Towards an Integrated European Economy

The Europe Agreements do not provide an intermediate step between the Agreements and EU membership. In a new CEPR book, Richard Baldwin maps out a path towards a fully integrated Europe which is both economically and politically feasible.

Communism's demise destroyed the political barriers dividing Europe and shattered eastern economic structures, including trade arrangements. Reintegration and reconstruction are now under way but the outcome remains uncertain. If all goes right, economic success in the east could foster prosperity and peace throughout the continent. But if things go wrong, prolonged economic distress in the east could produce catastrophic consequences for Europe.

West European governments cannot assure eastern prosperity - central and east European countries (CEECs) must shoulder most of the work and pain. But one way the European Union (EU) can help is by building a sensible path towards pan-European integration.

Yet, while pan-European integration is proceeding, progress has been haphazard and fraught with difficulties. The Association Agreements (Europe Agreements) signed between the EU and Bulgaria, the Czech Republic, Hungary, Poland, Romania and Slovakia are important steps. But these agreements have great shortcomings. Most east European countries have not yet been included. And for those which have, the biggest immediate problem is the bilateral nature of the agreements, which link each CEEC as a separate ‘spoke' to the west European 'hub'.

This hub-and-spoke bilateralism risks marginalizing the CEECs economically and politically by favouring investment in the hub countries. Meanwhile, trade barriers between CEECs - and the possibility of future barriers - inhibit normal commercial practices, for example supplying the region from facilities concentrated in one eastern country.

And the Europe Agreements do not allow for an intermediate step between the Agreements and full EU membership, an outcome which EU special-interest politics is likely to prevent for a long time. Without an intermediate stage to allow continued progress, reintegration would stall at the first stage for decades, frustrating the aspirations of millions of central and east Europeans.

EU enlargement to the east is improbable for decades. CEECs are now so poor, so populous and so agricultural that an early eastern enlargement would hugely multiply EU expenditure. Current EU incumbents would have to pay more or receive less in order to pay for this. But raising taxes or deficits for an Eastern enlargement would be unpopular with voters. The alternative to higher taxes is to cut spending on two extremely powerful interest groups - EU farmers and poor regions.

There are other obstacles to enlargement too: its implications for EU majority voting, the inexperience of the current east European bureaucracies in enforcing health, safety, environment and industrial standards in a market economy; the risk of mass migration to western Europe; and the foreign policy implications of a direct EU border with former Soviet republics.

Nonetheless, last year's Copenhagen summit did confirm the long-run goal of pan-European integration. All CEECs with Europe Agreements can join eventually. The Europe Agreements and the various trade deals between the CEECs dictate where pan-European integration is now. What is missing is a well-marked path that gets Europe from here to there.

One solution might be to exclude new EU entrants from structural spending until they were too rich to need it, and from the CAP and food trade for however long incumbent EU farmers want. But this 'solution' is a recipe for enormous political complications. Once the joys of marriage wore off, second-class status for CEECs could disrupt the EU's political decision-making.

A better option would be to create two interim stages between the status quo and full EU membership. The first phase would redress the hub-and-spoke bilateralism by embedding the existing Europe Agreements into a proposed 'Association of Association Agreements (AAA). The second would create an intermediate stage - resembling the European Economic Area agreement between the EU and EFTA, but without migration - for those CEECs that cannot skip straight from AAA status to full membership.

The AAA would rationalize the EU's and CEECs' piecemeal trade liberalizations and create a more coherent institutional framework for those CEECs currently with Association Agreements. The Europe Agreements and the internal political processes of individual CEECs would still govern the pace of each CEEC's liberalization.

But the AAA could not prevent EU farmers and poor regions from vetoing full membership for many years to come. The current Europe Agreements are specific about tariff and quota removal, but asymmetrically vague about moving beyond this. It is clear what CEECs must do to get ready for full membership. It is not clear what the EU must offer in return.

That is why a further stage is required for pan-European integration to proceed. It would guarantee reciprocal market access, similar to that proposed for the current EFTA countries, for EU countries and those CEEC countries ready for it while avoiding politically difficult implications of full membership for the EU's budget and its migration policy.

Extending the Single Market eastward will not be easy, as the EEA negotiations revealed. Effective market access requires that many rules be enforced credibly and uniformly. This demands a strong institution - an intermediate Organisation for European Integration (OEI).

This intermediate step would create a pan-European trade system of three concentric circles. The EU would be the inner circle with the smallest membership (at least until the Copenhagen vision is fully realized). The OEI would be the next comprising all the EU member states plus the front-runner CEECs that were not yet Union members. The outer circle - the AAA - would continue to delimit the bounds of a European duty-free zone for industrial products.

And the AAA would create a framework for further integration later on. Opening this system to Belarus, the Ukraine, Moldovia and Russia seems, at present, to be politically infeasible. But if the political situation changes, there are no good economic reasons for perpetually excluding them from the AAA duty-free zone for industrial trade.

Deeper-than-AAA integration for the 200 million citizens of these nations looks set to remain a matter for futurologists for many years to come. But Europe would do well to be prepared.

Towards-An Integrated Europe by Richard Baldwin was published as part of CEPR's research initiative on ‘Market Integration, Regionalism and the Global Economy’, financed largely by the Ford Foundation. The research for the book was requested from CEPR by the European Commission and supported by the European Union's PHARE programme. Richard Baldwin is Professor of Economics at the Graduate Institute of International Studies in Geneva and Co-Director of CEPR's International Trade programme.

 Richard E Baldwin (et al.), ‘Is Bigger Better? The Economics of EC Enlargement’, CEPR Annual Report on Monitoring European Integration (October 1992).

Richard E Baldwin, ‘An eastern enlargement of EFTA: why the East Europeans should join and the EFTAns Should want them’, CEPR Occasional Paper No. 10 (November 1992).

Richard E Baldwin, ‘A domino theory of regionalism’, CEPR Discussion Paper No. 857 (November 1993).

Richard E Baldwin, Towards-An Integrated Europe, CEPR (April 1994).

Gene M Grossman and Elbanan Helpman, ‘The politics of free trade agreements’, CEPR Discussion Paper No. 908 (January 1994).

Richard Portes (ed.), Economic Transformation in Central Europe: A Progress Report, CEPR and the Commission of the European Communities (1993).

‘The Association process: making it work. Central Europe and the European Community’, CEPR Occasional Paper No. 11 (November 1992).

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Economic Transformation in Central Europe: A Progress Report, Richard Portes (ed.).

Towards an Integrated Europe, Richard Baldwin.

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