The Pacific Alliance Turns 3

I was asked to speak this morning at an event from the Latin American Chamber of Commerce in Singapore about the Pacific Alliance (PA) and ASEAN.  There are several striking things about the Pacific Alliance that makes the topic worthy of another blog post this week.

 The Pacific Alliance has brought together four economies in Latin America:  Mexico, Columbia, Peru and Chile. 

The first interesting point to make about the Pacific Alliance is that it is a relative newcomer.   The first week of June, in fact, marks the 3 year anniversary of the launch of the Framework Agreement.  This agreement will be fully in force in early 2016, as domestic procedures to bring it online remain to be sorted.

Second, despite its relative youth, the Alliance has been attracting a surprising amount of attention.  More than 30 other countries have flocked to become observers.   The Alliance has also attracted the attention of its own neighbors, with membership in the cards for several. Costa Rica, for example, has already completed the accession process and is awaiting confirmation of membership from their Parliament.  Panama is in the queue.

To understand the reasons for such intense interest in the PA, it is necessary to look at the sweeping ambition in the organization.  The guiding principles are a commitment to democracy and free trade.  In order to join, members must have in place existing free trade agreements (FTAs) with other members. 

The 8th summit in February 2014 saw members agreeing to drop tariffs to zero just over 90% of products, with the remainder to be phased out over time.  Many of the tariffs between PA members are already low or zero as a result of existing FTAs.

But the PA does not stop at tariff reductions.  It includes interesting and innovative rules of origin (ROOs) that make it relatively easy for firms to use the trade protocol as well as trade and investment promotion efforts.  Regional agreements are easier to use and more beneficial for businesses than bilateral trade arrangements.

Members are also moving towards the free movement of goods, services, capital and people.

In many ways, the sweeping goals of the PA mirror those of ASEAN.  Under the ASEAN Economic Community (AEC), leaders in Southeast Asia have promised free movement of goods, services, investment, skilled labor and freer movement of capital.  The AEC is meant to come into force later this year after more than 20 years of steady progress towards the goal of deeper economic engagement between member states.

To be clear, neither the PA nor the AEC will actually achieve these grand ambitions in the near term.  To reach free movement of goods and services requires a host of complementary policies beyond just dropping tariffs.  At the moment, neither ASEAN nor the PA have implemented many of these supplementary policies. 

But part of what makes the PA worthy of note is how quickly members are moving towards their goals.  For example, the members have dropped visa requirements already, allowing citizens to flow freely as tourists and conduct short-term business visits between PA countries.  The goal is even more ambitious—to allow outside tourists and investors to get one Pacific Alliance visa to cover all members (like the Schengen agreement in Europe) as well as to increase the length of time granted for visa entry to businesses. 

Another notable achievement is the pooling of activities designed to reflect deep integration across members.  The opening of the Latin American Market (MILA) is especially striking, as it brings together stock markets.  Over time, MILA is likely to move towards joint stock listings.  In Singapore and elsewhere, even embassies are joining up—one facility to host multiple members.  

Again, to be clear, ASEAN has no plans underway to either integrate its stock markets or to pool sovereignty to the extent of sharing embassies overseas.  While ASEAN has visa-free tourist travel, it does not intend to create a joint visa or to scrap domestic immigration rules that govern long-term employment entry.

So why have the PA members taken such bold steps towards integration?  Largely because leaders have recognized the structure of the global economy today.  In a world increasingly connected by global value chains or supply chains, it is becoming ever more critical to countries to meaningfully lower barriers to integration.   Current PA members have signed multiple free trade agreements already as part of a process of joining value chains to help spur economic development and growth in the region. 

PA members have had to contend with low levels of integration across Latin America.  Problematic infrastructure, challenging geography, and historical legacies have limited the connections between countries in the region.  The low level of integration with neighbors has made it hard for businesses to plug into value chains. 

Hence from the beginning, PA members have had two objectives—to increase connectivity within PA countries and to attract investment, especially from Asia.  This will allow PA companies to increasingly plug into value chains already active in Asia and to develop new linkages across the region.

Currently, neither ASEAN nor the PA actually trade very much with their own members.  The figures for inter-Latin American trade are extremely low.  Trade levels between PA countries are equally small—in the single digits.  After more than 20 years of integration, the figures for inter-ASEAN trade remain stubbornly stuck at less than 25%. 

On the bright side, the opportunities for improvement in inter-regional trade and investment are significant.  Limited levels of integration should also reduce the pressure on governments from businesses and the market.  ASEAN shows that even with extensive discussions about regional integration and repeated efforts to open markets to one another, the level of direct competition between members may remain relatively muted. 

For the PA, this trend is likely to continue.  The relative lack of infrastructure to connect the markets of members and the sheer geographical distances involved suggest that even completely open markets may not lead to extensive inter-PA trade.  Instead, the objective has to remain building strong linkages with other partners in Asia and to encourage the creation of value chains between Latin American members as well as those that span the Pacific.

This is likely to be hard to do given the current, weak institutional structure of the PA.  Now, leaders largely direct the Alliance from the top.  But it is hard to get serious about implementation without an institution of some sort to pay attention to the nitty gritty details that are critical to real success.  Working groups (19 technical groups already exist) and the use of committees with members and with observers can rapidly get unwieldy. 

However, a focus on meeting the objectives of the PA is likely to be sustained and reinforced by activities elsewhere.  In particular, member commitments to openness and integration are reinforced by promises made in the Trans-Pacific Partnership (TPP).  So far, three PA members (Mexico, Peru and Chile) are also involved in TPP negotiations with four ASEAN countries (Brunei, Vietnam, Malaysia and Singapore).  Between the PA and the TPP, member governments are likely to have a laser-like focus on implementing the kinds of rules and regulatory changes needed to foster the development of value chains for goods and services across the region.

Hence, as the Pacific Alliance heads towards its third anniversary, the future looks bright.  The level of commitment to the goals of freer trade has been enthusiastically embraced by the highest levels of government.  Sustained interest by outside partners suggests that the hunger for improved economic growth and opportunities will continue into the future.

Where Does Trade Fit on Corporate Organization Charts?

In a previous post I highlighted how a European company could take advantage of the benefits of trade agreements like the Trans-Pacific Partnership (TPP).   As long as products are substantially transformed in TPP member markets for shipment to TPP markets, a company can most likely use this trade agreement.  The ownership structure or location of the headquarters for a firm is not relevant. 

I explained this to a company staff member in my office.  The person nodded and said, “Very interesting.  But I don’t know who I should even tell about this.  I don’t think we have anyone inside our company that pays attention to trade.”

This is a very disheartening statement.  I mentioned it later when meeting with an industry association.  They promptly leapt up and said, “We agree.  Let us show you the organizational chart of our typical member companies in this region.” 

On the conference room white board, the association drew a chart that highlighted the following types of corporate functions underneath the regional CEO:  manufacturing, procurement, human resources, supply chain/logistics, public relations/corporate communications, government relations/regulatory affairs, marketing/sales, legal, and finance. 

I’m sure this is not the whole chart, but the primary point was that trade does not figure in the typical organizational structure.  It is not really government relations or regulatory affairs.  (An earlier post highlighted that many firms in the region also do not have either position—to the detriments of both firms and governments.) 

The supply chain/logistics or procurement departments might be sensible places for paying attention to trade agreements and tracking the benefits offered by one agreement over another.  But this does not seem to quite happen in these positions either.  Nor are many of the line staff in these departments often in a position to advocate changes for the firm as a whole to take better advantage of trade agreements. 

Trade could, of course, be handled by someone back at headquarters.  It might be possible to keep up with events from some other location in the world.  However, I sit in Asia and focus on trade full-time.  I often struggle to keep up to date on what is happening.  It’s so complicated that we cannot even agree on how many trade agreements exist that include members from Asia—150?  200? How many more are under negotiation?

I cannot imagine that someone not even in the region would be able to do the job particularly well.  Or that someone charged with managing trade across a global company could pay sufficient attention to the fluid nature of trade in Asia as well as other regions.

So, at the end of the day, who in any given company is supposed to pay attention to trade?  The answer seems to be no one in particular even at the very largest and most globally competitive firms.

This may not have been a problem as recently as 10 years ago.  At that time, alternate trade agreements were limited in number and in scope.  Nearly all trade arrangements were global—tariff levels, for example, were set through multilateral trade negotiations and applied to every member of the GATT/WTO.  If countries opted to unilaterally adjust tariff rates or to alter applied rates, these changes also applied to every GATT/WTO member. 

Hence it was not strictly necessary to have anyone paying attention to trade policy.  Whatever policies were announced by governments would apply to your own firm and all potential competitors.  Firms could still try to influence future policies, particularly at the domestic and regulatory levels, but ignoring trade negotiations and agreements would not have had significant negative consequences.

However, as trade agreements have proliferated and then became deeper and more complicated, leaving people with trade expertise off the organizational charts of major companies is an increasingly poor idea.  The potential economic gains for a firm from using trade agreements well should more than offset the addition of extra headcount.

Savvy firms are reaching out to consultant companies to help them structure supply chains to take advantage of specific trade arrangements.  With all due respect to consulting colleagues, most are likely to charge a lot of money and may deliver modest benefits to the firm.  This is not because these individuals are not smart, capable people with useful backgrounds, but mostly because they will not have a deep grasp of the firm or the industry sector.  Or, the consultants may not have sufficient knowledge of different trade agreements.  Technology might be a useful asset, but it also does not negate the need for someone with expertise on staff.

To get the most out of proliferating trade agreements that offer different sets of benefits to firms, companies have to think carefully about all elements of their supply chains and about current and future destinations for goods and services.  Factories should be placed, for example, not just in specific locations because they can service the local market but because this location provides additional useful benefits. 

For the company that started this chain of thought, it already has factories in Malaysia and Vietnam.  Both of these facilities should be planning ahead for potential benefits that could come from exporting out of these locations and into other TPP members once the TPP comes into force.  For the factories currently located in Thailand and Indonesia, if the firm chose to push, much of the production in these facilities might be shipped to customers across 16 countries in Asia after the Regional Comprehensive Economic Partnership (RCEP) is concluded.

But—and this is a key point—in the absence of anyone paying attention to trade at the firm, the company is not actively engaged with officials negotiating RCEP.  Hence the final agreement may not be as useful for the firm as it might have been.  After all, the government officials negotiating in RCEP may not even recognize the importance of opening this sector or know about the specific barriers the company faces.

Although the firm is a large multinational, the factories in all four ASEAN countries source nearly all of their supplies from local producers.  Most of these producers are small enterprises or family businesses.  Many of the retailers of the company’s final products in the region are also small enterprises.  Hence, a trade agreement that smoothes barriers to entry and exit for the firm’s products should bring about substantial benefits to the small firms that depend on the multinational company as a buyer or supplier. 

These smaller firms and family businesses will not be explaining benefits of better trade facilitation or connectivity to governments.  It falls largely to big companies to make their case.  But without anyone in even the larger firms to pay attention to current and future trade issues, many potential benefits will likely be lost.

***Talking Trade is a blog post written by Deborah Elms, Executive Director, Asian Trade Centre, Singapore***

When Business Sits at the Table in APEC

Boracay, Philippines—One complaint frequently expressed by business is that governments keep making trade policy decisions without sufficient input from companies.  Government officials often remark that businesses are not providing sufficient feedback into the policy process.

Asia Pacific Economic Cooperation (APEC) is supposed to help sort out these issues by deliberately providing seats at the table for both business and government.  APEC does this in multiple ways.  Two prominent examples are the use of the APEC Business Advisory Council (ABAC) and providing opportunities for companies to participate in the myriad meetings and sideline events attached to different APEC officials meetings.

ABAC meets four times per year in shifting locations around the world and provides its’ own recommendations to the leaders of the 21 APEC member economies at the end of each year.  APEC officials gather in the host country for three rounds of senior officials meetings, plus the final jamboree of leaders and trade ministers towards the end of the year. 

I have now attended several different meetings of these sorts and I can clearly see the difficulties that both sides have in communicating with one another.  I believe I have gone to enough events and spoken to sufficient numbers of people about their own experiences to draw some preliminary conclusions about the process, but not so many that I have become an insider.  

APEC is an extraordinarily complex animal.  There is not, as far as I know, an organizational chart that maps out the various working groups, committees, consultative mechanisms, and projects that are underway at any given time.  If there were such a chart, it would be so jammed up with lines and boxes that it may not make sense. 

The institution comes with its own jargon.  This is a terribly complex mix of trade terms, language drawn from business, and a set of acronyms that would make any military proud.  It can be so complicated that even long-time participants in the system cannot recall the meaning of all the abbreviations without looking them up.

Of course, lots of different organizations use specific jargon.  Yet the closest equivalent body I can think of—the World Trade Organization (WTO)—doesn’t seem to have quite the same level of jargon plus acronyms plus often detailed technical content under discussion.  I sometimes found the WTO to be impenetrable, until I sat in on these APEC meetings.  Now I feel particular fondness for conversations in Geneva at the WTO.

If I am struggling with managing the information and APEC-speak, I can only guess at the challenges that face the business leader that pitches up an APEC meeting.  With no one to put things into context and what appears to be an inability to translate some of the worst acronyms into normal language, I suspect that many extremely capable business leaders are mostly lost.  Everything is in English, which does not help.  Even most of the slides that were presented at the events I attended were not helpful—too small to read, whipping by at too fast a speed to comprehend, and without hard copies (or downloadable files) always available. 

The next set of barriers to communication could be put down to meeting formats.  Business leaders expect (or at least hope to achieve) clear and crisp meetings with specific action items identified.  This format does not exactly appear compatible with APEC (or maybe government meetings in general?).  In any case, the objectives of meetings are not always clear.  The deliverables may not be spelled out.  Or, they might be obvious to someone who has attended multiple meetings and understands the unspoken subtext of the meeting.  But I could certainly imagine frustration by some businesses about the loss of a whole day or more in a meandering, apparently pointless set of meetings.

One mechanism for including business has been to invite business leaders to serve as speakers.  This approach also has drawbacks.  Absent clear instructions about what is supposed to be accomplished by the speaker, many firms show up and basically give a short infomercial about their company.  (Before I upset anyone, I should note that this complaint was made frequently about presenters at meetings I did not attend.) 

If feedback is needed on policy documents, the materials have to be circulated sufficiently far in advance.  Then some guidance should be given to help businesses understand the context for the materials as well as specific areas of focus.  An open ended, “Please give us your feedback” is probably not going to solicit helpful remarks.  Asking for reactions to technical briefings from the business community on the spot are also not likely to yield much in the way of truly useful comment.  Firms can provide ample input, but need time and structure to do so effectively.

Public-private partnership models of all sorts seem to be currently in vogue.  However, businesses seem extremely unclear about what sorts of inputs they are expected to provide to these projects and meetings.  Without meaningful solicitation of ideas and a format or structure that aligns with their company interests, firms will simply stop attending.

Attendance problems are compounded when APEC meetings are held in locations that are not easy to reach.  For SOMII (the second Senior Officials Meeting of the year), the Philippine hosts selected Boracay as the venue.  Boracay is a challenge to reach.  Most participants flew into Manila and then changed planes.  The island of Boracay is serviced by two different airports.  One is 2 hours away from the ferry terminal by car.  The other airport is closer, but in both cases, participants had to be loaded onto boats for the short crossing to the island.   From there, participants were sorted into vans.  While Boracay has lots of hotels, none are big enough to host the number of delegates needed.  Participants have been spread across the whole of the island in a variety of venues.  All need to be shuttled between hotels all day long.

Thus a business leader that wanted to attend one meeting would have to give up at least 3 days to do so.  For that kind of commitment, business expects to at least get some clear outcome and see progress being made.  This is, as even many APEC groupies admit, not always obvious.

Smaller companies are unable to attend at all.  Between the time commitment and the costs of getting to places like Boracay, small firms simply give the whole process a miss.   The only way to encourage small and medium sized (SME) firms to participate is to hold carefully structured meetings (with no jargon or APEC-speak allowed) in locations like capital cities where SMEs congregate. 

Getting businesses to sit at the table may not be so difficult.  Firms understand the potential power of APEC to shape the economic environment in a key part of the world.  They want to be engaged.  They are often eager to attend.  The real challenge is getting business leaders to attend more than once.  For meaningful engagement between government and business, APEC has to keep people coming and provide them with all with clear, helpful and constructive roles to play. 

*** Two other points worth noting here related to trade:

The Senate last week voted to start the debate about Trade Promotion Authority (TPA).  This was not, as some people thought, the same thing as approving TPA.  The fight in DC has been over which amendments to the TPA bill will be allowed before the final vote.  Of critical importance is limiting the number of amendments, since the Senate bill was written to match similar legislation in the House of Representatives.  If there are differences between the two bills, these have to be reconciled. 

Again, if the fight were merely about TPA, timing would not matter so much.  But negotiators are sitting in Guam right now trying to iron out the remaining differences in the Trans-Pacific Partnership (TPP) negotiations.  Trade ministers are planning to leave Boracay and join them next week.  Absent TPA, it may prove to be a long, tiring trip for little purpose since most are not willing to put final offers on the table unless and until the Americans are ready.

Second, I am going to add a shameless plug for our work in the Asian Trade Centre.  We have been asked to help demonstrate that businesses and other stakeholders have an interest in greater participation in the parallel trade negotiations in Asia, the Regional Comprehensive Economic Partnership (RCEP).  We are still coordinating our plans, but if there are stakeholders out there that are interested in at seat at the table (or standing in the room) in RCEP, it would be great if you could contact me (elms@asiantradecentre.org).  Thanks!

***Talking Trade is a blog post written by Deborah Elms, Executive Director, Asian Trade Centre, Singapore***

The TPA Vote: The Day America Stopped Leading on Trade?

The U.S. Senate’s apparent inability to proceed with Trade Promotion Authority (TPA) may represent the day when the Americans conceded leadership on global trade. 

The vote that blocked consideration of TPA highlights to the rest of the world that the Americans cannot be counted on to get things done any more. The Trade Promotion Authority (TPA) bill is not just about the Trans-Pacific Partnership (TPP). 

TPA is meant to cover a set of extremely important, next generation, trade deals with: the 11 other parties in the TPP; up to 19 members in an expanded TPP by 2020; the Europeans in TTIP; more than two dozen countries in services (TiSA); a hugely important grouping of members in the information technology space (ITA2); with China and others over opening up government procurement markets in a clear and transparent manner (GPA2); more than 160 countries in implementing new rules to move goods faster and cheaper across borders (the WTO Bali deal on trade facilitation); and anything else that might begin negotiations in the next 5 years.

The Senate had an opportunity to outline their primary objectives and allow the Executive Branch to see what is the best possible deal that could be gained.  Afterwards, Congress will vote on each individual agreement after consultations along the way.

These ought to have been key objectives for every member of both parties.  Yet some members in the Senate have allowed misinformation to guide their thinking.  Most damaging has been a set of arguments about currency manipulation, disguised as a discussion about "enforcement" or "enforceable provisions."  The agreements currently on the table--all of them, but especially the TPP--already have extremely strong enforcement provisions built in.  These help to ensure that participating members in each deal follow the rules.

Currency manipulation is not about enforcement of a trade deal.  It is simply a bad idea.  It is not workable and will not address the supposed problem.  Even worse, the collateral damage might end up ensnaring the United States by preventing actions that the Americans may want to take in the future.  

But insisting on including this set of rules alongside the TPA debate just illustrates the nature of the debate in Washington.  It is not about creating helpful rules to guide trade in the next five years.  It is about following narrow, domestic partisan interests and using flawed arguments. 

In the end, it also shows the rest of the world that the United States cannot be viewed as a trusted partner because--no matter how much you bend to accommodate the Americans in a negotiation--they will always add one more bitter pill and insist that you swallow it.  Even then, passage of the final deal is never assured.  

The TPA legislative vote has been cast by the White House as a “procedural issue.”  It is true that the specific problem in voting was whether or not the TPA bill could be considered on its own, or in conjunction with three other bills.  One is presumably not controversial—to renew ongoing trade programs with Africa.  One is to provide worker training for workers harmed by trade (Trade Adjustment Assistance or TAA).  Finally, the worst idea on the table, of having something with currency manipulation as a key objective in (all?) trade agreements.

While Washington has gotten stuck in partisan battles over TPA, the timing for TPP has only gotten worse.  This agreement does not just include the United States.  Delays over TPA have held up the conclusion of the TPP.  If the Americans end up unable to pass the implementing legislation on the TPP until after the next election in 2017, other members may also face similar domestic challenges between now and then that permanently stop the TPP.

By 2017, who knows what will have changed in the other TPP members?  Canada votes in an apparently close election in October.  The Japanese Prime Minister has staked a great deal on the TPP and his tenure length is unknown.  Chile just reshuffled the cabinet.  The domestic scene in Malaysia is also uncertain.  The Australian Prime Minister has already been forced to survive one vote on his leadership.

This "procedural" issue in the United States Senate over TPA could end up like the proverbial butterfly flapping its wings.  The consequences of this delay could, indeed, reverberate for a long time to come.

***

Let me reprint part of an earlier post to explain again why currency manipulation should never have been an objective and certainly does not deserve to shut the Americans out of a responsible leadership role in trade:

Any sort of currency manipulation clause is unlikely to solve the problem it is ostensibly trying to address.  Worse, in order to ensure that American interests are not undermined, the provisions have to be carefully crafted such that they might never be triggered.  The final point of damage—even if there are virtually no circumstances under which such clauses might be used, America’s trade partners in the TPP might simply refuse to conclude negotiations at all.

So what is the problem so many backers of such legislation are trying to address?  In brief, governments can give a competitive advantage to their export industries if their currency is lower in value than their export partners.  The difference in currency values effectively makes imported goods cheaper in the foreign market, encouraging consumers and producers to buy more, relatively cheaper, foreign goods than relatively more expensive domestic items. 

How would a government go about making this happen?  If a government intervenes in currency markets, it can drive down demand for its own currency (or drive up demand for foreign currencies) by buying and selling currency.  

Another way to accomplish the same thing is to print more money domestically.  If there is more money in circulation now, the value of any given note is lower.  However, governments engaged in such behavior often argue that such policies are not aimed specifically at artificially depressing the value of the currency for the purpose of generating an unfair trade advantage. Therefore, such behavior is not considered currency manipulation, at least as members of Congress appear to want to define it. 

The purchase of assets by the government can also change the value of currencies, even if the objective is to stimulate the domestic economy.

Singapore loosened monetary policy recently in response to weaker oil prices and low domestic demand.  The government argued it was using one of the primary items in its tool kit to address low inflation, since it does not use interest rates as a tool. 

Thus, governments may have lots of legitimate reasons for adjusting currencies without the specific intention of getting a leg up for exports.

It may be important to note that not every country is able to manipulate currencies.  If the country is small, especially with limited demand, the value of the currency is more likely set by market forces.  A country with limited resources cannot intervene very much to buy or sell currencies.  And, finally, the United States has a unique position in the global economy.  Since the U.S. dollar functions as a reserve currency, it allows the United States to have different options than anyone else in the markets (for the moment, at least, but that is another story).   Let me also note that because of this position, the United States does not have to intervene in currency markets like anyone else.

Efforts to stop countries from “unfairly manipulating” their currency will not work. 

There are many reasons why not, but start with the fact that most countries in a position to manipulate currencies also have complex economies.  These economies rely on both exports and imports.  For many firms, exports can only be produced with imported content.  By depressing the value of the currency to make exports cheaper, imports become more expensive.  As a result, firms may not actually be competitive in the export market since the price of imported content of the final goods might be more than offset by whatever the discount on the export side might be.

Equally key, for the most complex products, the value of the benefit from a depressed currency is likely to be small.  Consider an i-Pod, for instance.  Imagine that China were, in fact, manipulating their currency to a massive extent—say 50% off the presumed “normal” value of the yuan.   In this hypothetical context, it might appear that Chinese intervention is dramatically affecting the price of the device in the American market.  But, in fact, the total amount of Chinese content in an i-Pod could be as little as $4 of the $150 sales price.  Thus, the extent of the “unfair” advantage of Chinese currency might make a whole $2 difference to the final buyer.

Recall that this example gives figures for a truly exceptional rate of currency intervention at 50%.  The actual extent of manipulation is likely to be considerably smaller.  This means that the total price difference could be literally pennies.

While other products may not show such dramatic figures, the point is that—in most complex, higher value items—the content is likely to be provided by multiple countries.  As a result, even crazy high manipulation is unlikely to affect the final price very much. 

The Big 3 auto companies are driving the issue of currency manipulation in Washington.  But a car in the modern, globalized economy is very much like an i-Pod.  Even if you could determine that a China or a Japan was intervening to depress currency prices by a lot, the total difference in the price of a finished car is still likely to be much more modest than people realize.

To make this pressure by the Big 3 auto companies more surprising, many of the cars sold in the United States today are actually manufactured in whole or part in the United States (or NAFTA countries).  Thus, the value of potential manipulation on the total cost of a car is small. 

Practically speaking, a currency manipulation clause has additional challenges.  How can the specific amount of currency tweaking be measured?  Currencies change regularly in the open market, so a trade agreement has to take this into account somehow.  Even in the alleged cases of Japanese or Chinese manipulation, few could agree on the extent of intervention—was it 10 or 45% or something in between?

What is the appropriate response to such intervention?  Even if a trade agreement could specify the triggers for determining manipulation, then what?  Many of the proposed “solutions” appear to run afoul of other laws and regulations.

The United States, clearly, does not want to become ensnared in its own rules either.  Depending on how defined, basic American policy in the independent Federal Reserve could be challenged by foreign governments.  Problems like this make whatever provisions that might end up in trade agreements so tightly restrictive that they can never be applied or it might mean that the United States breaches the rules and argues for non-intervention in its own affairs. 

Finally, none of the specific partners currently negotiating the TPP are keen to see rules on currency manipulation included.  This agreement has been under discussion for more than five years.  To add a controversial (to put it mildly) item so late in the game is to risk imploding the whole deal.

Some may argue that TPP partners have already accepted proposals and provisions that they do not like.  What is different about currency manipulation from other American ideas?  At some point, however, pushing too hard may make others snap.  This is likely to be that point.  Adding a very unpopular and unworkable idea like currency manipulation clauses into the TPP mix at this late day is a truly dreadful idea that should be discarded immediately.

***Talking Trade is a blog written by Deborah Elms, Executive Director, Asian Trade Centre, Singapore***

Using Trade Deals for Non-Members

I met this week with a European company.  Their firm has an extensive global footprint, including factories in Vietnam, Malaysia, Thailand and Indonesia. 

Because they are producing products out of Vietnam and Malaysia, I asked about whether the firm has been following the Trans-Pacific Partnership (TPP) negotiations.  Both countries are members of the TPP and many of the company’s final consumers can be found in other TPP members like Singapore and Japan.

“No.  We are a European company, so we didn’t think we could use the TPP.”

This is actually a common answer, but it is not necessarily true.  Many firms can take advantage of the TPP’s benefits, regardless of the location of company incorporation.

Rather than worry about the ownership structure of the company, firms need to consider whether they “substantially transform” products in TPP members or deliver services or hold physical investments in member countries.  This is not unique to the TPP, as the same thing holds true for other trade agreements like the ASEAN Economic Community (AEC), bilateral deals, and future regional agreements.

Admittedly, this can be complicated, but the potential benefits to firms from getting this right can be significant.  Other companies can also get cheaper supplies and inputs from using agreements like the TPP.  Consumers in member countries can receive a greater variety of products at different price points as well.

Go back to the European firm.  The factories in Vietnam and Malaysia make extensive or even exclusive use of raw materials sourced domestically.  These inputs are then used to create the company’s final products. 

Trade agreements come with rules (Rules of Origin or ROOs) that are designed to keep non-member firms from taking advantage of the preferences granted by the deal.  After all, if a non-member could simply trans-ship items through a member and get better benefits, the purpose of the trade deal would be lost for member country firms. 

Companies cannot just engage in simple repackaging, minor assembly, break down bulk shipments into smaller quantities or add several items together in a package to make a different item, to gain access to the agreement either.  Instead, items must be substantially transformed in a member country to qualify under the rules for preferences.

Here is where life can get complicated.  Each trade agreement has different rules for what constitutes substantial transformation.  The two main rules are value content (VC) and change in tariff heading or tariff classification (CTH or CTC). 

For most ASEAN agreements, governments have used regional value content (RVC) rules.  This requires a certain percentage of the final good to be made with content (materials and labor) from member countries.  Generally, the percentage is set at 40% or greater. 

In other words, what matters is not whether or not the company is registered in Holland or Bangladesh, but whether the final good contains at least 40% content sourced from within ASEAN. 

The final item has to be shipped to a member country.  A firm cannot create products with ASEAN content for shipment under ASEAN preferences back into Holland or Bangladesh, since these preferences (benefits like lower tariffs) only apply within member states.

A second method of qualifying for preferences involves a change in tariff heading.  Again, this can be slightly complicated, but put simply if the raw materials and other components or inputs are considered one type of product and end up being exported into other member countries with an entirely different tariff heading, the product can qualify for benefits even if the value content is not above 40%.

As an example, consider the production of beer.  If the agreement allows the use of CTC or CTH rules, the raw materials of water and hops and so forth are transformed into a different product—beer.  Since water, hops and other items are classified differently than beer, the product can be eligible for benefits under the trade agreement.

It does not matter whether the company producing beer is headquartered in the country of production.  What matters is the location of the factory (in a member country), the ingredient sourcing for RVC or transformation in tariff heading rules, and the final destination of the products (for sale in a member country).

What sounds relatively simple can be unnecessarily complicated at the outset, of course, as firms have to comb through agreements to see what rules apply for which products into which markets.  For example, even CTC rules can vary as officials may select different levels of aggregation in tariff headings (2, 4 or 6 digit level changes in tariff classifications are required). 

For the European firm I was meeting, however, no matter how the rules are calculated, production with nearly 100% local content combined with final products that should qualify under CTC rules no matter how such tariff rules are calculated, the company ought to have no problems taking advantage of the TPP once it is signed and enters into force. 

Hence the company ought to be taking an active interest in, and planning ahead for, the entry into force of the TPP.  Despite being a European company in registration and brands, the local factory production from Malaysia and Vietnam should be eligible for the lower tariff rates coming in the TPP.  In the sector for this firm, these benefits—particularly tariff reductions from current levels—should be substantial as well, since this industry faces substantial tariff obstacles in most countries in the region.

Stay tuned for future posts on some reasons why firms do not seem to take advantage of these benefits and why the system as a whole does not benefit from the proliferation of bilateral and regional trade agreements.

***Talking Trade is a blog post written by Deborah Elms, Executive Director, Asian Trade Centre, Singapore***