1

Hrvoje Joi, Ph.D.

Faculty of Economics and Business Zagreb
International Economics Department
J. F. Kennedy Square 6
!!!! Zagreb" #roatia
Email$ %&osic'ef(g.%r
Mislav Joi, Ph.D.
Faculty of Economics and Business Zagreb
International Economics Department
J. F. Kennedy Square 6
!!!! Zagreb" #roatia
Email$ m&osic'ef(g.%r
STATIC AND DYNAMIC EFFECTS OF CUSTOMS UNION
CEATION
Abstract: The benefits of free trade arrangements in regard to autarky were known
from the time of classical economists. The process of regional and global economic
integration started in the second half of the twentieth century. Regional economic
integrations can be expressed in the form of free trade area, customs union, common
market and economic (monetary and political union). There are benefits and costs of
accession into these regional economic integrations. n this paper customs union as a
form of regional economic integration is presented and explained. f the positi!e effect
of customs union accession (trade creation) outweights the negati!e one (trade
di!ersion), country should "oin the custom union. The goal of this paper is to
demonstrate and explain the benefits and costs of customs union creation using
microeconomic aparatus and #uantitati!e analysis. The anticipated accession of
$roatia into %uropean &nion $ustoms &nion (%&$&) is considered and presented
using static and dynamic effects of customs union creation which are thoroughly
analysed. The importance of $%'TA market for $roatia is specially highlighted and
explained. The analysis has shown that the anticipated ()*+. $roatia,%&$& accession
will ha!e small positi!e static and potentially positi!e dynamic effect on country-s
welfare.
.ey words: customs union, static and dynamic effects, $roatia,%&$& accession.
/%0 classification: '*1
1
!. INTODUCTION
)%e benefits of free trade arrangements in regard to autar*y +ere *no+n from t%e time
of classical economists. )%e process of regional and global economic integration
started in t%e second %alf of t%e t+entiet% century. ,egional economic integrations can
be e-pressed in t%e form of free trade area" customs union" common mar*et and
economic .monetary and political union/. )%ere are benefits and costs of accession into
t%ese regional economic integrations. )rade creation and trade di0ersion effects of
customs union creation +ere firstly introduced by Jacob 1iner .23!/ in %is classical
+or* 4The $ustoms &nion ssue5 staying a corner stone in classic t%eory of
international economic integration up6to6date. )%ese are static effects of custom union
creation7 trade creating efect %as a positi0e efect +%ile on t%e ot%er side trade di0erting
effect %as a negati0e effect on country8s +elfare. Bela Balassa .26/ in %is paper 4The
Theory of %conomic ntegration5 +as t%e first to introduce dynamic effects of customs
union creation$ increased competition bet+een member countries" e-ternal economies
of scale" rapid spread of tec%nology" terms of trade" etc. Dynamic effect of customs
union creation are less analysed in economic literature compared to static effects but
%a0e many times greater impacton country8s +elfare. If t%e positi0e effect of customs
union creation out+eig%ts t%e negati0e one" country s%ould &oin t%e custom union. In
t%is paper customs union as a form of regional economic integration +ill be presented
and e-plained in t%e case of anticipated E96#9 customs union. In t%e second c%apter is
gi0en empirical literature on t%e sub&ect of customs union creation" in t%ird c%apter are
presented types of regional economic integrations and e-plained customs union static
and dynamic effects +%ile in t%e fourt% c%apter are analysed static and dynamic effects
of t%e anticipated #roatia6E9#9. :t t%e end of t%e paper are gi0en final considerations
and concluding remar*s.
". EMPIICA# #ITEATUE ON THE SU$JECT OF CUSTOMS UNION
CEATION
)%e empirical literature on customs union formation is associated +it% t%e +or* of
1iner .23!/" ;eade .233/ and <ipsey .23=/. )%ey %a0e analysed t%e consequences
of &oining regional trade agreements from t%e 0ie+point of +elfare effects. )%e focus
+as especially on t%e difference bet+een t%e free trade area .F):/ and customs union
and t%e remo0al of tariffs and introduction of t%e common e-ternal tariff on trade.
Jacob 1iner +as t%e first one to pointed out t%at regional trade agreements do not
necessarily result in gains to member countries. >e defined and analysed t%e statis
effects of customs union creation7 trade creation and trade di0ersion effect. :ccording
to 1iner customs union can postulate" eit%er trade creation" or trade di0ersion +%ic%"
raises or lo+ers t%e country?s +elfare accordingly" @n t%e ot%er %and" <ipsey argues
t%at trade di0ersion can raise +elfare" :ndroni*i et al .A!!/. B%ag+ati .2=!/ also
e-amined t%e issue of t%e +elfare impact of regional economic integrations and pro0ed
1
t%at trade6di0erting customs union may lead to a net increase in +elfare. :ccording to
t%e Kemp6Ban proposition .2=6/ t%ere e-ists common tariff 0ector t%at leads to
competiti0e equilibrium in +%ic% eac% indi0idual country is not +orse off t%an before
t%e customs union creation. :lt%oug% t%eoretically feasible compensation sc%eme
t%roug% transfers lac*s political appro0al due to t%e fact t%at not all countries +ould be
+illing to ma*e trade concessions +it%out reciprocity. Belo+ is presented empirical
literature in t%e last t+o decades on t%e sub&ect of customs union creation$
;ic%alopolous and )arr .22=/ analyses t%e economic implications of t%e
establis%ment of a customs union bet+een four #IS members countries .Belarus"
Ka(a*stan" t%e Kyrgy( ,epublic and ,ussia/. )%e static effects +ould tend to be mi-ed
but +ould be especially ad0erse for countries t%at %ad already establis%ed relati0ely
liberal trade regimes +it% a lo+er a0erage and less differentiated tariff structure t%an
t%at under t%e common e-ternal tariff contemplated for t%e proposed customs union.
)%ey conclude t%at t%e dynamic effects of t%e customs union are li*ely to be negati0e
because it +ould tend to loc* t%e countries into t%e old tec%nology of t%e So0iet 9nion.
:*sen and )oc%its*aya .A!!/ also analyse t%e costs and benefits of t%e Belarus?
participation in t%e customs union of t%e #IS countries based on t%e study of t%e static
and dynamic economic effects and t%eir impact on t%e nation?s +elfare" and t%e
Belarus? economy gro+t% rate. )%e results of t%e analysis %as s%o+n t%at pre0alence of
trade di0ersion effect and %ence +elfare losses +ere e-perienced in c%emistry and
petroc%emistry" lig%t" +ood and +ood6proceeding" mac%ine6building and metal6
+or*ing industries. :brego and ,ie(man .A!!C/ use computational tec%niques to
assess +%et%er or not 0arious propositions t%at %a0e been ad0anced as plausible in t%e
literature on t%e t%eory of customs unions actually %old. Karaman and <er(an D(*ale
.A!!3/ in0estigate )ur*ey?s import demand function using an econometric panel data
application. Findings s%o+ t%at )ur*ey?s import demand is income elastic and price
inelastic. )%e analysis +as repeated for t%e main import sectors and empirical findings
indicate t%at #ustoms 9nion :greement %as trade creation effects among some sectors
and trade di0ersion effects among some ot%ers" +%ile no effects at all could be
calculated for t%e remaining. #a*ma* and Eruygur .A!!E/ in0estigate trade
implications of t%e )ur*ey6E9 customs union agreement to agricultural products. )%eir
findings s%o+ t%at t%e +inners of a possible )ur*ey6E9 customs union enlargement are
E9 countries. Dalimo0 .A!!2/ in %is researc% de0elops dynamic tools to t%e analysis of
trade creation and trade di0ersion effects under economic integration based on t%e
model de0eloped for interregional flo+ of t%e goods bet+een member states of t%e
union and t%e rest of t%e +orld. :nalysis %as s%o+n t%at interregional flo+ of t%e
goods as +ell as trade creation and trade di0ersion effects are correctly described by
one6dimensional Fa0ier6Sto-es equation"+it% t%e met%od itself complementing static
analysis of 1iner?s trade creation and di0ersion effects. :ydin" <. and Demirci" F.
.A!/. focuses on t%e effects of common e-ternal tariff to )ur*ey?s trade. )%e
simulation results %as s%o+ t%at )ur*ey %as been benefiting from t%e noticeable tariff
liberali(ation as +ell as impro0ed mar*et conditions in line +it% E9 since it ratified
custom union +it% E9. Gala .A!/ analy(es +%y t%e customs union bet+een )ur*ey
and t%e E9 does not manifest t%e e-pected static effects" +%y t%e trade s%are of t%e E9
decreased o0er four time in spite of t%e customs union agreement and +%at measures
s%ould be ta*en in order to increase t%e trade bet+een )ur*ey and t%e E9.
1
%. TYPES OF E&IONA# ECONOMIC INTE&ATIONS AND CUSTOMS
UNION STATIC AND DYNAMIC EFFECTS
,egional economic integrations %as become largely popular after t%e Second
Borld Bar. ;ain c%aracteristic of t%ese integrations is t%at a group of countries abolis%
all trade barriers among t%e integrated countries in order to ac%ie0e free international
trade on a regional rat%er t%an a global scale. It can be distinguis%ed bet+een follo+ing
types of economic integration agreements .presented in table /$
Greferential trade agreement .G):/$ In t%is form of agreement t%ere is no general
reduction on internal tariffs nor a common e-ternal tariff. )ariffs bet+een t%e
members of t%e agreement are reduced .or eliminated/ only for some goods or
ser0ices" sometimes unilaterally.
Free trade area .F):/$ ;ember countries eliminate internal tariffs on regional
trade +it%out any common trade policy relati0e to ot%er countries. >o+e0er it is
possible for one country to import all of a certain good t%at t%e ot%er country
pre0iously imported" only to turn around and trade it to anot%er country in its free
trade area. )%at problem is called trade deflection and it requires t%e use
certificates of origin for goods crossing t%e border.
#ustoms union$ <i*e in a free trade area member countries abolis% internal tariffs
on free regional trade and adopt a common e-ternal tariff against t%e rest of t%e
+orld.
#ommon mar*et$ In t%is type of economic integration member countries allo+ not
only for t%e free mo0ement of goods and ser0ices but also for t%e free mo0ement
of factors of production suc% as labor and capital.
Economic and ;onetaryHGolitical 9nion$ :n economic union can be considered
as an economic integration comprising a common mar*et and common economic
policies along +it% asupranational po+er t%at ma*es binding decisions" lessening
t%e po+er of member countries muc% furt%er on ma*ing t%eir o+n decisions"
Krueger" .223/. )%e economic union pro0ides grounds for creation of monetary
union and adoption of one currency in integrated region.
: customs union .#9/ is a form of trade agreement under +%ic% certain countries
preferentially grant tariff6free mar*et access to eac% ot%er?s imports and agree to apply
a common set of e-ternal tariffs to imports from t%e rest of t%e +orld
.:ndriamanan&ara" A!$'. Early e-amples of customs unions include t%e
Zoll0erein" formed in ECI by se0eral Jerman principalitiesband t%e EI= customs
union bet+een ;olda0ian and Balac%ia" a precursor to t%e creation of ,omania.
#ustoms unions %a0e t+o types of economic effects7 static effects and dynamic effects.
Static effects include trade creation effect and trade di!ersion effect.
1
Ta(le !) T*+es a,- .hara./eris/i.s o0 e.o,o1i. i,/e2ra/io,s
Source$:ut%ors
)rade creation occurs +%en t%e domestic production of a good in a member country is
replaced by t%e imports of t%e same good from anot%er member country +it%in t%e
customs union because of t%e lo+er cost production. )rade di0ersion occurs +%en t%e
imports from a non6member country are replaced by t%e imports of a member country
because of t%e remo0al of tariffs bet+een members and t%e application of common
customs tariffs to non6member countries.
Static and dynamic effects of customs union creation are presented on t%e partial
equilibrium frame+or* .microeconomic model/ in t%e figure . <et us assume t%is is a
microeconomic model of a small country. In t%e point
%
t%ere is an equilibrium le0el
.autar*y/ of domestic supply 2 and demand
3
. Grice of good
4
on t%e
international free mar*et is equal to
w
p +it% perfectly elastic supply cur0e
w
2 for
t%e good
4
in t%e small country. Small country no+ imposes an ad !alorem tariff in
t%e amount of K t . Fe+ price of good
4
in a small country is no+
/ . t w
p
+
+it%
perfectly elastic supply cur0e
/ . t w
2
+
. E-cess demand o0er supply
A5
is equal to
t%e quantity of imports
A
6 6 into small country. Small country is no+ entering into
regional customs union eliminating t%e tariff on intraregional trade and adopting t%e
common e-ternal tariff

.
Fi23re !) S/a/i. e00e./s o0 .3s/o1s 3,io, .rea/io,
1
In t%is case small country is entering into customs union +it% an inefficent producer$ t%erefore +ill be trade
creation and trade di0ersion effect.
1
Source$ ;arre+i&*" #. .A!A/ and aut%ors8 illustration
:fter t%e formation of t%e customs union t%e tarif t is eliminated" price of good
4
falls to
cu
p " demand increases from
A
6 to
I
6 " supply decreases from

6 to
C
6
+%ile imports from customs union rise from
A
6 6 to
I C
6 6 . <ets see +%at %as
%appened to t%e +elfare of producers" consumers and go0ernment in t%e small country.
Belfare for producers falls measured by t%e area a " consumers gain areas
c b a " "
and d +%ile t%e go0ernment loses re0enues from t%e tariff .areas c and e /. )%e
positi0e +elfare effect of customs union accession for small country is equal to t%e
areas b and d and is called trade creation efect .t%e so called >arberger triangle"
>arberger .23I//. Dn t%e ot%er side negati0e +elfare effect represents t%e area e .
Fet +elfare effect of customs union accession is equal to e d b + . If t%e trade
creation efefct is larger t%an trade di0ersion effect small country s%ould enter t%e
customs union.
:s apposed to static effects of customs union creation t%e less *no+n but muc% more
important are dynamic effects. )%e first systematic in0estigation of dynamic effects of
economic integration +as carried out by Balassa .26/. :ccording to Balassa dynamic
effects of customs union creation are$
%ffects on competition: :ccessing t%e customs union enlarges t%e mar*et in
comparison to protected trade and ma*es a producer sub&ect to ne+ forms of
1
competition. )%e increase in competition among business firms forces t%e
economic sub&ects to be efficient as possible in order to gain a ne+ mar*et s%are.
%ffects on economies of scale: :s t%e economic sub&ects are obliged to be optimal
efficient" t%e economies of scale +ill o0er+%elm t%e diseconomies of production.
Scale economies are associated +it% t%e use of e-pensi0e and specialised
equpment.
%ffects on capital formation and in!estment: #ustoms union could en%ance t%e
in0estment from outside in0estors and pro0ide stimulus to economic gro+t%.
In0estments are attracted to t%e most producti0e and competiti0e sectors +%ic% are
able to sur0i0e on t%e mar*et.
%ffects on technological ad!ances (inno!ations): #ustoms union cam impro0e
tec%nological inno0ations and progress t%roug% researc% and de0elopment
programmes.
%ffects on terms of trade: )erms of trade of member countries may impro0e
because t%ey can no+ %a0e greater bargaining po+er.
4. STATIC AND DYNAMIC EFFECTS OF CUSTOMS UNION CEATION)
THE ANTICIPATED COATIA5EUCU ACCESSION
#roatia is anticipated to access t%e European 9nion by t% July A!C. ;embers%ip in
t%e E9 also means t%e establis%ment of a customs union bet+een #roatia and E9. Fe+
member countries adopt a common e-ternal tariffs against t%ird countries .#ommon
E-ternal )ariff" #E)/ +%ile remo0ing remaining non6tariff barriers to international
trade. Beig%ted a0erage common e-ternal tariff .measured based on t%e s%are of eac%
product in total imports/ is C"AK +%ic% is less t%an t%e current a0erage tariff protection
in #roatia of I"3K
A
. )%e lo+ering and elimination of tariffs on mutual trade bet+een
#roatia and E9 +as reali(ed under t%e Stabilisation and :ssociation :greement signed
on A2t% Dctober A!!. )ransitional period commencing upon t%e entry into force +as
si- years. Entering t%e full members%ip t%e remaining non6tariff barriers to
international trade" suc% as discriminatory tec%nical regulations or incenti0es to buy
local .national/ products +ill be remo0ed. Entering t%e E9#9 #roatia +ill assume t%e
rig%ts and obligations under E9 agreements +it% :lbania" Bosnia and >er(ego0ina"
;ontenegro" ;acedonia and Serbia. It also means t%at it +ill continue duty6free
#roatian trade +it% t%ese countries and t%ere +ill be no ma&or negati0e consequences
of placing outside forces agreements +it% #EF): .#entral European Free )rade
:greement/ countries. )%e e-ception are e-ports of some agricultural and food
2
Fot including imports of duty6free products.
1
products in #EF): countries for +%ic% t%e go0ernment +ill retain tariff protection or
%a0e a quantitati0e restriction .quota/ on preferential imports .II, .A!A//.
C
Si(e of static effects of a customs union formation bet+een #roatian and E9 can be
estimated by formulas t%at can be deri0ed directly from t%e partial equilibrium model
of traditional t%eories of t%e customs union .#line et al., 2=E/. 9sing t%is formulas t%e
Institute for International ,elations .II,/ %as calculated in 22E t%e static effects of
#roatian integration into t%e E9 .SamardLi&a et al." 22E/. 1i(&a* .A!!/ analyses and
calculates static and dynamic effects of #roatia8s potential accession to t%e European
9nion. )rade creation effect on imports amounted at ="IK +%ile on t%e ot%er %and
trade di0ersion effect on imports amounted at !"=K. 9sing gra0ity model dynamic
effects +ere estimated on C=K increase in #roatian imports from t%e E9. Mu*ec et al
.A!!C/ also quantificates static and dynamic effects of customs union creation bet+een
#roatia and E9. )rade creation effect on imports equaled ="IK +%ile t%e trade
di0ersion effect equaled !"I2K. )otal net +elfare effect on #roatia +as estimated to be
positi0e +it% !"C3=K.
If +e loo* at t%e results of t%e past analysis it can be seen t%at in t%is +ay calculated
consequences on t%e international trade and +elfare in #roatia +ere relati0ely small.
From today8s perspecti0e t%ey are e0en muc% smaller because t%e tariffs rates in t%e
recent years +ere lo+ered especially after t%e signing Stabilisation and :ssociation
:greement in A!! and &oining #EF): in A!!C. It8s one of t%e reasons +%y t%ere %as
been a s%arp increase in imports in #roatia in t%e last decade +it% t%e resulting gro+t%
of t%e e-ternal debt. )%e goal of t%is c%apter is to calculate static and net6+elfare
effects of anticipated #roatia6E9#9 accession on #roatian economy and e-plain t%e
most important dynamic effects. In t%e figure A are presented static effects of t%e
anticipated #roatia6E9#9 accession. Figure A differentiates from t%e figure
.t%eoretical partial equilibrium model +it% one product/ because it ta*es into account
total imports of goods in #roatia. #ustoms union creation bet+een #roatia and E9 +ill
not affect all go0ernment re0enues" only part of trade bet+een #roatia and E9. In t%is
case go0ernment +ill loose only area c +%ile domestic consumers +ould get areas
d c b a + + + and producers +ould loose area a . )otal net +elfare effect on #roatia8s
+elfare +ould be areas d b + +%ic% is positi0e effect on #roatia8s +elfare.
I
Before
starting t%e quantiti0e analysis it is important to say t%at t%e magnitude of t%e effects of
t%e elimination of tariffs on t%e trade and +elfare follo+ing t%e establis%ment of a
customs union +ill depend upon four ma&or factors$
.a/ )%e %eig%t of t%e original tariff rates to be eliminated
.b/ )%e si(e of t%e fallin prices broug%t about by t%e abolition of tariffs
3
#roatia8s trade in non6agricultural goods +it% its largest trading partners is 0irtually duty free7 for
e-ample" t%e a0erage tariff on non6 agricultural imports .B)D definition/ from t%e E9 is !"K .B)D"
A!!/.
4
It can be said t%at t%e imports from t%e E9 countries are from t%e most efficient producer so t%e negati0e
effect on #roatia8s +elfare +ould not e-ist.
1
.c/ )%e responsi0eness of t%e import demand to c%anges in price in t%e indi0idual
countries" i.e.t%e price elasticity of demand for imports
.d/ )%e initial 0olume of imports from t%e partners" i.e. before t%e formation of
t%e union.
)%e greater t%e magnitude of eac% of t%e abo0e factors" t%e greater +ill be t%e increase
int %e total 0olume as +ell as 0alue of imports .,a%man et al "2E$6A/.
Fi23re ") S/a/i. e00e./s o0 /he a,/i.i+a/e- Croa/ia5EUCU a..essio,

2ource: Authors- illustration
9sing t%e #lein model earlier used by SamardLi&a et al" 1i(&a* and Mu*ec et al " trade
creation and trade di0ersion effect of t%e anticipated #roatia6E9#9 +ill be calculated
3
.
In t%e relation is presented and calculated trade creation effect$
K C6C " ! !!C6C " ! 6E " ! N !!= " ! N EI " ! N N = = = =
%&
7 T T$
/ .
5
:nalysis +ill be conducted for t%e year A!.
1
=
price elasticity of import demand for #roatia
6
= T
percentage c%ange of import prices due to tariff elimination in E9#9
=
%&
7 relati0e 0alue of imports from t%e E9 countries in total imports for #roatia
=

Gercentage c%ange of import prices due to tariff elimination in customs union is equal
to t%e difference bet+een t%e price c%ange of imports before and after customs union
creation
/ .
/ . %&$& t w
p p
+
presented in t%e figure A. Grice c%ange due to tariff
impose before customs union creation
/ . t w
p
+
+as calculated by di0iding
go0ernment tariff re0enue ."6 billion of *unas/ +it% t%e 0alue of imports in A!
.E"C6C billion of *unas/ and equals "C3K of price +it%out any tariff rate
w
p . Dn
t%e ot%er %and" price c%ange after t%e customs union creation
%&$&
p is calculated by
di0iding e-pected go0ernment tariff re0enue after t%e customs union creation .==!"
million of *una/ +it% t%e import 0alue and equals !"63K. E-pected go0ernment tariff
re0enue is calculated by multiplying e-pected non6preferential imports of goods after
t%e customs union creation .A!K of t%e mar*et/ +it% t%e a0erage common e-ternal
tariff int %e E9 +%ic% equals C"AK. Difference bet+een t%e t+o import price c%anges
equals !"=K of import price. #alculated trade creation effect from t%e anticipated
#roatia6E9#9 equals to !"C6CK of total imports in #roatia.
Fi23re %) I1+or/s i, Croa/ia 0ro1 EU5"6 a,- O7 8"9!!'
2ource: 382 and authors- illustration
6
Grice elasticity of import demand for #roatia is ta*en from t%e BobiO .A!!/ and is calculated for t%e period
bet+een A!!! and A!!= under K significance.
7
Gresented in figure C.
1
In t%e relation A is presented and calculated trade di0ersion effect of t%e anticipated
#roatia6E9#9 accession for t%e year A!.
/ N N . H. / N N N . T s 7 T s 7 7 T3
R9: %& R9:
+ = / A .
H / !!= " ! N C " ! N 6E " ! N CEA " ! . / N N . H. / N N N . = + = T s 7 T s 7 7 T3
R9: %& R9:
K !3 " ! !!!3 " ! / !!= " ! N C " ! N CEA " ! . . = = +
=
R9:
7 le0el of imports from rest of t%e +orld .outside t%e customs union/
= s coefficient of elasticity of substitution
E
#alculated trade di0ersion effect from t%e anticipated #roatia6E9#9 equals to !"!3K
of total imports in #roatia. Fet trade effect of t%e anticipated #roatia6E9#9 creation is
equal to t%e difference bet+een t%e trade creation and trade di0ersion effect and equals
!"CCK. In t%e figure I is presented net +elfare static effect in #roatia of t%e
anticipated #roatia6E9#9 accession.
Fi23re 4) Ne/ :el0are s/a/i. e00e./ i, Croa/ia o0 /he a,/i.i+a/e- Croa/ia5EUCU
a..essio,

2ource: Authors- illustration
8
For t%e purposes of t%e analysis it is assumed t%at t%e 0alue of coefficient is equal to !"C li*e in pre0ious
studies.
1
In order to calculate net +elfare static effects in #roatia of t%e anticipated #roatia6
E9#9 accession it is necessary to calculate re0enue effect .loss of go0ernment re0enue
from tariff elimination/ and +elfare effect .c%ange in +elfare of domestic producers
and consumers/. <oss of go0ernment re0enue equals area c +%ile t%e net effect on
domestic consumers and producers +elfare are areas c d b + + . )otal net +elfare
effect on #roatia8s +elfare equals areas / . d b + . It can be calculated using relation C$
A
7 T
:

=
/ C .
+%ere : is total net +elfare gain"
T
is percentage c%ange of import prices due to
tariff elimination in customs union and
7
is net trade effect
!
7 7 .
32C " A
A
" EC6C !!CC " ! !!= " !
A
=

=

=
7 T
: million of *unas
Fet +elfare effect on #roatian economy +ould amount to A"32C million of *unas +%ic%
represents only !"!!!=6K of #roatian JDG" t%at is in t%e range of statistical error. )%e
0alue of area e equals ==!" million of *unas. Since t%e go0ernment is obligated to
pay =3K of collected tariff re0enues into common E9 fond" re0enue loss for #roatian
go0ernment +ould be additional 3=="3=3 million of *unas +%ile t%e go0ernment
re0enues +ould be only 2A"3A3 million of *unas. Fegati0e net +elfare effect of
customs union creation +ould be 3=I"2EA million of *unas +%ic% represents !"6E K
of #roatian JDG.
:s opposed to t%e static effects of abolis%ing tariffs in t%e #roatia6E9 customs union
t%ere are dynamic effects of customs union creation t%at can not be measured using
pre0iously e-plained model. )+o main effect t%at could cause t%e e-pansion of trade
after t%e customs union creation are reduction of formalities at t%e border and t%e
elimination of non6tariff barriers to trade. It can result in immediate time and cost
sa0ings for enterprices +%ic% can lead to lo+er prices and e-pansion of trade.
Integration into t%e European 9nion +ill increase t%e mar*et s%are and t%us enable
e-ploitation of returns to scale. Increased competition +ill led to closure of
unprofitable enterprices and repeal of monopolistic and oligopolistic structures.
#roatian economy +ill also benefit from a number of mec%anisms t%at encourage
e-port competiti0eness" for e-ample de0elopment of basic and business infrastructure"
increasing and impro0ing efficient in0estment in energy and telecommunications
net+or*s" better a0ailability of business ser0ices and support mec%anisms to impro0e
t%e de0elopment of education" science and tec%nology .II," A!A$3I/. From t%e point
of in0estment acti0ity particularly important +ould be foreign direct in0estment .FDI/
from E9 countries in order to boost domestic gro+t% and facilitate structural c%anges.
1
;. CONC#USION
,egional economic integrations %as become largely popular after t%e Second Borld
Bar. ;ain c%aracteristic of t%ese integrations is t%at a group of countries abolis% all
trade barriers among t%e integrated countries in order to ac%ie0e free international trade
on a regional rat%er t%an a global scale. : customs union .#9/ is a form of trade
agreement under +%ic% certain countries preferentially grant tariff6free mar*et access
to eac% ot%er?s imports and agree to apply a common set of e-ternal tariffs to imports
from t%e rest of t%e +orld. #ustoms unions %a0e t+o types of economic effects7 static
effects and dynamic effects. Static effects include trade creation effect and trade
di0ersion effect. )%e goal of t%e paper +as to calculate and e-plain static effects of t%e
anticipated #roatia6E9#9 creation and demonstrate t%e most important dynamic
effects of customs union.
:nalysis of static effects +as conducted using #line model and datafor t%e year A!.
,esults of t%e analysis %as s%o+n t%at net trade effect of t%e anticipated #roatia6E9#9
creation is equal to !"CCK of total imports. #alculated consequences on t%e
international trade are 0ery small because t%e tariffs rates in t%e recent years +ere
lo+ered especially after t%e Stabilisation and :ssociation :greement. Fet +elfare
effect on #roatian economy +ould be positi0e but also 0ery small" in t%e range of
statistical error. Since t%e go0ernment is obligated to pay =3K of collected tariff
re0enues into common E9 fond" in t%is case negati0e net +elfare effect of customs
union creation +ould represents !"6E K of #roatian JDG.
:s opposed to t%e static effects of anticipated #roatia6E9#9 creation t%e most
important dynamic effects are reduction of formalities at t%e border" elimination of non6
tariff barriers to trade" increased competition and returns to scale" repeal of of
monopolistic and oligopolistic structures" de0elopment of basic and business
infrastructure" increasing and impro0ing efficient in0estment in energy and
telecommunications net+or*s" better a0ailability of business ser0ices and support
mec%anisms to impro0e t%e de0elopment of education" science and tec%nology.
:not%er important dynamic effect +ould be foreign direct in0estment .FDI/ from E9
countries in order to boost economic domestic gro+t% and facilitate structural c%anges.
1
EFEENCES
:brego" <. and ,ie(man" ,. .A!!C/" #omputation and t%e )%eory of #ustoms 9nions. :0ailable at$
P%ttp$HH+++.+allis. roc%ester.eduH &ones!IHccuC.pdfQ.
:*sen" E. and )oc%its*aya" I. .A!!/" %conomic %ffects of 5elarus; <articipation in the $2 $ountries
$ustoms &nion" Economic Education and ,esearc% #onsortium R ,ussia and #IS. :0ailable at$
P%ttp$HHpdc.ceu.%uHarc%i0eH!!!!2EIH!H!!6IICe.pdfQ.
:ndriamanan&ara" S. .A!/" $ustoms &nions. :0ailable at$ P%ttp$HHsiteresources. +orldban*.
orgHIF),:FE)),:DE H,esourcesH#3 .pdfQ.
:ndroni*i" K. et al .A!!/" #ustoms 9nion Belfare. ;IBES A!! R Goster" Katarac%ia" )sampouris"
Konstantinidis" 3I6 R 33C. :0ailable at$ P%ttp$HHmibes.teilar.grHproceedingsHA!!HposterH33Sfinal.pdfQ.
:ydin" <. and Demirci" F. .A!/" <ong6,un Effects of #ustoms 9nion bet+een European 9nion and
)ur*ey$ Is It Zero6Sum JameT" ;odern Economy" A!" A" CA6I. :0ailable at$
P%ttp$HH+++.scirp.orgHJournalHGaperInformation.asp-TpaperIDUIE2Q.
B%ag+ati" J. F. .2=!/" Trade 3i!erting $ustoms &nions and :elfare mpro!ement: A $larification. Bor*ing
Gaper Fumber 36" Department of Economics" ;I)" July 2=!. :0ailable at$
P%ttp$HHdspace.mit.eduHbitstreamH%andleH=A.H6IA=AHtradedi0ertingcu!!b%ag. pdfTsequenceU Q.
Balassa" B. .26/" )%e )%eory of Economic Integration" >ome+ood" I<$ ,. D. Ir+in" Inc." 26. :0ailable
at$ P%ttp$HH+++.&stor.orgH disco0erH!.AC!=HAAAE6EITuidUC=CEA!!Vuid UAVuidUIVsidUA!IEE!AEACQ.
BobiO" 1. .A!!/" 3ohodo!na i c"eno!na elasti=nost hr!atske robne ra>m"ene ? anali>a panel,podataka,
IstraLi0an&a I6A2" >FB" prosinac A!!. :0ailable at$ $ P%ttp$HH+++.%nb.%rHpubli*acHistra(i0an&aHi6!A2.%tmQ.
#a*ma*" E. >. and Eruygur" >.D. .A!!E/" )rade implications of e-tending t%e )ur*ey6E9 customs union
agreement to agricultural products" Greliminary draft. :0ailable at$ P%ttp$HHmpra.ub.uni6
muenc%en.deHAICEHH;G,:SpaperSAICE.pdfQ.
#line" B. ,. .2=E/" 5enefits and $osts of %conomic ntegration in $A$7" In #line" B. ,. and Delgado" E.
.eds/. Economic Integration in #entral :merica. Bas%ington$ t%e Boo*ings institution.
Dalimo0" ,.). .A!!2/" )%e Dynamics of )rade #reation and )rade Di0ersion Effects 9nder International
Economic Integration" $urrent Research /ournal of %conomic Theory ./$6I" A!!2. :0ailable at$
P%ttp$HHma-+ellsci.comHprintHcr&etH6I.pdfQ.
Mu*ec" Z. et al .A!!C/" #ost6benefit analysis of integration of #roatia into t%e European 9nion" %konomski
pregled" 3I .=6E/ 6366== .A!!C/. :0ailable at$ P%ttp$HH%rca*.srce.%rHinde-.p%pTs%o+Uclana*
VidSclana*S&e(i*UI!A!!Q.
>arberger" :. #. .23I/" ;onopoly and resource allocation" American %conomic Re!iew" ;ay 23I" II .A/"
==6E=. :0ailable at$P%ttp$HHecondse.orgH+p6contentHuploadsHA!HAH>arberger23I6;onopoly6and6resourse6
allocation6:E,.pdfQ.
II, .A!A/" @r!atska i %uropska &ni"a ? <rednosti i i>a>o!i =lanst!a" Institute for International ,elations R
I;D Zagreb" A!A. :0ailable at$ P%ttp$HH+++.imo.%rHfilesH%r0ats*aSiSeuSprednostiSi(a(o0iS.pdfQ.
Karaman" F.F. and <er(an D(*ale" F. .A!!3/" Static effects of t%e E96)ur*ey #ustoms 9nion" :0ailable at$
P%ttp$HH+++.etsg.orgH E)SJA!!6HpapersHK:,:;:F.pdfQ.
1
Kemp" ;. #. and Ban" >. W. Jr. .2=6/" :n Elementary Groposition #oncerning t%e Formation of #ustoms
9nions" /ournal of nternational %conomics A ." February/$ 23R2E. :0ailable at$
P%ttp$HH+++A.econ.iastate.eduHclassesHecon633HlapanH,eadingsHElementaryGroposition#oncerning#ustoms9
nionsKE;GB:F.pdfQ.
Krueger" :. D. .223/" Free )rade :greements 0ersus #ustoms 9nions" B5%R :orking <aper 1)CD" Fational
Bureau of Economic ,esearc%" #ambridge" ;:. :0ailable at$ P%ttp$HH+++.nber.orgHpapersH+3!EI.pdfQ.
<ipsey" ,. .23=/" )%e )%eory of #ustoms 9nions$ )rade Di0ersion and Belfare" %conomica" AI" February"
I!6I6. :0ailable at$ P%ttp$HH+++.&stor.orgHdisco0erH!.AC!=HA336A6TuidUC=CEA!!VuidUAVuidU
IVsidUA!66=AA6=Q.
;eade" J. .233/" )%e )%eory of #ustoms 9nions" :msterdam$ Fort%6>olland. :0ailable at$
P%ttp$HH+++.getcited.orgHpubH!A!3=26Q.
;ic%alopolous" #. and )arr" D. .22=/" The %conomics of $ustoms &nions in the $ommonwealth of
ndependent 2tates, :0ailable at$ P%ttp$HHpapers.ssrn.comHsolCHpapers. cfmTabstractSidU6!I2I3Q.
;inistarst0o financi&a ,epubli*e >r0ats*e .A!!/" EodiFn"e i>!"eFGe 7inistarst!a financi"a >a ()*). Eodinu,
:0ailable at$ P%ttp$HH+++.mfin.%rHadminma-HdocsHJodisn&a*KA!A!!.pdfQ.
Fic%olls" S.;. .223/" :elfare effects of economic integration in the $aribbean $ommunity ($AR$97),
:0ailable at$ P%ttp$HH+++.centralban*.org.bbH+ebcbb.nsfHBor*ingGapersHA3A#666D6C3#2:3#!
IA3=E6I!!I:C=!3HXFI<EHBG2236!3.GDFQ.
Dt%ieno" <. and S%inye*+a" I. .A!/" Trade, re!enue and welfare effects of the %ast African $ommunity
$ustoms &nion principle of assymetry on &ganda: An application of :its,2mart simulation model "
Economic policy researc% centre" ,esearc% series Fo. =2. :0ailable at$
P%ttp$HH+++.eprc.or.ugHpdfSfilesHseries=2.pdfQ.
Gala" :.;. .A!/" The customs union between Turkey and the %uropean &nion and its effects on the Turkish
economy, Economics ;aster8 s )%eses. Gaper . :0ailable at$ P%ttp$HHiris.lib.neu.eduHcgiH0ie+content. cgiT
articleU!!!Vconte-tUeconSt%esesQ.
,a%man" ;. :. et al .2E/" )%e )rade Effects of a Sout% :sian #ustoms 9nion$ :n E-pository Study" The
<akistan 3e!elopment Re!iew" 1ol. YY" Fo.. Spring .2E/. :0ailable at$
P%ttp$HH+++.&stor.orgHdisco0erH!.AC!=HIA3E3CETuidUC=CEA!!VuidUAVuidU IVsidUA!66A=6=I=Q.
SamardLi&a" 1. et al .22E/" >r0ats*a i E9 R *oristi i troZ*o0i integriran&a" Institut (a me[unarodne odnose"
Zagreb.
Sope*" G. .A!A/" <rora=unska perspekti!a @r!atske nakon ulaska u %&" :0ailable at$
P%ttp$HH(ec.(sem.%rHinde-.p%pH%rHo6*onferenci&iHet0rta6e*onoms*a*onferenci&aHrado0iTdo+nloadU =K
C:prorauns*a6perspe*ti0a6%r0ats*e6na*on6ulas*a6u6euSpetar6sope*Q.
1iner" J. .23!/" )%e #ustoms 9nion Issue" $arnegie %ndowment for nternational <eace" pp$I6337 :SIF$
B!!!DFJ #S!. :0ailable at$ P%ttp$HHcatalogue.nla.go0.auH,ecordHC!=I22Q.
1i(&a*" :. .A!!/" Jospodars*e *oristi od suradn&e ,epubli*e >r0ats*e i Europs*e 9ni&e" %konomski
pregled" 3A .=6E/ E366E=A .A!!/. :0ailable at$ P%ttp:HHhrcak.srce.hrH(CIA(J.
B)D .A!!/" Trade policy re!iew ? $roatia" )rade Golicy ,e0ie+ Body" B)H)G,HSHAA=. :0ailable at$
P%ttp$HH%rca*.srce.%rHAE=6AQ.