ABSTRACT
The essential features of a customs union (CU) are: • the elimination of tariffs on imports from member countries; • the adoption of a common external tariff on imports from the
rest of the world; • the apportionment of customs revenue according to an agreed
formula. The establishment of a customs union will generally alter the relative prices of goods in the domestic markets of member countries, with repercussions on trade flows, production and consumption. The theory of customs unions analyses these effects and their implications for resource allocation and for the welfare of a participating country, for the group as a whole and for the world. Since the common external tariff can be set at any desired level, in principle a customs union can establish the tariff, and therefore union prices, at levels that will maximize the social welfare, however defined, of the participating countries as a group. The effects, and the gains and losses that a customs union may give rise to, result from its impact on: (1) the allocation of resources and international specialization; (2) the exploitation of scale economies; (3) the terms of trade; (4) the productivity of factors; (5) profit margins; (6) the rate of economic growth; (7) the distribution of income.
