Free Trade Agreements in the Asia Pacific (World Scientific Studies in International Economics)

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World Scientific Studies in International Economics (ISSN: 1793-3641) Series Editor Robert M. Stern, University of Michigan, USA Editorial Board Vinod K. Aggarwal, University of California-Berkeley, USA Alan Deardorff, University of Michigan, USA Paul DeGrauwe, Katholieke Universiteit Leuven, Belgium Barry Eichengreen, University of California-Berkeley, USA Mitsuhiro Fukao, Keio University, Tokyo, Japan Robert L. Howse, University of Michigan, USA Keith E. Maskus, University of Colorado, USA Arvind Panagariya, Columbia University, USA Published* Vol. 4

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edited by

Christopher Findlay University of Adelaide, Australia

Shujiro Urata Waseda University, Japan

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Published by World Scientific Publishing Co. Pte. Ltd. 5 Toh Tuck Link, Singapore 596224 USA office: 27 Warren Street, Suite 401-402, Hackensack, NJ 07601 UK office: 57 Shelton Street, Covent Garden, London WC2H 9HE

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FREE TRADE AGREEMENTS IN THE ASIA PACIFIC World Scientific Studies in International Economics — Vol. 11 Copyright © 2010 by World Scientific Publishing Co. Pte. Ltd. All rights reserved. This book, or parts thereof, may not be reproduced in any form or by any means, electronic or mechanical, including photocopying, recording or any information storage and retrieval system now known or to be invented, without written permission from the Publisher.

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PREFACE In recent years, there has been a rapid increase in the number of free trade agreements (FTAs). Concluded throughout the world, these FTAs occupy a dominant position in the international trade regime. While FTAs expand the level of trade between member countries, they are likely to divert and reduce trade with non-members, thereby affecting the economies of both member and non-member countries. This research, conducted by the FTA Study Group at the Research Institute of Economy, Trade and Industry (RIETI) in fiscal years 2006 and 2007, examined major FTAs in the world to analyse their impact on trade and domestic economies. The method used consisted of pre-FTA analysis of data from the period prior to the establishment of an FTA, and post-FTA analysis based on actual observed data. As for Japan’s FTAs, the project also analysed the utilisation rate of the FTAs by Japanese firms. The results obtained from these analyses have served to identify areas of necessary improvement in individual FTAs, while also providing useful information for the design of future FTAs. We are very pleased to see the publication of this research in book form, as this will allow a broader international audience to access the valuable results of this research. This research project was led by Professor Urata Shujiro, Faculty Fellow of RIETI and Professor of the Graduate School of Asia-Pacific Studies, Waseda University. I believe the unique organisational support provided by RIETI is indispensable to this type of research project that involves the gathering of long-term economic and trade-related data on a global scale. RIETI was established in 2001 by the Ministry of Economy, Trade and Industry as a new policy-making platform aimed at promoting the link between academia and politics. While maintaining a certain degree of independence from government agencies, RIETI makes the best use of its location in the Kasumigaseki district in central Tokyo — the heart of Japanese politics and economics — to bring together policy makers, v

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industry leaders, academic experts, and eminent researchers from Japan and overseas. For the five-year medium-term plan between 2006–2010, RIETI has set up the following four major policy research domains as an overarching framework of research themes in which individual researchers and study groups are freely engaged in research activities: (i) Maintaining Economic Dynamism under the Adverse Demographic Conditions of Low Fertility and Aging Population, (ii) Promoting Innovation and Strengthening International Competitiveness, (iii) Formulating Japan’s Strategy in Response to Globalization and Deepening Economic Interdependence in Asia, and (iv) Compilation of the History of Japan’s Trade and Industry Policy. To undertake these research projects, it is crucial to enlist a diverse array of experts to systematically examine research themes, gather and structure essential data, and form networks of researchers including those based overseas. In its role as a policy-making platform, RIETI has its greatest strength in such inter-organizational research. As Chairman of RIETI, I extend my thanks to Professors Urata and Findlay, the editors of this publication, as well as to the members of the FTA Study Group and contributors to this volume. In March 2007, the Group played a key role in organising a RIETI Policy Symposium entitled “Assessing Quality and Impacts of Major Free Trade Agreements”. I take this opportunity to note that the comments and suggestions received from the participants of the symposium were very useful in deepening the research in this project. Last but not least, I extend my thanks to the RIETI staff whose hard work facilitated the smooth progress of this research project, and to the staff members of World Scientific Publishing Co., Pte. Ltd, the publisher of this volume. Oikawa Kozo, Chairman Research Institute of Economy, Trade and Industry, IAA

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CONTENTS

Preface

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Overview

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1. Rules of Origin and Agricultural Trade Liberalisation in Major Free Trade Agreements

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I. Cheong and J. Cho 1. Introduction . . . . . . . . . . . . . . . . . . . . . 2. Descriptive Overviews of ROO . . . . . . . . . . 2.1. Theoretical survey on ROO . . . . . . . . . 2.2. Descriptive analysis of ROO in major FTAs 2.2.1. ROOs in the US and EU FTAs . . . 2.2.2. ROOs in East Asian FTAs . . . . . . 3. Empirical Assessment of ROOs . . . . . . . . . . 3.1. Analysis on index components . . . . . . . . 3.2. Assessment of restrictiveness of ROO . . . . 3.2.1. Existing studies . . . . . . . . . . . . 3.2.2. Restrictiveness of ROO in FTAs by Japan and Korea . . . . . . . . . . . 4. Agricultural Liberalisation in Major FTAs . . . . 4.1. FTAs by Western countries . . . . . . . . . 4.2. FTAs by Japan and Korea . . . . . . . . . . 4.3. ASEAN–China FTA . . . . . . . . . . . . . 5. Conclusion . . . . . . . . . . . . . . . . . . . . . References . . . . . . . . . . . . . . . . . . . . . . .

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2. Services in Free Trade Agreements

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R. Ochiai, P. Dee and C. Findlay 1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . 2. Form and Content . . . . . . . . . . . . . . . . . . . . 2.1. Regional characteristics of form . . . . . . . . . . 2.2. Negative-list versus positive-list approach — Contents . . . . . . . . . . . . . . . 2.3. The GATS template versus the NAFTA template 3. Domestic Regulation . . . . . . . . . . . . . . . . . . . 4. Market Access and National Treatment . . . . . . . . 5. Comparison Between Bilateral and Multiple Member Agreements . . . . . . . . . . . . . . . . . . . . . . . . 6. Rules of Origin . . . . . . . . . . . . . . . . . . . . . . 7. Overall Evaluation on Liberalisation . . . . . . . . . . 8. Summary . . . . . . . . . . . . . . . . . . . . . . . . . Appendix . . . . . . . . . . . . . . . . . . . . . . . . . . . References . . . . . . . . . . . . . . . . . . . . . . . . . .

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3. Analysis of the Restrictions on Foreign Direct Investment in Free TradeAgreements

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S. Urata and J. Sasuya 1. Introduction . . . . . . . . . . . . . . 2. Methodology . . . . . . . . . . . . . 3. Results and Discussion . . . . . . . . 3.1. Degrees of restrictions . . . . . 3.2. Assessment by country . . . . . 3.3. Types of restrictive measures . 3.4. Restrictions on different sectors 4. Concluding Remarks . . . . . . . . . Appendix . . . . . . . . . . . . . . . . . References . . . . . . . . . . . . . . . .

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4. A Comparison of the Safeguard Mechanisms of Free Trade Agreements

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A. Kotera and T. Kitamura 1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . 2. Bilateral and Regional Safeguard Mechanisms . . . . . . 2.1. The basic idea and structure of safeguard mechanisms . . . . . . . . . . . . . . . . . . . . . . 2.2. The intrinsic nature of bilateral and regional safeguard mechanisms . . . . . . . . . . . . . . . . 2.3. Analysis and evaluation of the selected safeguard mechanisms . . . . . . . . . . . . . . . . 2.3.1. Indicators for analysis and their descriptions 2.4. Analysis of the selected bilateral and regional safeguard mechanisms . . . . . . . . . . . . . . . . 2.4.1. NAFTA . . . . . . . . . . . . . . . . . . . . 2.4.2. EFTA . . . . . . . . . . . . . . . . . . . . . 2.4.3. AFTA . . . . . . . . . . . . . . . . . . . . . 2.4.4. EC–Mexico . . . . . . . . . . . . . . . . . . 2.4.5. Australia–New Zealand . . . . . . . . . . . 2.4.6. US–Singapore . . . . . . . . . . . . . . . . 2.4.7. US–Australia . . . . . . . . . . . . . . . . . 2.4.8. Japan–Mexico . . . . . . . . . . . . . . . . 2.4.9. Japan–Singapore . . . . . . . . . . . . . . . 2.4.10. Korea–Chile . . . . . . . . . . . . . . . . . 2.4.11. Korea–Singapore . . . . . . . . . . . . . . . 2.4.12. China–ASEAN . . . . . . . . . . . . . . . . 3. Classification of the Selected Bilateral and Regional Safeguard Mechanisms . . . . . . . . . . . . . . . . . . . 3.1. No general safeguard type . . . . . . . . . . . . . . 3.2. Quasi-global safeguard type . . . . . . . . . . . . . 3.2.1. WTO type . . . . . . . . . . . . . . . . . . . 3.2.2. GATT type . . . . . . . . . . . . . . . . . . 3.2.3. NAFTA type . . . . . . . . . . . . . . . . . 3.2.4. European type . . . . . . . . . . . . . . . . . 4. Final Remarks . . . . . . . . . . . . . . . . . . . . . . . Appendix . . . . . . . . . . . . . . . . . . . . . . . . . . . . References . . . . . . . . . . . . . . . . . . . . . . . . . . .

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5. Assessing the Economic Impacts of Free Trade Agreements: A Computable Equilibrium Model Approach

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K. Abe 1. The Theoretical Framework and the Simulation Model Adopted . . . . . . . . . . . . . . . . . . . . . . 1.1. Surveys on the impacts of an FTA . . . . . . . . 1.1.1. Welfare decomposition of efficiency improvement . . . . . . . . . . . . . . . . . 1.2. Location effects and regional disparity . . . . . . 1.3. Other dynamic effects of an FTA on economic growth and welfare . . . . . . . . . . . . . . . . . 1.4. Framework of the adopted simulation model . . . 1.4.1. Computable equilibrium models and their advantage . . . . . . . . . . . . . . . . . . 1.5. Accumulation effect measured by a CGE model . 1.6. The global trade analysis project model . . . . . 1.7. The plan for simulations in this paper . . . . . . 2. The Simulations of Japan’s Existing and Future Bilateral FTAs . . . . . . . . . . . . . . . . . . . . . . 2.1. Trade and tariff structures of the three countries of Japan’s existing FTAs . . . . . . . . 2.2. Details of simulations and technical assumptions 2.3. Macroeconomic impacts . . . . . . . . . . . . . . 2.4. Impacts on sectors . . . . . . . . . . . . . . . . . 3. Simulations of the Future Scenarios of Japan’s FTAs . 3.1. Static simulation . . . . . . . . . . . . . . . . . . 3.2. Results of static simulation . . . . . . . . . . . . 3.3. Dynamic simulations: Model structures and assumptions . . . . . . . . . . . . . . . . . . 3.4. Results of dynamic simulation: Baseline scenario 3.5. Alternative scenarios: Expediting formation of Japan’s FTAs . . . . . . . . . . . . . . . . . . 3.6. Alternative scenarios: An FTA with the United States and liberalising agriculture . . . . 4. Implications of the Study and Remaining Research Issues . . . . . . . . . . . . . . . . . . . . . . 4.1. Implications of the study . . . . . . . . . . . . . . 4.2. Remaining research issues . . . . . . . . . . . . .

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Appendix 1: Simplified Framework for Welfare Analysis Appendix 2: Baldwin Dynamic Specification . . . . . . Appendix 3: Sector and Region Aggregation . . . . . . References . . . . . . . . . . . . . . . . . . . . . . . . .

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6. The Impacts of Free Trade Agreements on Trade Flows: An Application of the Gravity Model Approach

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S. Urata and M. Okabe 1. Introduction . . . . . . . . . . . . . . . . . . . . . 2. Intra-FTA Trade Dependency for Selected FTAs 3. The Impacts of FTAs on Bilateral Trade Flows: An Application of the Gravity Model . . . . . . . 3.1. Brief survey of the literature . . . . . . . . . 3.2. The model and the estimated results . . . . 3.2.1. Analysis of general FTA effects . . . 3.2.2. Analysis of trade creation and trade diversion effects . . . . . . . . . . . . 3.2.3. Analysis of selected products . . . . . 4. Concluding Remarks . . . . . . . . . . . . . . . . Appendix: Description of the Data . . . . . . . . . . References . . . . . . . . . . . . . . . . . . . . . . .

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7. On the Use of Free Trade Agreements by Japanese Firms

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K. Takahashi and S. Urata 1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . 2. Use of FTAs by Japanese Firms: Survey Results . . . 2.1. Questionnaire . . . . . . . . . . . . . . . . . . . . 2.2. Utilisation rate of FTAs . . . . . . . . . . . . . . 2.3. Reasons for low utilisation rate . . . . . . . . . . 2.4. Impacts of FTAs on Japanese companies . . . . . 2.5. Attractive FTA partners . . . . . . . . . . . . . . 3. Determinants of the Use of FTAs: An Application of the Probit Model . . . . . . . . . . . . . . . . . . . 4. Concluding Remarks . . . . . . . . . . . . . . . . . . . Appendix: Characteristics of Questionnaire Respondents References . . . . . . . . . . . . . . . . . . . . . . . . . .

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8. Impacts of Japanese FTAs/EPAs: Preliminary Post Evaluation

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M. Ando 1. Introduction . . . . . . . . . . . . . . . . . . . . . . 2. Trade and FDI with EPA Partners . . . . . . . . . 2.1. Overview . . . . . . . . . . . . . . . . . . . . 2.2. Sectoral issues in Japanese trade with Mexico 2.2.1. Japanese exports to Mexico . . . . . . 2.2.2. Japanese imports from Mexico . . . . . 2.3. Gravity model estimation of Japanese trade . 3. Effects of the Japan–Mexico EPA Beyond Trade Liberalisation . . . . . . . . . . . . . . . . . . . . . 3.1. Business environment . . . . . . . . . . . . . 3.2. Government procurement . . . . . . . . . . . 3.3. Logistics . . . . . . . . . . . . . . . . . . . . . 4. Conclusion . . . . . . . . . . . . . . . . . . . . . . Appendix . . . . . . . . . . . . . . . . . . . . . . . . . References . . . . . . . . . . . . . . . . . . . . . . . . Index

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OVERVIEW CHRISTOPHER FINDLAY and SHUJIRO URATA

1. Free Trade Agreements in East Asia East Asia was late in joining the free trade agreement (FTA) frenzy. This book comprises a series of papers derived from a research project that assesses the quality and impact of the FTAs that the East Asian region entered into in the 21st century. This chapter reviews the recent developments of these FTAs, explains the motivation and scope of the research project, and summarises some key results.

1.1. Rapid expansion of FTAs Several regions in the world other than East Asia began to look at FTAs as a means of promoting trade liberalisation in the 1990s, when the Uruguay round of multilateral trade negotiations under the General Agreement on Tariffs and Trade (GATT) was making little progress. The strong interest in FTAs increased even more after the establishment of the World Trade Organization (WTO) in 1995, which succeeded the GATT with a more comprehensive coverage and stronger legal foundation, as the new multilateral trade negotiations (the Doha Development Agenda, DDA) under the WTO became deadlocked. Indeed, the cumulative number of FTAs reported to the GATT/WTO since 1949 increased from 86 in 1990 to 165 in 1995, to 251 in 2000, and to 394 as of 20 May 2008.1 1 The figure includes those FTAs that became inactive as well as those that are active. The figures were taken from the WTO’s Web site http://www.wto.org/english/tratop e/ region e/summary e.xls on 6 July 2008.

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xiv Table 1.

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Major FTAs involving East Asian economies (as of May 2008).

In Effect

In Negotiation

In Negotiation

Bangkok Treaty (1976) AFTA (1992) Singapore–NZ (2001) Japan–Singapore (2002) Singapore–Australia (2003) Singapore–EFTA (2003) Singapore–US (2004) Korea–Chile (2004) China–Hong Kong (2004) China–Macao (2004) Taiwan–Panama (2004) Singapore–Jordan (2004) Japan–Mexico (2005) China–ASEAN (2005) Thailand–Australia (2005) Thailand–NZ (2005) Singapore–India (2005) Korea–Singapore (2006) Japan–Malaysia (2006) Korea–EFTA (2006) Japan–Chile (2007) Japan–Thailand (2007) Singapore–India (2007) Singapore–Panama (2007) China–Chile (2007) China–NZ (2008) China–Pakistan (2008) Malaysia–Pakistan (2008)

Japan–Korea Japan–Philippines∗ Japan–ASEAN Japan–Indonesia† Japan–GCC Japan–Brunei† Japan–Vietnam Japan–India Japan–Australia Korea–US† Korea–Canada Korea–India Korea–Mexico Korea–EU Korea–ASEAN (ex. Thailand∗ ) China–Australia China–GCC China–SACUFTA China–Singapore Malaysia–Australia Malaysia–NZ Malaysia–US Singapore–Canada Singapore–Mexico Singapore–Egypt Singapore–Qatar Singapore–Peru Thailand–India†

Thailand–EFTA Thailand-Australia Thailand-US Hong Kong–NZ Taiwan-El Salvador Taiwan–Guatemala Taiwan–Nicaragua Taiwan–Paraguay

∗ Indicates

that treaty has been signed and is waiting for ratification by the legislative bodies. † Indicates that the negotiation has reached an agreement. Source: WTO; respective government sources.

The major agreements involving East Asian economies as of May 2008 are shown in Table 1.2 The ASEAN Free Trade Area (AFTA), 2 In the GATT/WTO, regional trade agreements (RTAs), which violate one of its basic principles of non-discrimination, are permitted under GATT Article XXIV with several conditions, which include liberalisation of substantially all the trade of the members, not increasing trade barriers on non-members, and completing the RTA process within 10 years. For developing members, more lenient conditions are applied under the enabling clause. An FTA is considered a shallow form of regional integration because it only removes tariff and non-tariff barriers among the members, while a customs union is a deeper integration as it adopts common external tariffs on non-members in addition to the removal of tariff and non-tariff barriers on trade among the members.

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which was established in 1992, was the only major FTA until Japan and Singapore enacted the Japan–Singapore FTA (formally, the New Age Japan–Singapore Economic Partnership Agreement, JSEPA) in 2002.3 However, as the table shows, the situation has changed dramatically in recent years and many countries in East Asia have formed FTAs with countries not only within but also outside the region. Members of ASEAN began the AFTA process in 1992 to make ASEAN a competitive region for exports and to attract foreign direct investment (FDI). The 1992 agreement provided for the liberalisation of tariff and nontariff measures under the Common Effective Preferential Tariffs. The target year for achieving tariff and non-tariff liberalisation was originally set for 2008, but then brought forward to 2002. The AFTA has been in effect among the original six ASEAN members — Brunei, Indonesia, Malaysia, Singapore, Thailand, and the Philippines — since January 2002, when the tariff rates were reduced to 0–5%, though the exclusion list is long and individual country circumstances vary. Vietnam was to comply with the same tariff standards by 2003, Laos and Myanmar by 2005, and Cambodia by 2007. By 2010 ASEAN is expected to become a complete free trade area with the exception of CLMV members (Cambodia, Laos, Myanmar, and Vietnam), which have been given later deadlines. FDI liberalisation in ASEAN has been underway since the creation of the ASEAN Investment Area (AIA) in 1998. This provides coordinated investment cooperation and facilitation programs, market access, and national treatment of all industries. However, some ASEAN members continue to maintain sizeable sensitive and exclusion lists from FDI liberalisation. In 2003 the ASEAN leaders agreed to set 2020 as the target year for the establishment of an ASEAN Community to be composed of the ASEAN Security Community, the ASEAN Economic Community, and the ASEAN Socio-Cultural Community. Under the ASEAN Economic Community, free flow of goods, services, investment, and capital is to be established. The target date for the establishment of an ASEAN Community has been brought forward to 2015. Besides AFTA, in recent years ASEAN as a group as well as its members individually have become active in FTA discussions with other countries. The FTA that has received the most attention recently is that between ASEAN and China. They enacted an FTA in the goods trade in July 2005 and are currently negotiating one in the services trade. ASEAN excluding 3 For

discussions on FTAs in East Asia, see for example, Aggarwal and Urata (2006), Urata (2005), Pangestu and Gooptu (2004), Soesastro (2006), and Sally (2006).

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Thailand enacted an FTA with Korea in July 2006 and has signed an agreement with Japan. Currently, ASEAN is negotiating FTAs with India, Australia–New Zealand, and CER (Closer Economic Relations) and the EU. Many ASEAN members have become active in establishing bilateral FTAs. Singapore has enacted FTAs with New Zealand, Japan, Australia, the US, the European Free Trade Association (EFTA), and India, and is negotiating with many other countries. Thailand has also been active in establishing FTAs, implementing them with Australia, New Zealand, and Japan and is currently negotiating with the US and others. Malaysia has enacted an FTA with Japan and begun negotiations with several economies, including the US. Indonesia has enacted and the Philippines has signed FTAs with Japan. In comparison, the economies in Northeast Asia, including China, Japan, Korea, and Taiwan, were not involved in FTA negotiations until the end of the 1990s. However, China, Japan, and Korea have now become very active. China has implemented FTAs with ASEAN, Hong Kong, and Macau, and is negotiating FTAs with over 20 countries. Japan has enacted FTAs with Singapore, Mexico, Malaysia, Chile, Thailand, and Indonesia, signed agreements with the Philippines, Brunei, and ASEAN, and is currently in negotiations with Australia, the Gulf Cooperation Council (GCC), Korea, and others. Korea has implemented FTAs with Chile, Singapore, the EFTA, and ASEAN, signed an agreement with the US, and is currently negotiating with the EU, Canada, India, and Mexico. While Taiwan has sought FTAs with many countries, political problems with China have precluded success and so it has only enacted FTAs, with some small countries in Central America such as Nicaragua and El Salvador. Unlike Europe or North America, both of which have established regionwide FTAs, East Asia has established only a number of bilateral and “mini-lateral” FTAs, with no region-wide agreements. Several ideas have been floated but differences in opinion among East Asian economies have prevented them from establishing a region-wide FTA. At the Leaders’ summit of ASEAN + 3 (China, Japan, and Korea) in 1998, the leaders set up the East Asia Vision Group to develop a long-term vision for economic cooperation. The group’s recommendations included the establishment of an East Asia FTA (EAFTA). The Expert Group set up at the recommendation of ASEAN + 3 Economic Ministers presented recommendations to the Economic Ministers in 2006 to start the process in 2007 towards the establishment of EAFTA. When these recommendations

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were not adopted, the Expert Group was asked to conduct further study. It has now begun phase two of the project. At the ASEAN+3 Economic Ministers’ meeting in 2006, Japan proposed a Comprehensive Economic Partnership in East Asia (CEPEA), which is an Economic Partnership Agreement including an FTA, covering ASEAN+ 3 + 3 (China, Korea, and Japan, plus India, Australia, and New Zealand) or the ASEAN + 6 group. The ASEAN + 6 economies are also members of the East Asian Summit, which was held for the first time in 2005. It has been argued that Japan’s strategy of taking a leadership role in setting up is a key factor in the CEPEA proposal, as it was China that took the initiative in the EAFTA discussions. A study group established to examine the feasibility of CEPEA submitted a report at the ASEAN + 6 Economic Ministers’ meeting in August 2008 (CEPEA, 2008). The US proposed an FTAAP, or Free Trade Area of the Asia Pacific, covering 21 APEC (Asia Pacific Economic Cooperation) member economies, at the APEC Leaders’ Meeting in 2006. It was agreed at the leaders’ meeting in 2007 to examine the prospects of FTAAP. Behind the US proposal is a concern that the US would be excluded from East Asia, resulting in a decline in its economic activities in the region. The differences in the membership between ASEAN+6 and APEC have important implications: Taiwan and Russia, important economic players, are included in FTAAP, while India, a member of ASEAN+6, is not. 1.2. Characteristics and motives of FTAs in East Asia Some FTAs in East Asia were planned to be comprehensive in coverage and were established as Economic Partnership Agreements (e.g., JSEPA), or Closer Economic Partnership Arrangements (CEPA) (e.g., the China– Hong Kong CEPA). These types of agreement include facilitation of foreign trade, liberalisation and facilitation of FDI, and economic and technical cooperation, in addition to trade liberalisation, which is included in traditional FTAs. In this respect, these new types of FTAs share coverage with the APEC forum, whose three pillars are (i) liberalisation, (ii) facilitation of foreign trade and foreign investment, and (iii) economic and technical cooperation. However, discrimination against non-members is an important differentiating factor of these agreements compared to APEC, which adopted the principle of non-discrimination. Economic assistance has been used to gain support for FTAs from the agreements’ partners

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by China and Japan, which are eager to play a leadership role in regional integration. The contents do differ among agreements, reflecting the different motives of the countries concerned. Japan emphasises the importance of liberalisation and facilitation of investment and the services trade because such measures provide a free, transparent, and stable business environment for Japanese firms, which have invested heavily in East Asia. In particular, Japan is interested in having well-functioning intellectual property rights protection. By contrast, developing countries such as ASEAN members and China do not have strong interests in these measures. Indeed, these countries have adopted a gradual and sequential approach by dealing with trade in goods and services and investment separately with different timing, liberalisation of trade in goods being followed by liberalisation in services trade and investment. Let us discuss the motives of East Asian countries in implementing FTA strategies. Despite the differences in their importance among the countries, various common motives can be identified. First, their rapid expansion in other regions has led East Asian economies to consider establishing FTAs to maintain and expand their export opportunities. These so-called “market-seeking” FTAs are largely defensive. A case in point is Japan’s FTA with Mexico. Japanese firms were in a disadvantageous position vis-` a-vis US or EU firms in the Mexican market because the US and the EU had FTAs with Mexico, under which their firms had duty-free access to that economy. Japanese firms pressured their government to negotiate an FTA with Mexico to overcome their disadvantage. A stalemate of the negotiations under the DDA under the WTO also turned the attention of WTO members to FTAs. The market access motive played a role among East Asian economies, as trade barriers remained substantial for many sectors in these economies. Second, countries interested in promoting structural domestic reform to achieve economic growth have tried to use FTAs as foreign pressure on the domestic opposition to structural reform. Promoting domestic reform was important for Korea in pursuing an FTA with the US, for example. Sandwiched between China, a rapidly catching-up economic giant, and Japan, another highly competitive economic giant, Korea introduced structural reforms to maintain and improve competitiveness. Third, rivalry among East Asian economies over the leadership role in the region has activated their FTA strategies. Both China and Japan, which are competing to become a leader in the region, are keen on using FTAs

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to strengthen their relationships with ASEAN, Korea, and other countries. Indeed, in November 2002, Japan proposed an economic partnership framework to ASEAN one day after China agreed to start FTA negotiations with ASEAN. ASEAN, Korea, and other countries also consider that FTAs provide a way to maintain and increase their influence in East Asia. ASEAN has been rigorously pursuing FTAs with major countries so that they can take the “driver’s seat” in regional integration in East Asia, while Korea is moving ahead of countries such as Japan and China to take the lead. Fourth, the financial crisis in East Asia in the late 1990s led to the argument that regional cooperation, such as a region-wide FTA, would help avoid another crisis and promote regional economic growth. This engendered a focus on regional cooperation in financial areas. Specifically, bilateral currency swap arrangements to deal with the shortage in foreign exchange — the Chiang–Mai Initiative — were set up in 2000. Furthermore, ASEAN + 3 countries are establishing an Asian Bond Market to develop efficient and liquid bond markets in East Asia, enabling better utilisation of East Asian savings for East Asian investments. This is also expected to contribute to the mitigation of currency and maturity mismatches in financing. Fifth, countries with outward FDI use FTAs to improve the business environment in FDI-recipient countries, so that multinational corporations (MNCs) can perform efficiently. FDI liberalisation and facilitation in FTAs has furthered this motive. Indeed, this is most important for Japan because many Japanese MNCs have invested in East Asia. 2. Objectives of the Research Project The above review of recent FTA developments in East Asia shows that the number of FTAs in the region has been growing rapidly. However, despite this, these FTAs have not been analysed.4 There are two related reasons for this. One is their short history, and the other is the shortage of necessary information. Except for AFTA, only in the 21st century did East Asia become active in FTAs. Thus, the lack of data makes it difficult for researchers to pursue empirical studies. In light of their increasing importance and the paucity of analysis, our project examines FTAs from two perspectives: quality and impacts. Quality is assessed in terms of the openness of FTAs in trade and FDI, because the objective of an FTA is to liberalise trade and FDI policies between 4 Schiff

and Winters (2003) is one of the few studies on regional trade agreements.

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and among FTA members by removing trade and FDI barriers. As noted earlier, some FTAs are relatively comprehensive in their coverage; many have chapters not only on liberalisation in goods trade, but also in services trade and FDI. We examine these three items — trade in goods, services, and FDI — and assess the quality of safeguard mechanisms adopted by FTAs, based on the understanding that this factor has important impacts on trade in goods. We evaluate the quality of FTAs by establishing the appropriate criteria for each area. Our assessment of the quality of FTAs is based on the JSEPA, Japan– Mexico EPA, ASEAN–China FTA, Korea–Mexico FTA, Chile–Korea FTA, NAFTA, EU–Mexico FTA, and Australia–New Zealand CER, although the FTAs actually analysed differ depending on the issues studied because of data availability. The list of the FTAs chosen for our study also includes some not involving East Asian countries, such as NAFTA, because such a comparison is useful to evaluate FTAs in East Asia. We used ex ante and ex post analyses to examine the impacts of FTAs. The ex ante analysis examines the impacts of FTAs by using a simulation analysis. Through a computable general equilibrium (CGE) model we computed the possible economic impacts of FTAs through a simulation exercise by assuming the formation of FTAs. This type of analysis has been extensively used in the actual discussions on the formulation of FTAs.5 The ex post studies try to discern the actual impacts of FTAs by conducting empirical analysis. We conducted two types of analysis. In the first, a crosscountry analysis, we examined the impacts of FTAs on the foreign trade of FTA members and non-members by using a gravity model to explain bilateral trade flows. In the second, a study of specific countries, we used Japan as a case study because of data availability. Two types of studies are conducted. The first assesses the use of FTAs by Japanese firms. While it does not actually address the impacts of FTAs per se, it provides important information on them because they cannot be realised unless FTAs are used. The second analyses the impacts of selected FTAs established by Japan. 3. Major Findings 3.1. Quality of FTAs Four chapters in this book analyse the quality of FTAs by focusing on different issues: Cheong and Cho examine trade in goods, while Ochiai, Dee, 5 See,

for example, CEPEA (2008) for the discussions on ASEAN + 6 FTA.

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and Findlay analyse trade in services. Urata and Sasuya take on FDI and Kotera and Kitamura assess safeguard mechanisms. Cheong and Cho analyse the restrictiveness or openness of commitments made under FTAs concerning trade in goods. Restrictiveness to trade liberalisation under FTAs is measured by two indicators. One assesses the restrictiveness of the rules of origin (ROOs) adopted by the FTAs,6 and the other computes the coverage of the agreements, for example, according to the percentage shares of goods covered. The first approach is applied to an analysis of trade in manufactured goods, because in many FTAs tariffs on manufactured goods are eliminated either immediately or with a phasingin period. As such, assessing the level of restrictiveness of trade liberalisation using the second approach is not so useful. Consideration of ROOs is important because many countries try to restrict imports of manufactured goods by defining them in such a way that satisfying the ROOs is difficult. The coverage approach is applied to assess the level of trade liberalisation for agricultural products. Cheong and Cho find that developed countries such as the US and the EU use restrictive ROOs in their FTAs with developing countries to restrict imports from those countries, while East Asian countries have wide gaps in the restrictiveness of their ROOs. The ASEAN–China FTA has the simplest ROOs, while FTAs established by Japan and Korea have very stringent ROOs. Cheong and Cho argue that the presence of ROOs with different degrees of stringency for the FTAs in East Asia gives rise to the “spaghetti bowl” effect that complicates the trading system. They stress that this effect has to be dealt with if these countries are to establish a region-wide FTA. Cheong and Cho’s analysis of trade liberalisation in agricultural products finds that FTAs involving East Asian countries, especially those involving Japan and Korea, have lower levels of trade liberalisation compared with those established by the Western countries. Ochiai, Dee, and Findlay assess the quality of FTAs with respect to trade in services. They find a wide range of approaches, such as the listing of commitments and the adoption of sectoral classification schemes, adopted by different FTAs, suggesting that extension of any benefits to non-members will be difficult. The level of commitments to liberalisation and sectoral coverage differ substantially among FTAs: some that offer a wider coverage 6 The definition of ROO plays a crucial role in determining the market access under FTAs, as free market access is provided to the products produced in FTA partner countries and the definition of the nationality of the products is determined by ROOs.

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apply reservations to liberalisation, making an overall assessment difficult. These authors find that the degree of liberalisation of trade in services is relatively low in the FTAs between developing countries. However, among the developed countries it is relatively liberal compared with their agreements involving developing countries, where the sectoral exclusions are relatively large, implying that the impacts of agreements are not always significant. They found that trade in services provisions in FTAs tend to have a bias towards national treatment rather than market access liberalisation, limiting the likelihood of market opening. Urata and Sasuya analyse the quality of FDI rules for seven FTAs: US– Australia, US–Singapore, Japan–Singapore, Korea–Singapore, NAFTA, Korea–Chile, and Japan–Mexico, involving eight countries. Adopting the approach developed by the Organization for Economic Co-operation and Development (OECD), they assess the quality of FDI rules in terms of their liberalisation or restrictiveness in the following six areas: (i) restrictions on foreign ownership and market access, (ii) national treatment, (iii) screening and approval, (iv) management and composition of boards of directors, (v) entry of foreign investors, and (vi) performance requirements. Their analysis reveals the following ranking in decending order of quality: (i) US– Australia, (ii) US–Singapore, (iii) Japan–Singapore, (iv) Korea–Singapore, (v) NAFTA, (vi) Korea–Chile, and (vii) Japan–Mexico. The differences in the quality of FDI rules between and among countries belonging to the same FTA led them to further investigate aspects of “quality” at member level. This shows the following rankings: (i) US, (ii) Singapore, (iii) Australia, (iv) Japan, (v) Korea, (vi) Chile, (vii) Mexico, and (viii) Canada. The most important restriction was found to be that on foreign ownership or on the degree of participation that foreign investors can have in an enterprise. Among the sectors, the primary sector (especially, mining and agriculture) and services sector (especially, transportation, communications, electricity, financial, and insurance) are relatively highly restricted, while there are only a few restrictions in the manufacturing sectors. Kotera and Kitamura assess the quality of FTAs in terms of their safeguard mechanisms. Such mechanisms provide the importing country government with the authority to take trade-restrictive measures to deal with any negative impacts on domestic industries incurred by a surge in imports. Because of its trade-restricting nature, the safeguard mechanism is generally considered a means to pursue protectionism. However, Kotera and Kitamura warn that such a view represents only a limited understanding of the impacts of safeguard mechanisms and that such mechanisms may

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have a positive impact on trade liberalisation if they reduce protectionist pressures by providing policy makers and pressure groups with a possible recourse to restrictive measures if needed. The authors argue that these two contrasting views of safeguard mechanisms make it difficult to reach an overall assessment. They assess the restrictiveness of safeguard mechanisms adopted by 12 FTAs and classify them into the following five types in ascending order of the degree of restrictiveness: (i) no general safeguard type (Korea–Chile); (ii) NAFTA type; (iii) WTO type (US–Australia, US–Singapore, Japan–Mexico, Japan–Singapore, Korea–Singapore, China– ASEAN); (iv) GATT type (Australia–New Zealand); and (v) European type (EFTA, EU–Mexico). 3.2. Impacts of FTAs Four chapters examine the impacts of FTAs. Abe undertakes an ex ante analysis by using a simulation model, while three chapters carry out ex post analyses of FTAs. Urata and Okabe examine the impacts of FTAs on trade flows using a gravity model. Takahashi and Urata investigate the use of FTAs by Japan, while Ando examines the impacts of Japan’s FTAs on trade and investment. Abe’s simulation exercise is based on a CGE model that tries to capture all the economic activities in the world by explicitly considering market mechanisms. In other words, it mimics the actual global economy. He extends a rather standard static model and introduces a dynamic model by incorporating inter-temporal investment, obtaining a number of interesting and useful observations for both researchers and policy makers. First, Japan’s first three FTAs, with Singapore, Mexico, and Malaysia, respectively, are shown to bring about only small benefits. Much larger potential gains are expected from the bilateral FTAs with ASEAN10, China, Korea, Australia, New Zealand, and India. These observations are obtained from both static and dynamic model simulations. Second, the simulation using the dynamic model shows that the early formation of Japan’s FTAs provides both Japan and its potential FTA partners with larger increases in GDP. This pattern is particularly noteworthy in Japan’s FTAs with New Zealand and China. Third, regional FTAs including many countries will bring about larger welfare gains to all members because they reduce the negative impacts of trade diversion. Abe concludes by presenting future research agenda items. He points out the need to incorporate economies of scale and agglomeration in the simulation models, as these elements

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have become increasingly important in economic activities. He also stresses the importance of including the mechanisms through which the impacts of trade facilitation and economic cooperation may be assessed, because many FTAs cover not only trade liberalisation but also trade facilitation, economic cooperation, and other aspects. Urata and Okabe use two approaches to find the impacts of FTAs on foreign trade. They first examine the changes in trade patterns before and after an FTA is enacted by using indicators of intra-FTA interdependence. They use this rather crude approach to analyse broad trends for 11 FTAs: EU, NAFTA, AFTA, MERCOSUR, CER, Japan–Singapore FTA, Japan–Mexico FTA, China–ASEAN FTA, Korea–Chile FTA, Singapore– US FTA, and Mexico–EU FTA. They found increased intra-FTA interdependence for four FTAs (NAFTA, AFTA, MERCOSUR, and CER). The second approach, which is more sophisticated, estimates a gravity equation to discern the impacts of FTAs on bilateral trade flows, that is, trade creation and diversion effects. To do this they extended the previous studies by enlarging the sample size in terms of time period and country coverage, and also undertook an analysis by disaggregating the trade data with a presumption that the impact of FTAs is different for different sectors. In their analysis of total trade, they found a limited trade diversion effect. The results of their analysis of disaggregated trade data show different patterns among different products. They identified a trade diversion effect for many products in the case of the EU, NAFTA, and MERCOSUR but not for AFTA. Their overall assessment of trade creation and trade diversion indicates that the MERCOSUR is very closed while the EU and NAFTA are relatively more closed than AFTA or CER. Other FTAs have too short a history to reveal substantial impacts. Takahashi and Urata examine the use of FTAs by Japanese firms through information collected in a questionnaire survey. They find that the use of FTAs by Japanese firms is very limited. The proportions of the responding firms that have used FTAs in total respondents for Japan’s FTA with Singapore, Mexico, and Malaysia are 3.6%, 12.6%, and 5.5%, respectively. Many Japanese firms do not take advantage of free trade via FTAs as they think that benefits are small because their trade volume with FTA partner countries is small and because the tariff differentials between most favoured nation (MFN) rates and FTA rates are rather small for many products. Probit analysis of the determinants of the use of FTAs reveals that large rather than small firms use FTAs, reflecting the high cost of such practice. In addition, firms with close trade and FDI relationships

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with FTA partner countries use FTAs. The use of FTAs could be expanded by reducing costs by simplifying application procedures and by providing assistance through public and semi-public institutions such as the Ministry of Industry, Trade and Economy (METI), the Japan External Trade Organization (JETRO), and the Japan Chamber of Commerce and Industry. Japan’s large trading partners, including the US and China, are ranked at the top of the list of desirable FTA partners by the surveyed Japanese firms. Ando assesses the impacts of Japanese EPAs with Singapore and Mexico on Japan’s trade and investment through two types of analysis. One is descriptive, and uses detailed trade, tariff, and investment data, while the other is statistical, based on the gravity model estimation. The results from both these types of analysis are consistent in that the Japan– Singapore EPA has almost no direct impact on trade, while the Japan– Mexico EPA has positive impacts on trade, particularly on the export side, and investment. Negligible direct effects of the Japan–Singapore EPA are expected because Singapore imposes only low tariff rates, and these apply to very few products. Ando finds that the Japan–Mexico FTA contributed to an improvement in the business environment in Mexico for Japanese companies through various programs contained in the FTA. She notes substantial benefits to Japanese companies, as this agreement enables them to participate in the bidding for the contracts of government procurement in Mexico. These studies reveal several important outcomes of the EPA beyond tariff removal. Discussion on future designs of FTAs/EPAs cover the scope for abuse of provisions for phasing out tariffs, the desirable structure of EPA tariffs, the effective utilisation of EPAs beyond trade liberalisation, and the relationship of the EPA route with multilateral trade liberalisation. 4. Future Research Agenda We have analysed the quality and impacts of some selected FTAs, but this study should be expanded to deepen our understanding of the agreements. While we analysed the extent of openness in trade measures concerning goods and services, investment measures, and safeguard mechanisms, the coverage of FTAs has widened substantially to include such areas as trade and investment facilitation, intellectual property rights, competition policy, etc. Accordingly, the quality of FTAs should be evaluated in these new areas.

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Other areas could be explored. First, a study of the factors leading to the formation of FTAs would be of interest not only from an economic perspective but also from a political perspective. Such a study would provide useful information to policy makers engaged in the formulation of international economic policies. Second, theoretical analyses of various aspects of FTAs, including their welfare implications, should be pursued and empirical analyses based on those theoretical foundations conducted. Finally, the effects of FTAs on multilateral trade liberalisation should be analysed from both theoretical and empirical aspects, because the ultimate goal of trade liberalisation is global liberalisation, which gives the largest benefits to the world economy. References Aggarwal, VK and S Urata (eds.) (2006). Bilateral Trade Agreements: Origins, Evolution, and Implications. New York: Routledge. CEPEA (2008). Report of the Track Two Study Group on Comprehensive Economic Partnership in East Asia (CEPEA). Pangestu, M and S Gooptu (2004). New Regionalism: Options for China and East Asia. In East Asia Integrates, Kharas, H and K Krumm (eds.), pp. 79–99. Washington, DC: The World Bank. Sally, R (2006). Free Trade Agreements and the prospects of regional integration in East Asia. Asian Economic Policy Review, 1(2), 306–321. Schiff, M and LA Winters (eds.) (2003). Regional Integration and Development. Washington DC: Oxford University Press for the World Bank. Soesastro, H (2006). Regional integration in East Asia: Achievements and future prospects. Asian Economic Policy Review, 1(2), 215–234. Urata, S (2005). Free Trade Agreements: A catalyst for Japan’s economic revitalization. In Reviving Japan’s Economy, Ito, T, H Patrick and DE Weinstein (eds.), pp. 377–410. Boston: MIT Press.

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Chapter 1

RULES OF ORIGIN AND AGRICULTURAL TRADE LIBERALISATION IN MAJOR FREE TRADE AGREEMENTS INKYO CHEONG and JUNGRAN CHO Jungseok Research Institute of International Logistics and Trade, Inha University, Incheon, Korea

1. Introduction The factors behind the fast growth of free trade agreements (FTAs) throughout the world include economic incentives, economic reforms, and political alliances. Among these, economic incentives can play an important role in inducing countries to pursue FTAs with their trading partners. Economists, including Cheong (2005), Schiff and Winters (2003), Scollay and Gilbert (2001), and Urata and Kiyota (2003) have used simulation models to show that FTAs would bring significant economic gains to member countries. Using computable general equilibrium (CGE) models, Cheong (2005) demonstrates that East Asian countries can collect the highest gains with a region-wide FTA in East Asia rather than with any sub-regional FTA. Scollay and Gilbert (2001) forecast positive impacts on world trade through FTAs, indicating that trade creation associated with FTAs is greater than trade diversion. Regarding FTAs in East Asia, Urata and Kiyota (2003) predict that emerging economies in Southeast Asia and China gain considerably more in terms of increases in GDP from joining an East Asian FTA than other economies, such as Korea and Taiwan in Northeast Asia. However, the economic gains forecast by simulation models cannot be realised automatically from the inception of an FTA. It is important to 1

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introduce measures such as FDI liberalisation and the lowering of trade barriers to market entry to increase the benefits. All the studies are based on the assumption that tariff elimination and loose rules of origin (ROOs) will exist at the foundation. Therefore, it can be said that the quality of FTAs is critical in determining the scale of economic gains. Most countries that establish FTAs claim they are pursuing high-quality FTAs. A country cannot automatically become an FTA regional hub by simply expanding its number of FTAs but must demonstrate a strong willingness for trade liberalisation and trade facilitation by maximising market access and harmonising trade rules. As a core element for FTA negotiations, market access should be evaluated from several viewpoints, such as tariff elimination, the easing of non-tariff barriers (NTBs) such as customs clearance, the simplifying of ROOs, and the improvement of trade rules. This paper assesses the quality of FTAs in terms of tariff elimination for agricultural products and ROOs. While analysing the improvement of NTBs and trade rules is also important in determining the quality of FTAs, this cannot be easily evaluated in quantitative terms. This paper examines market access in representative FTAs such as NAFTA, the EU–Mexico FTA, Australia–New Zealand Closer Economic Relations (CER), Japan– Singapore Economic Partnership Agreement (JSEPA), Japan–Mexico Economic Partnership Agreement (JMEPA), ASEAN–China FTA, Korea– Mexico FTA and Chile–Korea FTA. Section 2 discusses theoretical aspects of ROOs, and Section 3 provides the evaluation results on the stringency (restrictiveness) of ROOs. Section 4, FTAs are assessed in the context of agricultural tariff elimination. Since most cases show that the majority of manufacturing goods are liberalised within 10 years of the implementation of an FTA, only the agriculture sector, which is the most sensitive sector in FTAs, is taken into account for the study. Finally, concluding remarks are provided in Section 5.

2. Descriptive Overviews of ROO 2.1. Theoretical survey on ROO One of the differences between a Customs Union (CU) and an FTA is the authority to change tariffs on imports from non-member countries. CU member countries introduce common tariff rates against non-member countries, and cannot change tariff rates voluntarily without consulting other member countries.1 However, FTA member countries can set tariff 1A

CU also needs a ROO during the transitional period towards the implementation of common external tariffs.

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3

rates (not higher than WTO-bound rates) independently. Because the tariff rates of the member countries of an FTA are different, trade deflection can occur.2 To prevent trade deflection, FTA member countries introduce specific ROOs that regulate that only the goods satisfying the rules can be given preferential tariffs. Three criteria define ROOs in FTAs. The first is change in tariff classification (CTC) or “tariff line shift”. CTC is widely used in regional trading agreements (RTAs), and is preferred by the World Customs Organization (WCO), which promotes the simplification and harmonisation of ROOs. CTC is based on the harmonised system (HS), classifying goods at a twodigit chapter level, a four-digit heading level, a six-digit sub-heading level or an eight- (10-) digit level. The second rule is the requirement of regional (local) value contents (RVC), implying the requirement that the product should acquire a minimum regional value in the exporting country or a region of an RTA.3 The third rule is the requirement of a specific production process (SP) for an item. Each criterion has merits as well as demerits, as shown in Table 1. The CTC approach is relatively simple in requiring a comparison between the tariff line of a final product and those of intermediate materials, but it has an intrinsic problem in that the HS system does not follow industrial classifications for many products. The RVC is widely used in most FTAs since the criterion is simple and easy to check, but the ROO of a good can be changed by manipulating the customs value. For example, increasing profits (accounting purpose) can

Table 1.

Merits and de-merits by ROO criteria.

Merits CTC

RVC

SP

Simple comparison between intermediate materials and final products Simple, transparent, easy to check Objective rules

Demerits HS is for trade classifications rather than for industrial classifications Manipulations in accounting, the effect of exchange rates, coverage of costs (logistics, trademark etc) No incorporation of technical development. Requirements are too stringent in most cases

2 Trade deflection means that a good imported via a low-tariff FTA member country is re-exported into a country with high tariffs without paying tariffs. 3 The RVC can be considered in various ways, such as export value, import value, and value of parts included in an article. However, we do not consider these separately, regarding all as RVCs.

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RVC criteria and profit rates ($, %).

VNM VOM Value Added 50 50

20 20

Profits

Customs Value

RVC (%)

ROO

9 18

99 108

49.5 53.7

No Yes

20 20

Note: ROO is 50% RVC. Table 3. Method Build-down method

Build-up method Share of nonoriginating parts

Methods for calculating RVC. Equation

AV − VNM × 100 AV

VOM × 100 AV

NAFTA Method Transaction value method: TV − VNM × 100 TV Net cost method:

NC − VNM × 100 NC

VNM + VUOM × 100 AV

Notes: AV, adjusted value; VNM, value of non-originating materials; VOM, value of originating materials; VUOM, value of materials with uncertain origin; TV, transaction value; NC, net cost.

change a non-originating good into a ROO-qualifying one, as demonstrated in Table 2. FTAs introduce multiple methods for calculating RVCs, the most common of which are build-down, build-up, and share of non-originating parts. The RVC ratio, based on build-down, is expressed as a percentage in calculating the difference between the adjusted value (AV) and the value of non-originating materials (VNMs) that are acquired and used by the producer in the production of the goods, and then divided by the difference with AV. Explanation for other methods are given in Table 3. Most RTAs employ multiple criteria for setting ROOs, rather than applying a single rule. According to the WTO (2002), while ROOs in many FTAs are based on CTC, RVC, and SP, a combination of the three methods rather than any one single method is widely used in an FTA (Table 4). Each criterion that is used for defining ROOs has advantages and disadvantages, and it is not easy to conclude which rule is the most desirable.4 However, even though a specific rule is used, the stringency of the criterion 4 Parmeter (1997, p. 342) states that “although FTAs require rules of origin, there is a problem: there is no completely satisfactory rule of origin”. Regarding merits and demerits of methods of setting ROOs, see Parmeter (1997) and Estevadeordal (2003).

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Agricultural Trade Liberalisation in FTAs Table 4.

5

Frequencies of CTC, RVC, and SP in RTAs.

RTA (No. of RTAs)

CTC

RVC

SP

CU (6) FTA and PTA (87)

6 83

4(35–60%) 75(35–60%)

— 74

Source: Modified from WTO (2002, p. 8). Note: Numbers in parentheses imply the minimum requirement ratios.

can be changed depending on a member country’s position towards trade liberalisation. For example, chapter change will be more stringent than changes in heading or sub-heading when the CTC method is employed. When the RVC criterion is used, a 60% RVCs rate will be more stringent than a 40% one. Some elements of ROOs are designed to promote intra-regional trade, although ROOs in general constitute protectionist practices. For example, cumulation5 and de minimis are commonly introduced in FTAs to facilitate producers under certain conditions to use intermediate inputs from the region of another FTA or a third country. The WTO (2002, p. 9) found de minimis, or a tolerance rule in ROO parlance, in 88 out of 93 RTAs it surveyed. In most cases, the de minimis rule is applied to less than 10% of the total value of final products to be sourced from non-member countries.6 ROOs act like trade barriers, since they cause extra costs in production and management. Producers/exporters need to pay to calculate production costs and produce bookkeeping-related documents.7 In addition, extra costs are incurred in complying with the technical and specific process and RVCs as specified in the ROO protocol, and these costs are added to the prices of export goods.8 As ROOs become more stringent, the compliance costs will rise, undermining the gains in terms of trade creation which can be obtained from an FTA. APEC (2004, p. 76) states, “The complexity and stringency of ROO employed in RTAs has given rise to concerns over the diversionary effects that ROO may have on trade and investment flows”. 5 Cumulation can be classified as bilateral cumulation, diagonal cumulation, and full cumulation. Refer to Estevadeordal (2003) regarding the classification of cumulation. 6 EC–South Africa FTA sets 15% for the de minimis rule, but this is an exceptional case. 7 Regarding empirical research on administrative costs in an FTA and costs of preparing documents for preferential treatment, see Koskinen (1983) and Herin (1986), respectively. 8 Several empirical researches on the costs of stringent ROO under NAFTA show substantial costs to intra-regional traders and producers. For example, Cadot et al. (2002) found that the utilisation rate of NAFTA preferences is as low as 64% owing in part to stringent ROO. For more information on the costs of ROO, see Estevadeordal (2003, pp. 8–9).

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2.2. Descriptive analysis of ROO in major FTAs This section provides a descriptive analysis of ROOs in major FTAs, focusing on assessing their stringency. An empirical examination of their stringency will be given in the next section. Most FTAs have several 100 pages on ROO protocol, and thus it requires much time and effort to understand the structure and technical aspects of the ROO in an FTA. Unfortunately, the existing literature on the subject is limited.9 Several FTAs were chosen as case studies for this analysis. These are NAFTA and the EU–Mexico FTA, which represent the first-generation FTAs pursued by the US and the EU. Examples of FTAs under implementation by East Asian countries are the ASEAN Free Trade Area (AFTA) and the ASEAN–China, JSEPA, US–Singapore, Japan–Singapore, Japan– Mexico, Korea–Singapore, and Korea–Chile FTAs. We will now compare the stringency of ROOs of East Asian FTAs with that of the US and EU FTAs. Before presenting the result, however, it is worth mentioning that the ROOs in the AFTA and the ASEAN–China FTA, which introduce a simple rule for ROO. But other FTAs by East Asian countries have chosen to follow more complicated ROO.

2.2.1. ROOs in the US and EU FTAs NAFTA is the first FTA with comprehensive coverage of trade, investment, services, and trade rules. In promoting FTAs, the US has imposed quite stringent ROOs based on the change of heading, specific requirements for HS chapters, and complicated criteria for the RVC. Estevadeordal (2003, p. 348) evaluated that the US specifies the ROO to be of “substantial transformation” in its FTAs. The CTC in chapter, heading and sub-heading is the most widely used, with additional requirements of specific process and regional value contents. The de minimis rule is 7% in NAFTA, lower than in other FTAs. Several countries have since followed the structure of the NAFTA ROO with minor modifications for some items.10 A stringent ROO of “wholly obtained or produced entirely” is applied to primary industries, and each of the non-originating materials used in the production of the good must undergo an applicable change in tariff classification as set out in Annex 401 of the agreement. Technical processes are required for many items. RVCs 9 Comprehensive analysis of ROO in major RTAs can be found in Brenton (2003), Estevadeordal (2003), and WTO (2002). 10 The framework of the NAFTA ROO became the basis of ROOs in FTAs concluded by Canada, Chile, Mexico, Japan, Korea, and so on.

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ratios are as high as 50–60% depending on calculation methods.11 The agreement specifies a more stringent rule for automobiles (HS8702–8704), with 62.5% under the net cost method. In other FTAs, the US introduced a lower RVCs ratio. For example, in the US–Chile FTA, 35% (build-up) and 45% (build-down) were adopted for some HS34. A similar ROO was used for the US–Singapore FTA. However, a more stringent ROO was introduced in the US–Australia FTA, especially for textiles and footwear. In the case of footwear (HS64), the RVCs ratio was set at 55% (build-down) with an additional requirement of sub-heading change. The analysis of the US’s FTAs suggests that the stringency of ROO depends on its FTA partners. The ROO of the EU heavily depends on PANEURO, which establishes a highly uniform ROO across the EU FTAs, such as the EU–EFTA FTA and the EU–Mexico FTA. The EU–Mexico FTA adopted a wide range of rules in defining the ROO. In general, EU ROOs are rather restrictive. The EU ROO is dominated by changes in heading, although RVC ratios from 20 to 50%, with 20% for HS30. One problem with the EU ROO is that the agreement imposes complicated rules for producers. For example, special requirements are specified for sugar and cocoa in defining the ROO for HS 18–22. 2.2.2. ROOs in East Asian FTAs FTAs by East Asian countries cover a wide spectrum in terms of the stringency of ROO. The simplest ROOs can be found in the AFTA, and the ASEAN–China FTA, which specifies 40% RVCs across all tariff lines, is the simplest ROO in the world.12 The criterion of 40% RVCs was first introduced by AFTA when the Common External Preferential Tariff (CEPT) scheme was agreed on in 1992. During the negotiation for an FTA between China and ASEAN, China accepted the AFTA ROO and concluded the negotiations at the end of 2004.13 Singapore has been receptive to loose ROOs, while the US has imposed stringent ROOs, as seen in the NAFTA agreement and in its recent FTAs with other countries. Singapore adopted the position of the US for the ROO 11 NAFTA has two approaches for calculating the regional contents: the transaction value method and the net cost method. 12 Similarly simple ROOs can be found in CER (Australia–New Zealand FTA), with a 50% RVC rule, although it specifies an additional requirement that the last manufacturing process should be performed in the exporting territory for some items. The 40% rule is applied in the AFTA without extra requirements. 13 China led the negotiation with ASEAN for a bilateral FTA. In 2003, China provided an Early Harvest Package to ASEAN countries to attract them to the negotiating table.

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in the bilateral FTA with the US. The US–Singapore FTA, concluded in 2003, basically follows the framework of the NAFTA ROO but is substantially less restrictive than the NAFTA. Chapter 3 of the US–Singapore FTA contains the ROOs, and the requirements for specific items are given in Annex 3A. Heading changes are required for HS27–HS48. For some HS chapters, such as HS73, 78, 81, 84, 85, and 90, RVC ratios are required at 35% in the build-up method and 45% in the build-down method. de minimis is set at 10%. Japan and Korea were predisposed to introduce complex and stringent ROOs to placate strong domestic opposition to trade liberalisation.14 However, with mounting experience in FTA negotiations, Korea is likely to relax the stringency of the ROOs in its second FTA, while Japan has adopted more restrictive ROOs in its FTA with Mexico. Japan’s first FTA — the JSEPA — specifies a “wholly obtained or produced entirely” rule. It dictates that products should undergo sufficient transformation in the member country to receive preferential treatment in the FTA. Cumulation and de minimis are accepted but the agreement specifies different shares of de minimis, with it being set at lower than or equal to 10%. Heading changes are required for HS01–24, HS38 (chemical products), HS85 (machinery), with sub-heading changes or regional contents requirements (liquor and cordials). A regional contents requirement of 60% (with a combination of sub-heading changes) is required for other chapters of HS. For textile fabrics and articles (HS59), fabric should be made with yarn from an FTA member country. The JMEPA contains less restrictive ROO than the JSEPA in several aspects. De minimis is introduced at 10% for all items. Chapter, heading, and sub-heading changes are used for HS01–63. However, a stringent ROO is introduced for Mexico’s major exports such as footwear (HS64) and natural resources like copper and zinc. The rule for these items specifies heading or sub-heading changes with a 50–55% regional contents requirement. The ROO of the Korea–Chile FTA is also a variation of the NAFTA, with stringent and complex specifications for sensitive items. In particular, heading changes are required for HS01–HS10, which are agricultural and fishery products, to prevent transhipment of agricultural products. de minimis is specified at 8%. A combination of heading change and regional value content is used for several chapters, such as HS19, 29, 30, 31, 38, etc. In general, low regional contents ratios are set at 45% for the build-down method and 35% for the build-up method. For 14 Estevadeordal (2003, p. 12) states, “The ROO of Japan–Singapore EPA are complex, as evidenced by the more than 200-page ROO protocol”. Similar comments can be found in Estevadeordal (2003, p. 12) for the Korea–Chile FTA.

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some of HS84, a 30% regional content ratio is specified when the buildup method is used in calculating the regional content ratio. However, an exceptionally high regional contents ratio is specified for HS200892– 200899 (preparations of vegetables, fruits, nuts, or other parts of plants). This is to curb the importation of non-Chilean juices and similar products. The Korea–Singapore FTA was concluded within a year of the start of negotiations in early 2004 and became effective in March 2006. Korea was worried about the illegal transhipment of goods through Singapore in the FTA and wanted to have a stringent ROO, while Singapore wanted to introduce outward processing. Korea was anxious to provide the ROO for products made in the Gaesung Industrial Complex.15 Korea could have persuaded Singapore on this issue while accepting outward processing, but not as an exchange. Both countries agreed on a 10% de minimis rule, with textiles being an exception. This latter point was considered to be sensitive in the JSEPA. Unlike the FTA with Chile, the build-down method is widely used with ratios of 45, 50, and 55%.

3. Empirical Assessment of ROOs Stringent ROOs can discourage exporters from taking advantage of tariff preferences provided by FTAs, undercutting their economic gains. As different ROOs are introduced by overlapping FTAs, the spaghetti bowl problem may be present, enforcing the dampening trade effects of the ROOs.16 ROOs may be a source of under-realisation of FTA preferences, but there is not a great deal of literature on measuring their stringency. Two pioneering works are Estevadeordal (2003) and the Productivity Commission of Australia (PC, 2004). The PC provides a comprehensive index approach for measuring the stringency and restrictiveness of ROOs and improves the Estevadeordal index, which is too simple to use for empirical works. Both approaches are designed to calculate the degree of restrictiveness of ROOs, making numerical comparison of ROOs possible in FTAs. This section measures the restrictiveness indices for selected FTAs in terms 15 Gaesung Industrial Complex is located in North Korea. The acceptance of the Gaesung products as Korean goods was a critical concern for South Korea, in terms of economic gains as well as a symbolic meaning for improving South Korea–North Korea relations. 16 Because of the experimental operating difficulties of the ROO, there is a limited amount of research on the stringent ROO effects on trade. Examples are Cadet et al. (2002) and Krueger (1995). The former shows 64% of NAFTA utilisation ratio resulting from the ROO, and the latter reveals that Canadian companies tend to pay tariffs rather than resort to tariff preferences by complying with the stringent ROO.

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of the PC and Estevadeordal approaches.17 More focus is given to the PC index than the Estevadeordal index, since the former can cover the latter. 3.1. Analysis on index components The PC approach has a bottom-up structure, requiring an initial survey of detailed components of the ROOs in the relevant appendix of an FTA and then aggregating these into relevant upper categories. Each component is valued with weights for the higher category and aggregated to the final index of the restrictiveness of ROO.18 The top level has three categories: primary criteria, supplementary criteria, and other effects of ROO. Primary ROO criteria in most FTAs have two components: “wholly obtained” and substantial transformation. To mitigate the restrictiveness of ROOs, supplementary criteria such as cumulation and de minimis are widely adopted. In particular, recent FTAs introduce outward processing in facilitating global outsourcing and the flow of intermediate goods across countries. Table 5 summarises principle ROO criteria in FTAs, showing that “wholly obtained” rules and substantial transformation rules are generally applied for all the FTAs considered in this study. CTC and RVC are commonly used for defining substantial transformation. However, the most stringent rule, technical processes (SP), is rarely applied. In defining substantial transformation with RVC, different thresholds are adopted. For example, the US sets a relatively high requirement in NAFTA but a low RVC ratio in its FTA with Singapore. Different ratios of RVC are reflected with relevant weights in calculating the restrictiveness index. CTC criterion will depend on the HS classification of ROO for transformation from intermediate goods to final products. If chapter change is required, then it will be most restrictive. This index rule is deliberately approached by Estevadeordal (2000), as shown in Table 6. His index is designed to evaluate RVC and SP in the framework of CTC requirements. Several components of RVC are incorporated into measuring the index, in addition to the RVC threshold. Important elements are calculation of the RVC, reference prices, and methodology across tariff lines. As seen in Table 7, FTAs have a wide range of specifications for RVC in terms of threshold, methodology, and reference price. European FTAs heavily use the ratio of non-originating materials in calculating the RVC while East Asian countries tend to adopt built-down or built-up methods. For 17 The index approach requires a weighting scheme for ROO criteria used in defining ROO. This research follows the PC scheme. 18 See PC (2004) for detailed rules for individual criteria and components.

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Agricultural Trade Liberalisation in FTAs Table 5.

11

Principle ROO criteria in FTA.

Wholly Obtained

Substantial Transformation CTC

RVC

SP

NAFTA EEA EFTA EU–Mexico

• • • •

• • • •

•a • • •

◦ ◦ ◦ ◦

EFTA–SGP US–SGP AFTA ASEAN–China Japan–SGP Japan–Mexico Korea–Chile Korea–SGP

• • • • • • • •

• •

• •b • •c • • •d •

◦ ◦ ◦

• • • • •

◦ ◦ ◦ ◦

Notes: •, Generally applied; ◦, Applied in small number of items. a The RVC should be not less than 60% (transaction value method) or 50% (net cost method). 62.5% under the net cost method is set for automobiles (HS 8702.xx, 8703.21–90, 8704.21, 8704.31). b 35% in the build-up method and 45% in the build-down method. c Not less than 60% (FOB price of a final good) of originating materials (CIF) from non-ACFTA. d 30% in the build-up method and 45% in the build-down method. 80% for canned juice mix as an exception.

Table 6. Index 1 2 3 4 5 6 7

Restrictiveness index of ROO defined by Estevadeordal. Description

Changes in HS8–10 digit (CI) More restrictive than index 1 and changes in HS6 digit (CTSH)a More restrictive than index 2. Changes in HS6 digit (CTSH) and RVCb More restrictive than index 3 and changes in HS4 digit (CTH)c More restrictive than index 4. Changes in HS4 digit (CTH) and RVC More restrictive than index 5 and changes in HS2 digit (CC)d More restrictive than index 5 and changes in HS2 digit (CC) and SPe requirement

Source: Summarised from Estevadeordal (2003). a Changes in HS subheading. b Regional (local) value contents. c Changes in HS heading. d Changes in HS chapter. e Specific production process.

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Table 7.

Method for calculation of RVC.

Value Added VNMa

VOMb

NAFTA 40%, 50% 60%, 50% EEA 40% (60%) EFTA 40% (60%) EU–Mexico 20–50% EFTA–SGP 20–60% 40–80% US–SGP 40–70% 30–60% AFTA 60% 40% ASEAN–China 60% 40% Japan–SGP 40% 60% Japan–Mexico 50% 50% Korea–Chile 55%, 70% 45%, 30% Korea–SGP 45–55% 45–55%

Method of Calculation Methodc

Reference Price

TM, NC RNM RNM RNM RNM BD, BU ROM ROM BD, BU TM BD, BU BD

FOB Ex-works Ex-works Ex-works Ex-works FOB FOB FOB FOB FOB FOB

Remarks

Auto (62.5%)

Combined with CTC

65%d Juice mix (80%)

a Share

of value added should be less than those specified. of value added should be more than those specified. c TM, transaction value method; NC, net cost method; RNM, ratio of non-originating materials; ROM, ratio of originating materials; BD, build-down method; BU, build-up method. d 65% of originating materials is required as an exception. 8544 (ex), 8703 (ex), 8704– 8707, 8708 (ex), 8716 (ex). b Share

reference prices, European countries prefer ex-works (factory) prices, but FOB prices are widely used by the US and East Asian countries. Table 8 shows the most commonly adopted specifications for FTAs, and that each FTA defines different rules across tariff lines. Major components of supplementary criteria are de minimis, cumulation, and Outward Processing.19 Most FTAs allow a 10% de minimis rule. Higher tolerance rates will be regarded as less restrictive ROO. Cumulation is also widely accepted in FTAs, and full cumulation as less restrictive than bilateral. Outward processing is rarely defined because of technical difficulties in tracing the source of intermediate goods. However, some credit is given for considering initial value added before outsourcing to third countries, since outward processing increases local content, thus making it easy to comply with ROOs. 19 Outward processing is designed to acknowledge that part of the manufacturing process (labour-intensive works) may be outsourced to less developed countries. For example, stages 1, 2, and 3 are required for production, and stage 2 is labour-intensive (outsourced). If we recognise outward processing, local content will be a total of stages 1 and 3, while the conventional approach accepts only stage 3.

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Agricultural Trade Liberalisation in FTAs Table 8.

13

Supplementary criteria for the restrictiveness of ROO by FTA. Supplementary Criteria

NAFTA EEA EFTA EU–Mexico EFTA–SGP US–SGP AFTA AFTA–Chinac Japan–SGP Japan–Mexico Korea–Chile Korea–SGP

de minimis

Cumulation

7% (FOB) 10% (ex works) 10% (ex works) 10% (ex works)a 10% (ex works) 10%, 7%b

• • • Bilateral • • • Full Bilateral Bilateral Bilateral Bilateral

d 10% 8% 10%

Outward Processing

* * *

∗e

Notes: •, generally applied; , applied in small number of items; ◦, no application; *, allowed. a Does not apply to products in HS 50–63. b de minimis in US–SGP FTA — 10% of adjusted value, 7% of weight of fibres or yarns. c Not less than 60% (FOB price of a final good) of originating materials (CIF) from non-ACFTA. d Noted in Appendix IIA (not in text). e The total value of non-originating inputs should not exceed 40% of customs value, and the value of originating materials is not less than 45% of the customs value.

3.2. Assessment of restrictiveness of ROO Based on the discussions in the previous section, Section 3.2.1 provides the empirical results of restrictiveness of ROOs by Estevadeordal and Suominen (2004) and the Productivity Commission (2004). Although these studies are comprehensive in analysing ROOs, they analyse FTAs by European and American countries. Four FTAs by Japan and Korea that are under implementation are not included in existing studies. Section 3.2.2 summarises the study results for assessing restrictiveness of ROOs in these FTAs by Japan and Korea. Rather than devising a restrictiveness index, this paper follows the approaches of existing studies. 3.2.1. Existing studies The EU prefers to define heading changes in tariff classification with other requirements (CTH+), while FTAs in the Americas almost equally depend on chapter changes (CC+) and heading changes. As an exception, the

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Table 9.

Composition of CTC criterion for ROO (%). FTAs by EUa

S. Africa

Mexico

Chile

Poland

Estonia

GSP(93)

14.24 57.65 2.37 25.74

14.47 58.34 2.37 24.82

14.24 57.25 2.25 26.26

14.08 62.43 2.34 21.15

14.08 63.62 2.38 19.92

13.93 63.70 2.36 20.01

CC+ CTH+ CTSH+ Others

FTAs in US NAFTA

CC+ CTH+ CTSH+ Othersb

54.44 40.65 4.35 0.56

G-3

42.08 46.02 7.88 4.02

FTAs by Mexico

FTAs by MERCOSUR

Costa Rica

Bolivia

Chile

Bolivia

42.77 47.19 9.66 0.38

42.68 47.15 9.21 0.96

0.00 100.00 0.00 0.00

0.00 100.00 0.00 0.00

Source: Figure 2 and Table 3 in Estevadeordal and Suominen (2004). Notes: a The EU’s FTA with Poland (1993) and Estonia (1995). b Others cover one of “wholly obtained” RVC and SP, or combinations of these requirements.

MERCOSUR adopted the CTH rule in bilateral FTAs with Chile and Bolivia.20 Thus, it can be said that the US has set more restrictive ROOs than has the EU (Table 9). The Productivity Commission (2004) provides restrictiveness indices for ROOs in FTAs based on a variety of countries. It calculates indices using the bottom-up approach, based on an aggregation scheme with weights (Table 10). The most restrictive ROO can be found in the NAFTA, with an index of 0.67 with 0.46 for primary criteria, which can be closely related with the study by Estevadeordal (2003) in Table 6. Restrictive ROOs following the NAFTA are found in the EU–Poland FTA and MERCOSUR with an index of 0.60. However, the US has adopted less restrictive ROOs in recent FTAs such as the US–Singapore FTA and the US–Chile FTA. Similar trends can be found for the EU and MERCOSUR. Some countries tend to adopt loose ROOs. For example, Australia–New Zealand, AFTA, and the Andean community chose to set relatively simple and loose ROOs.

20 MERCOSUR

is the Customs Union for South American Countries (Argentina, Brazil, Paraguay, and Uruguay).

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Criteria

ROO restrictiveness index by productivity commission. PANEURO

EU–Mexico

CER

AFTA

Primary Supplementary Others

0.15 0.11 0.10

0.33 0.12 0.15

0.30 0.08 0.15

0.31 0.08 0.13

0.14 0.07 0.13

0.08 0.11 0.13

Total

0.35

0.60

0.53

0.52

0.33

0.31

NAFTA

US–Singapore

US–Chile

MERCOSUR

Chile–MERCOSUR

Andean

Primary Supplementary Others

0.46 0.09 0.13

0.23 0.04 0.11

0.26 0.08 0.13

0.37 0.11 0.13

0.18 0.11 0.13

0.14 0.09 0.10

Total

0.67

0.39

0.46

0.60

0.42

0.33

Criteria

Source: Table A-2 (pp. 44–45) in the Productivity Commission (2004).

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3.2.2. Restrictiveness of ROO in FTAs by Japan and Korea Before looking at the restrictiveness index of FTAs by Japan and Korea, the structures of ROOs in Table 11 for Japan’s bilateral FTAs with Singapore and Mexico, and Table 12 for Korea’s FTA with Chile and Singapore provide a brief overview. Restrictiveness indices are taken from Estevadeordal (2003), and the numbers of tariff lines for each ROO category are given in terms of an HS6 or HS8 digit. In cases when it is not easy to classify the specification of ROOs for tariff lines, the closest category will be used when analysing the restrictiveness index. Japan defined the ROO in its FTA with Singapore as an HS6 digit while using an HS8 digit with its FTA with Mexico. However, we found Table 11. Summary of ROO in the Japan–Singapore Japan–Mexico FTA (number of items in HS6). JSEPA Category CC + RVC SP CC CTH + RVC + SP CTH + SP CTH + RVC CTH

Total

FTA

and

JMEPA Index HS6 Category 7 6 6 6 6 5 4

24 120 49 14 21 182 1684

CC + SP SP CC CC or CC + RVC CC or CTH + RVC CC or CTSH + RVC CC or RVC CTH + SP CTH + RVC; CC; or CTSH + RVC CTH + RVC; CC; or CTH CTH + RVC CTH CTH or CC + RVC CTH or CTH + RVC CTH or CTH; CTSH + RVC CTSH or CTH or RVC CTH or CTSH + RVC CTH or RVC CTSH + RVC CTSH; CC or CTSH + RVC CTSH or CTH or CTSH + RVC CTSH or CTH + RVC CTSH or CTSH + RVC CTSH or CTH + RVC or CTSH + RVC CTSH RVC

2094 Total

Source: Calculations based on the JSEPA and JMEPA.

Index HS8 7 6 6 6 6 6 6 6 5 5 5 4 4 4 4 4 4 4 3 3 3 3 3 3 2 1

294 12 1958 3 108 83 2 3 1 1 189 1128 1 131 8 2 661 59 17 1 4 30 37 1 472 13 5219

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Table 12. Summary of ROO in Korea–Chile FTA and Korea–Singapore FTA (number of items in HS6). Korea–Chile FTA Category CC + SP CC + RVC CC CC or (CC + RVC) CC or (CTH + RVC) CC or (CTSH + RVC) CTH + RVC CTH CTH or (CTH + RVC) CTH or (CTSH + RVC) CTH or RVC CTSH + RVC CTSH CTSH or RVC RVC Total

Korea–Singapore FTA

Index

HS6

Category

7 7 6 6 6 6 5 4 4 4 4 4 3 3 1

178 80 1287 1 27 31 322 1739 66 471 739 131 105 5 30

CC + SP CC + RVC CC CC or (CTH + RVC) CTH + RVC CTH CTH or RVC CTH or (CTH + RVC) CTH or (CTSH + RVC) CTSH + RVC CTSH CTSH or RVC RVC

5212

Index

HS6

7 7 6 6 5 4 4 4 4 3 2 2 1

292 144 874 5 278 2968 1 85 397 19 117 1 31

5212

Notes: CC, changes in HS2 digit; CTH, HS4 digit; CTSH, HS6 digit; RVC, regional value contents; SP, specific production requirement.

that the number of tariff lines with ROO in the EPA with Singapore is less than half of those with Mexico, although the former was based on an HS6 digit (an HS6 digit has a smaller number of tariff lines than an HS8 digit).21 There are substantial differences between Japan’s first and second EPA. In its first EPA with Singapore, it introduced a smaller number of categories for ROO than in its EPA with Mexico. The majority of tariff lines have a CTH requirement for ROO in the EPA with Singapore, while the EPA with Mexico has a CC criterion. This implies that the ROO in the EPA with Mexico is more restrictive than in the EPA with Singapore. Japan also heavily adopted the combined criteria of CTC and RVC in the EPA with Mexico, which enforce the restrictiveness of ROOs. On the contrary, Korea’s first two bilateral FTAs with Chile and Singapore share a similar pattern. First, the number of categories is similar in the two FTAs, although Korea reduced these in the later FTA with 21 In addition to this, Japan had narrow market access, especially for agriculture, and did not mention tariff lines for exclusion from tariff elimination. Thus, the number of tariff lines with ROO in the agreement was reduced.

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Table 13.

Composition of CTC in FTAs by Japan and Korea (%).

NAFTA

CC+ CTH+ CTSH+ Other Total

EU–Mexico FTA

Japan’s EPA with

Korea’s FTA with

Singapore

Mexico

Chile

Singapore

54.44 40.65 4.35 0.56

14.47 58.34 2.37 24.82

9.22 90.78 0.00 0.00

47.14 29.14 23.47 0.25

30.21 59.76 9.46 0.58

25.18 67.79 6.44 0.59

100

100

100

100

100

100

Source: Information on NAFTA and EU–Mexico FTA is repeated from Table 9 (originally from Estevadeordal and Suominen, 2004).

Singapore. Second, the most frequent ROO in both FTAs is a CTH criterion. Third, an HS6 digit is the tariff line for defining ROO in both FTAs. One of the differences is that the number of restrictive ROOs (tariff lines with index 6 or 7) is smaller in the Korea–Singapore FTA than in the Korea–Chile FTA. Thus, the former FTA is less restrictive than the latter. Based on Tables 11 and 12, Table 13 compares the composition of CTC criteria in the FTAs by Japan and Korea with those of NAFTA and the EU– Mexico FTA. It shows that the JSEPA has the highest share of CTH criterion, while the JMEPA has the lowest share of CTH among the six FTAs discussed. The JMEPA increased the share of CTSH criterion, reducing the share of CTH substantially. Korea has a similar ROO structure, as shown in the previous analysis. Korea’s ROOs tend towards CTH criterion by reducing shares of ROOs for CC and CTSH. This implies that Korea is moving towards less restrictive ROOs while making some items more restrictive by changing ROO criteria from CTSH to CTH. The restrictiveness of ROOs can be calculated with relevant information for primary criterion, supplementary criterion, and other criterion, as described by the Productivity Commission (2004), in addition to Tables 11–13. In general, Japan’s ROOs are more restrictive than Korea’s, and East Asian ROOs are less restrictive than NAFTA or the EU’s ROO system (PANEURO). Table 14 shows that Japan increased the restrictiveness of ROOs in its second FTA, and its ROOs with Singapore are more restrictive than Korea’s ROOs with Singapore. Korea’s ROOs in its second FTA are less restrictive than in its first FTA with Chile. Korea borrowed the framework of the ROO system for this FTA from NAFTA, but its ROOs are less restrictive. Finally, the US adopted rather less restrictive ROOs in a recent FTA with Singapore, which went into force in January 2004. Four East Asian FTAs have more restrictive ROOs than the US–Singapore FTA.

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ROO restrictiveness of FTAs by Japan and Korea (%). PANEURO

NAFTA

US– SGP FTA

Japan– SGP FTA

Japan– Mexico FTA

Korea– Chile FTA

Korea– SGP FTA

Primary Supplementary Others

0.3 0.08 0.15

0.46 0.09 0.13

0.23 0.04 0.11

0.33 0.06 0.1

0.34 0.09 0.10

0.28 0.11 0.08

0.3 0.06 0.08

Total

0.53

0.67

0.39

0.49

0.54

0.47

0.44

Source: Information on PANEURO, NAFTA, and US–Singapore (SGP) is taken from Table A-2, Productivity Commission (2004).

4. Agricultural Liberalisation in Major FTAs GATT Article IVXX specifies requirements for regional trading blocs to be eligible for exemption from the GATT/WTO most-favoured nations (MFN) principle. It states that “duties and other restrictive regulations of commerce . . . are eliminated with respect to substantially all the trade between the constituent territories of the union or at least with respect to substantially all the trade in products originating in such territories”. GATT Article IVXX was the most controversial to construe. Indeed, it was difficult to achieve consensus on the meaning of “substantially all” total trade among the member states,22 and the timespan for eliminating tariffs and NTBs. Moreover, there are differences in interpretation as to whether tariffs should be totally eliminated and how many of the NTBs should be included within the trade liberalisation package. Even the Committee on Regional Trade Agreements in the WTO has not been able to resolve this controversy. Many FTA member states take conservative positions towards tariff elimination even though they recognise that trade liberalisation will benefit their economies. They have allowed exceptions from tariff elimination for sensitive items and have introduced long-term implementation for tariff eliminations. On the other hand, the Australia–New Zealand FTA (CER) and the Australia–Singapore FTA stipulated complete tariff elimination. Both agreements indicate that each party will eliminate all customs duties on goods originating in the territories of the other party that meet the requirements for the ROOs specified in the respective agreements. 22 WTO

(2002) cautiously mentions that “a threshold has been proposed at 95% of all HS tariff lines at the six-digit level, to be complemented by an assessment of prospective trade flows at various stages of implementation of the RTA, thereby allowing the incorporation of cases where trade is initially concentrated in relatively few products”.

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However, most of the agreements allow exceptions. This section analyses the content of trade liberalisation focusing on agricultural tariffs, since in most cases manufacturing sectors have been liberalised within 10 years of implementation. Tariff elimination schemes of agricultural tariff lines were analysed for two groups of FTAs: NAFTA, the US–Australia FTA, US–Chile FTA, and EU–Mexico FTA for Western countries and the JSEPA, JMEPA, Korea– Singapore FTA, and Korea–Chile FTA for East Asia. There are several ways to analyse tariff elimination depending on the purpose of the research. This study counts tariff lines according to the categories of tariff elimination provided in the appendices of the FTAs considered.23 Tariff lines in the HS chapters 01–24, except HS3 (fisheries), are regarded as agricultural products.24 It is not easy to make groups for comparison since each agreement introduces different liberalisation categories, including quota without tariff change, partial liberalisation, and future reviews. This section summarises the survey of agricultural liberalisation by calculating the number of tariff lines for three groups: items scheduled to be liberalised within 10 years after the implementation of an FTA; items scheduled to be liberalised more than 10 years after implementation; and items excluded from trade liberalisation.

4.1. FTAs by Western countries Australia and New Zealand have liberalised bilateral trade including agriculture in the CER (Table 15). The agreement started with poor market access in 1982. However, with additional negotiations, trade in goods was fully liberalised in July 1990.25 Australia also liberalised its agriculture market for US exporters in the US–Australia FTA, implemented in January 2005. Prior to NAFTA, the US, Canada, and Mexico were important trading partners, with bilateral trade among them slightly higher than trade with any other single trading partner. NAFTA was the first comprehensive agreement to include not only tariff elimination among member countries but also various economic issues such as services, investments, trade regulations, economic cooperation, the environment, and labour. Moreover, it also 23 For more accurate analysis, trade volumes need to be considered in addition to tariff lines. However, this requires substantially more work and will be done in a follow-up study. 24 Some items in HS29, 33, 35, 38, 41, 43, 50, 51–53 can be regarded as agriculture, but these are not taken into account in this study. 25 The 1988 CER Protocol on Acceleration of Free Trade in Goods.

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Table 15. Agricultural liberalisation in FTAs by Western countries (tariff lines, %). Importer

Exporter

Within 10 Years

After 10 Years

Exception

US US US

Mexico Chile Australia

1154 (97.0) 1364 (85.2) 876 (53.3)

36 (3.0) 235 (14.8) 434 (26.3)

0 (0.0) 0 (0.0) 336 (20.4)

US

Immediate elimination of all tariff lines for agriculture

Australia Chile EU Mexico Mexico

US Mexico US EU Average

574 (81.2) 1204 (59.3) 832 (90.6) 669 (67.9) 79

133 (18.8) 0 (0.0) 17 (1.8) 0 (0.0) 8

0 833 70 316

(0.0) (40.7) (7.6) (32.1) 13

Total 1190 (100) 1599 (100) 1646 (100) 707 (100) 2047 (100) 919 (100) 985 (100) 100

Source: Summarised from Appendices 1 to 7. Note: Numbers in parentheses are shares of the total number of tariff lines for agriculture.

represented substantial liberalisation in most traded goods. NAFTA classified almost all products into four categories, with the majority scheduled to be liberalised within 10 years, with a maximum of 15 years for importsensitive items. The US liberalised its agricultural market for Mexican exports, allowing no exception. The US recorded 97% immediate tariff elimination of agricultural tariff lines, with the final 3% scheduled to be eliminated after 10 years. A similar liberalisation structure can be found in the FTA with Chile, although a higher share of agriculture was scheduled to be liberalised compared to the US–Mexico FTA. However, the US allowed 336 tariff lines (HS8) to be excluded from liberalisation in the US–Australia FTA, with only 53.3% of agriculture to be liberalised within 10 years. Even the US, which has held strongly for trade liberalisation, showed a conservative standpoint in the FTA with Australia, one of the major agricultural exporters. Chile is one country that has actively promoted FTAs, achieving high economic growth and improvement in its business environment. It did not allow exceptions for agriculture, and 574 tariff lines (HS8, 81.2%) were liberalised within 10 years. Of 574 items, 441 (62.4%) were immediately liberalised on the implementation of the FTA with the US. The EU and Mexico began negotiations for a FTA in late 1998 and concluded these in late 1999, with the agreement coming into effect on 1 July 2000. The EU had been concentrating on enlarging and deepening its economic integration within Europe, and the EU–Mexico FTA offered it the opportunity to expand into non-European regions. The EU has protected

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22

its agriculture in the multilateral trading system and regional trade agreements. In its FTA with Mexico, it liberalised only 59% of agriculture within 10 years, allowing 41% to be excluded from tariff elimination. In responding to the EU’s tariff concession, Mexico eliminated 68% of agricultural tariff lines, withholding 32%. However, it recorded a total of 90.6% of tariff lines in the NAFTA. Thus, it can be said that the market access in FTAs is reciprocal. On average, 79% of agricultural tariff lines were liberalised within 10 years in the Western FTAs analysed in this study, while countries allowed 13% of agriculture to be excluded from liberalisation package. 4.2. FTAs by Japan and Korea FTAs in East Asia include the (AFTA), the AFTA–China FTA, JSEPA, Korea–Chile FTA, etc. ASEAN countries felt the need for a more instrumental economic cooperation program in the early 1990s, and a Common Effective Preferential Tariff (CEPT) was proposed at the 22nd ASEAN Economic Minister’s Meeting (AEM) in October 1990. It is not easy to compare the liberalisation scheme of AFTA, since the targeted tariff rates were 0–5% rather than zero tariffs for items in the liberalisation list. Similar schemes were introduced for AFTA’s FTAs with China and Korea (Table 16). Because of this problem, those FTAs were not analysed. Instead, four FTAs by Japan and Korea were reviewed for assessing agricultural liberalisation, representing FTAs by East Asian countries. More FTAs, such as the US–Singapore FTA, could be added, but this is left for future work. Japan concluded its first FTA with Singapore in January 2002. The agreement was officially entitled the Agreement between Japan and the Republic of Singapore for a New-Age Economic Partnership (JSEPA), since it is expected to promote economic partnership and linkages of the two countries in a comprehensive manner. However, Japan was very slow in liberalising its agricultural market, recording the lowest rate of tariff Table 16. lines, %).

Agricultural liberalisation in FTAs by Japan and Korea (tariff

Importer Exporter Japan Japan Korea Korea

Singapore Mexico Singapore Chile Average

Within 10 Years After 10 Years Exception 250 (39.4) 508 (51.9) 933 (65.0) 1011 (71.5) 57.1

0 75 0 12

(0.0) (7.7) (0.0) (0.9) 2.2

Total

385 (60.6) 635 (100) 396 (40.5) 979 (100) 481 (34.0) 1414 (100) 391 (27.7) 1414 (100) 40.7

Remarks HS6 HS8 HS10 HS10

Note: Numbers in parentheses are shares of the total number of tariff lines for agriculture.

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elimination within 10 years in the FTAs reviewed here. It introduced only one liberalisation category for agriculture — immediate liberalisation. MFN tariff rates for items in the immediate liberalisation category were zero; thus Japan’s agriculture has not been affected by the JSEPA. Japan improved market access for agriculture in the FTA signed with Mexico in September 2004 and operational from April 2005. During negotiations Mexico strongly requested that Japan expand access to its agricultural market. Japan provided tariff-rate quotas for agricultural products such as pork and oranges, while minimising tariff elimination for agriculture. Japan agreed with Mexico in eliminating 51.9% of its agricultural tariffs within 10 years, and a further 7.7% within 11 years. Forty items (HS8) were categorised as receiving preferential tariff treatment, under which parts of tariffs were supposed to be cut.26 Korea introduced four categories for agricultural trade liberalisation in the FTA with Singapore: immediate elimination, five-year elimination, 10year elimination, and exception. In its first FTA, Korea eliminated 65% of agricultural tariff lines and 34% were grouped for exception from trade liberalisation. Korea was more progressive than Japan in bilateral FTAs with Singapore, recording a higher liberalisation rate. Korea spent three years concluding its first FTA with Chile, and an additional 1.5 years gaining approval from the National Assembly. It liberalised 71.5% of agricultural products in the FTA within 10 years from implementation (April 2004), although most tariffs were supposed to be eliminated in the fifth year after the agreement became effective. In the FTAs by Japan and Korea, 57.1% of agricultural tariff lines were supposed to be liberalised on average, and 40.7% were categorised as exceptions. Overall, East Asian countries adopted a lower liberalisation ratio within a 10-year liberalisation period for agriculture than did Western countries, although it should be carefully interpreted in that only FTAs by Japan and Korea were considered.

4.3. ASEAN–China FTA China and ASEAN began talks on a free trade accord in early 2002 and signed a framework agreement in November that contained the general goals of the bilateral FTA. Both parties agreed to work faster towards a FTA in 2010, thus creating a large marketplace with over 1.7 billion consumers, about US$1.8 trillion in GDP and US$1.2 trillion in trade volume. After a series of negotiations, the two sides concluded the FTA on market access for 26 These

items mostly apply for HS Chapter 2 (meats).

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commodities in 2004 and implemented the agreement in July 2005 reducing bilateral tariffs; these should be zero for most products by 2010. According to Article 3(4) of the framework agreement of the ASEAN– China FTA,27 products subject to the tariff reduction or elimination program were categorised into two tracks: normal and sensitive. For products listed in the normal track, respective applied MFN tariff rates will gradually be reduced or eliminated between 1 July 2005 and 2012 for ASEAN 628 and China, and in the case of the new ASEAN member states,29 the period is from 1 July 2005 to 2018, with higher starting tariff rates and different staging. Products listed in the sensitive track will have their respective positive applied MFN tariff rates, meaning that those items would not be free of tariffs even after 2018. The number of products listed in the sensitive track is subject to a maximum ceiling to be mutually agreed among the parties. ASEAN 6 and China cannot have more than 400 HS6 tariff lines, while the sensitive track items for new member countries cannot exceed 500 items (HS6). The sensitive track items will be categorised into two groups: sensitive list and highly sensitive list. A maximum of 40% of sensitive track items only can be listed as highly sensitive goods. Since the ASEAN–China FTA involves 11 countries and special considerations are taken into account in the concession of tariff elimination, the appendices of tariff elimination are quite complicated. Figure 1 represents overall views of tariff elimination in the ASEAN–China FTA. Most tariff lines (92.4% for ASEAN 6 and China, 90.4% for new member countries) will be completely liberalised by 2012 for ASEAN 6 and China and by 2018 for new member countries. The remaining items will be categorised into the sensitive track and the tariffs for these items will be reduced to 0– 5% by 2018 for ASEAN 6 and China and 2020 for new member countries. However, a small number of highly sensitive items will have their tariffs reduced to not higher than 50% not later than 1 January 2015 for ASEAN 6 and China, and 1 January 2018 for the newer ASEAN member countries. The tariff elimination scheme in Fig. 1 covers all tariff lines, including agriculture. Since most member countries of the ASEAN–China FTA have no serious agricultural problems in FTAs, only a small number of agricultural products are classified as highly sensitive. For example, China has

27 The Framework Agreement on Comprehensive Economic Co-operation between the Association of South East Asian Nations and the People’s Republic of China, signed on 4 November 2002 in Phnom Penh. 28 ASEAN 6 refers to the original members of ASEAN: Brunei, Indonesia, Malaysia, Philippines, Thailand, and Singapore. 29 The new ASEAN member countries are Cambodia, Laos, Myanmar, and Vietnam.

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Normal Track

Sensitive Track

SL

ASEAN6 China

2015: tariff = 0% (85.6%)

New Members

Fig. 1.

2010: tariff = 0% (89.5%)

2012: tariff = 0% (2.9%)

2018: tariff = 0% (4.8%)

25

2012: tariff