Economic integration refers to an arrangement between two or more regions that includes reduction or elimination of tariff or non-tariff trade barriers and coordination between fiscal and monetary policies. Economic integration among nations aims to lower cost for both consumers and producers in order to increase trade flow among countries involved in the trade agreement. Broadly, economic integration is classified into three groups – integration of goods/service markets, integration of financial markets and integration of factor markets (Baier, Bergstrand and Feng 2014). The first form of integration is used to evaluate economic integration of Italy and Sweden. Economic openness of the two nations are computed using the trade flows and GDP of the nation. Trade flows of countries are computed as a sum of export and import and goods and services. Export of goods and services refers to sales of domestic product to the international market while import of goods and services refers to the purchase of goods and services from abroad. Trade flows include both export and import (Hosny 2013). Gross Domestic Product of a nation indicates sum of the values of goods and services that a country produces in a given year. Trade flows presented as a percentage of GDP thus measures share of external activities in aggregate output or extent of economic integration.
The measures of openness for Italy and Sweden show that degree of openness is higher for Italy compared to Sweden. In both the nations, however degree of openness has increased over time. In addition to trade flows, there are alternative measures that can be used to measure economic integration. Indicators that represents economic integration include extent of foreign direct or foreign portfolio investment, flow of migrant labor, immigration and extent of offshoring (Ortega and Peri 2014).
The overtime trend in degree of openness of Italy and Sweden. The trade flow accounts nearly 46 percent of total GDP of Italy in the year 2003. The trend of openness reveals a continuous increasing trend from 2003 to 2007 with percentage of trade in total GDP increased to nearly 55 percent in 2007. The percentage share of trade in GDP declined to 45 percent in 2008 and since then started to increase with percentage share of trade in GDP being close to 57 percent in 2015.
In case of Sweden, the estimated degree of openness is greater than Italy. Trade accounts a much larger share of Sweden’s GDP. The estimated share of trade in GDP of Sweden in 2000 approximately equals 76 percent. The trade share continued to increase until 2008 with share being as high as 93 percent. The share slightly declined in 2009 but still accounted to be 83 percent. Since then the continuous increase in export and import contributed to an increase in trade share. The share of trade flows in GDP accounted to be 86 percent in 2015.
The standard theory of trade suggests that participating in trade; a country can improve its welfare. With trade, country can enjoy a wide range of goods and services at a relatively cheaper price. Before trade, consumption of a nation remains limited by the goods and services produced within the nation (Balassa 2013). Opening up to trade expands consumption choice of the nation. Trade thus has a welfare enhancing effect and contributes to economic development. For purpose of the paper, GDP per capita is taken as a proxy measure of economic development. The relation between openness and economic development has been evaluated by computing the correlation between GDP per capita and openness. For Italy, the correlation between GDP per capita and openness is computed as 0.41. The positive correlation suggests that openness has a positive association with GDP per capita. That means increase in openness contributes to an increase in per capita GDP of Italy and hence, increases economic development (Van den Berg 2016). For Sweden, the correlation between openness and GDP per capita is 0.57. Higher correlation suggests a relatively stronger association between the two. The evidences for Italy and Sweden thus suggest that more and more involvement in trade contribute to economic development.
Given that, Each Italian workers can produce 1 shoe or 2 calculator and each Swedish worker can produce 4 shoes or 2 calculators. The information is presented in the table below
|
Number of units /unit of time |
Shoe |
Calculator |
|
Italy |
1 |
2 |
|
Sweden |
4 |
2 |
Worker in Italy produce 1 shoe while workers in Swede can produce 4 shoes per unit of time. As Swedish works are able to produce more shoes per unit of time, Sweden enjoys an absolute advantage in production of shoes (Viner 2016). In case of calculators, workers in both the countries can produce 2 calculators per unit of time. Therefore, two countries are in same position in production of calculators.
Comparative advantage of a nation is determined by evaluating opportunity cost of production. A country is said to have a comparative advantage if it can produce a good at a relatively lower opportunity cost (Levchenko and Zhang 2016). The opportunity costs of shoe and calculator for Italy and Sweden are presented in the following table
|
Opportunity Cost |
Shoe |
Calculator |
|
Italy |
2/1 = 2 |
½ |
|
Sweden |
2/4 = 1/2 |
4/2 = 2 |
As shown from the above table, in order to produce 1 shoe, Italy needs to sacrifice 2 calculators while Sweden sacrifices only 1/2 calculator. Sweden thus has a lower opportunity cost to produce shoe giving Sweden a comparative advantage in shoe production. In order to produce 1 calculator, Italy needs to forgo ½ shoe while Sweden needs to forgo 2 shoes. The opportunity cost of calculator is lower in Italy as compared to Sweden. Italy thus has a comparative advantage in producing calculators.
There are total 80 workers in Italy. Therefore, Italy can produce maximum of 80 shoes or 160 calculators. Slope of PPF for Italy is (80/160) = 1/2. In Sweden, there are 60 workers. Sweden therefore can produce 240 shoes or 120 calculators. Slope of PPF for Sweden is therefore, 240/120 =2.
In autarky, relative price of calculators is same as the opportunity cost of calculators. Therefore, the autarky relative price of calculators in Italy is ½. The autarky relative price of calculators in Sweden is 4/2 = 2.
Under autarky, both countries produce both goods. Each country divides the available labors equally between the two goods. For Italy, the total available labor is 80. 40 workers then engage in producing shoes and rest of the 40 workers engage in producing calculators. Optimal production of shoe in Italy is 40 and optimal production of calculator is 80. For Sweden total available workers is 60. In Sweden, 30 workers then produce shoe and 30 workers produce calculators. Optimal productions in Sweden are 120 shoes and 60 calculators. In autarky, countries cannot consume beyond its domestic production (Feenstra 2015). The optimal consumption thus is same as optimal production.
|
Autarky Production/Consumption |
Shoe |
Calculator |
|
Italy |
40 |
80 |
|
Sweden |
120 |
60 |
References
Baier, S.L., Bergstrand, J.H. and Feng, M., 2014. Economic integration agreements and the margins of international trade. Journal of International Economics, 93(2), pp.339-350.
Balassa, B., 2013. The theory of economic integration (routledge revivals). Routledge.
Feenstra, R.C., 2015. Advanced international trade: theory and evidence. Princeton university press.
Hosny, A.S., 2013. Theories of economic integration: a survey of the economic and political literature. International Journal of Economy, Management and Social Sciences, 2(5), pp.133-155.
Levchenko, A.A. and Zhang, J., 2016. The evolution of comparative advantage: Measurement and welfare implications. Journal of Monetary Economics, 78, pp.96-111.
Ortega, F. and Peri, G., 2014. Openness and income: The roles of trade and migration. Journal of international Economics, 92(2), pp.231-251.
Van den Berg, H., 2016. Economic growth and development. World Scientific Publishing Company.
Viner, J., 2016. Studies in the theory of international trade. Routledge.
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