The four member countries, Argentina, Brazil, Paraguay and Uruguay of MERCOSUR (Common Market of the South) have agreed to increase import tariffs to 35 percent, the maximum allowed under WTO rules, on 100 industrial products until December of 2014 to protect domestic industries.  Their manufacturing companies have been under import pressures from Asian competitors and that is expected to intensify with slower import growth in EU and U.S. markets. This action reflects the history of MERCOSUR and the imbalances now faced in world markets.

MERCOSUR was founded in 1991 as an economic and political agreement to promote the free movement of goods, people and currency among the four countries.  It is now a customs union with common external tariffs and freer internal trade.  The four members have a GDP of $2.9 trillion in 2011, 4.5 percent of world GDP.  Bolivia, Chile, Columbia, Ecuador and Peru are associate members, with Ecuador actively seeking full membership.  Venezuela signed a membership agreement in 2006, but expansion requires the approval of parliaments of each member and Paraguay’s Parliament refuses to grant approval.

Internal squabbles have occurred.  Argentina and Brazil applied non-automatic import licenses on a range of each other’s goods earlier this year. Uruguayan businesses have complained that Argentina is blocking their imports.  Paraguay, 6.5 million people, and Uruguay, 3.3 million people, generally support removal of tariffs and other restrictions on trade for their small economies since they use many industrial products that cannot be supplied by their domestic industries.  Chemicals, capital goods and textiles are expected to be among the products charged the higher tariffs.  Uruguay’s trade lately has been at odds with the latest tariff action because China is its second largest trading partner after Brazil.

The four countries have a history of government management of industries, with tariffs as part of the management effort.  This latest move on tariffs leaves the impression of support for a policy of self-sufficiency within MERCOSUR.  That is the direct opposite of the comparative advantage basis for freer trade.

Brazil is the dominant force in MERCOSUR with 203 million people and a GDP of $2.1 trillion, the largest economy in South America and the world’s 9th largest.  Its industrial base is losing its international competitive position and earlier this year the government imposed a 30 percent industrial tax sir charge on imported automobiles and trucks with less than 65 percent MERCOSUR-produced content. The government estimates that half of the cars imported will pay the additional tax.

Argentina has 42 million people and a GDP of $600 billion per year, with a government that is even more interventionists than Brazil and uses export controls on agricultural products to hold down domestic consumer food prices.  Argentina has imposed anti-dumping measures and other restrictions on Chinese products to protect domestic industries.  Argentina has particularly benefited from strong prices for agricultural products.

Brazil’s action in support of higher tariffs is consistent with its position in the Doha Round of WTO trade negotiations.  As a major agricultural exporter, Brazil had a huge stake in efforts to lower agricultural import tariffs in developed countries, but did not support lowering bound tariff levels on industrial goods as part of a breakthrough agreement.  They apparently wanted to keep maximum bound industrial tariffs high to provide protection for industries that were created by the industrial policies of the countries in the MERCOSUR customs union.  That four country market has about 255 million people.  If Venezuela were allowed to join, the market would grow to over 280 million.

The MERCOSUR countries are right to be concerned about increasing competition for industrial products from China and other Asian exporters.  The strong Brazilian currency, the real, is partly caused by the low interest rates / weak dollar policies of the U.S. Federal Reserve.  With the Chinese Yuan pegged to the dollar and allowed to only increase slowly by the Chinese central bank, currency values play a role in favor of imports.  Brazil and Argentina should have concentrated in recent years on becoming competitive in international markets for industrial products and negotiating a new Doha agreement that would have increased world markets.  Brazil is also one of the BRIC countries (Brazil, Russia, India and China) that have held regular consultations and should have demanded that China end its export dependent economic policies.

Brazil and Argentina appear for now to have taken the route of creating a protected regional market for industrial products while still trying to operate in an open export markets for raw materials, agricultural commodities and food products.  That may work as long as their commodity exports remain strong, but raw material and agricultural product demand will be cyclical in the future just as it has in the past.  Industries gain efficiencies in home markets by being internationally competitive and those gains are felt by workers and the economy as a whole.  Protected economies are not efficient ones and workers and governments suffer.

While MERCOSUR is looking inward, other countries in Central and South America are looking outward for more trade.  Chile and Peru are members of the Trans-Pacific Partnership and working with the U.S. and six other countries, and possibly also Japan, on a new free trade agreement.  Those two have also joined with Colombia and Mexico (and Panama as an observer) to form a new trade bloc, the Alliance of the Pacific, to improve their relationship with the markets of the Asian “tigers.”  Having a working relationship with others countries seeking economic growth through trade is a path to greater domestic economic growth.

Everyday governments make policy choices that create or retard opportunities for industries and workers to have increased incomes.  The MERCOSUR countries have a trade policy problem with China, but market isolation has been tried over and over and has not produced efficiencies that improve incomes and the standard of living for workers.  Trade creates the innovation and specialization of labor that leads to an increased standard of living.

Ross Korves is an Economic Policy Analyst for Truth About Trade and Technology