Development Research Center of China

National Institute for Research Advancement of Japan

Korea Institute for International Economic Policy of Korea

Introduction

The Trilateral Joint Research Project has been undertaken by the Development Research Center of the State Council (DRC) in China, the National Institute for Research Advancement in Japan (NIRA) and the Korea Institute for International Economic Policy (KIEP) since 2001. To date, the three institutes, representing their respective countries, have jointly formulated two sets of policy recommendations concerning the promotion of trade and direct investment in the region, which were submitted to the leaders of China, Japan and Korea at meetings in Brunei respectively in 2001 and Phnom Penh in 2002.

Given the successful completion of the first stage of the joint research project in 2002, the three institutions recommended to the leaders the launch of a new research phase from 2003, studying the topic of "Long-term Economic Vision and Medium-term Policy Directions". The research will be carried out on a step-by-step basis, beginning with the "Economic Effects of Possible Free Trade Area among China, Japan and Korea," as the research theme for 2003.

The concepts presented in the joint policy recommendations formulated thus far have led to progress high-level cooperation among the three countries. A particular success was the establishment in 2002 of a meeting of the economic and trade ministers of the three countries, which was recommended in the report of the joint research project in 2001. Tripartite dialogues have been intensified at all levels, including private business, government and academia. It was recently announced that a visa would be waivered for a short-term entry for business purpose by the Chinese government. All of these mechanisms will contribute to the facilitation of trade and investment in the region.

The policy recommendations in the report have been raised jointly, based on analysis and intensive discussions.

I. Initial Prospect for Macroeconomic Perspective of the Three Countries

1. Recent trends of trade and direct investment in the region

According to various statistical sources, China, Japan and Korea jointly accounted for about 24 percent of the world population, about 18 percent of world Gross Domestic Product (GDP), and about 13 percent of world exports in 2002. The shares of their macroeconomic variables in the world total have demonstrated increasing trends over the past ten years. China has led the growth, recording an astonishing growth rate of 7 to 8 percent in recent years, while Japan and Korea have recorded more modest growth rates.

The economic integration of China, Japan and Korea has been progressively intensifying through the increase of intra-regional trade and investment. The past several years have seen a continuing trend towards the intensification of trade relations among the three countries. Japan and Korea increased their intra-regional exports as a share of their total exports in 2002. China followed the same trend, however the ratio of intra-regional exports to total exports decreased slightly in 2002, reflecting her increased exports to the United States.

Among the three countries, China has been a recipient of foreign direct investment (FDI) from Japan and Korea. Since China’s accession to the World Trade Organization in 2001, investment to China has been booming. This trend appears likely to continue for the near future.

2. A long-term macroeconomic scenario

To lay the groundwork for formulating a long-term vision for the region, the joint research teams preliminarily established a macroeconomic scenario to sketch out the growth of GDP and trade. Among various feasible scenarios, this report discussesa scenario which assumes comparatively high growth rate, reflecting trends of growth for the past few years, together with a successful implementation of national development of economic plans. As a result, the outlook is rather on the optimistic side, foreseeing the achievement of the goals of the five-year plan in China, successful implementation of economic reform measures in Japan, and a continued and successful post-crisis economic adjustment in Korea.

The scenario indicates that the shares in world production and trade represented by the region (China, Japan and Korea) will become larger in the long-term. In particular, exports from the region will grow faster than the rest of the world, and this growth will also be faster than the region’s growth in production. The region will be "a world production and export base", accounting for approximately one-fifth of the world’s GDP and trade.

Under this scenario, the economies of the region will require markets to absorb the increase in their products. Internally, the markets of the three countries should further integrate in terms of trade to ensure intra-regional demand. Moreover, it is imperative for the three countries to maintain free trade and investment system throughout the world, to ensure full absorption of their increased productivity.

Another important factor for the achievement of high growth rate in the region is to guarantee and promote intra-regional FDI flows. FDI flows will stimulate the international dissemination of technology, and raise the level of potential technological progress in the three economies. The inflow of FDI will also bring about more active competition in the markets of the host economies. This is not only the case in China, but also in Japan and Korea.

II. Regional Integration and its Effects – the Experience of Europe and North America

1. Recent trends

Among the many existing and upcoming regional trade arrangements, two trade blocs draw special attention because of their substantial impact on the world economy as a whole. First, the European Union (EU) continues to broaden and deepen its ongoing economic integration. Reaffirmed by the European Council in 2000, many expect the advent of a much-enlarged EU encompassing many Central and Eastern European countries in 2004. Having successfully concluded a Free Trade Agreement (FTA) with Mexico, the EU will also form a cross-regional FTA with Latin American countries. Moreover, the EU has deepened its integration through the circulation of a unified currency, the euro, in all euro zone countries since January 1, 2002.

Meanwhile, after having abandoned its long-standing opposition to preferential trading bloc in the 1980s, the U.S. has been pursuing economic integration in the Americas. In 1992, the U.S. signed the North American Free Trade Agreement (NAFTA) with Canada and Mexico. At the Summit of Western Hemisphere Countries in Miami in 1994, regional leaders agreed on forming the Free Trade Area of the Americas (FTAA). In 2001, 34 regional leaders met in Quebec City and pledged to continue to move forward with negotiations for an FTAA by 2005. Furthermore, the U.S. announced the Enterprise for ASEAN Initiative in 2002 to promote an FTA between the U.S. and ASEAN countries. In May 2003, the leaders of the U.S. and Singapore signed an FTA, the first to be signed in Asia by the U.S. The U.S. strategically seeks the enlargement of the free trade area toward ASEAN.

2. The impacts of an FTA - in the cases of EU and NAFTA

Surveying a huge sample of empirical research on the impacts of FTAs in the cases of EU and NAFTA, the trilateral research teams have concluded that regional free trade agreements seem to have generated welfare gains and expansion of income for the participants. Typically, these estimates covered gains in efficiency from trade liberalization, reduction of non-tariff barriers and trade costs because of the facilitation of trade and the streamlining of procedures, gains in productivity from scale effects, promotion of intra-regional FDI, and pro-competitive effects caused by market integration. The estimated magnitudes of the impacts are from a half percent to six percent of GDP as a whole, depending on the coverage of measures and the specifications of the models employed in the estimates.

In spite of the positive gains, FTAs are a double-edged sword. While they remove trade barriers between the members, they may also become inward-looking and protectionist-oriented blocs. If this is the case, they can act as a brake on the pace of international trade liberalization. One approach whereby regional trade arrangements can remain outward-looking is expansion of membership. While the EU and NAFTA may once have completed the trading blocs in their regions, they have planned for further expansion of their memberships. This represents an important lesson.

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