Australia New Zealand Closer Economic Relations Trade Agreement (ANZCERTA) and Regional Integration

9. The Economic Effects of ANZCERTA

70 ANZCERTA and Regional Integration Grimes et al. (2000) report the results of a survey of 400 New Zealand firms, showing a majority in favour of an irrevocable link to the Australian dollar. Hunt (2005) reports a nationwide poll showing 45 per cent in favour of an “Anzac dollar” (although there was less support for the adoption of the Australian dollar). Lloyd and Song (2006) note that there has been no discussion to date on the possible constitution of a common central bank in the event of a monetary union, and no discussion of measures to promote convergence of the two macroeconomies, the implication being that monetary union is not yet being considered as a serious possibility. They conclude that a case for monetary union has not yet been established. 9. The Economic Effects of ANZCERTA This penultimate section of the report surveys the evidence from studies of the economic effects of ANZCERTA. Approaches to Assessing FTA Effects Most studies of the economic effects of ANZCERTA have focused on its impact on trade, typically the impact on merchandise trade, usually with a view to deriving estimates, or more commonly inferences, as to its impact on the overall economic welfare of the partners. As with all analyses of FTAs and other forms of preferential trade agreement, the analysis of the economic effects of ANZCERTA has typically focused on the relative strength of trade creation and trade diversion effects, as the first step towards reaching conclusions regarding overall welfare effects. The removal of tariffs (and other trade barriers) on trade between the FTA members allows each member’s goods to be sold in its partner’s market at a lower price than previously. Some products that were uncompetitive in the partner market when 01 ANZCERTA 11/22/10, 9:52 AM 70 ANZCERTA and Regional Integration 71 they were subject to the partner country’s tariff45 will become competitive when that tariff is removed under the FTA, giving rise to increased intra-FTA trade in the form of imports by the partner country of these products that are newly competitive in its market. The increased intra-FTA trade can be divided into three parts. One part simply involves the replacement of imports from previous foreign suppliers (who would remain the most competitive suppliers of imports if the tariff continued to be applied to products from all sources). This is trade diversion. A second part involves the replacement of less efficient domestic production in the partner by the more competitive imports from the other FTA member, while the third part reflects the increased overall purchasing by consumers in response to the lower prices. Trade creation is the combination of these latter two parts: it is the amount of increased intra-FTA trade that does not simply consist of trade diversion. Trade creation (sometimes described, more precisely, as net trade creation46 ) yields a welfare gain to the importing member, the size of which depends both on the amount of trade created, and on the extent of the price fall in the domestic market of the importing member, brought about by the entry of duty-free imports from the partner. Trade diversion imposes a welfare loss, the size of which depends on both the amount of trade diverted and the difference between the duty-free prices of imports from inside and outside the FTA. In the simplest formulation, FTAs are considered to be welfare increasing if the welfare gains from trade creation exceed the welfare losses from trade diversion, and welfare reducing if the welfare losses from trade diversion exceed the welfare gains from trade creation. The fact that welfare effects depend on price differences as well as changes in trade means that overall welfare effects cannot always be reliably estimated by simply comparing the amounts of 01 ANZCERTA 11/22/10, 9:52 AM 71 72 ANZCERTA and Regional Integration trade created and diverted.47 It is entirely possible for welfare to fall in an FTA where more trade is created (in the net sense) than diverted; this could occur if the extent of the price fall in the domestic market is small relative to the difference between the duty-free prices of imports from inside and outside the FTA. On the other hand it is true that an FTA cannot be welfare increasing if more trade is diverted than created. There are other potential sources of gain or welfare loss that...