Free Trade in the Shadow of the Dragon

Notwithstanding the paralysis of the World Trade Organization’s Doha Round and the current global economic recession, bilateral and regional trade deals have continued to progress in Southeast Asia. Over the last decade, ASEAN has negotiated free trade agreements (FTA) at breakneck speeds, signing deals with Japan, Australia, and New Zealand. It is also in the process of negotiating FTAs with South Korea, India, and China.  The India and ASEAN agreement, will be signed in August of 2009; however, most tariffs are not scheduled to drop until 2016-2019. The agreement will encompass a 1.7 billion person economic zone, which will generates a total GDP of more than US$1.1 billion.

Still, the deal with China has garnered the most attention, because it will create the third largest common market by trade volume, with a population of 1.8 billion and a US$2 trillion GDP.  This will not only be the world’s largest FTA by population, but it will also possess a growth potential that is unparalleled.

The full ASEAN-China FTA will begin in 2010, with the more developed ASEAN members (Brunei, Indonesia, Malaysia, the Philippines, Singapore and Thailand); the FTA will not apply to the remaining members (Cambodia, Laos, Myanmar and Vietnam) until 2015.

An abstract from a previous article I wrote:

ASEAN’s relationship with China has changed dramatically over the past four decades. At one time, Chinese sponsored communist insurgencies were one of the greatest threats to the security of Thailand, Malaysia, and, Cambodia. Even after these conflicts ceased, there was lingering suspicion on both sides. ASEAN has shown considerable enthusiasm for a Sino-ASEAN FTA, but its nigh inevitability has not quieted all concerns within the region over the growing power of China in Southeast Asia.

Follow the Money

As with almost everywhere else, the global recession has affected Southeast Asia, but the affect of the U.S. sub-prime crisis has been limited, so no major collapses have occurred. Exports have dropped 35% in the region in the last year, but will likely even out over the rest of 2009 (Hill 2009). Most ASEAN members have current account surpluses, banks have conservative lending practices, and corporations have not leveraged too high. Moreover, their economies are still heavily agrarian, and therefore less affected by global market shifts. As a result, the region remains very open to trade. Over the last decade, production sharing has become the hallmark of East Asian export industries. This process involves a vertical division of labor, where manufacturing process is broken into stages. A factory in each nation specializes in the fabrication of a subcomponent for a single product, all of which eventually go to China for final assembly and export. Any ease in the product flow is mutually beneficial to all parties.

Trade Benefits and Disadvantages

During the 1990’s the GDP of China and ASEAN were comparable, at about US$1.9 billion. By 2005, China’s GDP was more than twice ASEANS at US$849 billion (Wattanapruttipaisan 2006). During the same period, ASEAN-China trade has increased considerably. Total trade in 2001 was US$39.5 billion and in 2006 it was US$114 billion (Hsiao et al. 2008). Chinese Vice Commerce Minister Gao Hucheng stated that Sino-ASEAN total trade was US$ 231.12 billion in 2008 and predicted that by 2010, bilateral trade will increase to US$1.2 trillion (Xiong Tong 2009). Conjointly, ASEAN rose in China’s overall trade from 6.0% in 1990 to 9.3% in 2007, while China increased in ASEAN’s overall trade from 2.4% in 1990 to 9.8% in 2006 (Zhao 2008). In 2007, ASEAN was China’s fourth largest trade partner after the European Union, the United States and Japan.

The Sino-ASEAN FTA, designed to capitalize off these trends and the massive scale of the common market could create a centrifugal force that will push nations such as Japan, South Korea, and possibly Taiwan to increase trade liberalization in order to remain competitive. In 2008, Japan signed its own FTA with ASEAN, which would reduce tariffs on 93% of imports from ASEAN and 90% of imports from Japan in 10 years. South Korea is moving closer completing its free trade deal with ASEAN. They have completed a deal to open up the service sector, which went into effect on May 1, 2009, but there are three more accords yet to be finalized: merchandise, investment, and dispute settlement.

Hao and Huang Chao-Jen (2008) found that, at least initially, ASEAN would benefit more from the FTA than China. The real GDP of other East Asian nations (Taiwan, South Korea, and Japan) will decrease by fractions of a percent (average of 0.0143%) due to the proposed Sino-ASEAN FTA; Taiwan will be affected the most and Japan the least. Investment in these nations will also decrease by close to 0.4%, whereas they will increase in ASEAN by over 4% and in China by 0.5%. The Sino-ASEAN zone’s imports will grow by 4.5% and exports: 2.7%. Once again, Japan, Taiwan, South Korea will see a 0.2% decrease in exports and a 0.72% decrease in imports. As China’s economy expands, imports from ASEAN countries for required production inputs will increase. Raul L. Cordenillo (2005) concluded that ACFTA (ASEAN-China Free Trade Agreement) will increase ASEAN’s exports to China by 48% and China’s exports to ASEAN will increase by 55.1%. This internal trade will increase ASEANS Real GDP by 0.9% (US$5.4 billion), while China’s Real GDP will expand by 0.3% (US$2.2 billion).

Most East Asian economies are competitive with each other in textiles, apparel, and electronic equipment, but under the FTA, ASEAN’s top exports to China will be electrical equipment, computer/machinery, chemicals, plastics, and rubber, and the bloc will see a decline in apparel. These products are mostly intermediate components for Chinese exports to third countries. China will benefit from transportation equipment and see a decline in wood products and petrochemicals. While, the ACFTA is not a prelude to European-style regional integration, it is likely that the increase in free trade will lead to a more cohesive ASEAN. It may also inspire surrounding nations to make up the economic loss suffered from ACFTA by expanding their trade relationship with ASEAN and China. Not only will more ASEAN and Chinese companies be willing to investment within the integrated market, so will companies from the Asian nations outside the agreement and beyond.