The future of AFTA amid rapid trade change

Hans W. Vriens, Managing Director, APCO Indonesia

These days few international organizations are being courted by more countries than the Association of Southeast Asian Nations. China, India, and Japan have all agreed to start negotiating separate free trade agreements with the Association of Southeast Asian Nations (ASEAN). South Korea is considering following suit. Australia and New Zealand want to negotiate a "Closer Economic Partnership".

Time will tell if these agreements-to-start-negotiations will ever lead to genuine free trade deals or go the same way as the Asia Pacific Economic Cooperation forum (APEC). Once upon a time the 21 members of APEC pledged to eliminate all tariffs among its developed members by 2010 and by 2015 for its poorer brethren.

Little is heard any more about the lofty ideals of this hotchpotch of countries from both sides of the Pacific. Few could have seriously believed that Russia, Japan, China and the U.S. would eliminate all tariffs.

It still surprises me that anybody could keep a straight face when president Soeharto pledged in 1994 to abolish all tariffs for APEC members. This would have meant that Soeharto would have had to abandon his cherished economic model of handing out special deals to friends and family.

ASEAN, though, is a far different case. And it's illustrated by the fact that Japan, China, South Korea, Australia and New Zealand have all come courting. The courtship is a reflection of the successful implementation of ASEAN's Free Trade Area, or AFTA, at the beginning of this year.

It also shows that Japan, China, as well as South Korea, and Australia, and New Zealand don't view ASEAN as a threat.

Indeed, Southeast Asia has always been much more open to foreign cultures and open to trade than Northeast Asia. It also shows that ASEAN has successfully made the transition from a political organization toward an economic community of nations -- a shift badly needed in its attempt to stop the drain of foreign direct investment into China.

AFTA brings ASEAN a big step closer towards regional economic integration. The agreement reflects a vision for the integration of ASEAN economies into a single and powerful market of half a billion people.

AFTA has already done its reality check. On Jan. 1, the first six signatories to the AFTA agreement -- Brunei, Indonesia, Malaysia, the Philippines, Singapore and Thailand -- reduced tariffs to between zero and 5 percent on about 96 percent of products traded among them.

The result is that for trade in goods, the six older ASEAN members are already in an effective free trade area. The four newer members are not too far away. Vietnam is expected to reach its tariff elimination target in 2006, Laos and Burma in 2008 and Cambodia in 2010.

What does this mean for business?

The introduction of AFTA is rapidly leading to a reorganization and rationalization of production facilities by manufacturers who view AFTA more and more as a single market. In sectors like electronics, Southeast Asia is already a single economic space, where components made in various parts of the region are freely traded. Companies like Nestle and Unilever have already reorganized their production in AFTA-land.

On a recent trip to Manila, Anthony Burgmans, chairman of Unilever, said that it now makes economic sense to stop producing everything in every country in Southeast Asia, which was once necessary to avoid import duties. With the evolving realization of AFTA, it now makes more sense to divide the work. In the case of Unilever, the Philippines will be developed as an export base for its detergent and deodorant brands to serve all of Southeast Asia, the Pacific and even beyond.

Economies of scale, quite simply, mean operational cost savings. It means fewer factories in the region producing increased amounts, for less. It also means larger orders, improved purchasing power and lower transportation and distribution costs. Those efficiencies will be reflected not just on the corporate bottom line region, but in increased investment, which means more jobs.

Ford is another example of the potential of AFTA to integrate production across borders. Joint manufacturing activities across borders coupled with increasingly low tariff rates effectively eliminates duplicated factories and duplicated warehouses full of spare parts. The result -- a major investment by Ford in two key countries-Thailand and the Philippines. Again, what we get is a sneak preview of a full-fledged AFTA - product complementation, plant rationalization and economies of scale.

However, this is still just a sneak preview.

ASEAN is now at a crossroads, half way between the dream of AFTA and the reality of a single market. To realize its goal, ASEAN now needs a demonstration of political will by its member states to push on with the harder measures that will consolidate the ASEAN Economic Community.

ASEAN must do more to accelerate the elimination of tariffs and ensure compliance with tariff reduction schedules. The agreement at the ASEAN economic ministers meeting in early September to establish a permanent body to monitor and ensure compliance with tariff reductions will assist in these efforts.

For instance, ministers agreed that by the end of this year, tariffs will be reduced to below 5 percent for products where ASEAN's older members have, up to now, shown reluctance to make hard cuts, in the automobile parts industry as one example. This welcome decision means that for 100 percent of the products traded among these six members, tariffs will now be set between 0 percent and 5 percent.

But a key issue is whether ASEAN members can go beyond simple tariff cutting. Non- tariff barriers still need to be reduced. It is positive to note that a plan on the elimination of non-tariff barriers is currently being finalized. Pace must also be kept in the implementation of harmonization measures so that products tested and certified in one country can be sold in other ASEAN countries without duplicating the process.

This year ASEAN took a significant step towards the liberalization of trade in services with the decision of the ASEAN Economic Ministers to adopt the "10-minus-X" principle in such areas as open-skies transportation policy, telecommunications, financial services and equity investment.

Countries that are ready to open their markets can move forward without having to wait for the rest -- a pragmatic break from the 'proceed together' principle of the past. Just like the European Union, ASEAN is going to move forward at multiple speeds.

The economic and political crisis of 1998 hit Southeast Asia hard. From the darling of the investment community, the region became a near-pariah. This led to the realization that individual countries were no longer in a position to compete, especially not with China. AFTA promises to give ASEAN a new ilan, a new spirit.

It is important to realize that despite all the hubris about China, American companies have invested five times as much in the ASEAN region than in China.

ASEAN clearly has established the foundations for success in a world bound ever closer together. It must now build on that foundation. The countries of Southeast Asia embark on a project that is not only courageous and ambitious, but sorely needed.

(This is a summary of the writer's presentation at the TransASEAN conference in Jakarta on Sept. 20.)