FTAs

The TPP11 Choice in a World of Increasing FTA Complexity

The split viewpoints on TPP11 are replicated in nearly every TPP country.  Businesses, consumer groups and politicians are grappling with an agreement negotiated in one context (a deal that included 12 members) and trying to decide if it still makes sense to proceed in another (an agreement with 11).  The choice, however, is not really between doing a TPP11 deal or not doing the TPP11 and the status quo prior to launching the TPP negotiations.  The choice is really between moving ahead with the TPP11 or not in the context of a continuing changing trade environment.  It is this last point that is often overlooked.  The trade world has not stood still since 2010 when the TPP negotiations got underway.  Indeed, it continues to evolve even after the TPP talks wrapped up in late 2015. 

You Can Indeed Lose What You Never Had

The start of a piece in yesterday’s TheStreet summarized a common viewpoint on the US withdrawal from the Trans-Pacific Partnership (TPP) trade agreement, when it said: “You can’t lose what you never had…”  In fact, you can. It is becoming increasingly obvious that American companies are losing ground.  The damage is two-fold—the United States has chosen to sit out from the TPP and it is also not benefiting from the range of trade deals that crisscross Asia, giving preferences to competitors in the region in key markets.  Adam Behsudi nicely showed this week in Politico how international trade agreements are directly affecting farmers from one county in Iowa. 

Lots of Trade Deals in Asia: So How?

Asian governments were slower than some to join the free trade agreement (FTA) party, but once they got involved, they have been enthusiastic participants.  Singapore, for instance, has more than 20 active deals with several significant agreements like the Trans-Pacific Partnership (TPP) and a bilateral with the European Union just waiting for ratification to be completed.

Many companies understand that all these trade agreements must provide benefits of some sort that could give them a competitive advantage in the marketplace somewhere.  How does a firm figure out which deal provides the best benefits for which markets? 

Firms seem to have multiple answers to this question, “So how?” 

For some, especially many of the smaller firms at a Singapore Business Federation event last week, government should figure it out and help companies.  Clearly, governments all across the region need to work hard to get more information into the hands of firms.  It does no good at all to negotiate a beautiful deal if no one knows about it.  The terms of the agreement have to be communicated in a language that makes sense to busy business people.

Governments might also usefully work on training their own people about the various trade deals.  It also does not help to have a splendid trade agreement that goes unused because, for instance, the customs officials in a specific port never got the memo about new changes required from an agreement.

While governments should certainly do a better job of making trade agreements accessible, firms that want to be competitive have to figure out how to use the various available tools to their advantage.  Companies have to be willing to invest some resources—particularly some time and, potentially, some money into investigating whether or not trade agreements deliver bottom-line impacts to the firm.

While it is possible to say, broadly, which agreements are “better” than others—with deeper, more meaningful cuts or improved market access or investment protection—the extent of benefits embedded in an agreement can vary between sectors, industries and even firms.  Hence working out which deal is the “best” or offers the firm the greatest savings or access may require substantial knowledge of the firm as well as various agreements. 

As an example, it is possible to imagine an agreement that is broadly not particularly good.  The tariff cuts are generally poor with many tariff lines not included at all.  However, if a firm’s products are included in the portion of lines that got cuts, the deal could be very helpful and deliver substantial bottom line results to the company.  Or, if the agreement has limited market opening in services, but 3 star hotels are opened for investment, then 3 star hotel operators may receive significant benefits out of what might otherwise be a rather disappointing agreement. 

Firms can hire specialists to assist in working out what sort of benefits could be available from different agreements.  In the past, the benefits for firms might have been modest because many of the bilateral agreements in the region were not, frankly speaking, very good for companies.  They often excluded sensitive sectors and—by definition—carved out most of the things that are actually traded between the parties. 

However, the latest generation of agreements can be quite different.  Firms can gain substantial benefits.  The best of the bunch is likely to be the TPP, since the deal is deep and broad and likely covers the sector and industry of interest to most firms.  

The ASEAN Economic Community (AEC) could hold some promise for firms, especially for those companies that are either new to ASEAN or are interested in expanding market access for goods to other ASEAN members.  Do note that the AEC is mostly (for now) about duty-free access for goods.

But the AEC is not the only agreement that can be used in ASEAN.  Firms could also use the provisions in the ASEAN-Australia-New Zealand (AANZFTA) that has significantly better coverage in many areas, including services and investment.  The agreement works not just between ASEAN and ANZ, but also within ASEAN.

The Regional Comprehensive Economic Partnership (RCEP), still under negotiation, also has potential to be useful for firms.  It might, again, provide better inter-ASEAN coverage too for some sectors.

This complexity, however, is partly why firms may need to find a specialist to assist in finding the benefits of various overlapping trade agreements.  These specialist firms can be at least three types:  embedded within the big consultancy firms in the region, smaller specialist companies, or companies that provide software solutions. 

A trade deal will not, of course, solve all problems of competitiveness.  Even the best agreements do not resolve issues with exchange rate shifts, labor or staffing issues, licensing requirements, soaring rents, many business costs and so forth.  But FTAs can be a critical tool in the tool kit that provides advantages, particularly relative to other competitors that may not be using such agreements or be using such agreements effectively.

For most firms, the potential payoff from successfully harnessing a trade agreement could more than offset any costs associated with figuring out how to best use a deal.  This applies not just to larger firms, but also to many smaller companies. 

Companies may also want to develop or acquire some level of in-house knowledge of trade agreements as well.  Without basic understanding of FTAs, for example, companies may struggle to make sense of software solutions or to provide sufficient information to consultancies so they can provide better recommendations on future pathways. 

In the past, developing such information and knowledge may not have been so critical.  But with economic growth slowing in the region and with the potential benefits in various agreements increasing, it is no longer time to ignore trade agreements.  Instead, they should become one piece of the competitiveness arsenal for every company in Asia.

***Talking Trade is a blog post written by Dr. Deborah Elms, Executive Director, Asian Trade Centre, Singapore***

Lipstick, Bicycle Chains and Durians: All Free Trade Agreements Are Not The Same

Free trade agreements (FTAs) have been mislabeled—they ought to have been called preferential trade agreements (PTAs) instead.  The agreements are not so much about “free” trade as they are about giving preferences or benefits to member state firms that non-member firms do not receive.  The net effect might be more “freeing” but this is not the same thing as giving the same set of benefits for everyone. 

We can argue about whether or not granting different access to various partners is helpful or harmful.  Rather than engage in a philosophical discussion about the merits of global vs. regional vs. bilateral trade deals, this post highlights differences in one important element of existing trade agreements:  various tariff preferences granted for specific products into just one country.  Showing how existing trade agreements signed by Vietnam handle the same limited set of products like lipstick, bicycle chains and durians helps illustrate variations across FTAs.

The primary outcome of existing FTAs has been to grant member firms lower tariffs than non-members receive.  FTAs may do lots of other economic things, including opening up markets for services or investment or creating new commitments or rules for intellectual property rights or competition policy.  But most of the focus and use of existing FTAs has been to receive lower tariffs (that can be thought of as a tax on imports) than firms could receive before an FTA came into existence.

Whenever we assess “quality” of an FTA, a key element is the extent to which the agreement provides new market access for firms by lowering tariffs on goods.  Countries can agree to make no new commitments at all—the existing tariff on imported goods in a category remains unchanged (at the MFN level that applies to all WTO members).  Or countries can agree to lower tariffs in certain product categories.  They can do so all at once at the very beginning of the deal or they can do so gradually over time (in even stages or in “lumpy” reductions where a tariff might drop a little bit up front and steeply at some distant time). 

More ambitious deals generally offer 1) deeper tariff cuts on 2) more products in 3) a shorter time frame.  Because FTAs are the result of negotiations, the content of any individual FTA varies—all parties have to agree on the final commitments.

As newer agreements get signed, the old agreements are not retired.  Instead, companies can opt to use whatever deals provide the most useful benefits for their products.  For many products, FTAs provide no difference in tariffs as the MFN rate is already 0.

But for other items, FTAs do provide benefits that can vary by agreement.  To see how this works in practice, consider specific products that firms may want to export to Vietnam.  Vietnam has multiple agreements in force, mostly centered on ASEAN.  The country has enthusiastically been signing new deals, including the TPP and a bilateral agreement with the EU and another with South Korea, but these have not yet taken effect.

A company that wants to ship lipstick into Vietnam from a country with no existing FTA has to pay the MFN rate of 20%.  But firms in ASEAN can ship lipstick into Vietnam with no tariff at all using ATIGA.  The ASEAN-China agreement (ACFTA) also allows Chinese companies to ship lipstick duty free to Vietnam. 

As with any FTA, firms do have to meet rules of origin (ROO) criteria to be eligible to receive lower tariffs.

Korean companies currently have no benefits for lipstick in their ASEAN-Korean FTA (AKFTA).  This means that, while many Korean products receive lower tariff rates on products using this agreement, lipstick exporters are out of luck and must pay the MFN rate of 20%. 

Japanese exporters are granted a slight duty reduction at 20% in the ASEAN deal (AJCEP) but a bilateral agreement between Vietnam and Japan gives Japanese companies an improved deal at 14.5% (VJEPA). 

Australian and New Zealand (AANZFTA) companies get access to the lipstick market of Vietnam with a 10% duty and India receives (AIFTA) a reduction to 20%. 

Under the TPP, the 11 parties in the agreement can look forward to 0 duties, but only after the current rate drops in four equal installments across 4 years.  Hence, in relatively short order, Japanese, Australian and New Zealand companies can expect to receive the same 0 duty preferences that their ASEAN competitors already receive.  Since the TPP will grant better benefits than existing deals, firms should start using the TPP.  For American or Mexican or other TPP lipstick companies that only had MFN rates before, the post-TPP preferences are especially important.

Vietnamese customers might be asking whether all these trade deals mean that they can expect to pay less for lipstick in the future.  The answer is that they might—if firms decide to pass the tariff savings through into lower prices.  Firms could also opt to keep the savings in the form of higher profits or greater shareholder returns. 

It’s also possible that lipstick manufacturers will not take advantage of FTAs, as the market in Vietnam is not attractive enough—for whatever reason—to ship lipstick no matter how high or how low the tariffs might be on the product.

The same uneven set of benefits can be seen for other firms shipping goods to Vietnam.  Bicycle chains are surprisingly complicated, with multiple categories of chain.  For a roller chain of expanded metal (HS73151111), the MFN rate is 40%.  ASEAN firms pay a 5% duty.  Chinese firms pay 20%.  Korean firms have no specific benefits under AKFTA and pay 40%.  Japanese firms (under both the ASEAN agreement and the bilateral deal), Australian and New Zealand firms all pay 35%.  Indian firms are charged 36%.  TPP members will pay 0 duty in four years.

Durians and many other fruits are subject to an MFN rate of 30%.  But ASEAN, Chinese, and Korean farmers can ship durians duty free now.  Japanese firms get better benefits under the ASEAN agreement than the bilateral (20% vs. 22.5%).  Australia and New Zealand are currently subject to 10% tariffs on durians and Indian companies pay 20%.  Post-TPP entry into force, however, members will pay 0 duties immediately for durian shipments to Vietnam.

The examples show the differences across trade agreements.  For most products where the existing MFN rate is higher than 0, ASEAN already grants duty free access to Vietnam.  Some of the existing trade agreements match these 0 tariff rates or at least provide lower tariff levels than non-FTA members receive.  Since the TPP is both broader and deeper than existing agreements for Vietnam, firms should expect better benefits (or tariff cuts that match ASEAN) for nearly all products either on entry into force of the agreement, or in the near term. 

***Talking Trade is a blog post written by Dr. Deborah Elms, Executive Director, Asian Trade Centre, Singapore***

Doesn’t Always Take Two to Tango: Unilateral Trade Policies and Indonesia

The current obsession with trade negotiations (okay, maybe it’s mostly our obsession) may have obscured the fastest, often easiest way for governments to make their domestic economies more competitive:  governments can act on their own to create more favorable trade environments. 

In the past, many Asian governments were at the forefront of making unilateral changes to their domestic economies.  Singapore and Hong Kong, for example, slashed applied tariffs to zero absent external demands for them do so.  Others opened or liberalized sector after sector to promote inward investment or spur domestic competition.

But much of this unilateral spirit of reform appears to have dissipated.  Governments now prefer to wait to make changes until some foreign partner requests reform.  It may appear to be easier to make politically and economically hard choices with a foreign party to absorb some of the “blame” for any short-term pain. 

One government official said me a few years ago, “Yes, we know that a 2% tariff is really just a nuisance.  It probably costs us more to collect the tariff than the revenue it generates.  It is an administrative hassle for firms.  But if we get rid of it, what will we use as a bargaining chip when we engage in trade negotiations?”

I tried to argue that eliminating nuisance tariffs does not automatically mean that no one will do a free trade “dance” with you in the future.  Singapore did not get more than 20 active FTAs by stripping away 2% tariff levels for preferred partners in an FTA.  There is more to a trade deal than tariff reductions, after all, and win-win outcomes can be achieved in a whole range of sectors and issue areas.

One particularly promising area for unilateral reforms can be found in regulations.  For most companies today, the biggest headaches are not tariff levels or official customs procedures or registering for protection of intellectual property rights.  Instead, the hassle factors that are most pertinent to firms tend to be regulatory in nature.

Such regulations may include rules for licensing of all sorts.  Such rules may mean that you can import this item, but only if you first hold a valid permit for doing so or you may invest in a sector but only after appropriate licenses for operation are in place.   Other regulatory barriers could be rules that require goods be transshipped through only one port or only after inspection of paperwork or goods by specific ministries.

This is not to argue that regulations are not needed or necessary.  Government, as always, retains the right to regulate in the public interest and to safeguard the interests of human, animal and plant life and health. 

However, the thicket of regulations in many markets clearly extends well beyond what is strictly necessary in many countries around the region.

For example, nearly every firm that speaks to us can relate some good stories about nightmare regulations in Indonesia.  These range from the large to the small hassles, time and cost needed to try to comply with the rules.  The forest of regulations ensnares firms in nearly every sector and applies to both big and small companies.

The Indonesian government of Joko Widodo (Jokowi) has recognized some of the problems.  The National Development Planning Minister Sofyan Djalil just highlighted more than 2700 regulations and presidential and ministerial decrees that were “inimical to economic activity.” 

That is surely an impressive number of identified obstacles to trade and economic growth. 

Partly in response, Jokowi has begun rolling out a three-part package of unilateral economic reforms to tackle the problems of excessive regulation.  The first package was revealed with great fanfare last week.

It includes the drafting of 91 new regulations and 89 regulations to be amended. 

It could be argued that the creation of nearly 100 new regulations is not a particularly promising way to start clearing away 2700 existing, identified problematic rules.  But, of course, much depends on which rules are being tackled and whether or not the first set of reforms gets at some of the key obstacles to growth or simply nibble around the edges.

Indonesia has ample room for improvement.  It ranks 114 of 189 on the World Bank’s ease of doing business (well below most other ASEAN members) and has been hit by a sharp decline in the value of the rupiah and reduction in the amount of inward foreign direct investment.  Arianto Patunru and Sjamsu Rahardja highlight some selected non-tariff measures and local content requirement rules imposed in Indonesia since 2009.

Last week’s announced policy changes are largely intended to push up demand and not, as Chris Manning has argued, to increase competitiveness of domestic companies.  Changes include greater collaboration between central and local governments around price controls for products like beef, changes in banking to allow easier foreign currency account creation, and the provision of funds to citizens by raising the tax-free thresholds for the poorest citizens as well as newly expanded cash-for-work schemes.  The reform policies are not completely worked out yet, so it is not entirely clear what will be on the table, nor the level of implementation to be expected.

This package of reforms are meant to be overseen by a new economic policy deregulation center set up at the Office of the Coordinating Economic Minister.  The office will also assist with the roll out of two additional packages of reforms due in the next few months. 

The Jakarta Post responded with an editorial to urge the government to take the new deregulation center seriously.  It could implement reforms urged by the OECD in 2012 to evaluate regulations across ministries and to improve regulatory outcomes.

The consequences of successful reform could be quite substantial.  Indonesia’s large, youthful population and ample natural resources provides a platform for significant rewards.  McKinsey and Company has suggested that the country might become a Group of Seven economy by 2030.

As our conversations with companies have revealed, getting there will require unilateral reforms.   The announced regulatory changes are important, but must go substantially deeper and further for the real payoff to occur. 

*** Talking Trade is a blog post written by Dr. Deborah Elms, Executive Director, Asian Trade Centre, Singapore***