13th annual Municipal Finance Conference


13th annual Municipal Finance Conference


Talking Regional, Acting Bilateral

On Nov. 4 and 5, a series of meetings among East Asian leaders—the 8th summit of the Association of Southeast Asian Nations (ASEAN), the 6th ASEAN+3 summit among leaders of ASEAN countries, Japan, China and South Korea, ASEAN+1 summit meetings between ASEAN and Japan, China and South Korea respectively, and Japan-China-South Korea summit—took place in Phnom Penh, Cambodia, and there were some developments in moves toward the integration of East Asian economies.

First, China and ASEAN took another step forward in their bilateral FTA move and formalized their agreement to conclude FTA negotiation in 10 years, which the two sides had reached in their previous summit in November last year. The leaders signed a Framework Agreement on Comprehensive Economic Cooperation that included the time frame of the negotiations and the basic structure of the ASEAN-China FTA.

Second, Japan and ASEAN made progress on a vision for Japan-ASEAN Comprehensive Economic Partnership. According to a joint declaration by Prime Minister Junichiro Koizumi and his counterparts from the ASEAN member states, Japan and ASEAN aim to complete the implementation of partnership measures (including an FTA) as soon as possible within 10 years and a committee consisting of senior officials will prepare and present to the next year’s summit a draft framework for such measures.

Third, the leaders of ASEAN, Japan, China and South Korea formally acknowledged an East Asian FTA vision. The East Asia Study Group, which had been commissioned to study recommendations put forward by the East Asia Vision Group (EAVG) in November 2001, completed a report and the leaders agreed that economic ministers should begin study on an East Asian FTA.

Fourth, in the Japan-China-South Korea summit, Chinese Prime Minister Zhu Rongji proposed launching a joint feasibility study on an FTA among the three countries. Prime Minister Koizumi responded that Tokyo saw such an FTA in a mid- to long-term perspective, and there was no further progress on the issue.

Meanwhile, in a meeting with ASEAN leaders held on Oct. 26 on the sideline of the summit meeting of Asia-Pacific Economic Cooperation (APEC) in Los Cabos, Mexico, U.S. President George W. Bush announced the launch of the Enterprise for ASEAN Initiative, which expresses Washington’s intention to promote an FTA with ASEAN countries and presents a roadmap to achieve that end. In Northeast Asia, an area that remained void of FTAs up until the Asian currency crisis, countries and economies are now concurrently pursuing various FTA initiatives among them and with ASEAN (or its member states).

After Malaysian Prime Minister Mahathir Mohamad’s proposal 12 years ago to create the East Asia Economic Caucus (EAEC) met strong objections from the U.S., East Asia-wide regional initiatives remained a taboo for years. But the 1997 Asian currency crisis changed the tide. Shortly after the crisis, the first meeting of ASEAN+3 leaders was held. And today, people speak about the possible formation of an East Asian Community and the governments explore possibility of a pan-East Asia FTA.

However, debates on an FTA between Japan and China, the two economic powers in the region, have yet to gain momentum. East Asian countries talk about region-wide visions but they only act bilaterally (or within the framework of ASEAN+1). While ongoing de facto economic integration has been strengthening the region’s centripetal forces, centrifugal forces also remain strong.

Among Northeast Asian countries, Japan, along with South Korea, took a lead in launching studies on an FTA and concluded the Japan-Singapore Economic Partnership Agreement. Japan and has been criticized for lagging behind China in the “FTA race” over ASEAN economies, and having little presence in the face of the U.S. participation with a strong urge for a “high-standard” FTA. What roles can Japan play toward realizing an East Asian economic integration? To address this question, the following sections first outline circumstances surrounding players engaged in the “FTA race.”

China Gaining Confidence

Up until around 1997, China kept to the sidelines in moves toward regional cooperation. For instance, China belatedly joined the APEC forum in 1991, two years after the regional framework was created, and it opposed to an idea to create an “Asian Monetary Fund.” From around the summer of 1999 when tensions grew in its relations with the U.S., China began to step up efforts to strengthen ties with neighboring countries as part of its “multi-polarity” strategy. While being engaged in negotiations for its accession to the World Trade Organization (WTO), China watched the acceleration of moves toward bilateral FTAs within Asia from 1998 onward, feeling frustrated and strongly recognizing the need to join the trend. It has also come to see an FTA, which provides a special access to the Chinese market, as an effective tool to defuse persistent fears among its neighbors over a “China threat.”

Thus, in November 2000, no sooner than paving the way for its entry to the WTO, China proposed a study on an FTA with ASEAN. Presenting a prospect that quick tariff reductions will boost imports of agricultural products from ASEAN, China has been moving ahead at a high pace on FTA negotiations with ASEAN countries, persuading them into an agreement in 2001 to conclude an FTA in 10 years.

China, which hopes to form at some point a counter power comparable to the U.S. and Europe by unifying Asian countries, has become an advocate of East Asia-wide integration. Its foundation, however, is not solid.

For one thing, China has just entered the WTO and is still in the midst of implementing sweeping reforms to change domestic institutions across the vast country in order to conform to the WTO rules. Also, China has a number of uncompetitive state-owned enterprises and is not ready to eliminate tariffs on the imports of industrial products from Japan. Chinese officials involved in the feasibility study of China-ASEAN FTA, frankly admit that China has been able to propose an FTA with ASEAN because it is confident to win competitions with ASEAN countries but things would be different with Japan.

Knowing that Japan is not prepared for bold trade liberalization, however, China feels safe to advocate for a Japan-China-South Korea FTA or a pan-East Asia FTA. And China appears to be confident that it will be able to outperform Japan in industrial competitiveness by the time Japan, if ever, revives its economy and finally puts an end to heavy protection over agriculture.

ASEAN’s Dilemma and the U.S. Return

Up until the mid 1990s, ASEAN had demonstrated conceptual power in promoting regional cooperation in East Asia, but its cohesiveness quickly declined following the Asian financial crisis. Singapore, having been frustrated with the slow pace of ASEAN economic integration, began to act independently, launching bilateral FTA negotiations with New Zealand and Japan. Singapore’s moves provoked other ASEAN countries, prompting Thailand and the Philippines to seek bilateral FTAs with a country outside ASEAN. The launch of the Japan-Singapore negotiations for the Economic Partnership Agreement also stirred up China.

China has become keen on a FTA with ASEAN and ASEAN, for its part, is increasingly counting on FTAs with Japan, India and the U.S. to counterbalance the influence of China. Speaking at a news conference following the Japan-ASEAN economic ministers’ meeting in Brunei in September 2002, Singaporean Trade and Industry Minister George Yeo urged Japan to accelerate responses by suggesting that ASEAN should be able to conclude an FTA with Japan sooner than the one with China.

Ironically however, while ASEAN’s (or respective ASEAN countries’) moves toward FTAs with non-ASEAN countries accelerate, integration within ASEAN has not been necessarily smooth. Neither Malaysia’s auto industry nor the Philippines’ petrochemical industry are prepared for the elimination of import tariffs, and ASEAN’s inter-regional transaction costs still remain high due to different standards among the member states and inefficient customs clearance procedures. Should ASEAN keep on proceeding on FTAs with non-ASEAN countries without solidifying internal integration, it may lose bargaining power as a union of states.

The ebbs and flows of the U.S. interest in policies toward Asia have widely swayed the framework of East Asian regional integration. From the late 1980s through the early 1990s, when concerns mounted in the U.S. over Japan’s economic power, Washington fiercely opposed the EAEC vision. And it attempted to reinforce and utilize the APEC framework as a tool to promote trade liberalization in Asia. On the other hand, however, the U.S. established the North American Free Trade Agreement in 1994 and set out a vision to create a Free Trade Area of Americas (FTAA), impressed other APEC members with the asymmetry between the Americas and the rest.

At the time of the Asian financial crisis, the International Monetary Fund-prescribed traditional austerity policies deepened the crisis and the U.S. showed little enthusiasm to extend bilateral assistance unlike the time of the crisis in Mexico. Through these experiences antipathy against the so-called “Washington consensus” began to grow among Asian countries. The U.S. was narrowly focused on the Early Voluntary Sectoral Liberalization (EVSL) initiative in APEC, and disillusioned crisis-ridden countries with APEC. At the same time, the U.S. interest in Asia receded as the currency crisis eroded much of the Asian markets’ appeal. Against these backgrounds, ASEAN+3, unlike the EAEC, held its first summit meeting without encountering the U.S. opposition. And the U.S., for its part, shifted its focus onto negotiations on China’s accession to the WTO.

Following the conclusion of negotiations with China on its WTO accession, the U.S. has become active to drive a wedge into Asian moves toward bilateral FTAs among them. The U.S. made its first move in the fall of 2001 when it suddenly agreed with Singapore to launch FTA negotiations. The agreement came just as the Clinton administration was nearing its end. Then, further provoked by China’s active moves, the U.S. announced the Enterprise for ASEAN Initiative.

The U.S. as a “Pacific country,” while without enough political attention and policy resources to keep up unabated, deep interest in East Asia to the same extent as held by countries within the region, has an inclination to check and put a hold on the institutionalization of East Asian economic integration without its participation.

Expect Competitive Multi-Layered Developments

Thus, both China and ASEAN have their own internal challenges—adaptation to the WTO rules for China and inter-regional integration for ASEAN—and ASEAN is concerned about the growing influence of China. It is therefore remains to be seen how truly substantive an FTA can China and ASEAN eventually conclude. Nevertheless, Japan should assume the fastest progress in working out its policies toward ASEAN. The U.S. is expected to move to conclude FTAs in Asia based mainly on geopolitical consideration.

With both centripetal and centrifugal forces working in the region, it is unlikely for East Asian integration to be achieved in one big stride. Rather, a series of bilateral FTAs are expected to emerge concurrently both within and outside the region. The ongoing pattern of competitive, multi-layered cooperation frameworks—under which bilateral, regional and global arrangements influence and interact with each other—is likely to continue. While many increasingly assume that the framework of ASEAN+3 is a natural unit for cooperation within East Asia, the scope of members may be enlarged and if not, another forum could emerge.

Japan Should Go its Own Way, But in a Hurry

As mentioned above, there has been strong criticism against Japan’s slow moves toward East Asian economic integration. How should Japan respond?

Indeed, Japan has been unable to take bold steps toward trade liberalization, stuck with the prolonged economic slump and blocked by the internal resistance of conservative forces. Looking closer, however, one can see that Japan has been taking steady steps forward to promote FTA negotiations. Starting from the one with Singapore which has very little farm export, Japan moved on to launch negotiations on an FTA with Mexico, the realization of which will bring clear benefits to Japan. Currently, Japanese exports to Mexico face substantial tariff discrimination caused by the NAFTA and the EU-Mexico FTA. After Mexico, Japan is eyeing on an FTA with South Korea, a fairly developed economy with common geopolitical interests with Japan. Japan has been carefully selecting its FTA partner with clear benefits that can outweigh political resistance to increase the chances of success.

An experience of success with a relatively easy-to-realize reform will pave the way for more difficult reforms. Japan needs to accumulate steady efforts on what is feasible at the moment and to deepen and mature discussions on Asian economic integration in order to be better prepared for further moves. It is not wise for Japan to jump in the ongoing “FTA race,” taking a risk to jeopardize its steady efforts. Instead, Japan should devote its energy to each bilateral FTA, identify specific problems in the bilateral context and provide practical and effective solutions that can be adopted in FTAs with other countries. The efforts at such policy innovation are especially important if Japan, which is not ready to immediately enter FTA negotiations with many Asian countries at once, wants to enhance it bargaining power in the future.

At the same time, an FTA is a tool to achieve goals and should not become a goal itself. In dealing with less developed countries, the combination of preferential tariff treatment and development assistance, rather than an FTA that urges for liberalization, might be a batter way to achieve development. Japan should compete in the substance of policies (not limited to FTAs for that matter) that are effective in formulating closer economic relations with its partner country and accumulating political resources, not in the pace at which FTAs are concluded. Japan is not competing with China on the same stage. But even if it may opt for forms other than an FTA, Japan, as a leading developed economy in the region, still needs to open its market including those of inefficient sectors.

In any case, Japan has no time to waste, not just because ASEAN is urging for Japan’s responses by playing up the “FTA race” with China. Rather, Japan has its own circumstances pressing for quick actions. As China and other Asian neighbors continue their economic development to compete with Japan in many more sectors, Japan has little time left to upgrade its economic structure and regain its vitality.

Meanwhile, some people argue that Japan’s task of utmost urgency is to reconstruct domestic economy and this is no time to be distracted by regional economic integration. Indeed, Japan’s ability to negotiate with other countries and overcome internal resistance would wane unless underpinned by economic strength. However, given the fast aging of its population and the limited prospect for domestic demand growth, Japan’s future hinges on how it can gain from newly emerging opportunities in developing Asia. While urging host countries to improve business environment so as to facilitate smoother overseas operations by competitive Japanese companies, Japan should expose its inefficient sectors to more competition to improve their productivity, make its business environment more attractive to domestic and foreign talents and capital, and activate innovations inside the country. Economic integration with other Asian countries is part of Japan’s economic restructuring efforts and must be promoted along with the financial sector reform and macroeconomic policies.

Others argue that an FTA with China is impossible, as Japan cannot liberalize its agricultural sector. The WTO rules, however, allow for a certain extent of exceptions and it is possible to solve this problem through negotiations once started. What is more important is to foster momentum by creating an environment in which people in the both countries welcome the strengthening of bilateral economic and political relations and are willing to overcome political difficulties. It is hoped that Japan, in the process of working on economic cooperation with other Asian countries, will quickly gain political momentum for internal reforms and change so as to become able to play a more coherent role to bring prosperity and stability to Asia.