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What benefit will FTAs bring to the Japanese economy?

What Benefit will FTAs Bring to the Japanese Economy?

Motoshige Itoh
Professor, Faculty of Economics
20 April, 2004

1. FTA/EPA: Now a World Trend

Let me first give you four reasons why economic partnership agreements (EPAs), which cover broader areas than free trade agreements (FTAs), are important. The first reason is that FTAs are now a world "rule of the game," and Japan is at a disadvantage in not taking part in the game. The second important reason concerns what is called "deeper integration." Because WTO’s multilateral framework and bilateral or inter-regional FTAs are mutually complementary, it is widely understood that FTAs and EPAs are an effective method of achieving "deeper integration." The third reason, which concerns Japan’s domestic reforms, is that all liberalization, including FTAs, has many domestic effects, besides diminishing the barriers of national borders. I personally expect that EPAs will give Japan a major political momentum that will steer the liberalization of food, labor and other issues in a desirable direction. The fourth reason is that EPAs and FTAs can be an effective means to build new relations in Asia in the wake of Asian currency crisis of 1997.

2. Present Situation in Japan
(brief history of the post-World War II international trade system)

In Japan the term EPA is more widely used than FTA because not only tariff reduction but other matters such as foreign laborers, economic cooperation, investment and services should also be considered. Japan, which was lagging behind the world trend of concluding EPAs and FTAs, concluded an EPA for the first time with Singapore in 2002. Prior to that, there were four countries (region) which had no EPAs in any form among the 30 highest-ranking GDP countries, namely Japan, China, the R.O.K. and Taiwan. They are in a very rare situation. There are several reasons why reluctance to conclude EPAs prevails in the government of Japan, in particular.

In the 1930s Japan exported a large amount of low-price textile goods to the world market. When the General Agreement on Tariffs and Trade came into being after World War II, the U.K. and France, which strongly opposed Japan’s accession to GATT, had to strike a bargain with the U.S., which wanted Japan to join GATT, giving rise to GATT Article 35, which was inserted to make to exclude Japan from the non-discriminatory principle of GATT.

In the post-war history of GATT, only Japan was discriminated against in this way. It was therefore a very important task in Japan’s post-war trade diplomacy to have this discriminatory article removed. Even in the 1960s, about 40 countries including underdeveloped ones such as Chad in Africa applied Article 35 to Japan.

Therefore, before the early 1990s when the North American Free Trade Agreement came into being, the best way that Japan could avoid discrimination was to become a full member of GATT. This background explains why Japan places so much importance on GATT. After the establishment of NAFTA about 200 FTAs were concluded, and Japan faced a new problem. As developing and newly-industrialized countries imposed extremely high tariffs within the framework of GATT, countries which had no FTAs with these countries had difficulties with exports to them. A typical example is with Mexico.

Mexico has already concluded FTAs with the U.S. and the EU, so that American or European companies can have low-tariff access to Mexican markets. Japanese companies, however, are greatly handicapped as Japan has not yet concluded an FTA with Mexico. Mexico is just one example. If Japan is not incorporated into the FTA network of Asian countries, its exports to them will be blocked by the high tariff rates of developing countries. This is one of the contributing factors, I think, that urged Japan to conclude FTAs with its neighbors.

3. Positive Economic Effect of EPAs

The positive effect of EPAs can be discussed in the following three categories: (1) advantages in terms of trade and investment in the narrow sense, (2) economic advantages in the wider sense, and (3) social and cultural advantages surpassing the economic ones. To see how advantageous FTAs would be to the Japanese economy in trade and investment, we can make an estimate using a CGE model (computable general equilibrium model). According to a trial simulation conducted by the Japanese Government, if Japan concludes an FTA with Thailand, it can enjoy an annual increase of one trillion yen, or 0.2% of GDP, in its national income. I think the economic merit would actually be even greater. It is said that Thailand would enjoy even more advantages than Japan. Nowadays, we can observe a division of labor in companies across national borders. It is foreseen that this trend will be accelerated, integrating the Asian economy and bringing about advantages and having an impact on Japanese companies.

Generally speaking, many Asian countries were applying protectionism. When a Japanese auto-parts manufacturer operating in the Philippines, for example, was requested by the Philippine Government to export its products in order to earn foreign currency, that Japanese manufacturer was unable at that time to come up with any competitive export products.

Now, however, Asian countries themselves, and ASEAN in particular, have begun to abandon protectionism, integrating the region by, for example, concentrating the electronics industry in Singapore and Malaysia, and automobiles in Thailand. Today in Asia, regional industrial bases are being integrated and EPAs are a very effective means to the end.

When Thailand and India have their expected FTA, Japanese auto-makers manufacturing in Thailand may expect a lot of exports to India. The series of EPAs is playing an important role that could change the division of labor in the Asian region.

The third kinds of advantage are more important than purely economic effects in deepening various exchanges between Japan and Asian countries. I thought that we were at a great turning point in 2002 when Japan was able to conclude an FTA with Singapore.

4. Promotion of EPAs and the WTO System

It is said that conclusion of FTAs can weaken the momentum of WTO, but I think that relations between WTO and EPAs/FTAs are complementary. If WTO negotiations make good progress, Japan will lend much energy to these negotiations. In fact the negotiations of WTO’s Doha Round will not come to fruition for a few years. It is practical for Japan to continue WTO negotiations patiently and steadily, while trying to conclude EPAs.

The Uruguay Round negotiations were not easy, and in 1992 the U.S. was busy with NAFTA. When we look at the final results, however, the Uruguay Round bore fruit with WTO replacing GATT.

The Doha Round has been making no progress. This is my personal view, but it is difficult to expect a great achievement in the two or three years since the start of the negotiations. These days I am of the view that negotiations for EPAs or FTAs should be separated from those of WTO for the time being.

5. Structural Adjustment within Japan

Lastly, the domestic issues of Japan. When Japan tried to conclude an EPA, the issues of food and foreign laborers, agricultural issues in particular, were always a serious political obstacle to negotiations for trade liberalization. However, I may be less pessimistic, and I think the tide is changing little by little. One of the reasons that the National Council (*) has some members from the agricultural sphere is that they want to make use of this opportunity to change Japan’s agriculture and food production.

Japanese agriculture is in a difficult situation, but liberalization of trade cannot be attributable to it. In the agricultural land reform after World War II, land was subdivided and distributed to the tenant farmers, creating many small-scale landowners. As a result, many farming households lack competitiveness and successors, facing a structural problem of the aging of the farming population.

To improve agricultural policies, a scheme should be built up so that farmland will be integrated into competitive units, and to promote this, a new type of agricultural management will be required by, for example, introducing joint-stock agricultural companies or abolishing various regulations.

There are other possible measures; review of inefficient government expenditures, i.e., stop the construction of unnecessary farm roads and subsidize projects leading to more efficient agricultural production. To carry out reform requires a great change. I hope that at a time when Japan is asked to open its markets, agricultural reform will be made possible. So the domestic issue of reform should be tackled together with cross-border reform.

(*) The National Council: a private council to promote economic partnership to vitalize the Japanese economy


Q1: How are the bilateral FTA negotiations, for example, between an ASEAN country and Japan or China or South Korea, conducted? What about Japan’s negotiations with the entire ASEAN bloc?

A1: Since the stage of industrialization in each ASEAN country varies, any of these negotiations with Japan will be basically conducted bilaterally. It is possible that a draft used for the FTA with Singapore will be developed into a prototype for similar negotiations with other ASEAN countries. Although there is an irrational sense of rivalry among Japanese politicians and bureaucrats for negotiations between China and ASEAN, I believe, as an academic, that it is rather better for the Chinese to struggle hard so that it will stimulate the Government of Japan and the politicians.

Q2: If China and ASEAN conclude an FTA, will China’s economic advantage be as much as the disadvantage that it suffered when Japan was faster in concluding an FTA with ASEAN? It seems to me that the political relationship between the two countries has not been going smoothly in recent years. Will that affect talks?

A2: Under the WTO framework, regulations are eased for a conclusion of an FTA between developing countries. For that reason, various escape clauses are made for an FTA between ASEAN and China, which is very much different from an FTA involving developed countries like Japan and the U.S. FTA negotiations between China and ASEAN might have an impact on politicians such as psychological pressure, but it will not greatly affect the real economy.

Between China and ASEAN, there are mutually overlapping parts in their industries. If there is competition among their industries and both sides concluded an important production agreement, there arises a risk of one weighing more heavily on the other. Japan’s concluding an FTA with ASEAN will not greatly affect China. I also think that there is not much possibility of Japan and China concluding an FTA. What is important right now is to integrate China into the WTO. Even if the Chinese central government wanted to maintain the WTO framework, it is uncertain if local governments might follow that move. Even if local governments followed the rules for certain, we don’t know if the private economy would follow.

Though difficult problems remain between Japan and China, I think the Chinese perception of Japan has become remarkably flexible, a phenomenon that I noticed when talking with people from China. We should not perceive Japan-China relations as not going smoothly just by looking at it from an economic aspect. At one time, the view of China as "a threat" to Japan seemed to increase in this country. But now, more and more people are of the opinion that China’s growth has come to serve as an advantage for Japanese industries, and I believe it is important for both countries to build up a complementary economic relationship as much as possible for sound ties.

Q3: Are there any negative socio-economic aspects in promoting FTAs?

A3: Some industries and regions may certainly suffer from free trade, and the challenge there will be how to cover such damage. At the time of the Uruguay Round, Japan laid too much stress on protecting its domestic rice production and invested unnecessarily in the agriculture. Failure to protect leaves a problem but so does over-compensation.

Liberalizing only the feasible parts and leaving the difficult parts untouched is called an easy FTA. As a gradual increase of easy FTAs will generate a serious problem in the entire WTO, FTAs must be surely concluded in accordance with the WTO’s rules.

Q4: Will acceptance of foreign labor make FTA negotiations with Thailand and the Philippines difficult for Japan?

A4: Issues concerning foreign workers are very difficult but can be worked out at times. Let me give one example. When the then Prime Minister Yoshiro Mori visited India, a Mutual Recognition Agreement for computer engineers was concluded, making possible the introduction of Indian workers into Japan. Thailand and the Philippines are hoping to send off large numbers of workers to Japan after concluding FTAs, but that will be difficult in reality. On the other hand, moderating various systems is possible. It is also much possible to see foreign laborers increase. To be specific, it will not be difficult to formulate such programs as those for training centers or education to promote economic interchanges with the two countries.

Q5: Some are worried that by concluding FTAs, Japan’s agricultural self-sufficiency rate may go down.

A5: We cannot expect to see the self-sufficiency rate in Japan recover rapidly even if we protected farmers under the current situation. The problem is that there are many small-sized farms in Japan, and the fact that the progressive aging of the society is failing to provide next-generation successors is also lowering the self-sufficiency rate.

The low self-sufficiency rate is calculated on an energy basis. If we import feed grain for pigs and birds the self-sufficiency rate will decrease. A key point in Japan’s food security is that when we are unable to import food, are we going to eat potatoes and rice instead of beef and chicken? It is therefore very misleading to look at Japanese farming just by its self-sufficiency rate.

Japan’s tariff rates for agricultural products are about half of those of South Korea, making it one of the foremost importing countries along with China. Should we conclude FTAs or should we further promote liberalization talks at WTO? I think they will not have so much impact on Japan’s food production and farming as a whole. What is more important is that we should reform our domestic systems. I think it is true that this issue is having a major psychological influence in negotiations.

Given on April 20, 2004, at the Foreign Press Center/Japan. This English version is an abridgment of the Japanese original.

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