The radical reforms that have taken place in the economic systems of Central and Eastern European countries (CEECs) in the period since 1990 have also embraced their foreign trade regimes, with striking consequences for trade patterns and volumes. Trade with the EU is the now the largest and fastest growing part of the CEECs' trade with OECD economies. The existing momentum towards a free trade regime between the EU and the CEECs already created by the Europe Agreements will be accelerated by the enlargement of the EU to include some CEECs. In consequence, concerns have been expressed about the effects of this expanding trade on the existing EU economies. Whether these concerns are justified was the question posed by Alasdair Smith (University of Sussex and CEPR) at a lunchtime meeting organized by IEWS and CEPR, and held at the Romanian Institute for Free Enterprise on 17 October 1997, under the auspices of the Economic Policy Initiative.

Studies of the impact of the transition process on the EU have suggested that apparently high education levels, in quality as well as quantity, in the CEECs will give them a comparative advantage in high-tech products. In addition, the scope for expansion of high-tech production is reinforced by the sharp decline in military employment. These characteristics would seem to underpin the validity of the concerns that have been raised. In fact, however, Smith argued that the published CEEC educational statistics greatly overstated the international competitiveness of CEEC labour, and that this conclusion was clearly supported by the evidence from international comparisons of trade prices and educational statistics.

To illustrate this conclusion, Smith outlined four key features of the emerging EU-CEEC trade relationship. First, notwithstanding the apparent potential for high-tech exports, the rapid growth of overall trade hitherto has been accompanied by only modest overall reductions in CEEC concentration on 'sensitive' products. Moreover, intra-European comparisons of revealed comparative advantage indicate a consistent pattern of CEEC comparative advantage in low-skill and physical capital-intensive sectors, but a comparative disadvantage in high-tech products. (This is a quite different pattern from that of EU trade with East Asian countries, which have a comparative advantage in high-tech products and a comparative disadvantage in the physical capital-intensive sectors.)

Second, there have been significant increases in intra-industry trade. Indeed, the observed levels of intra-industry trade – which is typical of trade in differentiated products among advanced countries – has been higher in the EU-CEEC arena than among Singapore, South Korea and Taiwan. This might suggest that East-West trade in Europe is closer in its nature to West-West trade than to North-South trade. More careful analysis of the nature of the intra-industry trade, however, suggests that there has been trade between low-skill and high-skill products within sectors. Third, EU exports to the CEECs in textiles, clothing and footwear have grown faster than imports, even though these sectors have often been taken as an exemplar of the comparative advantage of the low-skilled. The growth of intra-industry trade in textiles and clothing has been encouraged by the special provisions in the Europe Agreements for outward processing trade, and such trade has grown rapidly in these sectors. Finally, data on the relative unit costs of CEEC exports and imports confirmed that much intra-industry trade was of a 'vertical' character, involving trade in products of the same type but of different quality.

Smith then turned to the labour market effects of EU-CEEC trade. He noted first that dramatic changes in relative wages have taken place in the United States since the mid-1970s, and that almost as dramatic increases have occurred in European unemployment in the same period. Many think the labour market misfortunes of the low-skilled are caused by international competition, as trade with poorer countries has increased. In the European context, therefore, there could be concern that rapid growth of trade with low-wage Eastern European countries will add to the difficulties of less-skilled workers in the EU.

Most international economists, however, oppose the view that there is a strong link between the growth of trade and the growth of labour-market inequality. Calculations of the likely impact of trade with the CEECs on EU labour markets produce very small estimates. This partly reflects the important fact that the CEECs are small economies compared with the EU, with the result that trade with the CEECs is a very small proportion of overall EU economic activity. In these circumstances, even rapid growth of a very small number still produces a small number. Against this, estimates of the impact of trade on labour markets are inherently likely to understate the true effects. This is where interpretation of intra-industry trade becomes very important. If the same product appears in imports and in exports in equal amounts, the estimated labour market impact of trade in this product will register as zero. Jobs displaced by imports will seem to have been replaced by similar jobs producing exports.

If the 'same' products are not really the same, however, either because the statistics lump together different goods into product aggregates, or because different varieties of the same good have different qualities, then the calculations will miss the fact that the jobs displaced by imports may be different from the jobs created by exports. Thus if Poland exports low-priced shoes and clothes to Italy that are largely the product of low-skilled labour, and Italy exports to Poland high-priced shoes and clothes whose production involves high-skilled craft workers, designers and marketers, the net effect on the Italian labour market will be a reduction in the demand for unskilled labour and an increase in the demand for skilled labour.

Finally, Smith considered the policy implications of his analyses. He noted that, although the Europe Agreements had constituted a major step towards trade liberalization, more steps were still to come. The EU had tied the important issue of the future of contingent protection (anti-dumping actions, countervailing duties and emergency protection against import surges) to implementation by the CEECs of the EU's internal market. The Commission's May 1995 White Paper on 'Preparation of the Associated Countries of Central and Eastern Europe for Integration into the Internal Market of the Union' had included the extraordinarily asymmetrical statement that 'once satisfactory implementation of competition and state aid policies (by the associated countries) has been achieved, together with the wider application of other parts of Community law linked to the internal market, the Union could decide to reduce progressively the application of commercial defence instruments for industrial products from the countries concerned' (emphases added).

There was a clear possibility, however, that interest-group pressures within the EU, and the unequal relationship between the EU and the CEECs, would lead the process in directions that responded more to the needs of EU producers than to the priorities of political and economic development in the CEECs, thereby slowing the process of EU enlargement for fear of the impact on existing member economies.