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Theorie und Politik der Europäischen Integration . Theory and Politics of European Integration . Lecture 4 Market Size and Scale Effects Trade and Competition Policies. Prof. Dr. Herbert Brücker. Last Lecture. Preferential Trade Liberalisation The PTA Diagram Free Trade Equilibrium

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Theorie und politik der europ ischen integration

Theorie und Politik der Europäischen Integration

  • Theory and Politics of European Integration

Lecture 4

Market Size and Scale Effects

Trade and Competition Policies

  • Prof. Dr. Herbert Brücker


Last lecture
Last Lecture

Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

  • Preferential Trade Liberalisation

    • The PTA Diagram

      • Free Trade Equilibrium

      • MFN Tariff Equilbrium

      • Unilateral Trade Discrimination

      • Supply Switches

      • Welfare Effects

    • Empiry: Is Trade Diversion an Issue?

    • Welfare Effects of a Customs Union

    • Customs Union vs. Free Trade Area

    • WTO Rules and Customs Union/Free Trade Areas

      • Art. 24 WTO


Uniform mfn tariff
Uniform MFN Tariff

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation

  • MSMFN

  • Domestic price

  • Home

  • Border

  • price

  • Border

  • price

  • RoW

  • Partner

  • XSP

  • MS

  • XSR

  • P’

  • T

  • P

  • P’-T

  • Pa

  • T

  • MD

  • p*

  • XR’

  • XR

  • Partner

  • Exports

  • RoW

  • Exports

  • Home

  • imports

  • M’

  • XP’

  • XP

  • MFREE


Discriminatory unilateral liberalization
Discriminatory, Unilateral Liberalization

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation

  • MSMFN

  • Domestic price

  • Home

  • Border

  • price

  • Border

  • price

  • RoW

  • Partner

  • MSPTA

  • XSP

  • MS

  • XSR

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P”-T

  • Pa

  • 1

  • T

  • MD

  • p*

  • Partner

  • Exports

  • RoW

  • Exports

  • Home

  • imports

  • M’

  • XP’

  • XP”

  • M”

  • XR”

  • XR’


Domestic price and border price changes
Domestic Price and Border Price Changes

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation

  • Border price

  • Border price

  • Domestic price

  • MSMFN

  • XSP

  • XSR

  • MSPTA

  • MS

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P’-T

  • P”-T

  • MD

  • XR”

  • XR’

  • XP’

  • XP”

  • M’

  • M”

  • Home

  • imports

  • Partner

  • Exports

  • RoW

  • Exports


Domestic price and border price changes1
Domestic Price and Border Price Changes

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation

  • Border price

  • Border price

  • Domestic price

  • MSMFN

  • XSP

  • XSR

  • MSPTA

  • MS

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P’-T

  • P”-T

  • domestic price falls to P’’ from P’

  • MD

  • XR”

  • XR’

  • XP’

  • XP”

  • M’

  • M”

  • Home

  • imports

  • Partner

  • Exports

  • RoW

  • Exports


Domestic price and border price changes2
Domestic Price and Border Price Changes

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation

  • Border price

  • Border price

  • Domestic price

  • MSMFN

  • XSP

  • XSR

  • MSPTA

  • MS

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P’-T

  • P”-T

  • domestic price falls to P’ from P”

  • Partner-based firms

  • see border price rise,

  • from P’-T to P”

  • MD

  • XR”

  • XR’

  • XP’

  • XP”

  • M’

  • M”

  • Home

  • imports

  • Partner

  • Exports

  • RoW

  • Exports


Domestic price and border price changes3
Domestic Price and Border Price Changes

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation

  • Border price

  • RoW firms see

  • border price

  • fall from

  • P’-T to P”-T.

  • Border price

  • Domestic price

  • MSMFN

  • XSP

  • XSR

  • MSPTA

  • MS

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P’-T

  • P”-T

  • domestic price falls to P’ from P”

  • Partner-based firms

  • see border price rise,

  • P’-T to P”

  • MD

  • XR”

  • XR’

  • XP’

  • XP”

  • M’

  • M”

  • Home

  • imports

  • Partner

  • Exports

  • RoW

  • Exports


Quantity changes supply switching

  • Border price

  • Domestic price

  • MSMFN

  • XSP

  • XSR

  • MSPTA

  • MS

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P’-T

  • P”-T

  • MD

  • XR”

  • XR’

  • XP’

  • XP”

  • M’

  • M”

  • Home

  • imports

  • Partner

  • Exports

  • RoW

  • Exports

Quantity Changes: Supply Switching

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisation


Quantity changes supply switching1

  • Border price

  • Domestic price

  • MSMFN

  • XSP

  • XSR

  • MSPTA

  • MS

  • P’

  • P”

  • P”

  • T

  • P’-T

  • P’-T

  • P”-T

  • MD

  • XR”

  • XR’

  • XP’

  • XP”

  • M’

  • M”

  • Home

  • imports

  • Partner

  • Exports

  • RoW

  • Exports

Quantity Changes: Supply Switching

Theory and Politics of European Integration Lecture 3 Preferential Trade Liberalisatio

  • RoW exports fall


Today s lecture overview
Today's Lecture - Overview

Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

  • Market Size and Scale Effects

  • EU Competition Policies

  • EU Trade Policies


Today s reading
Today's Reading

Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

  • Market Size and Scale Effects

    • Baldwin & Wyplosz (2009) “The Economics of European Integration”, McGraw-Hill, Ch 6.

  • Competitionand State AidPolicies

    • Baldwin & Wyplosz (2009) “The Economics of European Integration”, McGraw-Hill, Ch 14.

  • Trade Policies

    • Baldwin & Wyplosz (2009) “The Economics of European Integration”, McGraw-Hill, Ch 15.


  • Market size matters
    Market Size Matters

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • European leaders always viewed integration as compensating small size of European nations.

      • Implicit assumption: market size good for economic performance.

    • Facts: integration associated with mergers, acquisitions, etc.

      • In Europe and more generally, ‘globalisation.’


    Sketch of economic logic
    Sketch of economic logic

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • liberalisation 

    • de-fragmentation 

    • pro-competitive effect 

    • industrial restructuring (M&A, etc.)

    • RESULT: fewer, bigger, more efficient firms facing more effective competition from each other.


    Sketch of economic logic1
    Sketch of economic logic

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • liberalisation 

    • de-fragmentation 

    • pro-competitive effect 

    • industrial restructuring (M&A, etc.)

    • RESULT: fewer, bigger, more efficient firms facing more effective competition from each other.


    Monopolies and duopolies
    Monopolies and duopolies

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Firms are not price takes

    • Elasticity of demand curve constrains price levels

    • Profit maximum is achieved if prices are chosen in a way that marginal revenues equal marginal costs

    • Duopoly: Price and production depends on expectations on behaviour of competitors

    • Cournot-Nash equilibrium: Optimum is achieved when symmetric firms produce same level of output


    Economic logic background monopoly case
    Economic logic (background): Monopoly case

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Demand

    • Curve

    • Price

    • Price

    • Marginal Revenue

    • Curve

    • Marginal

    • Cost Curve

    • Demand

    • Curve

    • P*

    • P’

    • A

    • P”

    • B

    • D

    • Marginal

    • Cost

    • C

    • E

    • Q’

    • Q’+1

    • Q*

    • Sales

    • Sales


    Economic logic background monopoly case1
    Economic logic (background): Monopoly case

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Demand

    • Curve

    • Price

    • Price

    • Marginal Revenue

    • Curve

    • Demand

    • Curve

    • P*

    • Marginal

    • Cost Curve

    • P’

    • A

    • P”

    Extra revenuesofoneunit: D + E – A.

    „marginal revenue“

    • B

    • D

    • Marginal

    • Cost

    • C

    • E

    • Q’

    • Q’+1

    • Q*

    • Sales

    • Sales


    Economic logic background monopoly case2
    Economic logic (background): Monopoly case

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Demand

    • Curve

    • Price

    • Price

    • Marginal Revenue

    • Curve

    • Demand

    • Curve

    • P*

    • Marginal

    • Cost Curve

    • P’

    • A

    Profitmaximum: marginal revenueequals marginal costs.

    • P”

    • B

    • D

    • Marginal

    • Cost

    • C

    • E

    • Q’

    • Q’+1

    • Q*

    • Sales

    • Sales


    Duopoly case example of non equilbrium
    Duopoly case, example of non-equilbrium

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • price

    • price

    • Firm 1’s expectation of sales by firm 2, Q2

    • Firm 2’s expectation of sales by firm 1, Q1

    • Demand

    • Curve (D)

    • Demand

    • Curve (D)

    • p1’

    • p2’

    • Residual Demand

    • Curve firm 1 (RD1)

    • Residual Demand

    • Curve firm 2 (RD2)

    • MC

    • MC

    • A1

    • A2

    • x1’

    • x2’

    • Firm 1 sales

    • Firm 2 sales

    Residual Marginal Revenue

    Curve firm 1 (RMR1)

    Residual Marginal Revenue

    Curve firm 2 (RMR2)


    Duopoly and oligopoly case equilbrium outcome
    Duopoly and oligopoly case, equilbrium outcome

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • price

    • price

    • Typical firm’s expectation of the other firm’s sales

    • Typical firm’s expectation of other the other firms’ sales

    • p*

    • D

    • D

    • p**

    • RD

    • RD’

    • A

    • A

    • MC

    • MC

    • RMR

    • RMR’

    • sales

    • sales

    • x*

    • 2x*

    • x**

    • 3x**

    • Duopoly

    • Oligopoly


    Bringing this to trade
    Bringing this to trade

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Brander and Krugman (1983)

    • Building on Nash they combine increasing returns to scale, imperfect competition and trade

    • Presentation of theory here in Breakeven-Competition (BE-COMP)-Diagram


    Breakeven competion be comp diagram

    • mmono

    • mduo

    • BE (break-even) curve

    • m’

    • COMP

    • curve

    • n’

    • n=2

    • n=1

    • Number of firms

    Breakeven-Competion (BE-COMP) Diagram

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation


    Breakeven competion be comp diagram1

    • mmono

    • mduo

    • BE (break-even) curve

    • m’

    • COMP

    • curve

    • n’

    • n=2

    • n=1

    • Number of firms

    Breakeven-Competion (BE-COMP) Diagram

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    Markup (µ): Price markupovercosts,

    depends on competition


    Breakeven competion be comp diagram2

    • mmono

    • mduo

    • BE (break-even) curve

    • m’

    • COMP

    • curve

    • n’

    • n=2

    • n=1

    • Number of firms

    Breakeven-Competion (BE-COMP) Diagram

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    Breakeven (BE) curve: Withincreasingreturnstoscaleonly a limited numberoffirmscansurvive. Survivaldepends on markup µ.


    Details of comp curve
    Details of COMP curve

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • price

    • mmono

    • p'

    • A’

    • p"

    • mduo

    • B’

    • D

    • Monopoly

    • mark-up

    • Duopoly

    • mark-up

    • COMP

    • curve

    • R-D (duopoly)

    • Marginal cost

    • curve

    • MC

    • B

    • A

    • n=1

    • n=2

    • R-MR

    • MR (monopoly)

    • Typical firm’s sales

    • xduo

    • xmono


    Details of be curve closed economy
    Details of BE curve: closed economy

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Mark-up

    • (i.e., p-MC)

    • euros

    • price

    • Home market

    • po=mo+MC

    • BE

    • Demand curve

    • A

    • ACo=po

    • B

    • A

    • po

    • mo

    • B

    • COMP

    • AC

    • MC

    • n”

    • no

    • n’

    • Sales

    • per firm

    • Total

    • sales

    • Co

    • x”=Co/n”

    • x’=Co/n’

    • xo=Co/no


    Outline of be comp diagram
    Outline of BE-COMP Diagram

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • COMP curve

    • Average cost curve

    • Demand curve

    • Demand curve

    • BE

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    Outline of be comp diagram1
    Outline of BE-COMP Diagram

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • COMP curve

    • Average cost curve

    • Demand curve

    • Demand curve

    • BE

    • Average cost of representative firm equals price after adjustment of firm number

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    Outline of be comp diagram2
    Outline of BE-COMP Diagram

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • COMP curve

    • Average cost curve

    • Demand curve

    • Demand curve

    • BE

    • Competition curve shows combination of mark-up and equilibrium firm number

    • Average cost of representative firm equals price after adjustment of firm number

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    Outline of be comp diagram3
    Outline of BE-COMP Diagram

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • COMP curve

    • Average cost curve

    • Demand curve

    • Demand curve

    • BE

    • Breakeven curve is upward sloping, since sales per firm fall with increasing firm number such that higher mark-up is needed to breakeven

    • Average cost of representative firm equals price after adjustment of firm number

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    Addressing european integration
    Addressing European integration

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Assume that trade-to-non trade liberalization provides (i) each firm with a market of twice its side and (ii) double the number of firms in each market

    • What happens to markup, equilibrium number of firms, average costs, price and demand?


    No trade to free trade integration
    No-trade-to-free-trade integration

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • After integration, each firm has (i) second market of same size and (ii) twice the number of competitors

    • Average cost curve

    • Demand curve

    • BE

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    No trade to free trade integration1
    No-trade-to-free-trade integration

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • Average cost curve

    • Demand curve

    • BE

    • Competition effect: number of firms is 2n’, such that mark-up declines to A at given firm number.

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    No trade to free trade integration2
    No-trade-to-free-trade integration

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • Market size effect: BE curve shifts to outward to the right. At given number of firms (point 1) we have no equilibrium).

    • Average cost curve

    • Demand curve

    • BE

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    No trade to free trade integration3
    No-trade-to-free-trade integration

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • Smaller mark-up and higher competition reduces prices to pA. Below breakeven point for given number of firms. Industrial restructuring results in E’’ equilibrium number of firms.

    • Average cost curve

    • Demand curve

    • BE

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    No trade to free trade integration4
    No-trade-to-free-trade integration

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • Since each firm has a larger market in new equilibrium, average costs decline. Efficiency gain.

    • Average cost curve

    • Demand curve

    • BE

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    No trade to free trade integration5
    No-trade-to-free-trade integration

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • euros

    • price

    • Mark-up

    • Home market

    • Average cost curve

    • Demand curve

    • BE

    • Welfare gain: C. Consumer benefit from (i) lower prices, (ii) higher consumption.

    • E’

    • 1

    • E’

    • E’

    • m'

    • p’

    • p’

    • E”

    • C

    • E”

    • E”

    • p”

    • p”

    • A

    • A

    • mA

    • pA

    • AC

    • MC

    • n’

    • n”

    • 2n’

    • Sales

    • per firm

    • x”

    • Total

    • sales

    • C’

    • C”

    • x’


    Economic logic
    Economic logic

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Integration: no-trade-to-free-trade: BE curve shifts out (to point 1). (Larger market effect)

    • Defragmentation:

      • PRE typical firm has 100% sales at home, 0% abroad; POST: 50-50 ,

      • Can’t see in diagram.

    • Pro-competitive effect:

      • Equilibrium moves from E’ to A: Firms losing money (below BE).

      • Pro-competitive effect = markup falls.

      • short-run price impact p’ to pA.


    Economic logic cont
    Economic logic (cont.)

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Industrial Restructuring:

      • A to E”,

      • number of firms, 2n’ to n”.

      • firms enlarge market shares and output,

      • More efficient firms, AC falls from p’ to p”,

      • mark-up rises,

      • profitability is restored.

    • Result:

      • bigger, fewer, more efficient firms facing more effective competition.

    • Welfare: gain is “C”.


    Facts
    Facts

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • M&A activity is high in EU.

    • much M&A is mergers within one member state

      • about 55% ‘domestic’;

      • remaining 45% split between:

        • one is non-EU firm (24%),

        • one firm was located in another EU nation (15%),

        • counterparty’s nationality was not identified (6%).

    • Empirical evidence: Single Market Programme reduced Price-Cost Margins by 4 per cent on average.

      • High variance:

      • - 15 per cent in office equipment sector

      • -0.1 per cent in brewing


    Facts1
    Facts

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Distribution of M&A quite varied:

      • Big 4: share M&As much lower than share of the EU GDP.

      • I, F, D 36% of the M&As, 59% GDP.

        • Except UK.

      • Small members have disproportionate high share of M&A.

      • This picture fits pretty well into theoretical expectations: Small countries suffer more from fragmentation of markets such that pressure for industrial restructuring is higher compared to countries with a larger market share


    Facts2
    Facts

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation


    Facts3
    Facts

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Why M&A mostly within EU?

    • Why UK’s share so large?

    • Non harmonised takeovers rules.

      • some members have very restrictive takeover practices, makes M&As very difficult.

      • others, UK, very liberal rules.

  • Lack of harmonisation means restructuring effects very impact by member states.


  • Eu competition and state aid policy
    EU Competition and State Aid Policy

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Competition and subsidies
    Competition and subsidies

    Theory and Politics of European Integration Lecture 5 Preferential Trade Liberalisation

    • Two immediate questions:

      • “As the number of firms falls, isn’t there a tendency for the remaining firms to collude in order to keep prices high?”

      • “Since industrial restructuring can be politically painful, isn’t there a danger that governments will try to keep money-losing firms in business via subsidies and other policies?”

    • The answer to both questions is “Yes”.

    • See Chapter 14, 3rd Edition.


    Eu competition policy
    EU Competition Policy

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Exclusive competency of EU; Commission controls.

    • 2 aspects: mergers & anti-competitive behaviour.

    • Economic integration yields less firms, higher concentration but more cross-border competition

    • Creates incentives to collude and undertake anti-competitive measures

    • Look at justification for putting competition policy at the EU level


    Anti competitive behaviour
    Anti-competitive behaviour

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Collusion is a real concern in Europe.

      • dangers of collusion rise as the number of firms falls.

    • Collusion in the BE-COMP diagram

      • COMP curve is for ‘normal’, non-collusive competition

      • Firms do not coordinate prices or sales

    • Other extreme is ‘perfect collusion’

      • Firms coordinate prices and sales perfectly

      • Max profit from market is monopoly price & sales

      • Perfect collusion is where firms charge monopoly price and split the sales among themselves


    Economic effects
    Economic effects

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Consider two cases:

    • Perfect collusion:

      • Firms set prices to monopoly level and divide profits equally.

      • Price increases.

      • Markup increases.

      • More firms enter market.

      • Eventually, zero profit condition restored, i.e. price equals average costs.

    • Mark-up

    • BEFT

    • mmono

    • A

    • B

    • mB

    • E”

    • m”

    • COMP

    • nP’

    • Number of firms

    • n=1

    • n”

    • nB

    • 2n’


    Economic effects1
    Economic effects

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Partial collusion

      • Less opportunities to cheat

      • 2n’ is too high for all firms to break even.

      • Industrial consolidation proceeds as usual, but only to nB.

      • Zero profits earned by all at point B.

    • Prices higher, pB> p”, smaller firms, higher average cost.

    • Mark-up

    • BEFT

    • mmono

    • A

    • B

    • mB

    • E”

    • m”

    • COMP

    • Number of firms

    • n=1

    • n”

    • nB

    • 2n’


    Economic effects cont
    Economic effects (cont.)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • price

    • The welfare cost of collusion (versus no collusion)

      • four-sided area marked by pB, p”, E” and B.

    • Mark-up

    • Demand curve

    • BEFT

    • pmono

    • Perfect

    • collusion

    • mmono

    • A

    • B

    • B

    • pB

    • E”

    • Partial

    • collusion

    • E”

    • p”

    • COMP

    • Number of firms

    • n=1

    • n”

    • nB

    • Total

    • sales

    • CB


    Eu competition policy1
    EU Competition Policy

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • To prevent anti-competitive behavior, EU policy focuses on two main axes:

    • Antitrust and cartels. The Commission tries:

      • to eliminate behaviours that restrict competition (e.g. price-fixing arrangements and cartels)

      • to eliminate abusive behaviour by firms that have a dominant position

    • Merger control. The Commission seeks:

      • to block mergers that would create firms that would dominate the market.


    Economics of cartels

    • P’

    • a

    • b

    • P = AC

    • Demand curve

    • C’

    • C

    • Quantity

    Economics of cartels

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Suppose price without cartel would be P.

    • Cartel raises price to P’.

    • Consumers lose: -a-b; ‘ripoff’-effect

    • Producers gain: a.

    • Net loss: b.

    • “technical inefficiency”


    The vitamin cartels box 11 1
    The vitamin cartels (Box 11‑1)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • In 2001, Commission fined 8 companies for their participation in cartels that eliminated competition in the vitamin sector (vitamins A, E, B1, B2, B5, B6, C, D3, Biotin, Folic acid, Beta Carotene and carotinoids) for more than ten years.

    • The European vitamins market is worth almost 1 billion euros a year.

    • The firms fixed prices, allocated sales quotas, agreed on and implemented price increases and issued price announcements in according to agreed procedures.

    • EU can fine firms up to 10 % of total annual sales.


    The vitamin cartels box 11 1 cont
    The vitamin cartels (Box 11‑1) (cont.)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • They also set up a mechanism to monitor and enforce their agreements and participated in regular meetings to implement their plans. This included the establishment of formal structure and hierarchy of different levels of management, often with overlapping membership at the most senior levels to ensure the functioning of the cartels, the exchange of sales values, volumes of sales and pricing information on a quarterly or monthly basis at regular meetings, and the preparation, agreement and implementation and monitoring of an annual "budget" followed by the adjustment of actual sales achieved so as to comply with the quotas allocated.

    • Hoffman-La Roche of Switzerland received the largest fine (462m euros) for being the cartel ringleader, which also included BASF and Merck (Germany), Aventis SA (France), Solvay Pharmaceuticals (the Netherlands), Daiichi Pharmaceutical, Esai and Takeda Chemical Industries (Japan).


    Exclusive territories

    • DGermany

    • MRGermany

    • PGermany

    • PUK

    • MC

    • DUK

    • MRUK

    • Quantity

    Exclusive territories

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • More common anti-competitive practice is ‘exclusive territories’

    • Nintendo example; high prices in Germany vs UK.

    • Prevent arbitrage within the EU (illegal).

      • European Commission fined Nintendo and the 7 distributors 168 million euros.


    Exclusive territories1

    • DGermany

    • MRGermany

    • PGermany

    • PUK

    • MC

    • DUK

    • MRUK

    • Quantity

    Exclusive territories

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • German demand curve steeper, i.e. higher willingness to pay (lower price elasticity)

    • UK has flatter demand curve (e.g. more opportunties to substitute, higher price elasticity)

    • Profits are maximized where marginal revenue and marginal costs curve intersect

    • This implies requesting higher price in DE relative to UK


    Abuse of dominant position
    Abuse of dominant position

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Firms that are lucky or possess excellent products can establish very strong positions in their market.

    • Not a problem, per se

      • position may reflect superior products and/or efficiency

      • e.g. Google’s triumph

    • However dominance may tempt firm to extract extra profits from suppliers or customers

    • Or arrange the market to shield itself from future competitors. E.g. hiding the programm code.

    • Illegal under EU law ‘abuse of dominant position.’

    • e.g. Microsoft with media software

      • charge high price of Word, etc. where the competition has been driven out of biz (WordPerfect, etc.), but give for free all software where there is still competition.


    Merger control

    • euros

    • Demand curve

    • P’

    • a

    • b

    • P=AC

    • c

    • AC’

    • C’

    • C

    • Quantity

    Merger control

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Initially P=AC.

    • Merger implies lower AC to AC’, but raises the price to P’.

    • DCS=-a-b; ‘ripoff’

    • DPS=+a+c

    • Net welfare = -b+c ; ambiguous, ‘efficiency defence’

    • Laissez-faire (in US and increasingly in EU); if free entry then eventually P driven down to AC’.

      • Overall gains as in BE-COMP diagram.


    State aid economics
    State aid economics

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Look at two cases:

    • Restructuring prevention.

    • Unfair competition.


    Restructuring prevention
    Restructuring prevention

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Consider subsidies that prevent restructuring

    • Specifically, each governments make annual payments to all firms exactly equal to their losses

      • i.e. all 2n’ firms in Figure 6-9 analysis break even, but not new firms

      • Economy stays at point A

    • This changes who pays for the inefficiently small firms from consumers to taxpayers.

    • Mark-up

    • BE

    • BEFT

    • E’

    • 1

    • m'

    • E”

    • A

    • mA

    • COMP

    • Number of firms

    • n’

    • n”

    • 2n’


    Restructuring prevention size of benefit
    Restructuring prevention: size of benefit

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Pre-integration: fixed costs = operating profit = area “a+b”

    • Post-integration: operating profit = b+c

    • ERGO: Breakeven subsidy = a-c

    • Net Benefit: b+c+a-c=a+b

    • euros

    • Price

    • Mark-up

    • COMP

    • Demand curve

    • BEFT

    • E’

    • E’

    • p’

    • a

    • A

    • AC

    • A

    • pA

    • pA

    • A

    • b

    • c

    • MC

    • 2n’

    • Number of firms

    • Total

    • sales

    • Sales

    • per firm

    • x’

    • C’

    • CA

    • xA= 2CA/2n’


    Restructuring prevention welfare impact
    Restructuring prevention: welfare impact

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Change producer surplus = zero (profit is zero pre & post)

    • Change consumer surplus = a+d

    • Subsidy cost = a-c (producer’s loss)

    • Total impact = a+d – (a-c)= d+c

    • euros

    • Price

    • Mark-up

    • COMP

    • Demand curve

    • BEFT

    • E’

    • E’

    • p’

    • a

    • d

    • A

    • AC

    • A

    • pA

    • pA

    • A

    • b

    • c

    • MC

    • 2n’

    • Number of firms

    • Total

    • sales

    • Sales

    • per firm

    • x’

    • C’

    • CA

    • xA= 2CA/2n’


    Does it make sense to subsidize
    Does it make sense to subsidize?

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Static welfare gains resulting from inefficiency of imperfect competition, i.e. differences between average and marginal costs

      • Higher production = higher welfare under increasing returns to scale

    • However, subsidizing loss-making enterprizes creates dynamic losses -> reduced innovation and technological progress


    Only some subsidise unfair competition
    Only some subsidise: unfair competition

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • If Foreign pays ‘break even’ subsidies to its firms

    • All restructuring forced on Home

    • 2n’ moves to n”, but all the exit is by Home firms

    • Unfair

    • Undermines political support for liberalisation


    Eu policies on state aids
    EU policies on ‘State Aids’

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • 1957 Treaty of Rome bans state aid that provides firms with an unfair advantage and thus distorts competition.

    • EU founders considered this so important that they empowered the Commission with enforcement.


    Eu trade policies
    EU Trade Policies

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Trade facts
    Trade: Facts

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Two-thirds of EU25 exports are to other EU25 nations.

    • More than 90% of this is actually among the EU15 trade (10 new Member States are fairly small economically).

    • Add all other European nations, three-fourth of Europe’s trade is within Europe.

    • North America and Asia are the EU25’s main markets outside Europe, each accounts less than one-tenth of EU exports.

    • Africa, Latin America and the Middle East are not very important.

    • The pattern on the import side is very similar

    • Rounding off, three-fourth of EU imports are from Europe, with the fourth quarter split into two more or less even groups of nations – Asia, and all other nations. Trade with non-European nations is balanced.


    Facts patterns of trade
    Facts: Patterns of Trade

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Facts differences across member states non eu trade
    Facts: Differences across Member States: non-EU trade

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Composition of imports and exports aggregate trade
    Composition of imports and exports, aggregate trade

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Manufactured goods 90% of total exports (half of all exports being machinery and transport equipment).

    • Import side, two-thirds on manufactured goods.

    • EU-25 is a big importer of fuel (18 % of imports).

    • Only 6% food and agriculture.

    • Other types of goods play a relatively minor part in the EU’s trade.


    Composition of imports and exports aggregate trade1
    Composition of imports and exports, aggregate trade

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Eu external trade policy institutions and trade in goods
    EU External Trade Policy: Institutions and trade in goods

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Recall: Customs Union requires common trade policy

    • Trade policy among the ‘first pillar’ since Rome Treaty

    • European Commission has the right to set tariffs and negotiate on trade issues at WTO

    • EC Trade Commissioner negotiates, has a mandate assigned by the council of ministers

    • Council has final say


    Eu trade policies other areas
    EU Trade Policies: other areas

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • World trade negotiations involve far more than trade in goods.

      • Trade-related intellectual property rights (TRIPs)

      • Trade-related investment measures (TRIMs),

      • Service trade

      • Technical Barriers to Trade (TBTs), trade facilitation, etc.

    • Treaty of Rome only gave Commission power over trade in goods

    • Treaty of Nice (& Amsterdam) extended Commission’s authority to some aspects of Services trade and TRIPs, & made QMV the rule in Council on such matters.


    Contingent protection
    Contingent protection

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • WTO allows members to raise tariffs to:

    • Counter ‘unfair’ trade practices, e.g.

      • Antidumping measures, e.g. penalty tariffs

      • Countervailing duties, e.g. ‘voluntary agreements’ of ‘price-undertakings’

        • Firms charge higher prices, but EU loses tariff revenue

    • Provide temporary protection “safeguards”

      • Widely applied by US and EU

    • The various WTO articles on these require a procedure; in EU the Commission is in charge of these procedures, but the final decision is subject to QMV approval of the Council.


    Eu external trade policy mfn tariffs
    EU External Trade Policy: MFN Tariffs

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • MFN tariff structure reflects comparative advantage of EU industries

    • Low tariffs in manufacturing

      • Exception: textiles and clothing

    • High in food and agriculture, especially diary products

    • Interest groups matter


    Eu s mfn tariff structure common external tariff cet
    EU’s MFN tariff structure (Common External Tariff – CET)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Eu external trade policy preferential agreements
    EU External Trade Policy: Preferential Agreements

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • EU has special deals with 139 nations; often more than one per partner.

    • Each can be very complex ...


    Eu external trade policy
    EU External Trade Policy

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies


    Preferential agreements logic
    Preferential agreements: logic

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • ‘Hub’ and ‘Spoke’ System

      • EU is a regional ‘hub’ in ‘hub’ and ‘spoke’ system of trade deals

        • Morocco is a typical case: 71% of exports to EU, but only 1% of EU imports from Morocco

        • Asymmetry gives EU high leverage in dealing with these nations


    Eu external trade policy european circle
    EU External Trade Policy: European circle

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • European-Mediterranean area:

      • West, Central and Eastern Europe = Single market in industrial goods;

        • EU + EEA + Swiss bilateral agreements

      • Euro-Mediterranean Association Agreements:

        • Morocco, Algeria, Tunisia, Egypt, Israel, the Palestinian Authority, Lebanon, Jordon, Syria and Turkey.

        • Asymmetric (EU cuts its tariffs faster) FTAs in manufactures, by 2010.

        • Turkey unilaterally in Customs Union in manufactures.


    Eu external trade policy european circle cont
    EU External Trade Policy: European circle (cont.)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • European-Mediterranean area (cont.):

      • Asymmetric dependence (e.g. 70% of Morocco’s exports to EU, but <1% of EU to Morocco)

      • EFTA’s “FTA union” with EU; EFTAns mimic EU to avoid discrimination against EFTA-based exporters.


    Former soviet republics western balkans
    Former Soviet Republics & Western Balkans

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Partnership and Cooperation Agreements (PCAs).

      • These are GSP+ (GSP=Generalised System of Preference).

      • Russia, Ukraine, Georgia, Belarus, Armenia, Azerbaijan, Kazakhstan, Kyrgyzstan, Moldova and Uzbekistan.

      • Asymmetric tariff reduction without requiring PCA partners lowering theirs.

    • Stabilisation and Association Agreements (SAAs).

      • Former Yugoslavian states.

      • Croatia has started membership; others likely to follow.


    Preferential arrangements with former colonies
    Preferential arrangements with former colonies

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Colonial preferences conflicted with Common External Tariff

    • EU made exception for these nations to avoid imposing new tariffs; signed “unilateral PTAs”

      • Yaoundé Convention and Arusha Agreement

  • When UK joined 1974 exceptions extended to many Commonwealth nations.

    • “ACP nations” (Africa, Caribbean & Pacific); the new agreement = Lomé Convention.

    • Duty-free but subject to quota for sensitive items (sugar, banana, etc.)


  • Preferential arrangements with former colonies1
    Preferential arrangements with former colonies

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • These didn’t help the ACP nations much

      • c.f. Asian success without tariff preferences

    • When Lomé Convention renewed in 2000, the EU and the ACP nations agreed to modernise the deal

    • Cotonou Agreement; eventually reciprocal free trade

      • stepwise reduction of tariffs on ACP nation side

      • general outline of principles

      • details fixed in bilateral Economic Partnership Agreements (EPAs)


    Generalised system of preferences gsp
    Generalised System of Preferences (GSP)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • 1971 GATT provision allows tariff preferences.

    • EU grants GSP to almost all poor nations.

    • General GSP.

    • “Super-GSP” more generous on market access.

    • ‘Everything but Arms’ (EBA) for least developed nations.


    Generalised system of preferences gsp cont
    Generalised System of Preferences (GSP) (cont.)

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • On paper, EBA grants zero-tariff access all goods, except arms and munitions.

      • Goods in which these nations’ are most competitive are in fact excluded from the deal.

      • Tariffs on bananas, rice and sugar – products where these poor nations could easily expand their EU sales – are to come down only in the future.

      • Moreover, even though all tariffs on these items will be gone by 2009, the exports quantities are limited by bilateral quotas.

    • 49 nations qualify for EBA in principle in 2005.


    Non regional fta
    Non-regional FTA

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Mexico, Chile, and South Africa, done.

    • Ongoing with Mercosur and the Gulf Cooperation Council (Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and United Arab Emirates).


    Finally non preferential trade
    Finally, non-preferential trade

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • Only 6 main nations: US, CAN, JAP, AUS, AT, KOR

    • But about 1/3rd of EU imports are not granted some sort of preferential treatment


    Next lecture
    NEXT LECTURE

    Theory and Politics of European Integration Lecture 7 Trade and Competition Policies

    • December 12, 2013


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