Shifting toward Plurilateral EPAs/FTAs: Critical to improving the efficiency of supply chain networks

Faculty Fellow, RIETI

Plurilateral economic partnership agreements (EPAs) covering broad geographic areas have been attracting growing attention.

Examples of plurilateral EPA initiatives include: the Trans-Pacific Partnership (TPP); ASEAN+3 covering the Association of Southeast Asian Nations (ASEAN) member economies plus Japan, China, and South Korea; ASEAN+6 which includes Australia, New Zealand, and India in addition to the ASEAN+3 members; the Regional Comprehensive Economic Partnership (RCEP) promoted by the ASEAN countries; and the Free Trade Area of the Asia-Pacific (FTAAP) which embraces all of the Asia-Pacific Economic Cooperation (APEC) member economies. An EPA between Japan and the European Union (EU), for which a scoping exercise to define what to negotiate has been completed, is a plurilateral EPA in substance. How should we interpret these developments?

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Internationally, the focus of trade policies has shifted from the World Trade Organization (WTO) to EPAs. This is due to the stagnation in multilateral trade negotiations at the WTO since the turn of the century. The WTO Doha Round, which started in 2001, came to a complete deadlock in December 2011, failing to reconcile differences between emerging economies that have come to have greater bargaining power and advanced economies, in particular, the United States.

In the case of EPAs, signing countries promote liberalization in principle by eliminating all tariffs between them. At the same time, they also seek to deepen their economic ties by introducing rules governing investment and other areas not covered by WTO agreements. WTO agreements require that all of the 155 WTO members treat goods and services of other members on a non-discriminatory basis. In contrast, EPAs allow signing countries to deepen trade and investment relations only between themselves, putting other countries and their companies at a significant disadvantage.

The reduction and elimination of tariffs under such initiatives have had a particularly significant impact. It is fresh in our memory that back in 2000, Japanese companies suffered a serious disadvantage in tariff treatment in Mexico, which had by then concluded EPAs with 30 countries and regions but not with Japan. Today, countries around the world are competing to conclude EPAs in a bid to secure advantageous positions for themselves and their companies in global competition.

One peculiar feature of present day business activities is that the entire process (or supply chain network) for the provision of products—from the procurement of raw materials through various stages of production, sales, and distribution to the delivery of products to their end users—is operated globally. Supply chain efficiency is a critical determinant of companies' competitiveness in the global market and has a significant impact on national economic growth. Along with increasing exports, improving supply chain efficiency has been cited by the U.S. government among its objectives in pursuing the TPP.

From the viewpoint of improving supply chain efficiency, the primary characteristic of plurilateral EPAs as compared to bilateral ones is an extensive scope of tariff reduction and elimination. Needless to say, such scope under a bilateral EPA is limited to those between the two countries concerned. In the case where countries A and B conclude an EPA, goods produced in country A from raw materials procured within it are subject to tariff reduction and elimination by country B. However, things are totally different for goods through the operation of global supply chain networks.

Suppose a company has operational bases in countries A, B, and C. The company produces the key components of its products in country A using parts produced in country C. Such components are then shipped to country B where they are assembled with additional parts produced there into finished goods for sale across the world. The scope of products subject to tariff elimination under the EPA between countries A and B is determined by the applicable rules of origin. Let's say that the rules of origin under their EPA require 40% or more local value-added as criteria for being considered as originating from country A or B and thus made subject to preferential tariff treatment. In this case, if the value-added of key components exported from country A to country B is less than 40%, they are not treated as being made in the former. Likewise, finished goods exported from country B to country A may not be treated as being made in country B depending on the percentage of value-added.

On the other hand, in the case where countries A, B, and C conclude an EPA with the rules of origin stipulating that preferential EPA tariff rates be applicable when the combined share of value-added in all member countries accounts for 40% or more (i.e., cumulative rules of origin), key components produced in country A and finished goods assembled in country B can benefit from preferential EPA tariff rates when imported into countries B and A respectively. In other words, plurilateral EPAs allow for the adoption of cumulative rules of origin. The primary role of the ASEAN-Japan Comprehensive Economic Partnership (AJCEP) Agreement, which is Japan's only plurilateral EPA, is to enable the use of cumulative rules of origin.

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In addition to tariff reduction and elimination, laws and regulations in host countries are also important from the viewpoint of improving supply chain efficiency. When rules (e.g., technical criteria for products) differ significantly from one country to another, companies must fulfill different requirements in different countries, resulting in lower production efficiency compared to when rules are more or less the same in all countries. In the Japan-EU EPA initiative, the EU is focusing more on non-tariff measures rather than on tariff reduction and elimination, demanding that Japan amend its laws and regulations to eliminate non-tariff barriers. This is interesting as evidence illustrating the fact that national laws and regulations are getting more attention as factors affecting cross-border trade and investment. A similar attitude can be observed in the way the United States negotiates its free trade agreements (FTAs). With plurilateral EPAs, member countries can seek to achieve the harmonization (convergence or unification) of their trade-related laws and regulations, which is the second characteristic of the plurilateral approach.

With the exception of the United States, it is usually difficult for countries to demand changes to the laws and regulations of others for the sake of harmonization under bilateral EPAs since forcing others to accept laws and regulations similar to those of their own is no easy task. In contrast, in the case of plurilateral EPAs, the involvement of many countries makes it easier to create common rules with which all of them are to comply with an eye on making such rules into global ones.

Though it is not an EPA, the Anti-Counterfeiting Trade Agreement (ACTA) is a set of rules established through negotiations involving 11 economies including Japan, the United States, and the EU. A similar approach in plurilateral EPA initiatives, which can include negotiations on liberalization, may lead to more detailed rulemaking. In terms of making rules complementary to WTO agreements, the greater the number of countries involved, the greater is the efficiency of the resulting rules. Thus, plurilateral EPAs generate incentives for countries to make common rules.

From the viewpoint of promoting liberalization and the development and deepening of the international trade order, plurilateral EPAs offer greater benefits than bilateral ones. Furthermore, when concluded by a group of neighboring countries as in ASEAN+3 and ASEAN+6, plurilateral EPAs, combined with low logistics costs thanks to the geographic proximity of member economies, can strengthen the regional unity. Given the current status of supply chain networks that include India and Australia, ASEAN+6 has a clear advantage over ASEAN+3, and it is needless to say that the TPP will contribute to the improvement of supply chain efficiency in the Asia-Pacific region.

In seeking to realize plurilateral EPAs, we must ensure that we give careful consideration to what should be incorporated into rules. Their benefits would be reduced by half if we simply use them as a means to introduce cumulative rules of origin. What is important is to propose rules that can efficiently complement WTO agreements.

Japan lags behind the United States and Europe in its ability to work out rules that accommodate its own needs. Companies operating in ASEAN countries have been complaining about non-commercial activities by Chinese state-owned enterprises. The U.S. government was the first to identify the needs of businesses from such complaints, devise rules to address their concerns, and make them subject to the TPP negotiations. Unfortunately, the Japanese government has been slow to act in this regard. However, in the case of the ACTA, the Japanese government had initiated the idea and led negotiations. Whether or not Japan can take a lead in plurilateral EPAs hinges on its ability to present ideas that can drive negotiations.

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Involving too many countries in negotiations for plurilateral EPAs can create a situation that may be described as a compact version of the WTO, where an adjustment of conflicting interests can be formidably time-consuming. This is eloquently illustrated by the fact that negotiations for the Free Trade Areas of the Americas (FTAA), launched in 1994, came to a dead end in 2004 as the United States and Brazil failed to reconcile their differences over agricultural subsidies.

Usually, bilateral EPAs allow negotiating countries to reflect their respective needs and circumstances in a fine-tuned manner, take a relatively short period of time to conclude negotiations, and can be amended fairly easily. In contrast, in the case of plurilateral EPAs, their success or failure usually hinges on whether negotiating parties can offer ideas enabling the formation of such arrangements and whether there are fairly good prospects for concluding negotiations in a reasonably short period of time. In light of these observations, we can see some rationality in the Japanese government's double-track approach to move ahead with bilateral initiatives where possible while at the same time seeking to conclude plurilateral EPAs.

>> Original text in Japanese

* Translated by RIETI.

June 21, 2012 Nihon Keizai Shimbun

July 24, 2012

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