Starting from the theory of customs union and recent contributions to it, the paper tries to apply the theoretical inferences about welfare effects of trade integration within the EU on Croatia and its business sector. The analysis focuses on static and dynamic effects which follow from increasing export possibilities and advantages from economies of scale. Taking into account the pace of trade liberalization, the paper estimates the effects of Croatian non-participation in the EU and the potential adjustment costs arising from increased competition from the new EU-member countries and the changing pattern of specialization. In doing so, the export similarity index and the methodology of intra-industry trade (IIT) have been applied. Implications on the business sector and management practice have also been included.
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Regional economic integrations play an important role today as they offer easier access to the international market for domestic companies. This importance is further reinforced by the increasing competition on the world market and product differentiation caused by imperfect market structures, consumers' demand for differentiated products and dynamic technological advance. This, together with the increasing globalization of business activities make it easier for companies from less developed (transition) countries to successfully participate in global production and distribution networks. However, in order to achieve this, national competitiveness should be improved, including the company level restructuring and development of new business strategies. The second half of the 20th century was marked by an increase in the number of preferential trade agreements (PTAs), with the EU being the best example. Although PTAs are generally considered not to be harmful to non-member countries' exports, many empirical studies found out that they do not always occur without a negative effect, either on the third parties or the general welfare (Krueger, 1997, Ohyama, 2007). Therefore, the aim of the paper is to find out the effects of economic integration in Europe, primarily of the EU-eastern enlargement on Croatian trade and exports in particular. The purpose is to access international competitiveness of Croatian exporters and estimate the expected structural adjustments both at the national and company level. The paper is structured as follows. The first part gives an overview of classical and recent theoretical contributions to the preferential trade area analysis - from Viner's static effects to long-term dynamic effects. Recent developments in Croatian trade and that of the new member countries of the EU are presented in the second part, followed by an analysis of export similarity and IIT in the third part of the paper. The final part concludes.
2. EFFECTS OF TRADE INTEGRATION
The classical theory views trade integration as a step towards free trade with, consequently, positive welfare effects for the participating countries as well as for the world as a whole. However, modes and dynamics of trade integration, together with country-specific characteristics make it difficult to unanimously conclude on the welfare implications of trade integration.
2.1. Short-term effects of trade integration
Viner (1950) differentiates between two main (static) effects of trade integration - trade creation and trade diversion. In a customs union (CU), trade creation occurs when one product, which had previously been produced in each of the countries, is now produced in one of the CU members which achieves the highest efficiency. Trade creation influences, thus, allocation efficiency in each of the member countries and encourages specialization according to comparative advantage. According to the factor proportion theory, the advantages of such specialization are mutual - both for the low-cost producer and the importing country1. …