The Essentials of Economic Integration

The European Free Trade Association (EFTA) began as a British proposal. It was produced in 1956 in response to the increasing certainty that the six members of the European Coal and Steel Community (ECSC) were about to extend their integration efforts to cover the whole of their economies by forming a customs union and adopting a common agricultural policy with provision for internal freedom of factor movements. The British initiative for a European-wide free trade area was intended to permit the rest of Western Europe to participate in the advantages of free trade in industrial products without committing themselves either to a common agricultural policy or, more important, to the political objective of forming a European super-state that in the days before Charles de Gaulle bulked large in European thinking.

The economic integration of the Western democracies has proceeded apace ever since, at the end of the 1950s, they set themselves firmly on the path of trade and payments liberalization. Whether the governments of Western Europe and North America fully anticipated the extent of the market’s reaction to these liberal policies is, however, doubtful. The growth of international transactions has been formidable in all spheres of economic activity¹ and lately appears to have escaped the control of national governments. Will they accept this loss of control, or will they attempt to reassert their power? There is no historic precedent. In the laissez-faire, laissez-passer days of the late nineteenth century the free play of market forces presented no direct challenge to the autonomy of the nation-state, since the latter had not yet assigned to itself a predominant role in economic affairs. In the late twentieth century the right—or duty—of the state to govern the economy is widely (though not universally) recognized. It is certainly a fact that government intervention is practised in all market economies to a greater or lesser extent. The fact that a large and growing volume of national transactions should be conducted with the outside world, and that national control over these transactions is slipping, therefore reduces the state’s power of action in the economic sphere.

The process by which separate economic territories merge in order to form larger units has been sustained over a long period of time. In Europe, in the seventeenth and eighteenth centuries, countries attempted to consolidate the numerous customs territories contained within their frontiers. France, under Louis XIV, was divided into three main customs districts; the Austrian Empire was divided into six customs territories, not counting six again in Hungary; Holland contained two customs territories until 1861; in Switzerland the last of the cantonal tariffs was not abolished until 1874.¹ The gradual integration of these national economies was, for the most part, accomplished by the beginning of the nineteenth century when, for the first time, economic frontiers coincided more or less with political frontiers. In one unique case the economic frontier exceeded the territory covered by individual political frontiers—the Zollverein—but by 1871 the political frontier had been stretched to cover the economic one, and the unity of the nation-state, from both the economic and the political points of view, was achieved.

The European Free Trade Association, established by the Stockholm Convention in May 1960, had seven founding members—the United Kingdom; Sweden, Norway and Denmark; Austria and Switzerland; and Portugal. The United Kingdom alone accounted for half the area’s population and its dominant position was to mark the Association both positively and negatively. The smaller members of EFTA frequently expressed their disappointment at Britain’s lack of leadership and team spirit, but although the United Kingdom probably did not make as much of the EFTA connection as it might have done, it did not use its dominant position to crush all initiatives coming from elsewhere and did not attempt to mould the Association into a particular form. The way was therefore clear for initiatives, which came mostly from the smaller members and the EFTA Secretariat. Between them, the smaller members of EFTA and the Secretariat provided sufficient impetus to keep the Association moving along the road to integration well after the last of the tariffs disappeared, by exploring the implications of free trade for the harmonization or coordination of other policies.

EFTA’s principal technical achievement was to create a viable free trade area for industrial products between eight European countries. Part of the credit for this achievement, however, must go to the work done prior to the establishment of the Association in wider organizations dealing with trade matters, namely the GATT and OEEC. When the Stockholm Convention entered into force in May 1960 its seven founding members, with the exception of Portugal, had participated in four rounds of tariff negotiations in the GATT and fulfilled most of their obligations under the OEEC’s Code of Liberalization. Tariffs on European imports, though by no means negligible, were not high enough to prevent a rapid development of trade. Quantitative restrictions and licensing arrangements were no longer widely used to regulate trade, even with the dollar area, although they still loomed large in the minds of governments as a major instrument of balance-of-payments policy. Great strides had been taken from 1947 to 1960 to free intra-European trade in general, and both EFTA and the EEC started on their regional exercises in trade liberalization from a strong base in multilateral trade cooperation.

It is perhaps in the field of non-tariff barriers that EFTA has made its greatest contribution, not only to the methodology of economic integration, but also to the techniques of multilateral trade cooperation. The reason for this double contribution to the orderly conduct of inter-state relations is that EFTA achieved a very high level of effective economic integration without altering the normal basis of inter-governmental relationships, based, in positive international law, on sovereignty and implicit or explicit consent. Indeed, it is not too much to say that EFTA and, for that matter, the EEC probably reached the highest degree of consciously pursued economic integration that the world has yet seen outside the economic integration achieved within the sovereign, unified nation-state during the industrial revolution and in the course of the nineteenth century. If the trend towards further trade liberalization persists, however, this degree of economic integration may be approached, if not reached or surpassed, by the end of the century, on a multilateral (and not strictly regional) basis. Therefore, what happened in EFTA in the 1960s is a fair indication of what may happen in the world at large from now to the end of the century, at least in the field of non-tariff barriers to trade,¹ provided multilateral trade liberalization proceeds at a steady pace.

A free trade area, unlike a customs union, which by definition has a common external tariff, needs to devise rules of origin so that deflections of trade may be avoided. Without origin requirements, goods would enter the free trade zone where the tariff is lowest and proceed, free of duty, to where the tariff is higher. While there can be few objections to this from a theoretical point of view, one of the practical attractions of a free trade area for governments is the compatibility of a certain amount of economic integration with the retention of sovereignty over tariff policy. If deflections of trade were permitted, only the lowest tariffs in the free trade area would be operative, and this sovereignty would be entirely symbolic.

EFTA made no attempt to extend free trade to agricultural goods or marine products. Yet, as will be shown below, the Stockholm Convention did attempt to lay down some rules of behaviour with respect to trade in these goods between the members of the Association. As a result of this, agricultural questions were, paradoxically, often raised in the EFTA Council. One might even go so far as to say that of all the issues which arose during the transitional period, agriculture was probably the problem which took up the most time and proved the most taxing as far as EFTA cooperation was concerned. Therefore, although it is right to say that EFTA did not attempt to create a free trade regime for food products, it would be wrong to maintain that it made no attempt to create an EFTA preference for trade in agricultural goods. It in fact tried hard to do precisely this, but was not very successful in the attempt.

Escape clauses are a standard feature of commercial treaties. They allow contracting parties, under conditions specified in advance, to derogate from some or all of the obligations contained in these treaties. Escape clauses are usually essential in order to persuade countries to accede to the treaty in the first place. They can be regarded as negative obligations (or reserved rights), and they place conditions and limitations upon the positive obligations contained in the main part of the treaty. The scope of these “negative obligations” is always the subject of careful negotiation, since they have a decisive influence on the extent of the positive obligations assumed. The most ambitious positive obligations can, in practice, be reduced to a very mediocre level of mutual understanding if escape clauses are worded broadly enough.

EFTA’s most lasting impact has been in its contribution to the present pattern of economic integration in Western Europe. In the course of the 1960s it achieved three things which proved of great importance in 1970–72, when the negotiations for the new European integration scheme took place.

The purpose of this chapter is to provide a survey of the theory of customs unions as it stands, keeping the analysis as simple as possible, and to offer some additional analysis of the peculiarities of free trade areas in a final section.¹

Despite the huge difficulties of measuring integration effects, organizations and economists have nevertheless been inspired by the existence of the EEC and EFTA to attempt the task. Four studies are discussed in this chapter in order to show how various statistical methods have been devised and gradually refined to the point where a few tentative results have been obtained.