Regional Trade Agreements and Compliance to WTO Rules

1. Overview

   The Preamble to the WTO Agreement highlights “... the elimination of discriminatory treatment in international relations” as an objective of the Multilateral Trading System. The Most-Favoured-Nation (MFN) commitment by WTO Members is a fundamental instrument for achieving that aim. However the MFN treatment changes when dealing with regional trade integration. When establishing a Regional Trade Agreement(RTA), Members of WTO that are parties to the RTA need some kind of derogation to avoid legal inconsistency with the MFN rule. The WTO Member has always the possibility of seeking a waiver. But, over time, the system itself has developed a series of conditional exceptions which Members can invoke when departing from their MFN commitment: These are in GATT Article XXIV, Enabling Clause, Understanding on GATT Article XXIV and GATS Article V.
   
   Establishment of a regional trade integration requires that common principles of WTO be put into consideration. An RTA should facilitate trade among the parties, provide for mutual/reciprocal trade concessions and must not result in barriers towards third parties higher than those existing before the formation of the RTA
   
   

2. Application of GATT Article XXIV in the Formation of an RTA

   GATT Article XXIV provides rules to guide the establishment of an RTA involving a WTO Member. The two types of regional trade integration provided include the Customs Unions and Free Trade Area (FTA). It also provides rules regarding Interim Agreements for both Customs Union and Free Trade Area including their stages of implementation.
   
   A regional trade integration is deemed to be an FTA if tariffs and other restrictive regulations of commerce are eliminated on substantially all (originating) trade among the parties (Article XXIV:8). For a customs Union, tariffs (the common external tariff) and other trade measures have to have been substantially harmonized among the parties (Article XXIV:8(a)(ii))
   
   WTO however has not been able to define in specific terms the meaning of “substantially” referred to in GATT (XXIV:8(a)(i) & (b)), and “substantial” in XXIV:7(c)). It is not clear if an RTA can be considered to have substantial all trade coverage in situations where a major sector is excluded from liberalization. It is also not clear in situation where RTA parties reduce (rather than eliminate) duties on some products. Other areas of concern that still require clarification by WTO include the interpretation of the of what constitutes “other restrictive regulations of commerce” and whether RTA parties can legally provide for the application of trade remedy actions among themselves.
   
   In the establishment of a regional trade integration parties must ensure neutrality towards third parties. The MFN principle requires that there should be no discrimination between third parties to the RTA. In addition, an RTA should not result in increased barriers towards third parties. The barriers existing before the RTA should either reduce or remain the same (Article XXIV:5(b)). In case of a Customs Union, a regional trade integration should on average not result in increased applied MFN duties (Article XXIV:5(a)). To confirm that the Customs Union complied with this clause, an RTA notified to WTO under GATT XXIV is subjected toa general incidence test or “economic test”.
   
   The incidence test is calculated basing on an overall assessment of a weighted average on applied tariff rates and customs duties collected. The comparison is made for a period prior to the formation of the Customs Union and after, on a tariff-line basis in values and quantities, by WTO (para. 3, Understanding). Such economic tests have been performed on EU (15), (25) and 27 Enlargements and MERCOSUR
   
   A WTO Member is not allowed to raise it applied tariffs above its bound rates at the WTO. If a Custom Union member breaks its bindings when applying the Common External Tariff, that member must renegotiate with other WTO Members on tariff bindings under GATT Article XXVIII before tariff concessions are modified (para 4. Understanding) . Due account must be taken of reductions of duties on the same tariff line made by other Customs Union members. If not sufficient, the Customs Union may offer compensation in the form of reductions of duties on other tariff lines (para 5.Understanding).
   
   Parties to a regional trade integration can agree to an Interim agreements” leading to either a free-trade area or a customs union. Such an agreement must contain a plan and schedule to achieve that aim (Article XXIV:5(c)). The article foresees a maximum transition period of 10 years (unless exceptional circumstances can be fully explained and acknowledged by WTO Members) (para 3 of Understanding). That agreement cannot be put in force or maintained unless any WTO recommended modifications have been made by the parties (para 10 of Understanding).
   
   Paragraph 12 of the Understanding GATT XXIV specifies that WTO dispute settlement provisions “may be invoked with respect to any matters arising from the application of Article XXIV”
   
   GATT inconsistent measures are covered under the provisions of article XXIV. The panel asses to determine that an RTA is in conformity with these provisions, and the measures are necessary to the formation of the regional trade integration. In case of any perceived inconsistency the burden of proof is with Member using Article XXIV as a defense.
   
   
   
   

3. Application of Enabling Clause in the Formation of an RTA

   The Enabling Clause authorizes, in paragraph 2(c), WTO developing country Members to depart from the MFN clause (Article I) when concluding a preferential regional or global arrangements among themselves. The agreements have to contain mutual concessions, on reduced or zero tariffs and non-tariff measures. Such agreements must be notified to WTO under paragraph 4(a) of the Enabling Clause. Adequate opportunity must be provided for “prompt consultations” at the request of any interested member.
   
   The common aspects shared between the GATT XXIV and the Enabling Clause as regards RTAs include the product scope of goods only, the requirement of reciprocity and the condition to ensure neutrality with third parties and with no higher barriers. The two provisions differ in a way that the Enabling Clause is only an option for developing countries and allows reduction or elimination of tariffs (Enabling Clause) while the GATT XXIV conditions to elimination rather reduction. Likewise the Enabling Clause emphasizes reduction or elimination of non-tariff barriers while article XXIV of GATT conditions to elimination of other restrictive regulations of commerce.
   
   
   

4. Application of GATS Article V in the Formation of an RTA




The GATS permits Members to establish Economic Integration Agreements (EIAs) for the exchange of preferences in trade in services. Like GATT Article XXIV, GATS Article V is a conditional exception subject to the fulfillment of certain requirements. GATS Article V establishes two main criteria for providing the exception:

1. Trade liberalization among the parties must cover a broad range of services activities (art. V (1))
   
2. Non-parties must not encounter a higher overall level of barriers to their services trade as a result of the EIA (art. V (4))



Paragraph 6 establishes a broad definition of beneficiary service providers based on the concept of “substantive business operations” A service supplier of any other Member (understood as a juridical person constituted under the laws of the party to an EIA) is entitled to treatment granted under the EIA provided it engages in substantive business operations.
GATS Article V includes the Special and deferential flexibility for developing countries parties to an EIA. The flexibilities are in terms of the requirements of substantial sectoral coverage and elimination of discrimination in the sectors covered (V.3(a)) . In an EIA comprising only developing countries, the requirement of GAT V.6 may be waived and preferences can be granted to the parties’ own service providers only (V.3(b))
In summary when entering a regional trade integration process, a WTO Member should invoke one of the following provisions, and comply with the relevant conditions.
1. Regarding an FTA and a Customs Union, if parties involved are developed economies, they should use GATT XXIV. If the parties only developing countries, they have an option using either GATT XXIV or the enabling clause. However if they are combination of both developed and developing countries only use GATT XXIV.
   
2. In respect to trade in services, parties involved in the Economic Integration Agreement can invoke the provisions of GATS V

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Stages of integration

Stages of economic integration include; The preferential Trade Area(PTA), Free Trade Area (FTA), Customs Union(CU), Common Market (CM), Economic Community or Monitory Union and Economic Union or Political Federation. Countries engage in economic integration in order to eliminate barriers tointernational trade(Carbaugh,2009),facilitate payments and factor mobility within the the economic bloc. Issues under consideration vary from stage of economic integration to another. In general however the Free Trade Area includes trade arrangements on preferential terms in accordance with the rules of origin. The Customs Unions involves mainly a common external tariffs, dispute settlement mechanisms, common external policy and common regional institutions. The Common Market includes free movement of factors of production and natural persons. A monitory union involves a common monetary (common currency) and fiscal policies between parties while under a political federation parties agree to implement uniform political institutions and policies between themselves. Political federation is the last of the Stages of economic integration. Below we discuss each stage of ecnomic integration in detail.

Preferential Trade Are:

Parties to this econmic integration arrangement trade on preferential terms. Parties reduce tariff rates on agreed list of goods they trade between themselves. A rules of origin regime is employed to ensure that no foreign goods can take advantage of their economic integration. arrangement.

Free Trade Area FTA:

Parties to the arrangement trade on duty-free and quota-free terms for goods meeting agreed rules of origin. Under both the PTA and FTA stages of economic integration, parties need origin verification procedures and dispute settlement mechanisms to ensure predictability and fairness in the trading arrangements. For PTA or FTA to be effective, it needs rules of origin to help distinguish between goods produced in territories of parties to agreement (entitled to preferential or duty-free treatment) and those originating from outside the territories of the contracting parties (which are liable to full duties).

PTA and FTA regional integration agreements are not really economic integration, but they are rather more co-operation arrangements in the area of trade since these stages of economic integration are founded mainly on inter-governmental co-operation.

Customs Union(CU):

Parties to the econmic integration agreement trade on duty-and quota-free basis and also agree on a common external tariff. They agree on common regulations and measures of trade to apply on goods from third parties. While a Customs Union is similar to a PTA or an FTA in that it still focuses on trading arrangements, it is fundamentally different from a PTA or an FTA in that at this stage of economic integration, parties to the arrangement must go beyond intraregional trade and must begin to fully embrace common external policy and common regional institutions. In short, real regional economic integration begins at this stage and intergovernmental co-operation begins to fade away. A real integration begins with a customs union because it combines an FTA and CET together with common regulations or measures to trade and supranational institutions to govern and regulate trade in the CU.

Simply adopting a CET does not necessarily create a Customs Union. Without common regulations/measures of trade and a supranational framework with appropriate institutions, the so-called common external tariff ( CET ) is simply a harmonised external tariff ( HET ).

Common Market:

This is a deeper stage of economic integration. It allows the free of goods & services plus free movement of factors of production. This includes and focuses mostly on labour (work-related movement) and capital. Free movement of labour also entails free movement of persons (movement of persons on a visa-free or relaxed visa requirements basis). At this stage,economic integration can only be successful if it based on a supranational framework. Inter-governmentalism cannot work.

The Monitory Union or Economic Community:

This stage of economic integration includes duty- and quota-free trade in goods and services, free movement of factors of production, common monetary and fiscal policies and a single currency issued by one monetary authority. Economic policies are harmonized and managed centrally (through supranational institutions).

Under Economic Union or Political Federation:

This is the highest level of the stages of economic integration.Parties under an Economic Community unify political institutions and policies. They establish political institutions to direct economic and political policy. This is the deepest stage of integration. While inter-governmentalism does not exist in the economic arena, harmonization of political institutions and structures is be based on intergovernmental co- operation, unless Parties decide to merge their countries into a single country, e.g. Germany.

Below is a summary of the stages of economic integration

Stage	No Tariffs No Quotas	CET	Free factor movement	Harmonis ation of economic policies	Unification of policies & Political institutions
FTA	yes	no	no	no	no
Customs Union	yes	yes	no	no	no
Common Market	yes	yes	yes	no	no
Economic Community	yes	yes	yes	yes	no
Economic Union	yes	yes	yes	yes	yes

Asia is Leading in New Preferenatial Trade Integration Agreements

According to the WTO report, Asia is leading in new preferenatial trade integration agreements. The World Trade Report 2011, which was presented to United Nations Economic and Social Commission for Asia and the Pacific (UNESCAP) members on 27 July 2011 in Bangkok, observes that Asia is leading in new trade integration agreements. Asian countries have become some of the most active in signing preferential trade agreements (PTAs). They have been party to almost half the preferentail trade agreements concluded in the last 10 years. This has contributed to the increased concentration of trade within the region — second only to Europe in 2009.

Burgeoning bilateral and regional trade agreements meet the need to regulate global production and can benefit non-members, but the WTO’s multilateral system also has a role in reducing the resulting complexity, according to the latest edition of the organization’s flagship publication released on 20 July 2011 in Geneva.

Although Asia is leading in preferential trade integration agreements, it seems that most of the countries are also in persuit of deeper integration by going beyond tariffs and other measures at national borders. Preferential trade integration agreements increasingly are including domestic policies such as regulations on services and investment, intellectual property protection and competition policy, which the report calls “deep PTAs”. “These trends raise vital questions about the focus and reach of the WTO, and the value assigned by governments to globally-based trade relations,” Director-General Pascal Lamy said.

Asia is leading in persuit of deep preferential trade integration agreements reflecting its recent roles in the world economy including the growth of global production networks. The spread of these networks, in sectors such as electronics and motor vehicle manufacturing, has been particularly pronounced in the Asian region. The networks require better regulation and supervision in a range of areas, and deeper preferential trade integration agreements may be addressing this need.

The result is that deeper trade integration agreements can also benefit other countries rather than discriminating against them. The report highlights the case of the Association of Southeast Asian Nations (ASEAN). The evidence shows that ASEAN countries used their group’s free trade integration agreements as a vehicle to work together to cut red tape and streamline other aspects of trade (known as “trade facilitation”). Improved customs administration cut the costs of trading for members and non-members alike. On the one hand, lower preferential tariffs within these free trade integration agreements no longer offer much of an advantage because non-preferential tariffs (“most-favoured nation” or “MFN” tariffs in WTO jargon) are already low.

At the same time, if deep integration provisions require broader regulation, then these could apply to goods, services and investment from all countries, not just the members of the preferential trade integration agreements . The World Trade Report 2011 describes PTAs’ historical development and their current landscape. It examines why they are established, their economic effects, their contents and the relationship between trade integration agreements and the multilateral trading system.

Director-General Pascal Lamy says in his foreword: “I believe that to the extent that preferential trade integration agreements are motivated by a desire for deeper integration rather than market segmentation, there could be a role for the WTO to promote greater coherence among non-competing but divergent regulatory regimes that in practice cause geographical fragmentation or raise trade costs. There is no doubt that we need to build towards a more stable and healthier trading environment, where alternative trade policy approaches are mutually supportive and balance equitably the needs of all nations.”

Need for Supranational Institutions for Effective Trade Integration in Africa Africa

Whenever I am involved in the negotiations for regional trade integration, I often observe the gap presented by the lack of efficient supranational institutions to coordinate and implement regional affairs. While I appreciate the importance of achieving the Africa Union as enshrined in the Abuja Treaty, I think African countries are going about it the wrong way.

In most of the economic blocs in Africa, the visible and operational supranational institutions are their Secretariats. This is noticeable with economic blocs such as EAC, COMESA, SADC, ECOWAS and IGAD, among others. Although the Secretariats are important in the integration process, their main purpose is to effectively coordinate the bloc in its trade integration process. The members of the economic bloc involved in a regional trade integration in Africa, make various decisions which require follow up and coordination. For this reason a Secretariat is required to prepare and coordinate meetings, follow-up and track progress on implementation of the decisions and update the responsible parties. The Secretariats make it possible to put together information on the various programs of the trade integration bloc for the member states to review the progress. But this is how far a Secretariat goes. In the context Regional Trade Integration in Africa, most Secretariats have limited powers to enforce implementation and reprimand failures. The situation is worsened by the fact that the existing trade integration blocs have made little efforts to create supranational institutional to enforce implementation of the decisions.

A regional trade integration bloc requires supranational institution similar to those at the national level and probably with much higher authority. A trade integration bloc requires authorities such as parliament, the legislature, investment authority, Competition Commission, export and tourism promotion board, energy regulatory authority, transport development and regulation authority, a regional central bank and educational development organization among others. Such supranational authorities are required to enforce and monitor implementation of the decisions made by the member states’ at the regional level. Member states of an economic bloc, involved in a regional trade integration in Africa,  must be ready to cede some of their powers to the regional authorities and allow their national bodies to operate on the principal of subsidiarity. In other words the ultimate power has to be given to the regional authorities but their operations should be through the national bodies.

A closer look at the African regional integration  blocs however, reveals a different picture all together. Many of such supranational authorities do not exist and where they are established they have not been provided with enough powers and support to enforce implementation of the decisions of the member states. This situation leaves me wondering as to whether the regional integration program, we are pursuing in Africa is backed by the desire to economically integrate the continent or we are just following the global trend.

The supranational institutions are meant to break the barriers of sovereignty and increase openness in all economic forms. The interconnectivity in Europe, America and recently Asia is not by accident. Goods and people must move easily and freely from one end to another. The faster they move the better it is for trade. Africa needs to understand this concept and ensure that interconnectivity is prioritized. I have for long believed that Africa is less developed because it does not trade internally. Much of the trade is between Africa and the West and the trade balance is not in favor of our continent. While Africa is underdeveloped, the continent trades at a deficit with the developed countries and no wonder, development is following the path of trade surplus. The continent has no interregional herbs relating to transport, industrial and agricultural production, tourism and educational facilities. There are no intra-continental roads, airline and railway networks.

I know that according to the new school of economists, it is believed that supply follows demand. The earlier notion that supply crates demand seems to elude African Economist. As for me, I believe that at times supply creates demand. I call this concept “demand creation”. African states do not really see Africa as their market. Everyone is busy looking up to the west as the source of the market. But how did the west become the profitable market? The answer is in what I call “demand creation”. The developed countries never began with increasing incomes of the people. Rather they started with reducing costs of production. They made it easier for the supplier. They ensured product development by investing in research for appropriate technologies. They ensured that interconnectedness between their countries by establishing trade enabling intercontinental infrastructure and taught their children appropriate skills. By so doing they enabled production and supply of not only quality but also affordable products. This way they created demand in that as low cost production increased, employment went up, incomes increased and demand increased too.

The tendency in Africa has been to target the western market but without necessarily looking at the option of creating the market in Africa. This is why one does not see supranational institutions being created at the regional level. The economic blocs involved in regional integration in Africa continue to look up to the west for the market. Although the treaties do acknowledge the essence of promoting intra-regional trade in Africa, on the ground less is being done to make this dream a reality. Countries continue to be protective of their sovereignty and are not ready to transfer critical powers to the regional level. But then how will they create the demand in the region? How will they ensure increased intra-regional trade when there are no suitable supranational institutions to actualize the dream?

Take of the European Union which has over 40 supranational institutions that include: a democratically elected Parliament, a Commission which acts as guardian of the Treaties and has the power to initiate and implement legislation, a Court of justice which ensures that Community law is observed, a Court of Auditors which monitors the financial management of the Union, a number of advisory bodies, which represent economic, social and regional interests the European Investment Bank which facilitates the financing of projects which contribute to the balanced development of the Union, The European Central Bank which is responsible for conducting monetary policy for the Euro area and several agencies of the European Community setup to accomplish a very specific technical, scientific or managerial task necessary for the development of the Community. The agencies European Community are established with the aim of introducing a degree of decentralisation and dispersal to the Community's activities; giving a higher profile to the tasks that are assigned to them by identifying them with the agencies themselves; answering the need to develop scientific or technical know-how in certain well-defined fields and integrating different interest groups and thus to facilitate the dialogue at a European (between the social partners, for example) or international level.

The European Community agencies include: Community Fisheries Control Agency , Community Plant Variety Office, European Agency for Reconstruction , European Agency for Safety and Health at Work , European Agency for the Management of Operational Cooperation at the External Borders , European Aviation Safety Agency, European Centre for Disease Prevention and Control , European Centre for the Development of Vocational Training, European Chemicals Agency, European Environment Agency , European Food Safety Authority, European Foundation for the Improvement of Living and Working Conditions, European Fundamental Rights Agency, European GNSS Supervisory Authority, European Institute for Gender Equality, European Joint Undertaking for ITER and the Development of Fusion Energy, European Maritime Safety Agency, European Medicines Agency, European Monitoring Centre for Drugs and Drug Addiction, European Network and Information Security Agency, European Railway Agency, European Training Foundation, Office for Harmonisation in the Internal Market (Trade Marks and Designs), Translation Centre for the Bodies of the European Union, Common Foreign and Security Policy agencies, European Defence Agency , European Union Institute for Security Studies, European Union Satellite Centre, European Police College, European Police Office , The European Union’s Judicial Cooperation Unit, Education, Audiovisual and Culture Executive Agency, European Research Council Executive Agency , Executive Agency for Competitiveness and Innovation, Executive Agency for the Public Health Programme, Research Executive Agency and Trans-European Transport Network Executive Agency.

The above situation in the European Union cannot be compared with what is happening in Africa. It is only the Economic Community of West African States ( ECOWAS ) and the Common Market for Eastern and Southern African (COMESA) that can boosts of over ten supranational institutions. The other Regional integration blocs such as EAC, IGAD, CEEAC, CEMAC, UEMOA, CEEAC, SADC, CEEAC, and SACU have fewer than 5 supranational institutions.

COMESA institutions include: The COMESA Secretariat, the Alliance for Commodity Trade in Eastern and Southern Africa (ACTESA), African Trade Insurance Agency, COMESA Clearing House, COMESA Court of Justice, Federation of National Associations of Women in Business in Common Market for Eastern and Southern Africa(FEMCOM), Leather and Leather Products Institute, The Eastern and Southern African Trade and Development Bank,(PTA Bank), PTA Re-Insurance Company, Regional Investment Agency and the COMESA Competition Commission

On its part the Economic Community of West African States(ECOWAS) has about 15 supranational institutions which include: the ECOWAS Commission, Community Parliament, Community Court of Justice, ECOWAS Bank for Investment and Development (EBID) , West African Health Organisation (WAHO), West African Monetary Agency (WAMA), West African Monetary Institute (WAMI), ECOWAS Youth & Sports Development Centre (EYSDC), ECOWAS Gender Development Centre (EGDC), Water Ressources Coordination Unit (WRCU), ECOWAS BROWN CARD, The West African Power Pool (WAPP), the Inter-Governmental Action Group against Money Laundering and Terrorism Financing in West Africa (GIABA) , West African Regional Health Programme (PRSAO) and the ECOWAS Regional Centre for Renewable Energy and Energy Efficiency(ECREEE)

One import element cutting across the regional integration in Africa is that where the blocs have formed the supranational institutions, they have not been able to facilitate them and provide them with enough funds to enable them perform their work. The existing supranational institutions lack legal force to enforce implementation in the territories of the member states. It defeats understating therefore on what we in want from the regional integration processes in Africa. Because of the lack of funding by the member states the existing supranational institutions continue to be funded by the so called development partners who are from the developed countries. But whose interest do these funders protect, is it African interests or that of the owners of the money? So can we achieve an economically integrated Africa with strong independent and effective supranational institutions?