This paper analyzes two potential trade liberalization scenarios – a Free Trade Area of the Americas (FTAA) and possible links between MERCOSUR and the European Union (EU) – in a world computable general equilibrium (CGE) model. The model also incorporates some macro elements such as a cash- in-advance mechanism and rigidities in wages and exchange rates. The empirical results show that the two alternative regional integration scenarios are good for the participants while have little impact on the non-participants. Both scenarios are net trade creating, as trade creation greatly exceeds trade diversion, and the trade-diversion has relatively minor effects on the affected regions. The gains are larger for the Latin American participants than for their large potential partners – the U.S. and EU. These results are consistent with earlier studies of NAFTA, which also predicted small positive gains for the U.S. and large gains for Mexico. Many countries in Latin America are currently undergoing macroeconomic strains, and growth in the region has slowed. In this environment, external shocks and stabilization and structural adjustment programs are likely to lead to significant swings in trade balances and exchange rates. These issues will have to be considered in acknowledging that it is hard to reap the long-term benefits of trade liberalization in an environment of macroeconomic instability.
