The China-ASEAN Free Trade Area (CAFTA), went into effect on 1st of January this year. For China, the benefits are clear, but Southeast Asia will be paying a big price for a bad deal.
With the Doha Round of negotiations of the World Trade Organization in limbo, the heavy hitters of international trade have been engaged in a race to sew up trade agreements with smaller partners. China has been among the most aggressive in this game, a fact underlined on January 1, 2010, when the China-ASEAN Free Trade Area (CAFTA) went into effect.
Touted as the world’s biggest Free Trade Area, CAFTA will bring together 1.7 million consumers with a combined gross domestic product of $5.9 trillion and total trade of $1.3 trillion. Under the agreement, trade between China and Brunei, Indonesia, Malaysia, the Philippines, Thailand, and Singapore has become duty-free for more than seven thousand products. By 2015, the newer members of the Association of Southeast Asian Nations (ASEAN) — Vietnam, Laos, Cambodia, and Myanmar — will join the zero-tariff arrangement.
The propaganda mills, especially in Beijing, have been trumpeting the FTA as bringing "mutual benefits" to China and ASEAN. In contrast, there has been an absence of triumphal rhetoric from ASEAN. In 2002, the year the agreement was signed, Philippine President Gloria Macapagal-Arroyo hailed the emergence of a "formidable regional grouping" that would rival the United States and the European Union. ASEAN’s leaders, it seems, have probably begun to realize the consequences of what they agreed to: that in this FTA, most of the advantages will probably flow to China.
At first glance, it seems like the China-ASEAN relationship has been positive. After all, demand from a Chinese economy growing at a breakneck pace was a key factor in the Southeast Asian growth that began around 2003 after the low growth following the Asian financial crisis of 1997 and 1998. For Asia as a whole, in 2003 and the beginning of 2004, "China was a major engine of growth for most of the economies in the region," according to a UN report. "The country’s imports accelerated even more than its exports, with a large proportion of them coming from the rest of Asia." During the current international recession ASEAN governments, much like the United States, are counting on China — which registered an annualized growth rate of 10.7 percent in the last quarter of 2010 — to pull them out of the doldrums.
A More Complex Picture
But is the Chinese locomotive really pulling the rest of East Asia along with it, on the fast track to economic nirvana? In fact, China’s growth has in part taken place at Southeast Asia’s expense. Low wages have encouraged local and foreign manufacturers to phase out their operations in relatively high-wage Southeast Asia and move them to China. China’s devaluation of the yuan in 1994 had the effect of diverting some foreign direct investment away from Southeast Asia. The trend of ASEAN losing ground to China accelerated after the financial crisis of 1997. In 2000, foreign direct investment in ASEAN shrank to 10 percent of all foreign direct investment in developing Asia, down from 30 percent in the mid-nineties.
The decline continued in the rest of the decade, with the UN World Investment Report attributing the trend partly to "increased competition from China." Since the Japanese have been the most dynamic foreign investors in the region, much apprehension in the ASEAN capitals greeted a Japanese government survey that revealed that 57 percent of Japanese manufacturing transnational corporations found China to be more attractive than the ASEAN-4 (Thailand, Malaysia, Indonesia, and the Philippines).
Snags in a Trade Relationship
Trade has been another and perhaps greater area of concern. Massive smuggling of goods from China has disrupted practically all ASEAN economies. For instance, with some 70-80 percent of shoe shops in Vietnam selling smuggled Chinese shoes, the Vietnamese shoe industry has suffered badly. In the case of the Philippines, a recent paper by Joseph Francia and Errol Ramos of the Free Trade Alliance claims that the local shoe industry has also been hit hard by smuggling of Chinese goods. Indeed, the range of goods negatively affected is broad, including steel, paper, cement, petrochemicals, plastics, and ceramic tiles. "Many Philippine companies, even those that are competitive globally, had to close shop or reduce production and employment, due to smuggling," they write.
Because of this massive smuggling, the official trade figures with China released by the Chinese embassy in Manila — that show the Philippines enjoying a positive trade balance in manufacturing and industrial commodities — are questionable.
CAFTA may simply legalize all this smuggling and worsen the already negative effects of Chinese imports on ASEAN industry.
The Thai "Early Harvest" Debacle
When it comes to agriculture, the trends are clearer. Even without the FTA, for instance, the Philippines already has a $370 million deficit with China. I recently visited Benguet, a key vegetable and fruit producing area of the country. The farmers were despondent, almost resigned to being destroyed by the expected deluge of Chinese goods. A national government official warned them that their only chance of survival lay in invoking trade restrictions, based on complaints that Chinese imports did not meet sanitary standards — a risky move that could invoke retaliatory measures. The governor of the province complained that the CAFTA sneaked up on them, with most farmers not knowing that the Philippines signed the agreement as far back as 2002.
Similar bitter complaints have emerged in Thailand, where the impact of the "early harvest" agreement with China under CAFTA has been better documented.
Under the agreement, Thailand and China agreed to eliminate immediately tariffs on more than 200 items of vegetables and fruits. Thailand would export tropical fruits to China, while winter fruits from China would be eligible for the zero-tariff deal. The expectations of mutual benefit evaporated after a few months, however. Thailand got the bad end of the deal. As one assessment put it, "despite the limited scope of the Thailand-China early harvest agreement, it has had an appreciable impact in the sectors covered. The ‘appreciable impact’ has been to wipe out northern Thai producers of garlic and red onions and to cripple the sale of temperate fruit and vegetables from the Royal projects." Thai newspapers pointed to officials in Southern China refusing to bring down tariffs as stipulated in the agreement, while the Thai government brought down the barriers to Chinese products.
Resentment at the results of the China-Thai early harvest agreement among Thai fruit and vegetable growers contributed to widespread disillusionment with the broader free-trade agenda of the Thaksin government. Opposition to free trade was a prominent feature of the popular mobilizations that culminated in a military coup that ousted that regime in September 2006.
The Thai early harvest experience created consternation not just in Thailand but throughout Southeast Asia. It stoked fears of ASEAN becoming a dumping ground for China’s extremely competitive industrial and agricultural sectors, which could drive down prices because of China’s cheap urban labor and even cheaper labor coming to the cities the countryside. These fears at the grassroots have, however, fallen on deaf ears as ASEAN governments have been extremely reluctant to displease Beijing.
The Chinese View
For Chinese officials, the benefits to China of an FTA with ASEAN are clear. The aim of the strategy, according to Chinese economist Angang Hu, is to more fully integrate China into the global economy as the "center of the world’s manufacturing industry." A central part of the plan was to open up ASEAN markets to Chinese manufactured products. China views Southeast Asia, which absorbs only around 8 percent of China’s exports, as an important market with tremendous potential to absorb even more goods, which is particularly important given the growing popularity of protectionist sentiments in the United States and European Union.
China’s trade strategy is a "half open model," argues Hu: It’s "open or free trade on the export side and protectionism on the import side."
ASEAN: a Beneficiary?
Despite the brave words from Arroyo and other ASEAN leaders in 2002, when the agreement was signed, it’s much less clear how ASEAN will benefit from the ASEAN-China relationship. The benefits will certainly not come in labor-intensive manufacturing, where China enjoys an unbeatable edge because of its cheap labor. Nor would benefits come from high tech, since even the United States and Japan are scared of China’s remarkable ability to move very quickly into high-tech industries even as it consolidates its edge in labor-intensive production.
ASEAN’s agriculture ASEAN will also not be net beneficiary? As the early harvest experience with the Philippines and Thailand has shown, China is clearly super-competitive in a vast array of agricultural products from temperate crops to semi-tropical produce as well as in agricultural processing. Vietnam and Thailand might be able to hold their own in rice production, Indonesia and Vietnam in coffee, and the Philippines in coconut and coconut products, but there may not be many more products to add to the list.
Moreover, even if under CAFTA, ASEAN were to gain or retain competitiveness in some areas of manufacturing and trade, China will not likely depart from what Hu calls its "half open" model of international trade. The Thai early harvest experience underlines the effectiveness of administrative obstacles that can act as non-tariff barriers in China.
In terms of raw materials, Indonesia and Malaysia have oil that is in scarce supply in China, Malaysia has rubber and tin, and the Philippines has palm oil and metals. China, however, is largely reproducing the old colonial division of labor, whereby it receives low-value-added natural resources and agricultural products and sends to the Southeast Asian economies high-value added manufactures.
With multilateral trade negotiations stuck at the WTO, the big trading countries have been engaged in a race to sew up trade agreements with weaker partners. China is turning out to be the most successful at this game, having managed to create the world’s largest free-trade area. For China, the benefits are clear. For its Southeast Asian partners, the benefits are less clear. Indeed, with the likely erosion of local industry and agriculture, Southeast Asia will be paying a big price for a bad deal.