Multilateral versus bilateral trade liberalization

Multilateral versus bilateral trade liberalization: East Asia and the New Regionalism

April 2002

I am spending part of this year in East Asia, based in Singapore. This makes a welcome change from an over-governed, complacent and sclerotic Western Europe. East Asia, by contrast, is constantly on the move. It is the spice of change, when added to the profusion of cultures, languages and landscapes, that makes the region so exciting.

Political and economic conditions in East Asia have changed considerably since the sudden outbreak of the Asian financial crisis five years ago. One of the striking features of post-crisis change in the region is the recent proliferation of bilateral trade agreements, mixed with heady talk of bigger regional and cross-regional trade blocs. This is dubbed East Asia’s New Regionalism.

Until recently, most East Asian economies gradually liberalised their trade and inward investment regimes – one of the critical ingredients of the East Asian Miracle. Trade-and-investment liberalisation at home was combined with regional initiatives, such as a free trade agreement (FTA) between the members of the Association of Southeast Asian Nations (ASEAN), and the founding of the wider Asia-Pacific Economic Cooperation (APEC). East Asian governments also promoted multilateral liberalisation through the GATT and later the WTO. However, they eschewed the patchwork of discriminatory FTAs that was spreading across Europe and the Americas, preferring instead the non-discriminatory liberalisation of APEC and the GATT/WTO.

Trade policies in the region have diverged post-crisis. Hong Kong and Singapore have stuck to free trade, and undertaken extra liberalisation in key services sectors. China has continued the process of domestic reform, underpinned by its recent landmark accession to the WTO. Its WTO commitments promise to open large swathes of domestic agricultural, manufacturing and services markets to international competition. Taiwan has also accelerated liberalisation ahead of its accession to the WTO. At the other end of the spectrum, Indonesia and the Philippines are muddling through with economic policy in a climate of political instability. Malaysia and Thailand, while not reverting to higher protection, have become more sceptical of further liberalisation. Economic integration in ASEAN has stalled. Finally, APEC, after much initial hype, seems to be going nowhere.

Buffeted by political and economic turbulence in its Southeast Asian neighbourhood, and with investor attention shifting rapidly to Northeast Asia, Singapore’s government took a strategic decision in 1999 to strike bilateral FTAs with a wide range of partners farther afield. This reorientation of trade policy became more urgent with drift and deadlock in the WTO, especially after Seattle. First came an FTA with New Zealand, then one with Japan. Negotiations with Australia have just been concluded, and are at an advanced stage with the US, Canada and EFTA. Chile and Mexico are also on the list. These FTAs are “WTO plus” in that they cover strong commitments in goods, services, investment, public procurement and more, all underpinned by dispute settlement provisions.

Singapore’s policy shift has sparked frenetic trade diplomacy throughout the region. China and ASEAN have agreed to conclude an FTA in ten years. There is talk of a Japan-ASEAN FTA, of an ASEAN FTA with Australia and New Zealand, and even of an ASEAN Plus Three FTA (with China, Japan and South Korea). Possibly most significant of all these initiatives is Japan’s conversion to regional trade agreements, having previously been a firm sceptic. Even Hong Kong, the last redoubt of non-discriminatory free trade, has succumbed to the regional trend and requested an FTA with mainland China.

Concluding big-bloc FTAs, such as one between China and ASEAN, will prove very difficult due to the plethora of competing protectionist interests on both sides. More likely in the short-term is an expanding, overlapping network of bilateral FTAs in the region and beyond. Singapore will soon have to administer a “spaghetti bowl” of bilateral FTAs; Japan, China, Australia, Thailand and others will probably follow. A pattern of bilateral and regional trade agreements is thus emerging in East Asia alongside what already exists in Europe (revolving around the EU), North America (revolving around the US) and South America. Is this a welcome or worrying trend?

Singapore and others in the region are converts to the New Regionalism for a mixture of political and economic reasons. Politically, FTAs are viewed as a means of cementing “strategic” relationships, especially with the major powers (the US, Japan, China and the EU). On the economic front, there is the prospect of extra export market access and greater foreign investment.

Other economic motivations are more defensive. FTAs are insurance policies: they are devices to ward off future protectionist pressures and manage trade tensions in an orderly manner. Put another way, they can prevent exclusion from preferential market access, especially to the markets of the major powers, at a time when the WTO system is weak and when regional bloc formation seems to be accelerating.

More optimistically, FTAs are touted as building blocks of “competitive liberalisation”: pairs or small clubs of like-minded countries can take liberalisation wider, deeper and faster than in the more heterogeneous and unwieldy WTO, especially in removing complex and politically sensitive domestic regulatory barriers. This could in turn spur unilateral (autonomous) and multilateral liberalisation.

Ranged against these potential advantages are the potential disadvantages of discriminatory trade liberalisation.

First, FTAs add regulatory complexity and confusion to trade policy, especially in the administration of overlapping, contradictory and mind-bogglingly complicated rules of origin requirements. This is what Jagdish Bhagwati calls the “spaghetti-bowl effect”: firms and governments become tied up in knots of messy, discriminatory red tape, which makes little sense in a world of integrated cross-border production.

Second, FTAs can be used by powerful “hub” countries to force weaker “spoke” countries to accept dubious conditions, such as carving out agriculture from reciprocal liberalisation, and insisting on minimum labour and environmental standards. This is a game of power, not of rules. The end-losers might not be promising East Asian emerging markets; rather they would be the bottom-rung developing countries in South Asia and Africa.

FTAs are many-sided. East Asian countries may gain from the New Regionalism, but only if it is accompanied by autonomous national liberalisation and multilateral liberalisation in the context of the new WTO round of trade negotiations. Also, stronger WTO rules are needed to monitor and discipline regional trade agreements, especially on rules of origin. Without a rejuvenated WTO system, FTAs would turn into inward-looking arenas for the playing out of political dogfights. Open markets and rules of fair play in international commerce would be the losers.

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