Practise explaining how customs unions, monetary unions and WTO rules affect trade, policy choices and member economies in IB Economics SL questions.
Read the extracts and answer the questions that follow.
Text A - Overview of Uruguay
(1) With a population of only 3.5 million, Uruguay is one of the smallest nations in South America. Its membership of the MERCOSUR common market allows Uruguayan producers tariff-free access to 290 million consumers in Argentina, Brazil and Paraguay.
(2) Agriculture accounts for 8 % of Uruguay's gross domestic product (GDP) and 65 % of its export revenue. Exports have increased since the early 2000s, partly due to China's rising demand for commodities. In particular, Uruguay's soybean producers benefitted from significantly higher prices during the commodity boom. China is now Uruguay's most important export destination, with soybeans accounting for over 50 % of its exports to China.
(3) Uruguay's real GDP increased by an average of 5.39 % per year from 2005 to 2014. However, the economy slowed considerably when the commodity boom ended in 2015. It slowed further because of decreased regional demand when the largest members of MERCOSUR, Argentina and Brazil, faced a recession in 2017. Uruguay's real GDP grew on average by 1.04 % per year from 2015 to 2018.
(4) With the increasing importance of China and the European Union (EU) as export markets, Uruguay has managed to reduce its dependency on MERCOSUR. However, attempts to diversify its exports away from agriculture have not been successful. The end of the commodity boom contributed to a fall in export revenue and the depreciation of the peso (Uruguay's currency). The currency has lost over 25% of its value since 2015.
(5) Inflation stayed at a relatively high rate of 8 % in 2018 due to the weaker currency. The unemployment rate also increased to 7.9 % as a result of the economic slowdown. The higher cost of living and the lower rates of employment could inhibit efforts to reduce inequality and poverty levels.
(6) Despite rising inflation and unemployment, Uruguay's minimal corruption, abundant natural resources and access to a large common market continue to attract foreign direct investment (FDI). Investments in the paper and wood industries have made forestry one of the country's fastest growing industries. Increased FDI inflows have also prevented the peso from depreciating further.
Text B - The EU-MERCOSUR free trade agreement
(1) The EU and MERCOSUR are finalizing the terms of a free trade agreement, which would enable Uruguay to increase its exports to the 27 EU member states. The EU currently buys 11 % of all Uruguayan exports, mostly animal products, paper, vegetables and wood.
(2) Once the free trade agreement comes into effect, almost all agricultural and industrial tariffs between the EU and MERCOSUR will be removed. The imports of beef, poultry and sugar will not be included in the list of tariff-free products but will be subject to very large quotas. This will allow increased exports of these products to EU countries.
(3) The free trade agreement may cause bankruptcies in the manufacturing sector and higher structural unemployment in Uruguay. EU exports to Uruguay largely consist of manufactured goods, such as chemicals, machinery, transport equipment and plastics, which are in high demand despite the current tariffs of up to 35 %.
(4) One third of FDI into Uruguay comes from the EU. Anticipation of the free trade agreement has led to more EU investments in Uruguay's forestry sector. Environmental organizations have warned that the free trade agreement could be a threat to sustainability as South American forests are cleared to create land for cattle farming, paper and wood production. The deforestation might also disrupt water sources that supply rural villages, depriving the villagers of clean water.
Text C — Uruguay seeks trade agreements outside MERCOSUR
(1) Members of MERCOSUR have differing views on trade policies. Brazil, Paraguay and Uruguay believe in trade liberalization and want to increase competition through a reduction of the common external tariff. On the other hand, Argentina wants to maintain the high external tariff to protect industries from cheap imports from China and to avoid prolonging its current recession.
(2) Uruguay has expressed its desire to seek trade agreements apart from MERCOSUR, which is prohibited by the common market's rules. If Uruguay pursues separate bilateral agreements, it is likely to lose its MERCOSUR membership and the benefits of any existing free trade agreement.
Table 1: Current account data for Uruguay (US\$ billion)
Table 2: Selected income data for Uruguay
Using information from the text/data and your knowledge of economics, discuss the impact of economic integration on the Uruguayan economy.
Using real-world examples, discuss the advantages and disadvantages of a country being a member of a trading bloc.
Study the extract below and answer the questions that follow.
Latvia to join the eurozone monetary union
(1) Latvia will become the 18th country to adopt the euro after being approved for membership by the European Commission. The country has met the criteria for eurozone membership, including low inflation, low long-term interest rates, a stable exchange rate, low public debt and low budget deficits.
(2) Latvia joined the European Union (EU) customs union in 2004. This resulted in a large increase in the availability of credit and strong economic growth in Latvia. However, the 2008 global financial crisis resulted in the collapse of one of its leading banks and massive economic instability. Economic output fell by about 20 % and Latvia had to accept a bailout (loans) from the International Monetary Fund (IMF) and the EU.
(3) Latvia kept the lat (the Latvian currency) pegged to the euro throughout the crisis. At the time, some economists argued that devaluation would have been a better way to improve the economy. However, Latvia followed the path of other countries such as Greece and Ireland, and chose to improve competitiveness through austerity measures. This involved increasing direct taxes and cutting government spending and public sector wages.
(4) By late 2010, the economy was growing again and Latvia had repaid the loans to the IMF and the EU. In 2012, the economy expanded by 5.6 %, the fastest of any country in the EU, although output was still 12 % below its pre-crisis peak. In addition unemployment was falling, but it remained high at 12.4 %.
(5) For Latvia, which shares a border with Russia, the attraction of the euro is about economics and security. Entering the eurozone in January 2014 is part of a process of shifting away from the influence of Russia, and following its northern neighbour Estonia which joined the eurozone in 2011. Lithuania hopes to join the eurozone in 2015.
(6) Public support for joining the eurozone has been low. Evidence from one survey suggests that a small majority of Latvia's population opposes membership, fearing that prices will rise and Latvians will be drawn into the problems facing Europe's struggling economies.
(7) Nonetheless, there are signs that support is growing. The Latvian prime minister said that "switching to the euro will help economic growth and bring increased foreign investment. Unlike countries that can afford to ignore the euro and additional integration, Latvia cannot easily stand on its own. This is good news, not only for Latvia, but also for the eurozone. It shows that there is still confidence in the single currency".
www.theguardian.com, 16 July 2013]
Define the term customs union indicated in bold in the text (paragraph 2).
Using information from the text/data and your knowledge of economics, evaluate the possible impact of Latvia joining the eurozone.