Policy Update 038
The New Global Economic Order and East Asia : From the viewpoint of spatial economics
(Keynote speech at Plenary Session of the 2010 KEA Annual Meeting)
President and Chief Research Officer, RIETI
Professor, Konan University
Adjunct Professor, Institute of Economic Research, Kyoto University
Good afternoon, ladies and gentlemen. My name is Masahisa Fujita, currently the president of the Japanese Economic Association. I am very honored and pleased to be invited today to present the keynote speech at this Annual Meeting of the Korean Economic Association.
Actually, about one and half a year ago, in August 2008, I was invited to the 13 th International Conference of the Korean Economic Association in Seoul, and delivered my congratulatory remarks on behalf of the Japanese Economic Association. At that time, I was the president-elect of the Japanese Economic Association, and in my remarks, I presented the idea that we should try to strengthen the network of academic cooperation among Asian economists for further development of economic research and for exchange of ideas on all issues of common interest. Professor In June Kim, then president-elect of the Korean Economic Association, immediately agreed. Since then, for example, at the special Symposium celebrating the 75 th anniversary of the Japanese Economic Association in Tokyo last October, we had the pleasure of having Professor In June Kim, President of the Korean Economic Association, and Professor Yu Yongding, President of the Chinese Association of World Economics, as keynote speakers, in addition to several other prominent economists from Asia and the United States. Now, today, I am back in Seoul, and very pleased to see again Professor In June Kim and all participants at this meeting. It is my strong belief that this kind of close interaction among Asian economists will be very valuable for further promotion of regional cooperation in Asia and the world.
Now, turning to my presentation, today I would like to present my thoughts on possible future directions of the world economy and East Asia after the current global crisis. To be more precise, the plan of my presentation is as follows. First, from the viewpoint of spatial economics, which is my specialty, I will present my understanding of why we have the current global crisis. Second, I will discuss the necessity for reshaping East Asia and the world economy to move towards balanced development in the future. Third, I will discuss further promotion of regional cooperation for attaining common goals in East Asia. Finally, I will present my ideas for lifting East Asian regional cooperation to the next stage, which I call a "brainpower society."
1. Understanding the global crisis from the viewpoint of spatial economics
Let me start by saying what spatial economics is. Traditionally, we have so-called urban economics focusing on cities, regional economics for the subregions of each country, and international trade theory. However, given that the world economy is becoming increasingly borderless, it becomes inappropriate to apply different analytical frameworks to essentially the same spatial problems. So, since 1990, together with Professor Paul Krugman who received the 2008 Nobel Prize for economic science, we have developed a new analytical framework that unifies and extends all those existing fields to establish the microeconomic theory of agglomeration, which has come to be known as spatial economics, or new economic geography.
The basic approach of spatial economics goes as follows ( figure 1 ). For example, we witness today the spatial structure of Korea with the strong economic dominance of Seoul. Now, how did it come about? Consider two opposing forces: agglomeration forces that tend to pull economic activity towards particular locations, and dispersion forces that tend to push economic activities away from each other. A tug-of-war between these forces drives self-organization of spatial structures. The core-periphery structure consisting of the dominating core like Seoul and the rest of Korea as peripheral regions is a typical consequence *1 .
Figure 1. The basic approach of spatial economics
With changes in the economic environment, such as more advanced transportation and communication technology, and demographic change, the existing spatial structure eventually destabilizes, leading to self-reorganization toward new spatial structures. I understand that today's global crisis reflects a long-term transition of economic geography worldwide. Initially, after the industrial revolution, Europe was the core of the world economy for a long time. Then, during the first half of the 20th century, the United States emerged as the next core. And now, for the last couple of decades, East Asia has been emerging as the third core of the global economy, and it is during this period that the latest global crisis occurred.
To me, an important aspect of today's globalization is the major reduction of transport costs in a broad sense over the last forty years, involving continuous development of information technology, transport technology, and institutional arrangements defined by the WTO or by free trade agreements (FTAs) at the bilateral level. It has greatly facilitated the movement of goods, services, money, information, and people.
From common sense, we may consider that when transport costs have been lowered significantly, then location seems so much less important that a more even distribution of economic activity should come about. However, the reality is the opposite, as Seoul is becoming even stronger as the center in Korea. The core-periphery spatial structure has been strengthening, at least up until 10 years ago. Spatial economics addresses exactly this point.
When transport costs are sufficiently high, producers of goods must be dispersed so that they are close to the local demand. Since the economies of scale are not realized in this case, productivity is low.
When transport costs become sufficiently low, producers can now choose a particular location to supply goods to consumers across the space, as thereby they are able to mobilize scale economies more easily. Most typically, they choose to locate where the local demand is large and export the balance to other locations. Hence, the "home market effect" in new international trade theory also applies here. In spatial economics, we further consider the movement of people. Because many firms locate together, workers will follow suit and as consumers, they create even larger local demand. So we have a snowball effect resulting in major agglomeration.
However, if there is too much agglomeration, as in Seoul, then manufacturing industry starts dispersing. Manufacturing will search for lower-cost locations, for example, in China and other Asian countries. However, dispersion also does not occur spatially evenly. For example, we know that in China only particular locations continue to attract industries. A process that might be called "concentrated dispersion" is occurring both at the global scale and within each country as well.
Given this background, let me present my understanding of why we have the current global crisis. As I already mentioned, the main engine of the recent rapid development of the global economy and world trade is tied to major reductions in broadly defined transport costs. You can see that in figure 2 : from 1930 to today, seafreight transport costs have been steadily decreasing; airfreight costs have been decreasing much faster; and information costs, for instance international telephone costs, are approaching zero *2 . This triggers globalization and, at the same time, localization and regional integration based on agglomeration economies. Perhaps the best tool to see where in the world major agglomerations of economic activity are taking place is in the satellite picture of the earth at night ( figure 3 ). The brightest regions are centered on the United States shaping the North American Free Trade Agreement (NAFTA) area, and in the middle of Europe, extending from Moscow to Lisbon, then to the northern part of Africa. In East Asia, from Hokkaido in northern Japan through South Korea and the eastern part of China, to Jakarta, are the brightest regions. Recently, India has been getting brighter.
Figure 2. Decreasing international transport costs
(Source)METI,2008 White Paper on International Economy and Trade
Figure 3. Regions shine in the night
If you compare the circle area of NAFTA with that of East Asia, you will find they are about the same size. This implies that, given today's state of transport and information technology, this is the natural scale of regional economic integration. Forty years ago, Korea was more or less self-sufficient in production and consumption. Today, our economic space has extended into this circle. We must always keep that in mind when we consider Korean economic policies.
The next figure ( figure 4 ) shows economic concentration in the three regions of the world economy: EU15, NAFTA, and East Asia. In 1980, EU15 had 29 percent of the world GDP, NAFTA 27 percent, and East Asia 14 percent. In total, these three regions already accounted for 70 percent of world GDP. Twenty years later, the share of the EU15 had fallen to 25 percent, while that of NAFTA had increased and East Asia almost doubled. In total, the three regions represented 83 percent of world GDP in 2000. Throughout this period, we saw more agglomeration and more rapid growth of the world economy with both gradual and significant reduction of transport costs promoting the global division of labor. In particular, East Asia has emerged as the manufacturing center of the world, while the United States is the financial center of the world.
Figure 4. GDP growth in EU15, NAFTA, and East Asia
Note:East Asia includes China, Indonesia, Japan, Hong Kong, the Republic of Korea, Malaysia, the Philippines, Singapore, Thailand, and Taiwan.
Source:A. Heston, R. Summers and B. Aten,Penn World Table Version 6.1, Center for International Comparisons at the University of Pennsylvania (CICUP), October 2002.
On the one hand, as is well known, utilizing effectively the very heterogeneous economic conditions of East Asia, which contains countries with highly different stages of economic development and a very large low-wage population, East Asia has developed efficient production networks that integrated various industrial agglomerations throughout the region. Based on these production networks, East Asia produced a broad range of manufacturing goods efficiently and exported them throughout the world at relatively low transport cost. In this way, East Asia has emerged as the manufacturing center of the world, or "the world factory," while achieving the highest economic growth in the world.
On the other hand, transactions of international money are essentially transactions of financial information, that are achievable instantly at nearly zero cost by utilizing modern information technology. Therefore, intrinsically, the international financial industry has a strong tendency for global concentration. In fact, partly due to the overwhelming attraction of the US dollar as the international currency and partly supported by the position of the biggest economy and the strongest military power in the world, the US has emerged as the "world financial center," offering the most attractive financial asset markets in the world.
East Asia as the world factory and the US as the world financial center together worked as the twin-engine of world economic growth, leading to the unprecedented speed of world economic growth over the last 20 years (until 2007), as shown in figure 5 . Unfortunately, however, this rapid growth of the world economy led to the rapid expansion of world trade imbalances. The huge current account surplus of East Asia and oil producing countries was eventually returned back to the US as investments, making up for the enormous US current account deficit while supporting excess consumption in the US. This means that rapid world growth relied on a "bubble-like mechanism," which turned out to be unsustainable. In fact, triggered by the bursting of the US housing bubble in 2007, the resulting financial crisis in the US soon led to a global economic crisis along with rapid contraction of world trade and investment.
Figure 5. The growth rates of world GDP and world exports
Data Source:United Nations statistics
At present, the world economy is somewhat stable after the rapid contraction. The future of the world economy, however, is not predictable, as the present lull is the result of the massive fiscal and monetary stimulus measures taken by the US, China, and other major countries. The collapse of the rapid growth of the world economy based on the bubble-like mechanism left behind huge demand-supply gaps throughout the world. It will not be easy to overcome such demand-supply gaps in the short term. For many years, under international cooperation, careful fiscal and monetary measures will have to be pursued by all countries in order to support labor markets and to recover the activity of private sectors.
2. Reshaping East Asia for sustainable growth
Meanwhile, for the mid- to long-term future, it is necessary to redirect the world economy toward a new, sustainable, balanced-growth path. In achieving such a long-term goal, the most important tasks faced throughout the world are (i) the regaining of global balance in trade and investments, (ii) achieving sustainable growth of Asia, and (iii) promoting the green revolution, and, for Japan, China, and Korea, (iv) maintaining socioeconomic vitality in an aging society. It is important to keep in mind that the successful achievement of all four tasks depends largely on how to realize the sustainable development of East Asia in the long run.
Since the beginning of the industrial revolution in the late 18th century until the early 20th century, Europe was the center of the world economy. Then, in the mid-20th century, which was the era of automobiles and oil, the US emerged as the new core of the world economy. Now, in the 21st century, East Asia is expected to become the growth center of the world economy. In fact, as shown in figure 6 , the GDP of East Asia caught up with that of the US in 2008, far surpassing that of the eurozone. According to IMF estimates, the rapid growth of East Asia, centering on emerging countries such as China and India, will continue in the foreseeable future. It is hoped that Europe, US and East Asia and other regions of the world will develop, through both market competition and international cooperation, new industrial agglomerations by renewing existing ones, while creating new ones based on new technologies (including those for the green society). Based on such a new global division of labor, the world economy should achieve sustainable and balanced growth.
Figure 6. GDP growth of major countries/regions
Data Source:International Monetary Fund, World Economic Outlook Database
East Asia including 18 countries/regions: Japan, China, Korea, Hong Kong, Taiwan, ASEAN10, Australia, New Zealand, India
Focusing on East Asia, until now, East Asia achieved rapid growth through its export-oriented strategy while effectively utilizing abundant low-wage labor. In order for East Asia to lead the sustainable growth of the world economy, the region needs to develop further, not only as the global manufacturing center, but also as part of the global market, as well as a "global innovation center." In this way, East Asia should eventually become a mature socioeconomic region comparable with Europe and the US.
At present, the population of East Asia is more than 3 billion, about half of the world total. However, the urbanization rates in most developing countries in East Asia are rather low (for example, about 50% in China). When the urbanization rates in these countries gradually increase under appropriate regional policy, those countries will be able to achieve high economic growth by effectively utilizing agglomeration economies. Then, with further development of social security systems and other safety nets in these countries, consumption markets of East Asia will also expand greatly. At the same time, by strengthening the asset and bond markets in the entire region, East Asia can expect massive investments in social infrastructure (including region-wide transportation infrastructure) in addition to housing and industrial investments. Furthermore, by effectively utilizing the brainpower of more than 3 billion people, East Asia can develop also as the innovation center of the world.
3. Promoting regional cooperation in East Asia
In order to achieve such common goals of East Asia, it is indispensable to promote regional cooperation for achieving and solving the broad range of region-wide tasks and problems, including those listed in table 1 . Thus far, the economic integration of East Asia resulted mainly through market mechanisms, in which multinational firms have been playing a major role. However, now East Asia has reached a critical stage such that for further promotion of regional integration, developing region-wide political/economic institutions is indispensable.
Table 1. Main tasks for further regional cooperation in East Asia
In developing such a scheme of Asia-wide institutions, we cannot imitate either that of the EU or that of NAFTA. In comparison with the EU and NAFTA, East Asia is a region with huge diversity in many aspects. In particular, income diversity between and within countries and regions in East Asia is huge, reflecting the differences in their stage of economic development. Moreover, East Asia is also quite diverse in its political regimes, religion and culture, ethnicity, and languages.
To promote deeper integration successfully among such diversities, while surrounded by complex international relations involving the US and the rest of the world, East Asia needs to develop gradually and patiently its own political and economic institutions. In other words, while aiming for the distant goal of establishing an East Asian Community, the Asian integration process should rely on the "functional approach" in which each urgent or important task may be pursued separately in its own framework. We should also note that so far, we have addressed region-wide integration by putting ASEAN in the driving seat while China, Korea, and Japan have kept a little bit of distance between each other. For the future development of East Asia, we should earnestly seek bridges to shorten the distances among these three countries because concerted actions, not only economic but also political, by China, Korea, and Japan are essential for successful cooperation in the region.
4. Transforming East Asia from the world factory to the brainpower society
It is also my belief that in order for East Asia to become really the third core-region of the world (in addition to Europe and the US), the region needs to transform itself from the world's factory into the "brainpower society". In most developed countries today, the major economic activity is not the production of goods but the creation of new ideas and knowledge (broadly defined). In the near future, this will become true also for major cities in emerging countries. Thus, East Asia must move to prepare for the brainpower society, combining efficient production networks with strengthened brainpower networks.
Actually, many countries in East Asia are recently moving in the direction of developing a brainpower society. For example, figure 7 shows that by the number of patents granted in 2007, Japan is ranked number one in the world, Korea is third, and China fifth. It also shows that among major countries, Japan has the highest proportion of R&D expenditure to GDP in the world, and Korea is second; although China's R&D expenditure ratio still lags behind those of developed countries, it has recently been increasing rapidly.
Figure 7.The number of patents granted by country, and the expenditure ratio of R&D to GDP in major countries
Although these data show that East Asia is already doing well in terms of R&D expenditure and patents, it would not be possible to advance East Asia to a brainpower society by the efforts of any individual country alone. In the past, many countries in East Asia have been successful in absorbing advanced knowledge from Europe and the US and then modifying and improving it the Asian way. However, what is needed from now on is strong capacity in exploring the frontier of advanced knowledge in various fields. In order to develop such a capacity, East Asia must develop stronger brainpower networks in order to cultivate synergy among heterogeneous brainpower agglomerations in the region.
Figure 8 presents the World Bank data on patent citation in East Asia. It shows that patents produced in East Asia mostly cite patents registered in the US, meaning that the knowledge network hub is still centered in the US.
Figure 8. Patent citation in East Asia
Source:Gil and Kharas 2007,East Asian Renaissance, The World Bank, p.163
For curiosity, I looked through a recent issue of the Japanese Economic Review . and found that most references cited in articles in that issue were from the United States and Europe. There are many Japanese citations as well because it is a Japanese journal, but contributions from Asia are small. So I found a similar pattern to that in the patent data. Given the weak brainpower networks within Asia, we should move toward closer cooperation.
However, if we look at patent citations in the fields of electrical engineering and electronics, where East Asia produces most such goods in the world as we have already observed, patent citations within East Asia are actually very dense. Our economics field must become more like this, building a stronger brainpower network. Furthermore, I think the important issue in developing a brainpower society is brain diversity because the same brains cannot yield synergy. The brain is basically software that does not need duplicates. Synergy through heterogeneous brains is essentially what will constitute the brainpower society.
Finally, I would like to advocate an East Asian renaissance with all three billion people, that is, innovation everywhere involving everybody. Innovation and research and development are not only carried out by academics or laboratories of large companies. In particular, art and culture play an important role. And that is what makes life more interesting. Every region should develop its own diverse culture. That is the real basis of the richness of East Asia.
Let me talk about a new culture that is being developed in Japan. I think one of the biggest recent innovations in Japan is the pop culture created by the young generation. Recently, AERA magazine (June 2009) published a special report on the gal industry revolution . The gal industry centers on so-called "gal's fashion" that attracts young girls of 15 to 22 years old. This is not only a Japanese local phenomenon but it is becoming global involving primarily Asia and partly Europe. And Tokyo, particularly the Shibuya area, is the global center of the gal industry. The Tokyu 109 shopping complex in Shibuya is a sanctuary of gal's fashion, attracting annually about 9 million customers, including those from Asia and Europe. This building is not particularly big, but there are 120 very specialized gal's fashion stores. Each store is small with just about 50 square meters, but they are very specialized, selling only original products of each shop and changing their products weekly. Many products sold here are not imported but made in the suburbs of Tokyo. Because products change weekly, they need to be made nearby. Since average annual sales of each small shop amount to 3 million dollars, this small building's combined sales are about 400 million dollars per year.
The gal industry is not only about the fashion garment industry, but it also involves the media industry such as magazine publishers, cartoon writers, and TV dramas. The gal's fashion magazines are not only sold in many convenience stores in Japan but they are translated into foreign languages and published in China, Thailand, and other Asian countries. Cultural originality from Japan is influencing East Asia and the world. This is an example of interacting cultures. For a long time, Japan imported from China through the Korean peninsula most of its cultural ideas and innovation. Now, Japan is starting to export. Creation of new ideas and innovation (broadly defined) can be promoted through multidirectional interactions of cultures. I conclude my remarks with my favorite quote in Indonesian " Bin-neka Tunggal Ika ," that is to say, it is unification in diversity that contributes most to world development.
Thank you very much.
- Fujita, Krugman, and Venables (1999) provide a comprehensive theory of spatial economics.
- Transport costs may be growing significantly lower, but they are far from zero. For example, recently I visited a department store in Tianjin and saw the "Sekai Ichi" apple from Aomori (Japan) being sold for 168 yuan, or 2,700 yen, i.e., 3.5 times more expensive than in Japan. Also, the "Doraemon ice candy bar" costs 50 yuan, or 800 yen, i.e., eight times more expensive than in Japan. Although these are special cases, they suggest that transport costs are not unimportant at all. So we still have room for improvement.
- Fujita, M., P. Krugman, and A.J. Venables, 1999, The Spatial Economy: Cities, Regions, and International Trade, Cambridge, MA: MIT Press.
February 16, 2010
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The New Global Economic Order and East Asia : From the viewpoint of spatial economics
(Keynote speech at Plenary Session of the 2010 KEA Annual Meeting)
February 16, 2010［Policy Update］