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Asian integration step forward with RCEP

Manu Bhaskaran
Manu Bhaskaran11/27/2020 07:00 AM GMT+08  • 10 min read
Asian integration step forward with RCEP
Like many Asean initiatives, RCEP appears to lack sizeable and immediate impact. But it would be wrong to underplay its impact.
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The Regional Comprehensive Economic Partnership (RCEP) agreement was finally signed last week, after eight long years involving 31 negotiating rounds and eight ministerial sessions. After all that effort, the poor negotiators found that the achievement was greeted with less than unbridled enthusiasm. This seems a bit unfair to us — anyone can pick holes in the RCEP agreement but overall, it will produce tangible benefits for its members while also creating a few geopolitical ripples.

But what does RCEP change and where does it fall short? The agreement is actually a big deal. It establishes one of the world’s largest free trade areas encompassing 30% of the world’s population, 30% of global economic output and 27% of world trade. Never before has there been a trade deal that brought so many diverse countries with so many diverging interests into a single trade agreement. The deal embraces the 10 countries of Asean, China, Japan, South Korea, Australia and New Zealand. Just pulling it off is itself a huge achievement. Certainly, in the process of bridging the vast gaps in living standards, economic development and economic models within this large area, it was inevitable that they settled in many cases for the lowest common denominator.

Still, RCEP is a consequential deal. It aligns Asean’s separate free trade agreements (FTAs) with its main partners into one coherent one, overcoming the spaghetti bowl of many FTAs with varying rules and definitions in key areas that led to confusion. Take one critical area — that of rules of origin (which confirms whether a product is indeed mostly manufactured in a given country and therefore qualifying for zero-tariff entry into a market). Companies will find it easier to trade across borders because there is now one single set of rules of origin and one set of tariff schedules to follow. Instead of filling multiple forms in many countries, one form will suffice to enact an export transaction. The deal also cuts tariffs so that 92% of trade in the RCEP region will now be tariff-free. These benefits will improve market access and reduce transactions costs and so boost trade. In addition, RCEP also improves the investment environment by encouraging countries to limit the sectors where foreign investment is not allowed.

In addition, the RCEP fills in a big hole in the network of FTAs in Asia. Because of their historical animosities, China, Japan and South Korea had not been able to agree to an FTA among themselves. With RCEP in place, these three trading giants in effect have an FTA — and that will lead to increased exports and imports in that part of the world.

Positive as all this is, there are some shortfalls in the RCEP agreement. There are several areas covered by the Comprehensive and Progressive Trans-Pacific Partnership (CPTPP, which brings together a smaller group of countries including Singapore) which are not addressed at all by RCEP — environmental issues, labour protections, food safety and how to handle state enterprises. Huge sectors such as agriculture and services are not really opened up all that much. There were many compromises along the way which weakened the effectiveness of the RCEP deal — the inevitable price to be paid when so many diverse countries are brought into one agreement. In the end, even the many compromises that were made were not enough to satisfy India that its interests would be adequately protected. Its pull-out certainly leaves a hole in the RCEP.

RCEP produces encouraging economic results

A study by the Peterson Institute for International Economics estimates that the member countries of RCEP will gain an additional US$186 billion ($249.76 billion) of economic value from now till 2030. The biggest gains are in Japan and South Korea but Asean countries such as Vietnam and Malaysia are also big winners.

But we suspect that the economic modelling might be underestimating the dynamic benefits of the agreement:

  • First, with trade barriers reduced across a large area, it will be easier for supply chains to be formed that straddle these countries. As China’s costs rise and as it encounters more protectionist pushback in the United States, some manufacturing activities are being relocated out of China. With RCEP in place, there is a greater incentive for companies exiting China to relocate to within the RCEP area. Trade and investment will be diverted from non-members such as Taiwan and India to members.
  • Second, with RCEP in place, there will be greater flows of goods, services, people and capital within the RCEP region. This will benefit the region’s business hubs such as Singapore and to some extent Bangkok and Shanghai. Hubs like Singapore thrive when their ports, airports, financial markets, business centres and logistics providers have more of such flows to manage.
  • Third, after a successful conclusion to such intensive negotiations, countries now have a much better understanding of each other. There is also more trust that has been built among countries and their economic managers. As a result, there is now a much stronger foundation on which to build other forms of cooperation. This could be in the area of pandemic management involving joint efforts to secure vaccines and treatments for instance. Or it could be in promoting financial integration. Moreover, with more trade flowing across borders, there will be a need for more transport connectivity so there might be more joint efforts in infrastructure building.

What should we expect next?

And that brings us to a key point. RCEP is not an end point. It is the beginning of a process which is likely to see increasing cooperation and more integration over time. As countries see the actual benefits of cooperation flow and as more trust is built among countries, there will be a tendency to broaden the RCEP’s coverage to include the sectors that were either left out or under-emphasised. With the ink on the deal now dry, we should expect progress in other areas.

One such area could be that the successful conclusion of the RCEP negotiations will spur countries outside RCEP to seek membership. The agreement allows new members to sign on eighteen months after the agreement is formally ratified. Hong Kong has already shown its interest, with both Asean and China immediately agreeing to support its application. The RCEP agreement has a clause in it which would enable India to join easily. However, the Indian authorities have indicated that they are still not ready to join yet.

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Separately, the time consuming negotiations over RCEP took up a lot of bandwidth of the region’s trade negotiators, leaving them with little time or resources to consider other pending trade initiatives. Now that the deal is done, we should expect movement elsewhere.

For instance, China has signalled once again that it is interested in exploring membership of the CPTPP. China’s membership of CPTPP would be ground-breaking, making the CPTPP so large that many other countries would seek membership as well. Already, the United Kingdom which is leaving the European Union has also expressed a keenness to join the CPTPP, something which has been received warmly in Asia.

Another area where we might see changes is an initiative to fill the holes in the RCEP deal. After all, as RCEP was being negotiated, the world changed in so many ways. Digitalisation has taken off and it is certainly a gap in RCEP that e-commerce and cross-border data issues were not adequately dealt with. China, which is now a leader in digitalisation, could well make a big push to fill this gap.

Is China really a winner?

Media commentaries frequently refer to RCEP as a China-led initiative, implying that China leads it and will gain immense geostrategic advantages from it. This view has merits but it needs to be corrected in some regards.

First, RCEP was led by Asean, not China. It was built on Asean’s network of free trade agreements. The agreement gives Asean considerable powers — the agreement only comes into full legal effect once six Asean members ratify the deal and Asean will have a say on key issues going forward including approving new members. If anything, RCEP’s successful conclusion vindicates Asean’s unique role as the go-to platform on which much regional cooperation is based. Asean also gains from how RCEP helps to preserve the momentum of trade opening and shows how broadly-accepted rules-based trade regimes can still be constructed despite all the protectionism and nationalism that we have seen of late — its members are highly exposed to trade and anything that buffers them from protectionism and bullying by more powerful partners is welcome.

Second, having said that, China will indeed gain much from RCEP. Its two great rivals — the US and India — are not in the agreement, leaving it as the most powerful economy within RCEP. Japan will of course be a balance to China but does not have the heft that the US has. As a result, China will be able to leverage off RCEP to shape how regional integration will be pursued in future since it will have a big say in which countries join RCEP in future and how RCEP’s provisions are expanded and improved. It can protect its interests — for example, it can block Taiwan which it considers a renegade province from joining RCEP.

On this measure, it is probably right to say that the US and India might be disadvantaged by not being part of RCEP. The US now finds itself to be in the awkward position of not having any institutional mechanism through which it can engage economically with the rapidly growing Asia-Pacific economies — unlike China. Remember that China is not only in RCEP, it has also painstakingly built a network of initiatives that expand its economic influence — the Belt and Road Initiative, the Asian Infrastructure Investment Bank, the Lancang-Mekong Cooperation and the many other bilateral economic agreements it has in the region. This is a challenge that President-elect Joe Biden’s incoming administration will have to address — among the multiple other challenges that it will face.

Like many other initiatives pursued by Asean, RCEP appears to lack sizeable and immediate impact. But it would be wrong to underplay its impact. Companies will find it easier to trade across the region and there will be measurable economic benefits, both direct and indirect. Members will enjoy more trade and investment, some of it completely new and some of it diverted from non-members. We also think that RCEP will grow over time, bringing more parts of the Asia Pacific region into its ambit and gradually addressing some of its shortcomings.

Its geopolitical impact will also be tangible. Asean has proven its worth as an irreplaceable platform for other powers to engage in. China will certainly gain additional influence. And, unless Biden’s team can come up with appealing initiatives of its own, the US could lose out.

Manu Bhaskaran is CEO at Centennial Asia Advisors

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