critics of NAFTA might have predicted?

Again, the responses to this question will depend on the products chosen by the students.
Students will probably identify with labor’s concerns about NAFTA and will argue that
situations in which layoffs have occurred as a result of NAFTA are consistent with the
critics of the agreement. Similarly, students will probably side with NAFTA supporters with
regard to the larger market opportunities available as a result of the agreement.
 International Cooperation Among Nations > 147

Other Applications
After completing this exercise, students will be fairly familiar with the perspectives of both
NAFTA critics and NAFTA supporters. This familiarity should provide the basis for a lively
debate on the agreement. Students can be asked to volunteer to play the role of an
interested party (for example, a CEO in a labor intensive firm, a CEO in a capital intensive
firm, a blue collar worker, a white collar worker, a local supplier, a local bank, and so forth)
in a debate on the agreement.
1
“Call it Worldpool,” Business Week, November 28, 1994.