Yves here. Despite Michael Pettis’s point that the signatories to the new Asian trade deal, the Regional Comprehensive Economic Partnership, all run trade surpluses, which limits how much in the way of additional trade in the bloc will actually occur, the authors below contend that there could still be a good deal of supply chain optimization. Informed reader comment encouraged.
By Uri Dadush and Abdulelah Darandary. Originally published at Bruegel
Although the economic implications of the Regional Comprehensive Economic Partnership (RCEP) for the EU are modest, the geopolitical and strategic implications are not. With the arrival of a new US administration and the central role of China in the bloc, the EU needs to outline an Asian commercial strategy that reconciles the importance of China and the transatlantic relationship.
The 15 November agreement to form the Regional Comprehensive Economic Partnership (RCEP) between the 10 members of ASEAN and Australia, China, Japan, Korea and New Zealand has only modest immediate economic effects for the European Union. However, with China playing a central role in the new arrangement, the long-term strategic and geopolitical implications are major. Europeans tend to look inwards and when they look outwards tend to look mainly west, riveted, for example, by the recent US elections. But, increasingly, most economic activity, most economic growth and some of the more significant geopolitical shifts are occurring in the east.
Viewed from the standpoint of European firms, RCEP is best understood as a free trade agreement between three manufacturing powerhouses – China, Japan and the Republic of Korea– and their joint outreach towards a vast periphery in Asia. For example under RCEP, China commits to eliminate tariffs on 86% of Japan’s exports, including auto parts. The three nations together generated $5.3 trillion of value added in manufacturing in 2019, over $1 trillion more than the United States and the EU combined. In addition to the China/Japan/Korea population of 1.6 billion, RCEP enables outreach to 675 million more people in ASEAN, Australia and New Zealand, a population larger than that of the European Union. In this region, the Asia Pacific, GDP is projected by the World Bank to grow at two to three times the rate in Europe and the United States over the next ten years. India, which was until recently the world’s fastest growing large economy, dropped out of RCEP last year, mainly out of concern about Chinese competition in manufacturing and Australian and South-East Asian competition in agriculture, but it is not impossible that it will rejoin at some future date.
Harmonisation of rules of origin across the many preceding trade agreements among the 15 signatories of RCEP is a crucial aspect of the new arrangement. Common and simplified rules of origin are designed to facilitate the integration of regional value chains. Given the differences in resource endowments across the group and large gaps in wages and incomes – differences which are far larger than those in the EU and the US-Mexico-Canada agreement (USMCA) – there will be considerable opportunity to enhance efficiency and specialise along lines of comparative advantage. As my colleague Alicia Garcia Herrero has argued, though China and Japan will play a central role as the biggest manufacturing centres by far, the large population and low wage nations in South East Asia will likely see an enhanced role in global value chains.
The direct economic effects of RCEP on the European economy are likely to be small – though they are certainly not negligible – and will be felt only gradually. With the China/Japan/Korea group a major exception, the agreement entails only limited trade liberalisation since numerous trade agreements exist already among the signatories. Agriculture is only modestly affected by the deal and the tariff reductions in manufacturing are subject to many exceptions, with detailed country schedules that carve out sensitive sectors. Moreover, the implementation period is unusually long for an agreement of this kind, extending to 20 years. Customs and other types of trade-enhancing regulatory reform provisions will help accelerate the region’s integration, but the deal will do little to free trade in services, where only selected sectors will benefit. There are no provisions for environmental and labour standards, which are always demanded in negotiations involving the EU and US. The agreement is subject to a ratification process, which – if experience is a guide – will turn out to be arduous and drawn out in several instances, especially given the diffidence of many of the RCEP members to China. It must be noted, however, that ASEAN members, which were the originators of the RCEP idea about a decade ago, have a long history of gradually extending and deepening their trade agreement in an evolutionary process, and RCEP may prove to be a dynamic process, not only a one-time deal.
The greatest worry for the EU is displacement of its exports to RCEP members due to the preference margins accorded to the other signatories, known in economic jargon as trade diversion. The table below shows that the EU has important trade agreements in force in Japan, South Korea and Vietnam, indicating that exports to those countries are unlikely to be displaced. However, of the EU’s total exports to RCEP in 2019, most are not covered by trade agreements, including to China, the EU’s second largest export destination, where the applied trade-weighted tariff was 9.15% in 2017 (since reduced by about 2%). Other significant markets include Indonesia, Malaysia and Thailand, where the EU faces high tariffs, and Australia, where the EU faces lower tariffs. Considering that the EU’s exports to China are composed mainly of machinery and other manufactures, some displacement of exports by Japan and South Korea on the Chinese markets can be expected.
Other effects on the European economy should not be overlooked. They come in three forms:
- Consumers and the many firms dependent on imports of intermediate inputs from RCEP are likely to benefit from lower prices, reflecting the boost to efficiency in value chains based in the region;
- Exporters to RCEP will benefit at the margin from the region’s higher income and – most likely – faster sustained growth;
- Firms competing with RCEP, whether in Europe or on third markets, will be put at some disadvantage, especially if they are not drawing benefits from the region’s integrated value chains.
Analysts have tried to evaluate the net impact of these various effects using sophisticated models, but their conclusions are based on many assumptions and must be taken with a grain of salt. The conclusion of the most widely cited study (Petri and Plummer, 2020), for example, indicates that the EU could be a small net gainer from RCEP, about 0.1% of GDP. While detailed calculations are not reported, it is likely that the net gain is due mainly to lower prices of imports from RCEP, which more than offset the effect of trade diversion. One should bear in mind that this is an aggregate effect, and that individual firms may see significant losses if they are displaced in important markets such as China, and that this may well happen.
The more important implications of the RCEP deal are geopolitical. Many observers have noted that, despite American opposition, China’s trade and inward foreign direct investment have continued to thrive in recent years. The RCEP deals shows quite conclusively that the Trump Administration’s strategy to isolate China and to cut it off from global value chains has failed. Australia, New Zealand, South Korea and Japan are US allies who harbour deep concerns about China’s rising influence in the region. However, by joining RCEP, they signal that they do not want to, and cannot, sever their economic ties with China, and, indeed, that they see these ties growing stronger. China’s neighbours can hardly ignore the fact that China’s manufacturing sector is today almost twice as big as that of the US and growing about twice as fast.
Following the Trump Administration’s abandonment of the Trans-Pacific Partnership (TPP), Japan is now placed at the centre of the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), whose membership overlaps with RCEP but also includes Canada, Mexico and several economies in Latin America. Among the countries that have expressed an interest in joining CPTPP is China, although that is a long shot, since the reforms required in China in relation to the CPTPP as currently structured would be far-reaching compared to RCEP (1). It is worth noting that Japan has played its trade cards well. Japan joined RCEP not long after it concluded a trade mini-deal with the United States, and even as it sided with the EU and the US in calling for World Trade Organisation reforms that address issues including industrial subsidies and state-owned enterprise trade, targeting China.
President-elect Biden has promised to be tough on China, but it is unclear at this stage what that means and what shape his Asian strategy will take. Surely, the arrival of RCEP will increase the likelihood of the United States resurrecting the TPP in the shape of a modified CPTPP. Either way, Biden is unlikely to continue Trump’s approach of outright confrontation with China on all fronts (trade, technology, people movement, diplomatic, military). That approach does not work, as the recent trade and investment data and the RCEP deal show. Nor is breaking with China consistent with Biden’s intention to deal with the climate emergency and to restore the US position in multilateral institutions.
More important still, as Henry Kissinger and others have argued recently, hostility between the great powers has reached dangerous levels. Competition between China and the US is one thing, enmity is another. Enmity may, sooner or later, lead to war in Asia – however unintended that outcome might be.
At the technical level of trade negotiations, the RCEP deal and the arrival of a new US Administration should prompt the EU to define a new Asian commercial strategy. Such a course should aim to preserve its transatlantic alliance but also reflect China’s rising importance in the region and the integration of value chains centred on China, Japan and South Korea.
Such a strategy should consider one of three broad non-exclusive options or a combination of them:
- Closer ties with China, the most challenging but also potentially the most beneficial course;
- Joining CPTPP and
- Acceleration of bilateral agreements elsewhere in Asia.
Taken in reverse order, acceleration of bilateral agreements would require reviving those on hold with Malaysia and Thailand (see Table 1) and making progress in negotiations with Indonesia and the Philippines, and dealing with highly sensitive agriculture issues in those with Australia and New Zealand. This is the business as usual course, but one pursued with greater alacrity.
Joining CPTPP is potentially a promising option for the EU given the deal’s comprehensive and ambitious provisions. CPTPP already spans Asia and the Americas, and could cover Europe as well. The fact that the EU already has trade agreements with the largest members, including Canada, Japan, Mexico, South Korea and Vietnam, could make negotiations easier, but also yield relatively limited new trade liberalisation. The UK has already expressed an interest in joining CPTPP.
The hole in the EU’s trade policy doughnut is China, where the risk of trade diversion due to RCEP is also greatest. The EU is China’s largest trading partner, while China is the EU’s second largest export market and the fastest growing. Progress on trade with China would require accelerating negotiations on the Investment Agreement with China that has been under negotiation since 2014 and has proven highly problematic due to a combination of stringent demands from the EU and China’s unwillingness to budge on important market-access issues. But if a way were found to break the impasse, an agreement on investment could pave the way towards a trade agreement. After all, if Japan, South Korea and Switzerland – high-income industrial economies – can strike limited free trade deals with China, imagining one between China and the EU is not impossible.
If the EU decides to pursue the China option, it should learn from Japan’s adept economic diplomacy, which has so far navigated successfully between China and the United States, striking trade deals with both (and with the EU) while retaining its close security alliance and trade ties with the United States. In the EU’s case, that course is unlikely to take the form of a major deal with the US along the lines of the defunct Transatlantic Trade and Investment Partnership, but rather of a series of limited agreements such as on digital trade.
As Biden takes office, the dangerously strained relations between China and the United States need urgent attention, and the EU is not powerless to influence the outcome with its words and actions. The EU has no interest in a generations-long conflict between the two superpowers, which could lead to the outbreak of war in the Pacific, and nor does the EU see China as an enemy. Closer economic ties between the EU and China will be conditional on China’s efforts to limit the trade distortions caused by its state-dependent competitive model. As Japan has showed in Asia, such a stance is not inconsistent with resisting China’s human-rights infractions and countering its growing economic influence in the near abroad.
A clear European position that it intends to maintain and strengthen its economic relationship with China under stringent conditions would deliver an important message to China. It would also strengthen the resolve of the many internationalists likely to hold key positions in the Biden team and of those in the US Congress who want to adopt a more constructive approach towards China. This is a stance that – judging by his long involvement in foreign relations and with China – the President-elect would be inclined towards anyway, despite the election rhetoric.
The signing of the RCEP mega-trade deal does not point unequivocally to any one of the EU’s three strategic options outlined here. But, together with the arrival of a new US Administration, it does call on the EU to clarify its Asian commercial strategy soon.
Pauline Weil provided excellent research assistance. I thank without implicating Suman Bery, Maria Demertzis, Alicia Garcia Herrero, André Sapir and Guntram Wolff for very useful comments.
What is the value of a trade deal when it is not respected ? Look at the current commercial relation between Australia and China, despite signing a trade deal in 2015.
As Dalladier said when he was celebrated coming back from the infamous Munich Conference “Ah les cons, s’ils savaient !” (“Bunch of fools, if they knew !”)
What about that? Australia has bee pooh pooing over China for the last several years but wants to have its products bought. Would you go to a store where when you pay they curse you and call your mother a whore?
Also Australia is denying certain Chinese products on the Australian market…
They want their cake and want to eat it too. Or how we were more aptly saying in the old country, Australians want to be with the D__k in their asses and their souls in heaven…
My point exactly : do you realistically expect countries like Japan or South Korea to be less “Pooh pooing” China than Australia in the next 5 years considering how aggressive China and its satellites like North Korea are right now and for the foreseeable future ? Japan has a quite heated border dispute on the Senkakus, where Chinese boats explicitly challenge its control if the area. It already bans Huawei. North Korea still is a state of war with South Korea and is on its way to get SLBMs. China has territorial dispute in the South China Sea with Vietnam, the Philippines and Malaysia. Etc, etc…
The bottom line is that one can’t have absolute trust and absolute power at the same time because the very act of trusting someone or something means being vulnerable to his/her/its actions. For reasons of its own – that I can easily understand from a historical, cultural and tactical standpoint – the current CCP leadership is choosing absolute power. I believe it is a long term mistake, but the world is full of countries making long term mistakes by following their historical, cultural or myopic standpoint. China is far from being the only one in this position (practically all big countries are these days…), but it is silly to deny that it is its position right now ! That train has left the station at least 10 years ago…
In fewer words : international cooperation is going down, so it is a fool’s game for anyone to bet on it.
I am not sure if it is your point exactly, or it is very easy to misinterpret because one might have a different timeline, a different interpretation of facts, etc.
With NK/SK, the timeline started after WWII, when the Korean communists wanted to get rid of the occupying American/Japanese forces (yes, as soon as WWII started and the Japanese were beaten, Americans enlisted these same Japanese on managing Korea). Now what a Nationalistic Korean Army was to do. It is true they were communists, but first and foremost they were Koreans. And there were issues with elections which neither party wanted to recognize. So the Korean Army from north went on to liberate the rest from the occupying forces.
And then the Americans never went for actual peace. And in the Korean peninsula there is only a stalemate because there is an occupying force. And NK managed to acquire the nuclear deterrent – good for them.
The one nation that is not trustworthy, not agreement capable is the US, and its minions follow suit. Of course they will invent excuses, and straight out lie, and the media (Operation Mockingbird) will carry the narrative and the tone all over the place.
I am not sure also who’s using absolute power. As far as I know, US is self declared hegemon, with over 800 foreign bases and patrolling the high seas. Excerpt from a recent article on the “War on the Rocks” website “No country owns the “great commons” of the seas, but when America assumed international leadership after World War II, the U.S. Navy’s primary raison d’être became command of those seas in support of U.S. global interests. Command of the seas meant that the Navy’s mastery of the oceans would assure access almost anywhere for American sovereign power. This would enable the military guarantee of security, political, and economic interests whenever needed, while denying the seas to others when necessary. ” by Joe Sestak, retired US Navy officer. The key message here is this “denying the seas to others when necessary”
So please do tell, who’s using power? China wanting to push away from its essential trade routes the specter of US bombers and warships. The US is using the countries in the region to push its own agenda. China has repeatedly expressed its intention and desire to sort things out through bilateral negotiations while the Americans are trying to convince these countries otherwise.
And the ones that are pushing nowadays for international cooperation are Russia and China. Just check the obstructionism of the US at WTO…
The main reason for scepticism about the deal (apart from the trade surplus issue) is that it is contrary to actions of all three of the main countries in recent years to tighten up their supply chains and use trade as a weapon. China’s extremely aggressive action against ROK over THAAD, and Japans equally aggressive trade actions last year against ROK over issues relating to compensation for colonisation will make any businesses think twice about being too reliant on all three of those countries having smooth relations on trade. China of course is also taking a strong line with Australia. Import substitution is now an explicit policy of both Beijing and Tokyo, and the Koreans have been very wary about dependance on China – focusing on Vietnam and Taiwan instead.
It may be that RCEP is a genuine attempt at a new start, but there is nothing in recent actions or rhetoric from the main countries, Beijing and Tokyo in particular, to indicate that they are really committed to keeping trade separate from other political weapons.
That raises the question of course as to why they have signed this. I don’t know the answer, but I suspect its seen as more of a political move than a commitment to open trade within the bloc. There may be a belief within the smaller countries that this is a way of persuading China not to use trade as a weapon and ‘normalise’ links.
A fair analysis.
While my understanding is fairly limited, I suspect the main beneficiaries in this trade deal is ASEAN + NZ. These are the small fry economically and politically. China, Japan, and South Korea are all big enough to look after themselves and to use their economic might to bully others. This is particularly true of China.
The rest have have either under developed economies small economies and/or hollowed out economies. Australia and NZ are obviously quite developed but they’ve both allowed manufacturing to languish severely creating particular vulnerabilities.
Politically the ASEAN nations have been growing closer. Contemporary and history grievances are still present in some cases but there has been a general trend toward cooperation for mutual economic and political benefit. The big panda flexing its economic muscles only encouraging this trend.
Indeed, all good points. One cavil: regarding the implication that China and Japan took “aggressive actions” against the ROK, many see the Japan conflict as an example of the ROK being, to coin a phrase more often applied to the USA, “not agreement-capable”. And the THAAD conflict as an example of American politics in action.
Giving ROK the benefit of the doubt, they may have miscalculated the reactions to their own aggressive actions against China and Japan.
I don’t know much about the political motives, but the trade displacement seems like a significant issue. Sure there is a large overall trade surplus but they also buy a lot of stuff elsewhere, If that becomes more “localized” to the RCEP countries it would have global implications.
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Four years under a Trump administration have changed China’s outlook on the economic reality of the world. Until the Trump years the country simply thought to integrate its economy inside the Westerncentric world economy. This was confirmed by its acceptance to let its most advanced economic sectors be dependent on Western standards and technologies.
But this has now changed.
China’s analysis of the situation is that the West is acting against the flow of the natural evolution of history. It now considers that the West will never let go its aggressive hegemony. And so it thinks that a successful insertion of the Chinese nation, in this late-modern concert of nations, has to relie on the further internal development of its society in the fields of health, technology, ecological sustainability, defense, and more generally on the functioning of its system of governance. In other words the Chinese strategy has integrated the lessons of a changing International context in the making. China now views strength as being generated internally by the whole of Chinese society. To put it bluntly this means that China will no longer accept Western dominance in any field.
China’s focus, on the further internal development of its society, is an implicit recognition of the belief by its central leadership that to be taken seriously its system of governance has to ensure the following : – the country’s financial capabilities best the rest of the world, – its scientific knowledge base is more advanced than the rest of the world, – its applied research and development is top of the art, – its defense is impregnable, – its Traditional Chinese Culture is being shared anew by all its citizens as their national worldview, – its societal cohesion reaches its apex. The central leadership of the country wants to reach the bulk of these targets within the next 10 to 15 years.
Contrarily to the views expressed by most Western analysts this does not mean that China has any intention of dominating the world. This idea goes counter to the country’s axioms of civilization and its worldview that is most often referred to a the Traditional Chinese culture. But the meaning of these words imply the command of a good understanding of China’s history. A comment is too short a form to address such a subject.
So what are the intentions of China as a nation ?
China’s vision is that :
— it wants to be respected as an equal by the rest of the world which it thinks, to put it mildly, is not the case presently. Have you seen what kind of words have been addressed at China during the last few months ?
— it wants to share, with this earth’s community of nations, a common destiny by producing a socially and ecologically acceptable future for its children.
China came to the conclusion that realizing such a vision will be nearly impossible in the context of the US architectured world order. So it is pushing the regional route. And the institutional strengthening of East-Asia is at the core of this strategy :
1. Added together China, Japan, South-Korea and Vietnam form the Confucian space. And that space constitutes the bulk of Asia’s GDP which is already higher in $US terms than the US’
2. ASEAN, with a combined population of more than 650 million, and China (1400 million) initiated the ASEAN–China Free Trade Area in 2002. Since then their trade has beaten record after record. In the present stage these countries vie to multiply new investments in the new silk roads) in order to boost their future commercial and cultural exchanges.
1.3. North East-Asia : “ Russia’s Far East Investment and Export Support Agency investment manager Vasily Libo revealed on November 1 (2019) that China’s foreign investment in the Far East advanced development zone accounted for about 59.1% of foreign investments in the region. This massive investment into the Far East is a strategic move by China as it aims to fully exploit the riches and benefits that this region of Russia can bring. The Russian Far East has a huge investment potential, especially with materials, natural resources, fisheries, and tourism, China aims to take advantage of the mostly underdeveloped region. The region is not only resource rich, but is strategically located as it borders China Mongolia and North Korea, and has a maritime border with Japan.” China is also linking its North-East region to the free port of Vladivostok which will also shorten the shipping route to the world for Inner and Outer Mongolia. North-Korea is furthermore awaiting better Geo-political circumstances to integrate this particular developmental strategy.
With time this ‘Far East advanced development zone’ will grow into a new economic juggernaut that will unite Japan, Korea, China and Russia in a commonly beneficial project.
See “ “China’s Development of the Russian Far East Can Improve EU-Moscow Relations” in Global Research by Paul Antonopoulos. 2020-11-06 and “Primorye-2 Transport Corridor’s Cargo Traffic from China Up 65% in 2020 ” in Info Brics. 2020-05-28.
So East-Asia is been expanded into the largest among all regional economic blocs and the investments in the New Silk Roads are extending East-Asia’s interconnected networks of freeways, fast trains, seaports and telecommunications to the Tri-Continental-Area, Africa and Europe. These interconnected networks are bound to multiply cross-trade and investment volumes between their different national components. In the meanwhile the Anglo-sphere is slowly marginalizing itself from a revitalizing Eurasia which is slowly affirming itself as the core of the world economy.
I certainly agree with the authors of this article that “The more important implications of the RCEP deal are geopolitical”. As I view it RCEP is one part of China’s strategy to build East-Asia into the largest among all regional economic blocs and the second part of the strategy is to design’ a new world order based on Regional Economic Blocks (REBs).
If you are interested to dig deeper in this line of thought check my last book”First societal blow in Late-Modernity” (599 pages free pdf).
It’s a bit much for Henry K to be concerned about “hostility between great powers” in light of his long career of pushing for the mass murder of people in minor powers who were not hostile enough to the great powers he dislikes.
I find the timing of this treaty interesting. Trump is on the way out soon and Biden will be coming in. And what that might mean is that America will seek to join the TPP. But a Biden administration would not just want to join the TPP but to re-write the rules to suit themselves which is actually a years-long process. I still think about Obama boasting how he is writing the rules of the TPP which I would assume to be to assure American primacy and to lock China out of the Pacific. When Trump pulled out of the TPP, some of the worse aspect of it were dropped in order for it to go ahead by the remaining countries. With the RCEP, it may be a way for the member countries to hedge their bets and to give them some leverage in a TPP re-negotiation and something to fall back on in case Biden demands too much from other countries in a TPP re-negotiation. Still, early days here but it would be interesting if this eventually grew into an independent trading block like the EU. And what this may also signify is that we are well past the point of a unipolar world and are now evolving multi-polar organizations.
As someone who works in the space, your point is spot on about what is in store for Biden. 1. The USG/USTR has lost trust and credibility in many CPTPP and other Asian capitals (that will have to be re-gained after Trump didn’t even bother to meet with Asian Heads of State via video, choosing instead to have NSA advisor Obrien whose prior claim to fame was freeing a rap star out of jail in Sweeden represent America) and others have earned trust, credibility and leadership. The trade policy table in Asia in 2021, is not the same as it was in 2016 and the USA won’t be sitting at the big table automatically on Jan 21st. 2. CPTPP members (home to both American and Asian corporates) would welcome the USA back into the deal for some additional preferential market access and perhaps limiting future USG “unilateral” actions. 3. CPTPP member governments won’t quickly welcome the USA back into the deal, if the USG “demands” it be re-negotiated (because #1). 4. While Biden spends 6-12 months focused on COVID and recovery, the upgrading and or expansion of a number of existing trade agreements involving Asian nations (which don’t include the USA) are going to take priority over USG demands. 5. The que for non Asian nations to negotiate agreements with large/fast growing Asian nations is getting longer and the USA will have to compete against EU, Canada, and perhaps even Boris in the UK for the finite political bandwidth and negotiating capacity in Asian capitals.
Are there provisions in this trade treaty which require members of this block to negotiate any future trade treaty with the block as a whole?
One could see that this treaty is a preemption of any US lead future treaty.
No such provision exists in the RCEP framework. To date, I believe only the USG on behalf of an exceptional America has attempted to include a provision in negotiating a trade agreement with another country, related to what that sovereign nation could or could not do in negotiating a trade agreement with another nation. For example, in the NAFTA 2.0 the USG insisted that Canada and Mexico “must” share a copy of any agreement either of them do in the future with China with the USG. I believe that the USG is also attempting to include a provision in the negotiation of an agreement with Kenya, that Kenya must commit to not supporting/participating any action which limits trade and investment with the state of Israel.