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2 Literature Review and<br />
Rationale for SAFTA<br />
LITERATURE REVIEW<br />
RTA and FTA objectives include: market access; investment<br />
attraction; strengthening domestic policy reform<br />
and positive signaling to investors; increased bargaining<br />
power vis-à-vis third countries (a particularly strong<br />
motivation in the case of Mercosur; the actual or potential<br />
use of regional agreements for tactical purposes by<br />
countries seeking to achieve multilateral objectives and<br />
strategic objectives. (Slazar-Xirinachs, 2002)<br />
RTAs, as frequently pointed out in the literature,<br />
are measures that allow countries to ‘lock-in’ reforms,<br />
both in trade and non-trade areas, and therefore function<br />
as good commitment mechanisms, enhancing the<br />
credibility of policy reform and sending positive signals<br />
to global markets. But how effective RTAs can act as<br />
commitment mechanisms depends on the credibility of<br />
the threat of action if rules are broken. In the context<br />
of SAFTA, since judicial and enforcement mechanisms<br />
have not been explicitly spelt out given the national<br />
sensitivities, member to member resolution of disputes<br />
may be the best option.<br />
Another positive link between RTAs and domestic<br />
reforms occurs to the extent that RTAs accelerate<br />
domestic reforms that reduce price distortions because<br />
countries can no longer maintain substantial price<br />
differentials when they open up their economies. In<br />
other words, RTAs put pressure on countries to eliminate<br />
domestic distortions that are incompatible with<br />
free trade, and in this sense they serve as building blocks<br />
towards multilateral liberalisation.<br />
A third type of positive influence of RTAs on<br />
domestic policy reform, for which there is a fair amount<br />
of anecdotal evidence, is that these agreements have<br />
induced positive behavioural changes in the traditionally<br />
rent-seeking behaviour by the business communities.<br />
In many countries, the prospect and the reality<br />
of increased import competition has led the local<br />
business communities to be more interested in reducing<br />
domestic distortions in transportation costs, the costs<br />
of telephone calls, electricity rates, and interest rates<br />
that hinder their ability to compete with firms from<br />
countries with which FTAs have been entered. SAFTA,<br />
to the extent that it reduces rents for high tariff<br />
protected intermediate products, will reduce costs for<br />
downstream finished products manufacturers, and<br />
make them more costs competitive both regionally and<br />
globally. Regional trade agreements can therefore help<br />
countries build on their comparative advantages,<br />
sharpen their industrial efficiency, and act as a springboard<br />
to integrate into the world economy.<br />
In the context of RTAs, there have been several<br />
studies that have examined the likely impacts of SAFTA.<br />
However, the debates on rationale of SAFTA have<br />
focused on its desirability, feasibility and implementation.<br />
Jayatillake (2001) addresses the question of desirability<br />
of SAFTA using a global computable general<br />
equilibrium (CGE) model. The study identifies three<br />
types of viewpoints on SAFTA (optimistic, pessimistic<br />
and moderate) and supports the pessimistic view. The<br />
study examines six conditions highlighted in the PTA<br />
literature for the successful implementation of a PTA.<br />
These are: geographical proximity; high pre-PTA tariffs;<br />
high level of intra-regional trade; the existence of trade<br />
complimentarily; differences in economic structure<br />
based on competitiveness; and less political tensions<br />
among member countries. Examining the conditions<br />
in South Asia in the context of these prerequisites indicates<br />
that the conditions required for creating a successful,<br />
trade promoting PTA might be lacking in the region.<br />
Further, the study uses a standard GTAP model to<br />
evaluate the effect of SAFTA. Two opposite policy simulations<br />
are performed, i.e. a unilateral trade liberalisation<br />
scenario and a preferential trade liberalisation<br />
scenario. The results show that while the impact of