Brazilian Trade Liberalization and Integration in the 1990s. André Averbug* * Economist with the BNDES-PNUD Association. Abstract

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1 Brazilian Trade Liberalization and Integration in the 1990s * Economist with the BNDES-PNUD Association André Averbug* Abstract This article aims to review the process of Brazilian trade liberalization and integration over the last decade of the century. Emphasis is given to the analysis of the two principle integration projects in which Brazil has been engaged: the implementation of the Southern Cone Common Market (Mercosul) and the negotiations on the formation of the Free Trade Area of the Americas (FTAA). Another issue discussed is the rapprochement between Mercosul and the European Union (EU). The study concludes that liberalization and integration should continue to intensify, albeit not without a reflection on their effects, in such a way as to maximize their benefits and minimizing their costs. An essential factor in this process is the consolidation of Mercosul and its parallel negotiations with the FTAA and the European Union.

2 Introduction The 1990s witnessed significant changes in Brazil s foreign trade policy. The period was characterized by a wide-ranging process of trade liberalization that began during the Collor administration and extended to the government of President Fernando Henrique Cardoso. Brazil s commercial integration has occurred in the context of a new globalized world order, based on the model of the so-called new regionalism, that is characterized most notably by the integration of countries through bilateral and multilateral agreements (free trade zones, customs unions and common markets). This article aims to review Brazilian trade liberalization and integration over the last decade. In particular, we analyze the principal integration projects in which the country was involved: the implementation of the Southern Cone Common Market (Mercosul) and the negotiations regarding the formation of the Free Trade Area of the Americas (FTAA) 1. Another question considered is the possibility of an approximation between Mercosul and the European Union (EU), which could present major opportunities for Brazil. The following section presents a history of the process of Brazilian trade liberalization. The subsequent section begins with a brief introduction to the new regionalism, with the aim of presenting the background to the changes that have been observed in international trade, as well of dealing with issues concerning Mercosul and the FTAA and the relationship between Mercosul and the European Union. The final section brings together the conclusions of the study. 2. Brazilian Trade Liberalization The pace of the liberalization process chosen by Brazil in the second half of this century has been dictated by the political and economic realities at each point in time. The country has alternated between protectionist and liberal polices as a way of managing domestic questions such as trade deficits, the vulnerability of certain segments of industry, price controls, exchange rate variations, political and diplomatic questions, etc. Between , the Brazilian tariff structure was characterized by a high mean, mode and variation in rates, by redundancy at all points of the productive chain, due to the proliferation of special import regimes and non-tariff barriers, as well as by extreme stability of tariff rates 2. The same period was characterized by protectionism linked to a policy of import substitution (principally during the 1970s, due to the oil crisis). After this period, between , a wide-ranging process of liberalization took place, in which greater transparency was given to Brazil s defenses, in which the principal non-tariff barriers were eliminated and the level and degree of protection for local industry was gradually reduced. Between , the average tariff rate fell from 41.2% to 17.8%, special import regimes were abolished (except for those linked to drawback, to regional development, to export incentives, to the government, to Befiex and to international agreements), various taxes on foreign purchases were unified, while the level and variation in the degree of tariff protection for local industry was lowered slightly, with the average rate reduced from 51.3% to 37.4%, the modal tariff from 30% to 20% and the range of rates from 0-105% to 0-85%. In 1990, the new Industrial and Foreign Trade Policy was introduced, abolishing most of the non-tariff barriers inherited from the period of import substitution, and defining a timeframe for the reduction of import tariffs. This reduction was intended to take place gradually between , so that at the end of the period, the maximum tariff would be 40%, the modal tariff 20% and the standard deviation in rates less than 8%. 1 This analysis is limited to commercial questions. No attempt is made to discuss other issues such as macroeconomic harmonization, investment flows, the impact on employment and productivity, etc. 2 The first four paragraphs of this section are based on Moreira and Corrêa (1996). 2

3 - 3 - While the tariff schedule had only been maintained until October 1992, when the cuts planned for 1993 and 1994 were implemented in advance, the protection structure was defined in the following way: Products without a domestic equivalent, with a distinct competitive advantage and a high degree of national protection, as well as to low value-added commodities were exempted from tariffs. A rate of 5% was applied to products that were already subject to this rate in 1990; Rates of 10% and 15% were applied to sectors making heavy use of raw materials subject to a zero tariff; Most manufactured products were subject to a tariff of 20%, with a 30% tariff applied to fine chemicals, wheat, pasta, record players, VCRs and hi-fi equipment; The automobile and computer sectors were subject to nominal tariffs of 35% and 40% respectively. In 1995, with the Real Plan already in effect and the commercial integration policies of Mercosul already in the process of implementation, import policies were subordinated to the objectives of establishing price stability and protecting (even if only moderately) the sectors most severely affected by the then recent liberalization. These two objectives often exerted contrary pressures, since the former demanded a greater degree of opening of the economy to imports, while the latter supported the opposing principle 3. Table 1 shows the distinct declining trend in average import tariffs until 1995, reflecting the advances in Brazil s trade liberalization. The average rate fell by half between 1980 and 1993, and continued to fall until the end of the period. TABLE 1 Import Tariffs Year Average Basic Rate Source: Baumann et al. (1998). From 1996 onwards, however, a slight upward bias was observed in import tariffs, in an attempt to contain the increase in the current account deficit due, among other factors, to the stability of the real. Table 2 shows that between , the mean tariff rose from 13.6% to 13.8%, and subsequently from 14.23% in the first half of 1997 to 16.69% in the same period of the following year. A disaggregated analysis of import tariffs for the period shows that the sectors that suffered the largest increase between 1997 and 1998 (first half) were capital goods (from 9.76% to 16.34%), and raw and intermediate materials (from 9.9% to 12.3%). Another notable statistic is the large difference, in the majority of cases, between nominal and real tariff rates, that takes account of special import regimes (e.g. Aladi, Mercosul, free trade zones, the automobile sector agreement, etc.), and that reflect the still high level of tax exemption in the Brazilian economy. 3 The implementation of these two paradoxical but complementary policies (in the sense that both attempt to maintain economic equilibrium) has been a highly relevant factor in defining the direction of trade policies during the 1990s. 3

4 - 4 - TABLE 2 Average Tariffs for Brazilian Imports Jan-Jun 1997 Jan-Jun 1998 Category Nominal Rate Real Rate Nominal Rate Real Rate Nominal Rate Real Rate Nominal Rate Real Rate Raw and Intermediate Materials Capital Goods Consumer Goods Durable Consumer Goods Non-Durable Consumer Goods Transportation Equipment Fuels and Lubricants Building Materials Unspecified General Total Source: Internal Revenue Secretariat, Coget. Compilation: Economics and Management Institute (Iceg). Between , Brazilian exports rose from US$ 33.8 billion to US$ 53 billion, an increase of 57%, corresponding to average annual growth of 4.6% 4. During the same period, imports quadrupled, growing by an average of 15.4% to reach US$ 61.3 billion. This asymmetry in the rate of growth led to an inversion in the sign of the trade balance: A surplus of US$ 19.2 billion in 1988 became a deficit of US$ 8.4 billion in In 1998, exports fell by 3.5% as a result of the international crisis caused by the Asian crisis and the lower growth in world trade, when at the start of the year, exports had been expected to grow at a similar rate to that of Since imports fell by 6.2%, the trade deficit rose to US$ 6.4 billion. Table 3 gives details of the evolution of the Brazilian trade balance since TABLE 3 Trade Balance: Exports and Imports (US$ Million) Year Exports Imports Trade Balance ,789 14,605 19, ,383 18,263 16, ,414 20,661 10, ,620 21,041 10, ,793 20,554 15, ,597 25,480 13, ,544 32,701 10, ,506 49,859 (3,353) ,747 53,303 (5,556) ,987 61,351 (8,364) ,120 57,550 (6,430) Source: Central Bank. 4 We comment separately on the period to 1997 and the year 1998, due to Asian crisis that began in October of the former year, and that caused a wave of devaluations of currencies in that region, affecting Brazil s trade balance in two ways: by reducing the purchasing power (imports) of Asian economies, and by making their products more competitive in the international market. 4

5 - 5 - The behavior of the trade balance in the second half of the 1990s was conditioned by several factors, most of which had an expansionary effect on imports. Trade liberalization and economic stabilization after the launch of the Real Plan in July 1994 thus deserve particular mention, as do the process of integration within Mercosul, the deepening of the privatization program, the resumption of investment, and the Asian crisis itself. Table 4 shows the recent behavior of a breakdown of Brazilian exports. TABLE 4 Breakdown of Exports (US$ million FOB) Basic Semi-manufactured Manufactured Other Total ,549 5,807 18, , ,746 5,108 17, , ,737 4,691 17, , ,830 5,750 20, , ,366 5,445 23, , ,058 6,893 24, , ,969 9,146 25, , ,900 8,613 26, , ,474 8,478 29, , ,970 8,111 29, ,120 Change (%): * * / Source: Secex/MICT. *Annual average. The numbers reveal that during the entire period, the relative composition of Brazilian exports by sector remained more or less stable, with manufactured goods representing around 55% of total exports, basic goods around 25%, and semi-manufactured goods around 15%. Between , the only sector that showed any growth in exports, albeit only to a minor degree, was that of manufactured goods, the main products of which are automobiles and auto components. Other sectors were more adversely affected by the global crisis and the resulting retraction in international demand, most notably for basic products that had been recovering since 1995, but that also suffered from a fall in commodity prices. The principal primary exports include iron ore, soybeans, and coffee beans. Tables 5A and 5B present Brazilian exports by destination. 5

6 - 6 - TABLE 5A Exports by Economic Bloc (US$ Million FOB) European Union Aladi United States Asia Eastern Europe Africa Middle East Total ,491 8,370 5,646 1, ,194 34, ,194 7,718 5, ,012 1,076 31, ,773 4,919 6,285 5, ,036 1,124 31, ,730 7,628 7, , ,962 9,146 8,023 6, ,112 1,245 38, ,812 9,745 8,951 7, ,350 1,078 43, ,912 9,975 8,798 8, ,586 1,280 46, ,836 10,928 9,312 7,814 1,056 1,527 1,345 47, ,513 13,599 9,407 7,730 1,313 1,520 1,455 52, ,744 13,324 9,865 5,613 1,163 1,651 1,611 51,120 Change (%): * * 1998/ Source: Secex/MICT and European Union. *Annual average. TABLE 5B Exports by Economic Bloc (%) European Union Aladi United States Asia Eastern Europe Africa Middle East Other Total Sources: Secex/MICT and European Union. It should be noted that the most important markets during the 1990s, both in terms of relative growth and of import volumes, were the Latin American Integration Zone (Aladi) (growth of 31.7% between , with a volume of US$ 13.3 billion in the final year of the period), the United States (27.8% growth and US$ 9.9 billion, respectively) and the European Union (49.4% and US$ 14.7 billion). In 1998, the European Union remained the principal destination for Brazilian exports, accounting for 28.8% of these, followed by Aladi (26.1%), the United States (19.3%) and by Asia (11%). In the same year, exports to the United States and to the European Union grew by 4.9% and 1.6% respectively with respect to 1997, reflecting the higher growth potential of exports to the latter region, as will be discussed below. 6

7 - 7 - In 1998 sales to Aladi countries and to Asia fell by 2% and 27.4% respectively, relative to 1997, most notably as a result of the Asian crisis. The Aladi countries account for 40% of Brazilian exports of manufactured goods, mainly as a result of sales to Mercosul. Of the total of U$ 13 billion exported to Aladi countries in 1998, US$ 8 billion went to Mercosul (62% of the total). Sales to Argentina represented over 13% of Brazil s total export sales, a share second only to the United States. Outside Mercosul, the main destinations for Brazilian exports among Aladi countries were Chile (2%), Mexico (2%), Venezuela (1.4%) and Bolivia (1.3%) [Rêgo (1999)]. These exports remain at modest levels, and offer major growth potential. 3. Regional Integration As has been observed above, some of the principal factors that boosted Brazilian external trade during the 1990s were the regional integration initiatives: Mercosul and the FTAA. The victories and challenges of Mercosul and the discussions surrounding the creation of the FTAA (in addition to the question of the European Union) will be discussed in turn, following a suitable introduction to the New Regionalism The New Regionalism Important advances were made in analyzing the process of regional integration from the 1950s onwards, with the work of Viner (1950), Meade (1951 and 1955), Vanek (1965) and Lipsey (1960 and 1970) among others. These economists specialized in the study of regional integration, the formation of preferential trade areas, as well as of bilateral and multilateral trade flows. Until that point, the defenders of regional integration had pointed to the process as a positive development, in that it created trade and international integration. Having said this, from that moment onwards, the analysis was extended to the question of trade diversion, which was then considered to be the dark side of regionalism 5. Viner s dichotomy of trade creation versus trade diversion formed the basis for analyzing the impact on the state of the so-called Old Regionalism that had emerged in the post-war period, and that took the form of preferential trade areas. The New Regionalism, which came into effect principally from the end of the 1980s onwards, with the maturing of negotiations for a free trade area between the United States and Canada, as well as with the consolidation of the European Union, aimed to determine whether preferential trade areas represented an obstacle or an aid to the unhindered liberalization of global trade. The ideas of the New Regionalism arose most notably from the sharp changes in the outlook for the world economy. Either (1998) provides a good account of the differences between the Old Regionalism and the current economy, which he summarizes in three fundamental points: Most developing countries have abandoned policies of autarky (e.g. import substitution policies in Latin America and the closed economies of former Communist countries), and are opening to multilateral trade; Direct investment on the part of developed countries in developing countries is a fundamental aspect of the world economy; The multilateral liberalization of trade in manufactured goods between industrialized countries is much more complete than was the case years ago. 5 Trade creation and diversion refer respectively to the increase in intra-regional trade resulting from the implementation of a preferential trade area, and the redirection of trade flows from excluded markets (independent of whether they are more competitive or not) to the preferential partners. For a more detailed discussion on trade diversion within Mercosul, see Yeats (1998). 7

8 - 8 - Considering the differences in economic cycles, Regionalism is, again according to Either (1998), characterized by the following points: Free trade areas are formed by at least one economically smaller country linked to a larger country (e.g. NAFTA, with Mexico and Canada subordinated to the United States, and Mercosul, which is dominated by Brazil); The smaller countries are passing or have passed through significant unilateral reforms; Trade liberalization occurs principally in the smaller rather than the larger countries: i.e. agreements tend to be one-sided; 6 Regional agreements generally involve a deeper degree of integration than the simple reduction of tariff barriers, including customs unions (Mercosul), and the harmonization and adjustment of economic policies, as well as agreements of a political nature (European Union); Free trade areas are generally formed between neighboring countries. In this new context, the very notion of trade diversion is being revised and questioned. Krugman (1991), for example, suggests that while free trade areas may be responsible for the occurrence of trade diversion, it is unlikely that the net result, in terms of global efficiency, is negative, since most countries in question are neighbors, and hence commercial relations between them would be naturally boosted, even before they take the form of a free trade area. The losses arising from trade diversion may therefore be limited, while the gains from trade creation will tend to be substantial Mercosul: Implementation and Challenges 7 The formation of Mercosul was the South American response to the demands of the new world economy, grounded in the context of the New Regionalism. This bloc was the culmination of trend that began in the 1950s, when the Economic Commission for Latin America and the Caribbean (ECLAC) defended the idea of greater regional integration and cooperation, and that extended over the following decades, as globalization progressed. The need for greater integration between Brazil, Argentina, Uruguay and Paraguay had become increasingly evident, since neighboring countries, most notably of the size of the first two of these, lose growth opportunities if they remain isolated. The Mercosul integration process became official in 1991, with the signing of the Asuncion Treaty, and has been developing gradually until the present day, with the institution of a free trade zone, the establishment of a customs union, and the gradual creation of a common market between the four countries. Current integration plans are even more ambitious. Mercosul has bilateral agreements with Chile and Bolivia of the 4+1 kind (with these two countries intending to join the bloc on a formal basis), it is negotiating with other regional blocs within the Americas, as well as with the European Union, and is also involved in the formation of a free trade area for the Western Hemisphere, as will be seen below. The Asuncion Treaty This treaty makes provision for a free trade zone, a customs union and the constitution of a common market between Brazil, Argentina, Uruguay and Paraguay, with the free circulation of goods, services 6 It should nevertheless be remembered that in the majority of cases, the larger and more developed countries already have lower tariffs (although here we are ignoring non-tariff barriers). 7 This section is based on Averbug (1998). 8

9 - 9 - and productive factors. The principal objectives are to promote intraregional trade, to modernize the local economy and to project the region in the international economy on a competitive basis. The deadline for the adoption of these measures was established as January 1, Due to the complexity of integrating countries with distinct economic, political, social and cultural characteristics, however, the process as a whole had to be delayed, and is developing more slowly than expected. The Asuncion Treaty establishes that Mercosul will be based on the following assumptions [Rêgo (1995)]: The creation of a trade liberalization program based on progressive, linear and automatic tariff reductions, and the elimination of commercial restrictions of all kinds, with the abolition of tariffs on intraregional trade (free trade area); The establishment of common external tariffs and trade policies that promote greater competitiveness among the four countries (customs unions); The gradual coordination of sector and macroeconomic policies; The adoption of sector agreements; The setting, during the constitution of the common market, of a general regime of origin, common safety clauses, and a provisional system for settling disputes; The harmonization of legislation in relevant areas. Of the three principal points that compose Mercosul, it is commercial integration that has made the most notable advances, despite the disputes and conflicts between member countries. The customs union, despite the progress made, remains a source of controversy and conflicts of interest. The formation of a genuine common market (in which goods, services and labor circulate freely), still requires a great deal of effort and commitment, principally with regard to the flow of services and labor, and the coordination of macroeconomic, sector and legislative policies. The Free Trade Zone From January 1, 1995 onwards, as established in the Asuncion Treaty, the vast majority of products traded between the four member countries began to circulate free of tax. Despite this, each country was entitled to a transition regime that aimed to protect a limited list of products that were considered to be vulnerable to foreign competition. The Brazilian list included 29 products, the Argentine list 212, the Paraguayan list 432 and the Uruguayan list 963 products. Such products have gradually lost these privileges, with the adaptation period scheduled to end in 2006, in the case of Paraguay, and in 2001 for the other countries. Statistics show that the bloc was successful in its objective of promoting intraregional trade. This point is illustrated by the fact that between , exports within the region rose from 11.1% (US$ 5.1 billion) to 24.7% (US$ 20 billion) of total exports. Annual growth in intrabloc exports during this period averaged 21.6% between (se Table 6), Brazilian exports grew by 68% (11% per year), Argentine exports by 145% (19.6% per year), Paraguayan exports by 178% (22.7% per year) and Uruguayan exports by 97.2% (14.5% per year). The region absorbed around 17% of Brazilian exports in 1997 and 1998, with Brazil consuming 91%, 65% and 51% of intrabloc exports from Argentina, Paraguay and Uruguay respectively in the latter year. 9

10 Of total Argentine exports for 1993, 21.4% (US$ 2.8 billion) went to Brazil, a share that rose to 29.3% (US$ 7.8 billion) in 1997, before falling to 25.6% (US$ 6.8 billion) in Within the Argentine automobile sector, before the Brazilian crisis of 1999, 90% of exports went to Brazil, giving rise to the term Brazil dependence. At the same time, Argentina has distinguished itself as the country with the best intrabloc trade surplus (In 1997, for example, it achieved a surplus of US$ 2 billion, or 22% of exports, while in the same year, Brazil recorded a deficit of US$ 400 million, due to its negative balance with Argentina and Uruguay). Bilateral trade between Brazil and Argentina represents approximately 75% of total trade flows within the region. In 1998, this intraregional trade flow shrank for the first time since 1993, with Brazil and Argentina the worst affected countries, both of which experienced a fall in exports. TABLE 6 Intraregional Exports Mercosul (US$ Million) Source Destination Argentina 3,674 4,804 6,769 7,025 8,996 7,380 Brazil 2,811 3,655 5,484 6,615 7,752 6,750 Paraguay Uruguay Brazil 5,387 5,921 6,154 7,305 9,043 8,877 Argentina 3,659 4,136 4,041 5,170 6,767 6,747 Paraguay 952 1,054 1,301 1,325 1,406 1,249 Uruguay Paraguay ,920 Argentina Brazil ,250 Uruguay Uruguay ,234 1,331 1,730 Argentina Brazil Paraguay Mercosul 10,024 11,956 14,384 17,124 20,169 19,907 Argentina 3,674 4,804 6,769 7,925 8,996 7,380 Brazil 5,287 5,921 5,921 7,305 9,043 8,877 Paraguay ,920 Uruguay ,234 1,331 1,730 Sources: Dataintal System (Bidintal) and Aladi. Data: Data sources supplied by respective official agencies of each country. Trade conflicts between the four countries are common, since these tend to adopt protectionist measures in line with their own interests. These measures include non-tariff barriers, quotas, anti-dumping actions, anti-subsidy and compensatory actions, sanitary restrictions, etc. While in many cases, the reasons for these are legitimate (irregular monitoring, hygiene and sanitary problems, etc.), behind this phenomenon is one of the major problems faced by Latin American countries: a current account deficit. 8 This concern causes such countries to implement measures that hinder imports and boost exports. 8 After the devaluation of the real, Brazil s current account deficit began to show signs of shrinkage. Having said this, the country is still seeking to generate a substantial trade surplus in order to stoke up the economy and minimize the recessionary effects associated with the devaluation. 10

11 Protectionism has increased in the wake of the Asian and Brazilian crises, since the devaluation of the respective currencies increased the competitiveness of their products and reduced the capacity of the countries in question to import. These developments represent a threat to Latin American exports, most notably in the case of the Brazilian devaluation, since Brazil is the destination for a large proportion of the exports from the other Mercosul members. Two sectors that have generated much controversy between Brazil and Argentina are the automobile and sugar sectors, which have been subject to accords and parallel negotiations. The automobile sector accounts for a significant share of the industrial production of both countries, and is a particularly sensitive case. At present, Brazil imposes an import tax of 35% on imports of automobiles, albeit with manufacturers included in the Brazilian automotive system 9 paying 20%. In Argentina, the import tax is 23%, with manufacturers that have operations within that country paying half this rate. A common customs regime is nevertheless due to come into force on January 1, 2000, according to Decision 21/97 of the Common Market Committee (CMC). Under the terms of the Mercosul Common Automotive Regime, member countries intend to adopt a common external tariff of 35% for vehicle imports, and of between 16-18% or auto components, with a preferential rate 50% lower for companies that have established operations in one of the four member states, before eventually abolishing intrabloc tariffs. Having said this, the exact rate of tariffs is still under discussion, and changes are possible in the forthcoming negotiations. In the case of sugar, Argentina has refused to accept the liberalization of intraregional trade, alleging that Brazilian industry receives subsidies through the Proálcool program. This issue has been subject to many disputes, with Argentina continuing to tax Brazilian sugar, while an ad hoc sugar group is studying a liberalization program to bring the product into the free trade regime in The latest advance in this area was a small reduction of 10% in the import tariff granted by Argentina at the last meeting between the leaders of the four countries in December 1998, held in Rio de Janeiro. Customs Union The customs union consists of a series of measures that are intended to harmonize the bloc s trade policies with regard to third-party countries. The basis of this union is the common external tariff (CET), a series of import taxes common to the four countries on foreign products. The CET has been set between 0-23% for some 90% of the products in question, with the remaining 10% included in a list of exceptions that should gradually converge to the norm in The list of exceptions allows the countries to adapt to the new competitive conditions of the international market, accepting the principle of differentiated tariffs for certain products, in accordance with their needs. Tariffs are levied at high rates on imports that are considered to be a threat to domestic production of similar goods, while low tariffs are applied on certain strategic goods (capital goods used in production of export products, goods not produced in the domestic market, products without foreign competition, etc.). Each country has included around 300 tariff rates on the list (this number varies due 9 On December 26, 1996, the Brazilian Automotive Regime came into force, its introduction justified on grounds that it was necessary to develop domestic automobile production, most notably by promoting the entry of foreign producers, and through the expansion of existing plants. The regime is based on the granting of fiscal incentives, bonuses and other kind of benefits to the companies in question, most notably to incoming foreign producers. Such companies will have special facilities for importing products, in return for certain compensation commitments, in accordance with rules for limits and quotas. This greater opening to imports should in theory improve the quality and lower the price of cars produced within Brazil, allowing these to become competitive and granting access to products (BK, auto components, raw materials) of the highest quality. This improvement in competitiveness will be reflected in the external market, stimulating Brazilian exports and preparing the Brazilian automobile market for the greater degree of openness that will result from the establishment of Mercosul s Common Automotive Regime from 2000 onwards. 11

12 to the economic peculiarities of each member state: Brazil included only 233 items on the list, Paraguay 399), with these due to be eliminated by 2001 or 2006, depending on the case. The Brazilian list ranges from capital goods such as tube laminating machines for industry (subject to a 20% tariff in 1998) to consumer goods such as cassette players (32%), sewing machines (20%), hairdryers (29%) and cardiac pacemakers (10%), etc. Rules of origin were also created with the aim of avoiding the triangular circulation of goods from countries outside the bloc. The rules establish that goods sold within the four countries will only be exempt from taxes if at least 60% of their raw materials are produced in the region. The rule also applies to capital goods, to products listed as exceptions, and to goods subject to safeguards. Once again, a number of exceptions have been permitted, in accordance with the specific situation of each country. (Paraguay was allowed a national content level of 50% for certain products, while Uruguay maintains bilateral accords with Brazil and Argentina that favor the export of 288 products to the formers country, and 1,500 to the latter), although these privileges should be gradually abolished by Common Market By definition, in a common market, goods, services, capital and labor should circulate freely between member states, without any obstacles related to the nationality of citizens. There are also hopes that legislation on labor and pension questions will be harmonized. At the same time, unlike the exchange of goods and capital flows that have been developing steadily, the circulation of human capital between Mercosul countries remains heavily subject to bureaucracy. Immigration procedures remain complex. In Brazil, for example, immigrants from other Mercosul countries still meet with difficulties in establishing businesses within the country (a Brazilian partner is compulsory), as well as in gaining recognition for university diplomas and in enrolling children in school (education systems are often incompatible, even if there is a table of equivalence of academic qualifications that facilitates the transfer of pupils). There is also a profound lack of coordination of legislation on pensions, with the result that foreigners are unable to add years of service in their countries of origin in their time of service for pension purposes. In addition, it is still not possible to remit pension contributions from one country to another, limiting the flow of this kind of capital. Another question that still distances Mercosul from a common market is the fact that there is no economic coordination between member countries on the lines of the Maastricht Treaty, which made provision for the monitoring and harmonization of macroeconomic variables, in addition to introducing a common European currency at the start of The economic and social harmonization project for Mercosul is still fragile, most notably when compared with the progress achieved by the European Union. While Mercosul has made substantial progress on commercial questions, there is still a long way to go before a customs union is consolidated and a common market is formed with all the characteristics of an integrated region, including better economic, social and legislative coordination between member countries. In addition, many convergence deadlines established in the Asuncion Treaty have had to be postponed, while it is still unclear whether others will be met. Despite the obstacles and problems mentioned above, the consolidation of Mercosul has brought clear economic and political benefits to Brazil. From an economic point of view, for example, a significant increase in intraregional trade has been observed, creating opportunities for economies of scale and stimulating a greater flow of investments to the region. Mercosul has also served to tighten political and diplomatic ties between member countries, a point of particular note for Brazil, which has historically tended to remain more distant from its Hispanic neighbors. 12

13 The future of Mercosul will depend of the degree of commitment and solidarity of the bloc s leaders in the face of internal problems (trade disputes, lack of coordination of economic policies, etc.), as well as on the possible integration of the group into larger free trade areas, with the presence of more heavyweight countries such as the United States. Almeida (1999), for example, has two conflicting visions of the future of Mercosul: an optimistic vision in which the integration project is realized, with the formation of a common market characterized by the free circulation of goods, services and productive factors, and a pessimistic vision that warns of the dilution of Mercosul in a large free trade zone covering the whole of the Western hemisphere, similar to the FTAA The FTAA 10 One of the most relevant debates seen within the Americas refers to the formation of the Free Trade Area of the Americas (FTAA), including the 34 countries of the hemisphere with the exception of Cuba. There have been periodic meetings between presidents, ministers, assistant ministers and representatives of the private sector within these countries, with the aim of agreeing on better ways of achieving integration. At the same time, the issue has generated much dispute and disagreement, most notably between the United States and Brazil, the most significant representatives of North and South America respectively. More emphatic discussions on the idea of integrating the Americas commercially, with the abolition of tariff and non-tariff barriers, began at the end of the 1980s. It was only in 1994, however, that the presidents of the 34 countries in question met to decide on goals and set deadlines for the realization of the project. To date, six major meetings have been held between representatives of these countries, of which two at presidential and four at ministerial level (as well as meetings between assistant ministers), with some of these accompanied by forums directed at the private sector. At the Presidential Summit in Miami (December 1994), the first major step was taken towards the formation of the FTAA, with the 34 presidents agreeing to increase cooperation and integration within the Americas, including the formation of a continental free trade area by The presidents also made a commitment to increasing access to their markets, and made an effort to formulate balanced agreements that showed understanding on issues involving tariff and non-tariff barriers, agriculture, subsidies, investments, intellectual property law, government procurement, services, technical barriers to trade, safeguards, rules of origin, anti-dumping legislation, sanitary procedures, the resolution of trade disputes and competition policies [IDB (1997)]. In the action plan drawn up by this forum, it was decided that the Special Trade Committee of the Organization of American States (OAS) would carry out a systematic and comparative analysis of all the agreements in force within the hemisphere. As early as the first presidential summit, it became clear that the ambitions of the FTAA, led by the United States, were limited to the consolidation of a continent-wide free trade zone, with no thought of forming a customs union or a common market such as that of Europe. In June 1995, the 1 st Ministerial Meeting on Trade (the Denver Summit) took place in Denver, where it was agreed that negotiations on the FTAA would be completed by 2005, with working groups formed to achieve this end in seven areas considered to be essential to the integration process: access to markets; customs rights and rules of origin; investments; regulations and technical barriers to trade; sanitary measures; subsidies; and smaller economies. Each group took responsibility for specific terms of reference, with a commitment to compile information, identify problems and make recommendations on how to proceed in its respective area. 10 Part of this section is based on Averbug (1999). 11 As we will see below, this deadline became unrealistic in the face of the difficulties and divergences experienced during the negotiations. At the present time, discussion of deadlines is fraught with uncertainties. 13

14 In March 1996, the city of Cartagena played host to the 2 nd Ministerial Trade Meeting (the Cartagena Summit). Its principal contribution was the formation of four new work groups: one on intellectual property rights, one on services, one on public sector purchasing and one on competition policies. These work groups received technical assistance from a tripartite committee formed by the OAS, the Inter- American Development Bank (IDB) and by ECLAC. The debate also intensified around the question of how and when the FTAA negotiations would begin. The groups concluded that much solid preparatory work would be necessary in order to achieve concrete results by the end of the century, and began to question the feasibility of completing negotiations by the previous deadline. At the 3 rd Ministerial Meeting, held in Belo Horizonte in May 1997, (the Belo Horizonte Summit), the aim of concluding negotiations by 2005 was reaffirmed, with a commitment made to concrete advances in this direction by the end of the millenium. A twelfth work group was also created for solving disputes. Mercosul proposed that the negotiations should consist of three phases: measures for facilitating negotiations, issues that did not imply market access, and explicit negotiations. The Canadians and Americans proposed, however, that the negotiations should take place in a single session, ignoring the proposed stages. Since no agreement was reached on this basic question, a decision was made to postpone the discussion to the 2 nd Presidential Summit in Santiago, Chile. The main points agreed in Belo Horizonte were [IDB (1997)]: Consensus is the fundamental principle in decision making on the FTAA; The result of the FTAA negotiations will constitute a single undertaking; The FTAA will be compatible with the agreements of the World Trade Organization (WTO); Countries may negotiate with or join the FTAA individually or as members of a subregional grouping; Special attention must be given to smaller economies; An administrative secretariat of a temporary character should be created to assist with negotiations; The Tripartite Commission would prepare a feasibility study of the alternatives for establishing this administrative secretariat. The 4 th Ministerial Meeting took place in San José, Costa Rica, in March 1998, where nine negotiating groups were formed, each one responsible for a specific area, and following a work program defined by the Commercial Negotiation Commission, formed of the assistant ministers, with an aim to identifying links and defining appropriate procedures for ensuring effective and timely coordination between groups. The 12 issues assigned to the former work groups were merged among the negotiating groups or eliminated, while new areas were introduced, such as agriculture. Each group defined one country as president and another as vice-president, taking into consideration the need to maintain a geographical balance between the nations (see Figure 1). Figure 1 Negotiating Group Presidency Vice-Presidency Access to Markets Colombia Bolivia Investments Costa Rica Dominican Republic Services Nicaragua Barbados Public Sector Purchasing United States Honduras Resolution of Disputes Chile Uruguay-Paraguay Agriculture Argentina El Salvador Intellectual Property Rights Venezuela Equador Subsidies, Anti-Dumping Actions and Compensatory Rights Brazil Chile 14

15 Competition Policies Peru Trinidad and Tobago Source: Ministerial Declaration of San José. Another important agreement signed in San José regards the rotation of the presidency of the FTAA. The country occupying the presidency of the bloc will host future ministerial meetings and preside over the Commercial Negotiation Committee. Figure 2 presents the agreed timetable: Figure 2 5/1/98-10/31/99 11/1/99-4/30/2001 5/1/ /31/ /1/ /31/2004* Presidency Canada Argentina Ecuador Joint Presidency between Vice- Argentina Ecuador Chilc Brazil and the United Presidency States Source: Ministerial Declaration of San José. * Brazil and the United States will remain as Joint Presidents until the conclusion of negotiations. The 2 nd Presidential Summit of the Americas, that was held in Santiago, Chile in April 1998, gave priority to non-trade themes such as education, human rights, freedom of the press, expression and information, poverty, corruption. Money laundering, terrorism, arms trafficking, drug trafficking, the environment and international financial crises, with no significant changes in trade and integration policies. Tables 7 and 8 present the shares of countries in intra-hemisphere trade flows. The numbers show the predominance of NAFTA (notably the United States) in regional trade, representing between 85-90% over the years of total internal flows, while Brazil accounted for an average of slightly less than 5% of total exports, increasing its share of imports from around 3% between to 4.6% in The numbers clearly show the existing asymmetry within the continent, where in 1996, for example, the 30 other countries within the region accounted jointly for only 8.7% of imports and 9.9% of exports. 15

16 TABLE 7 Imports within the FTAA % % % 1996 % NAFTA (US$ Million) (US$ Million) (US$ Million) (US$ Million) Canada 120, , , , United States 512, , , , Mexico 41, , , , Mercosul Argentina 6, , , Brazil 22, , , , Paraguay 1, , , , Uruguay 1, , , , Andean Pact Bolivia , , , Colombia 5, , , , Ecuador 2, , , , Peru 3, , , , Venezuela 8, , , , Caribbean Common Market Bahamas 1, , , Barbados Belize Guyana French Guyana , Jamaica 1, , , , St Vincent & the Grenadines Trinidad & Tobago 1, , , , Central American Common Market Costa Rica 1, , , , El Salvador 1, , , , Guatemala 1, , , , Honduras , , , Nicaragua , Chile 7, , , , Haiti Panama 1, , , , Other Total 749, , ,108, ,248, Source: Carvalho and Parente (1998), Direction of Trade Statistics, IMF. NB: Average of the last 2 years. TABLE 8 Exports within the FTAA % % % 1996 % Nafta (US$ Million) (US$ Million) (US$ Million) (US$ Million) Canada 127, , , , United States 407, , , , Mexico 34, , , , Mercosul Argentina 12, , , , Brazil 31, , , , Paraguay Uruguay 1, , , , Andean Pact 16

17 Bolivia , , Colombia 6, , , , Ecuador 2, , , , Peru 3, , , , Venezuela 16, , , , Caribbean Common Market Bahamas Barbados Belize Guyana French Guyana Jamaica 1, , , , St Vincent & the Grenadines Trinidad & Tobago 1, , , , Central American Common Market Costa Rica 1, , , , El Salvador , Guatemala 1, , , , Honduras , Nicaragua Chile 8, , , , Haiti Panama Other Total 664, , , ,069, Source: Carvalho and Parente (1998): Direction of Trade Statistics, IMF. NB: Two-year average. Opinions on the FTAA Within Brazil there is a relative consensus on the formation of the FTAA: the consolidation of a hemisphere-wide free trade area would be likely to carry more disadvantages than advantages for the country, if it were imposed in an isolated, asymmetric and hurried fashion. Brazil must thus analyze this possibility carefully before making a commitment. The following exposition is based on the work of several specialists. Coutinho (1998), for example, suggests that the most constructive and advantageous option for Brazil and for Mercosul) is that of pursuing a policy of multilateral integration with the three large groupings at the same time: the FTAA, the European Union and Asia. He also emphasizes that the FTAA could represent a significant trade and investment opportunity for Brazil and for Mercosul, albeit under certain conditions that include: The formation of strong and large business groups that are able to act globally; The establishment of new competitive specialization in high value-added sectors, presupposing the accumulation of technological capacity and the formation of endogenous foci of innovation in business groups; Capacity building within the State for the implementation of modern policies that protect against unfair trade, the regulation of monopolies and competition, and that allow the introduction of dynamic and sustained production models. 17