The benefits of an FTA for Asia

Next week will see Japan and the Republic of Korea, two of China's important neighbors, going to the polls, which could add to the uncertainty in the East Asia region. Japan's relations with China and the ROK are at the lowest in years because of the islands disputes it has with the two countries.

But frictions will do no country any good. This is something the new leaderships in the three countries, especially Japan, need to understand. They have to realize that seizing the opportunity to strengthen their economic cooperation is the most potent way of thawing relations.

The first round of China-Japan-ROK Free Trade Agreement negotiations, scheduled for early next year, will provide an excellent opportunity to the three countries to spur economic growth at a time when Japan and the ROK face economic downturn and China's economy is bottoming out.

The potential of economic cooperation among China, Japan and the ROK cannot be overstated. Japan and the ROK have great competitive advantage in capital and technology-intensive industries, while China enjoys a definite edge in resource and labor-intensive industries.

The three, needless to say, are important economic and trade cooperation partners. China has been the largest trading partner of Japan and the ROK for years. Japan is the fourth largest and the ROK the sixth largest trading partner of China, and the trilateral trade volume increased from $130 billion in 1999 to $690 billion in 2011.

Besides, Japan and the ROK have become major sources of China's foreign capital. By June, direct investments from Japan and the ROK in China had reached about $85 billion and $50 billion. And a joint research by the three countries shows a China-Japan-ROK FTA will increase China's GDP by 1.1-2.9 percent, Japan's GDP by 0.1-0.5 percent and the ROK's GDP by 2.5-3.1 percent.

The key to propelling the China-Japan-ROK FTA negotiations could be the establishment of separate FTAs between China and Japan, China and the ROK, and Japan and the ROK. Such a move, most of all, would eliminate mutual suspicions and worries.

China and the ROK started talks on setting up an FTA in May, which are likely to proceed further after the ROK's presidential election on Dec 19.

Satoru Okuda, an economist at the Institute of Developing Economies in Japan, estimates that the ROK will benefit greatly from a China-ROK FTA. For instance, its communication equipment and machinery exports to China could increase by $27.8 billion a year, which may propel its GDP by 2.5 percent.

But since a China-ROK FTA, according to Okuda, could make Japan lose exports of up to $7 billion because of severe competition with the ROK, Japan needs to set up a China-Japan FTA as soon as possible to offset the impact and, at the same time, increase its exports to China by $47.8 billion a year.

Though the process for a China-Japan FTA has not been initiated, their bilateral trade volume has increased from $1 billion in 1972, the year bilateral diplomatic relations were normalized, to an estimated $360 billion this year.

The normal flow of Sino-Japanese trade has, however, been affected by the "purchase" of the Diaoyu Islands by Japanese government in September. The sales of Japanese automobiles and other commodities in China have declined sharply, and the share of Japanese automobiles in the Chinese market has fallen from 30 percent to below 8 percent. So in all probability, the Sino-Japanese trade volume will not be $360 billion, as had been estimated by experts earlier.

Data from Japanese listed companies, however, show Japanese enterprises' investment in China has been stable after September, reflecting their confidence in the Chinese market. It seems they have learned an important lesson from their efforts to replace China with India in 2005, when former Japanese prime minister Junichiro Koizumi's visit to Yasukuni Shrine, which honors World War II criminals, strained Sino-Japanese ties.

Japanese enterprises had then found India's infrastructure to be inadequate and its industrial sector to be threatened by terrorist attacks and frequent strikes. No wonder, Japanese enterprises today know the difference between setting up shop in China and any Southeast or South Asian country. The advantages that foreign companies enjoy in China have also prompted a majority of the Japanese enterprises that had pulled out of China in the early 1990s to return.

All these show that the cooperation between Chinese and Japanese enterprises has reached a new stage and the future of bilateral economic and trade cooperation is bright.

Since June 1, the Chinese yuan and the Japanese yen have been used to trade directly in the foreign exchange markets of Shanghai and Tokyo, and their trade volume reached up to 800 million yuan ($129 million) in Tokyo and 3 billion yuan ($482 million) in Shanghai on that fateful first day. It is self evident that by trading in the two currencies, Chinese and Japanese enterprises will save costs and time to their immense mutual benefit.

Negotiations on a Japan-ROK FTA started in 2003 but were interrupted by Japan's ambition of opening up the ROK's agricultural products' market. The ROK was also worried that its trade deficit with Japan would increase further after a Japan-ROK FTA was set up. Since territorial disputes between Japan and the ROK are becoming more frequent, it will be even more difficult for the talks to continue. But the ROK still maintains a positive attitude toward a China-Japan-ROK FTA because it has the potential to increase economic and trade cooperation.

Despite the problems that seem to thwart a China-Japan-ROK FTA, its immanent advantages should prompt the new Japanese leadership to promote the negotiations with the other two countries to pull Japan's economy out of recession and toward a prosperous future.

The author is a research scholar with the Chinese Academy of International Trade and Economic Cooperation, affiliated to the Ministry of Commerce.