SERIES: Brookings East Asia Commentary | Number 42 of 81 « Previous | Next »

The EU-Korea FTA: A Boost to Economic Recovery and a Challenge to the U.S.

On October 6 in Brussels, on the sidelines of the 8th ASEM Summit of Heads of State and Government, the Republic of Korea and the European Union formally signed an EU-Korea Free Trade Agreement. Negotiations began in 2007 and concluded in 2009, and the meticulously planned signing represented the culmination of a serious and sustained effort by both sides.

In addition to the symbolism, the signing of the second largest FTA in history, after the North America Free Trade Agreement (NAFTA), provided a good opportunity for lively debate on the ongoing recovery from the “Great Recession” and concerns about rising protectionism. And the implications of the signing—a dramatic increase in bilateral trade, following ratification by the Korean and the European parliaments, and enhanced cooperation in a number of other areas—are even more meaningful. These developments are in sharp contrast to the FTA negotiated between the U.S. and Korea, which was signed in 2007 but has been drifting for over three years without ratification by either legislature.

Upon ratification by the EU Parliament and the Korean National Assembly, the EU-Korea FTA shall enter into a period of provisional application, which in this case is equivalent to almost 99 percent of the full effectuation. The EU has usually practiced the provisional application of all practical-nature agreements with foreign countries, meaning it doesn’t have to wait through the lengthy process of the parliamentary ratification by all 27 EU member states.

But it has not always been smooth sailing for the EU-Korea FTA, and a couple of cautionary nuances can be found between the lines of statements by Seoul and Brussels. A press release from Korea’s Ministry of Foreign Affairs and Trade (MOFAT) said simply that the Foreign Affairs Council of the Council of the European Union had made a decision to authorize the formal signing of the FTA with Korea and it would enter into the provisional application on July 1, 2011. The MOFAT press release somewhat bluntly mentioned an Italian objection (centered on automobiles) that was defeated in the Foreign Affairs Council session of September 16. On the other hand, the European Commission’s statement, largely identical to the Korean press release, included a couple of additional points in saying, “the date of provisional application of the Agreement shall be July 1, 2011, provided that the European Parliament has given its consent to the FTA and that the Regulation of the European Parliament and of the Council implementing the bilateral safeguard clause of the EU-Korea FTA is in force.” The explanation of this complex conditionality seems slightly to obscure the optimism about prospects for the European Parliament’s ratification of the Agreement. It also draws a sharp contrast with the swift implementation of the EU-Chile FTA which was formally signed in November 2002 and entered into the provisional application in February 2003, just three months later.

Nevertheless, on balance, the decision by the Council of the European Union to authorize the formal signing of the FTA—almost a year after the agreed text was initialed by the two sides—must be recognized as a watershed moment and not simply as a key step toward making the deal a reality, as the two official statements implied. It is especially remarkable that the Council overrode the objection by its own member, Italy, in the context of the block’s larger interests.

Economic logic prevailed

After the initialing of the EU-Korea FTA in October 2009, Brussels emphasized to EU member states the economic benefits of free trade with Korea, explaining that Korea’s strong economy, high per capita GDP of EUR 13,000 (US$17,000), and competitive industrial and agricultural imports, had made it their 4th most important trading partner outside Europe, behind the U.S., Japan, and China. The EU’s exports to Korea had averaged a yearly growth rate of 7.5 percent for the period 2004-2008, reaching US$34.1 billion in 2008. This volume gives the EU the third highest market share in Korea, behind China and Japan and ahead the U.S. The two-way trade in goods and services between the EU and Korea was worth $97 billion in 2008 and $78.8 billion in 2009, reflecting the global recession. Korea has traditionally enjoyed a surplus in the goods trade, though that has begun to shrink, while the EU has enjoyed a steady surplus in the services trade. The large trade volume and trends in Europe’s favor were important factors prompting the European Commission to propose the FTA with Korea, but certainly not the only ones.

The EU-Korea FTA is the first of the so-called “new generation” free trade agreements pursued under the EU’s “Global Europe Initiative” adopted in 2006. The EU-Korea agreement fulfills the Initiative’s mandate by guaranteeing access to Korea’s dynamic market in which European business can compete on equal footings against local and other foreign businesses.

When the negotiated text of the agreement was made public, however, sporadic reservations or objections were raised mainly from the European automobile sector which argued the deal would lead to “market distortion and unfair competition.” But the European Commission rebutted the argument and rather highly praised its larger benefits, noting that the agreement addressed a full range of non-tariff barriers, including regulations and standards, and so would remarkably increase European exports to Korea. Italy’s automobile concern was not exposed during the negotiation process, but was raised only since the recent Euro-zone economic crisis; Italian automobile woes and political leaders’ demagoguery appeared to accumulate and create a snowball effect. It is not clear whether other European nations twisted Italy’s arm to convince it to go along with the Council’s decision or whether Italy bought in to the logic, so Italy’s next steps will be watched closely.

Obviously, Korea also had a strong economic rationale pursuing this credible and effective tool for expanding trade, given that exports have continued to be an important source of growth and employment in the Korean economy, making up around 46 % of its GDP. The enlarged EU, currently with 27 countries, has already become the largest market in the world, boasting a GDP of $16.4 trillion. Over the past decade, Korea’s trade with Europe has grown rapidly. The EU is now Korea’s second largest trading partner with $78.8 billion of trade in 2009 as noted above, compared with $66.7 billion with the U.S. Since the EU’s import tariffs average of 5.6 percent is much higher than the U.S. average of 3.5 percent, tariff relief thanks to the FTA will greatly boost Korean exports to Europe, especially exports of midsize cars, flat display color TVs, textiles and shoes. European exports to Korea also will increase substantially: a Copenhagen economics professor estimates that the FTA will create new trade in goods and services of $24.8 billion for the EU compared to $16.7 billion for Korea.

It should be noted that in fact the EU-Korea FTA was proposed by the EU side, not the Korean government, just one month after the successful conclusion of negotiations on the Korea-U.S. FTA (KORUS FTA) was announced in April 2007. Impressed by the Korean government’s bold and confident approach to free trade, and mindful of the risk of consolidation of U.S. dominance in Northeast Asian business, the EU may have felt that it had to make a move to counter the effects of trade diversion. Negotiations between Europe and Korea thus began in May 2007 and, with the agreed text of the KORUS FTA still fresh, proceeded in a speedy manner and after eight formal rounds of negotiation the agreement was initialed on October 15, 2009. Indeed, a joint report by the Centre for European Policy Studies and the Korea Institute for International Economic Policy that was submitted to the European Commission in November 2007 noted “There is a sense of urgency particularly in the EU-Korea FTA case to avoid any substantial trade diversion that may arise from Korea’s other FTAs.”

Strategic value is equally important

Apart from the sweeping economic benefits, the European Commission would have taken into account the strategic value that an FTA with Korea would entail, in terms of economic dynamism, growth potential, and political importance in the Northeast Asian region. The European Commission has emphasized the importance of this FTA as the EU’s first with an Asian partner, noting “the EU-Korea FTA is expected to support the EU in securing a foothold in East Asia – the economically most dynamic region in the world – and serve as EU’s spring board to the rapidly growing market in the region.”

At the turn into the 21st century, the EU shifted its foreign policy emphasis toward becoming a more influential international actor. The so-called Lisbon Strategy adopted in 2000 had been implemented effectively over the years as a guiding framework to this end. Having overcome the transatlantic friction surrounding the Iraq war in years before 2007, the EU was determined to restore and further enhance its own leverage and power, particularly in the changing dynamics of the international order and by helping shape the new multi-polar world.

In April 2007, when EU members authorized the Commission to negotiate “an ambitious and comprehensive FTA with South Korea,” it was shrewd enough to realize that the KORUS FTA was meant not only for mutual economic benefits, but also served strategic interests, particularly in Northeast Asia. (This American viewpoint was recently reconfirmed by Assistant Secretary of State Kurt Campbell in his testimony before the Senate Armed Services Committee on September 16, the same day the Council approved signing the EU-Korea FTA, when he said that the KORUS FTA’s “successful implementation will benefit both economies, create jobs, and bolster the enduring strength of this strategic partnership in an important and rapidly growing region. It can also contribute to the strengthening of our overall bilateral alliance.”)

The EU’s strategic considerations are also revealed by the fact that, at the beginning of negotiation on the FTA, the EU proposed to Korea the adoption of a Framework Agreement for comprehensive cooperation between the two parties, including broader issues beyond trade. As both parties share the common values of democracy and market economy, the Framework Agreement in addition to the FTA must serve as a reliable platform to consolidate strategic partnership for addressing the daunting global issues such as human rights, trans-national crime, climate change, energy security, and other critical issues.

With the global free-trade talks under the Doha Development Agenda deadlocked and protectionist sentiments rising amid economic uncertainty, the EU-Korea FTA is also an important diplomatic tool with broader strategic implications, sending a strong signal to the rest of the world that the EU and Korea are committed to the free-trade and development agenda.

Nearing the finish line

Nevertheless, there are a few minor but lingering doubts that ratification by the European Parliament will proceed smoothly and that provisional application of the agreement will begin on July 1, 2011 as planned. The uncertainty stems mainly from the politics-driven Italian opposition that was expressed this summer in the EU Council.

Willingly or not, in the Council meeting of September 16 Italy dropped its objections after it achieved a concession under which the provisional application of the agreement was put off by six months (to July 1 instead of January 1). With this extra time, Italy, in alliance with the European Automobile Manufacturers’ Association (EAMA), may lobby against ratification. But making the case will be difficult, because the Italian argument that the FTA would severely damage Europe’s automobile industry lacks specific grounds and seems rather to be a general anticipatory statement. Furthermore, EAMA opposition may not derail the FTA, but will more likely focus on strengthening the EU’s safeguard regulations. It is noteworthy that Germany, France and other automobile producing countries in Europe have never raised such concerns about this FTA. One other possible roadblock is the continuing Euro zone financial crisis, but the economic benefits of this FTA to EU nations are expected to overcome any arguments against it in this regard.

The majority-rules nature of decision-making in the European Parliament will work in favor of easier ratification, unlike the Council of the European Union, where the requirement for consensus had several times delayed approval to sign the FTA. An absolute majority of EU countries are of the view that trade protectionism will hamper recovery from the global economic recession. For its part, the Korean government has long argued that the implementation of free trade agreements among the major economies like EU countries and the U.S. would be effective tools for recovery by expanding mutual markets, enhancing competitiveness, and creating more jobs. Given that most EU members have accepted this argument, ratification by the EU Parliament is expected to pass smoothly. The European Commission has made firm commitments to ensure that the European Parliament will move forward on time and that safeguards, if necessary, will be established according to the relevant FTA provisions.

A challenge for the United States

Obviously the signing of the EU-Korea FTA did not go unnoticed by the Obama administration and the U.S. Congress, which are wrangling with each other over the ratification of KORUS FTA, many of which key provisions were borrowed, in broad terms, and included in the EU-Korea FTA. Ironically, President Obama now finds himself in the position of European leaders in the spring of 2007, when they were worried about trade diversion as a result of the U.S.-Korea agreement. In his January 2010 State of the Union Address, President Obama said; “If America sits on the sidelines while other nations sign trade deals, we will lose the chance to create jobs on our shores.” On hearing the EU Council’s approval of the FTA with Korea, Senator Mike Johanns from Nebraska, a major beef-producing state, strongly urged President Obama to send Congress all pending FTAs for ratification, saying “Our trade agreement with South Korea has been collecting dust for three years, while the EU has finalized theirs and thrown open the doors of opportunity for EU exports to South Korea.”

The economic logic is simple and clear, and there is also an element of “first come, first served” in the calculus. The benefits the U.S. could gain from implementing its FTA with Korea will diminish rapidly if the Europeans “get there first.” If U.S. companies fail to increase their market shares—which would be easier under an FTA—they will soon be overwhelmed by more competitive European goods and services.

The EU Council’s success in reigning in the Italian objection and other myopic and parochial views of the FTA provides a useful lesson. In short, the economic and strategic benefits of the FTA will have to overpower the attraction of parochial whims and political populism. The best hope for the KORUS FTA is that the expected quick solution of pending technical issues on automobiles and beef will enable the Administration and the new 112th Congress to take faster action early in 2011.

SERIES: Brookings East Asia Commentary | Number 42