Evolution of Japan s Policy toward Economic Integration

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Evolution of Japan s Policy toward Economic Integration

Transcript Of Evolution of Japan s Policy toward Economic Integration

Evolution of Japan’s Policy toward Economic Integration
Naoko Munakata Visiting Fellow Center for Northeast Asian Policy Studies (CNAPS) The Brookings Institution December 2001

On October 22, 2000, Japanese Prime Minister Yoshiro Mori and Singapore Prime Minister Goh Chok Tong agreed to formal negotiations for the Japan-Singapore Economic Agreement for a New Age Partnership (JSEPA) in January 2001,1 in light of the September 2000 report from the Japan-Singapore Free Trade Agreement (JSFTA) Joint Study Group.2 It was the first time Japan entered into negotiations concerning regional economic integration.3 With a strong emphasis on the need to address the new challenges globalization and technological progress pose; the Joint Study Group explored a possible “New Age FTA” 4 between the two countries, which Prime Minister Goh proposed in December 1999.5 Thus, for Japan the JSEPA marked a major turning point in promoting regional economic integration.
This paper looks back on the process that led to the JSEPA negotiations and explores what it takes for a new external economic policy framework to take root. In Section I, I will analyze the changing environment surrounding Japan’s trade policy and introduce various issues, based on my experience in the Japanese government,6 which
1 “Joint Announcement of the Japanese and Singapore Prime Ministers on the Initiation of Negotiations for Concluding a Bilateral Economic Partnership Agreement,” October 22, 2000 in Tokyo, http://www.meti.go.jp/english/infor2gmation/data/cJ-SFTA2e.html 2 Joint Study Group Report, “Japanese-Singapore Economic Agreement for a New Age Partnership”, September 2000 3 Agreements for regional economic integration or regional economic integration agreements in this paper, in line with the definition by the paper by the World Trade Organization (WTO) Secretariat, refers to agreements such as customs unions or free-trade areas referred to in Article 24 of the General Agreement on Tariffs and Trade (GATT), which reduce barriers to trade among member economies to the level lower than that for trade with non-member economies, and includes agreements between economies in different areas in the world, in addition to those between economies in the same region. See The WTO Secretariat (1995), Regionalism and the World Trading System. 4 “Transcript of Prime Minister Goh Chok Tong’s Interview with Mr. Osamu Kobayashi, Editor-in-Chief of Nikkei Business, on 19 December, 2000 at the Istana”, http://www.gov.sg/sgip/intervws/0101-03.htm 5 While it is not possible to prejudge results of negotiations between the two countries, negotiators, many of whom had also been the participants of the Joint Study Group, are expected to draw heavily on the report.

arose when the “New Age FTA” was first conceived. Section II describes the new conceptualization of Japan’s external economic policy. Finally in Section III, I will discuss the challenges ahead for Japan in pursuing economic integration.
I. Japan’s Traditional Policy on Regional Economic Integration and Its Shift
Dependence on GATT/WTO and Avoidance of Regional Integration Japan has been one of the most significant beneficiaries of the multilateral trading
system throughout its post-war economic growth. Japan’s trade policy has been based on the GATT, its successor the WTO, and the principle of unconditional most-favorednation (MFN) treatment.7 In addition, Japan has not participated in any preferential regional trade agreement and continued to criticize other countries’ moves toward regional economic integration even after the mid-1980s, when many regional initiatives became active. There were several reasons for Japanese disapproval. First, for many years Japan and the Asia-Pacific region enjoyed higher economic growth rates than other areas and thus did not feel any need to secure markets through discriminatory economic integration agreements. Especially after the Plaza Accords, East Asian countries experienced high export-led growth driven by foreign direct investment from Japan, and subsequently, Korea and Taiwan. Growing trade, investment and business networks led to increased economic interdependence in East Asia (see Figure 1 in appendix). Market forces promoted “economic integration without agreements” in the region and Asian
6 I served as advisor to the International Trade Policy Bureau, MITI (METI’s predecessor) on the Japan-Singapore FTA from October 1999 through October 2000 when I was Director for Policy Planning, Economic Policy Unit, Minister’s Secretariat, MITI. 7 Article 1 of the GATT.

countries began to have confidence in a regional economic dynamism that was independent of legal frameworks.8 In addition, the diverse, and sometimes divergent, developmental stages and political regimes in East Asia make it difficult for the region to come together under a unified legal framework. Thus, to Tokyo, East Asian economic integration agreements appeared impractical.
Second, Tokyo did not have an active role in formulating the post-World War II international trading system. During the Cold War, Japan was merely a passive participant in the international system, concentrating on economic reconstruction under the protection of the US security. In addition, Tokyo has had difficulties liberalizing agricultural trade, particularly rice. It was widely assumed that Japan could not realistically conclude a regional trade agreement in conformance with Article 24 of the GATT. History suggests that proponents of multilateral liberalization also actively promote regional liberalization.9 Indeed, Tokyo’s exclusive devotion to GATT and the WTO could even be interpreted as a negative attitude toward liberalization.
In light of its wartime legacy, Japan has refrained from taking the initiative in formulating regional frameworks.10 In addition, negative reaction to Malaysian Prime Minister Mahathir’s proposal for the East Asian Economic Caucus (EAEC) reveals that
8 Speech by Ryutaro Hashimoto, Minister of International Trade and Industry, “Challenges for the World Economy in a Transitional Period and Development in the Asia-Pacific Region,” Vancouver, in May 1995. Ryutaro Hashimoto, “Next Task for the WTO System and the APEC Process,” Journal of Northeast Asian Studies, Winter 1995, 14(4), p.25-32. 9 Richard E. Baldwin, “The Causes of Regionalism”, The World Economy, 1997, Vol. 20, No, 7, 865-888. 10 Other Asian countries exhibited resistance to Japan’s increased influence in the decision to locate the headquarters of the Asian Development Bank (ADB) in Manila, not in Tokyo, anti-Japan riots at the time of Prime Minister Kakuei Tanaka’s visit to the southeast Asian countries in 1974 and cold reactions to Prime Minister Masayoshi Ohira’s pan-Pacific design in1980. “Japan has for years shunned the concept of regionalism and the strategy of approaching Asia as a whole” as Japan recognized “the danger that a coherent Asia policy could be mistaken for a resurgence of prewar ‘Asianism’ and evoke painful memories of political domination by an ambitious hegemon.” Yoichi Funabashi, Asia Pacific Fusion, Japan’s role in APEC, Institute for International Economics, September 1995. For example, Japan also avoided publicity of its proposal on APEC and, instead, supported the Australian proposal

other regions are leery of regional cooperation frameworks consisting exclusively of Asian countries, even when such proposals did not originate from Japan.11 Since the Asian ministerial meeting held in November 1995 (in preparation for the first AsiaEurope Meeting (ASEM) convened in 1996), however, it became much less controversial for East Asian countries to hold regional meetings among themselves. And the first ASEAN + 3 (Japan, China and Korea) leaders’ meeting was held in 1997.
Under these constraints, the main thrust of Japan’s Asia policy in the 1990s was in support of integration within the Association of Southeast Asian Nations (ASEAN). In 1992, the ASEAN Economic Ministers (AEM) and the Japanese Minister of International Trade and Industry started to hold meetings (AEM-MITI) on the fringe of AEM meetings to share views on economic issues and to discuss specific areas for cooperation. MITI held a series of seminars on the ASEAN Free Trade Area (AFTA)12 in a confidence building effort between ASEAN and Japanese investors. MITI also provided a range of development advice to ASEAN policymakers. It was hoped that once serious about developing these certain industries, ASEAN countries would realize the need for integration among themselves in order to achieve economies of scale to become internationally competitive.13
from these considerations. 11 The EAEC initiative didn’t have consensus among the ASEAN countries at the time it was proposed, aside from meeting, after it was proposed, objections from outside the region and hesitation in Japan, which, in turn, hindered momentum for consensus building within ASEAN. Therefore, no strong push was made from ASEAN for realizing the initiative. 12 The Agreement on the Common Effective Preferential Tariff Scheme for the ASEAN Free Trade Area was signed at the Fourth ASEAN Summit held in Singapore on 27-28 January 1992. The AFTA was proposed because the ASEAN countries recognized the need for enhancing their attractiveness in light of East European countries drawing attention as investment destinations from developed countries after the Cold War ended, moves for regional integration were active in Europe and America and they were keen to have an effective framework for ASEAN cooperation after the EAEC setback.

Increase in Regional Integration in Other Areas and Its Positive Effects
As described above, Japan has not participated in any preferential regional trade agreement, including customs unions and free-trade areas, and has even criticized moves toward regional economic integration by other countries through the Working Parties for reviewing their conformity with GATT/WTO and other fora. The WTO review mechanism, however, has not been very effective.14 Examination of agreements under paragraph 7 of Article 24 have almost never led to a unanimous conclusion as to their GATT consistency. On the other hand, no regional trade agreement has been found to be in violation of WTO rules.15 As Figure 2 shows (see appendix), regional agreements increased worldwide particularly after the Cold War ended,16 leaving only Japan, Korea, China, Hong Kong and Taiwan alone among the world’s major economies not engaged in one of these regional arrangements.
These regional agreements have had a positive impact on participating economies by promoting deregulation and competition in regional markets. In addition, by promoting free trade interests through industrial adjustment within the region;
13 MITI (1993), “Prospects and Challenges for the Upgrading of Industries in the ASEAN Region,” chapter three. 14 According to WTO (1995), “The most obvious sign that the rules and procedures are not working properly is the fact that, of the 69 working parties that had completed their examinations by the end of 1994, only six were able to reach a consensus on the question of the conformity of individual customs unions or free trade areas with the conditions laid down in Article XXIV.” No reports have been finalized on the examinations on 81 regional agreements in process in the CRTA established in 1996 by the WTO General Council. See GATT, Analytical Index: Guide to GATT Law and Practice, Updated 6th Edition (1995), p.817. 15 Remarks made by Chairman of the Working Party on the Canada-United States Free Trade Agreement (CUFTA) when he introduced the report to the GATT Council in 1991. See GATT, C/M/253 (Council of Representatives, Minutes of Meeting held on 12 November 1991). 16 “In the period 1948-1994, the GATT received 124 notifications of RTAs and since the creation of the WTO in 1995, 90 additional arrangements covering trade in goods or services have been notified. Not all RTAs notified are still in force today. Most of the discontinued RTAs have, however, been superseded by redesigned agreements among the same signatories. Out of the total of 214 agreements or enlargements so far notified to the GATT/WTO, 134 are deemed to be currently in force.”

inducing economies outside the region to initiate new regional integration; providing an incentive for global liberalization efforts to reduce margins of preference; increasing the speed of rule-making, and providing an opportunity to experiment with new models for global use; regional agreements seemed instrumental in promoting world trade and investment liberalization. As a result, the positive benefits shown by actual cases, together with the fact that WTO negotiations have become more complicated and prolonged due to the growing number of WTO members and wider scope mitigated Japan’s rejection of regional economic integration.
Impact of the Asian Financial Crisis
The Asian financial crisis, which broke out in the summer of 1997, brought about major economic and political changes in Asia. These changes significantly influenced Tokyo’s policy toward regional economic integration. First, there was a loss of confidence in Asia’s economic dynamism and a rising sense of unease about the progress of regional integration elsewhere. The Asian economic crisis brought down regional domestic markets. The engine behind Asia’s rapid recovery was electronics exports, particularly to the booming US market (see Figure 3 in the appendix). It was important, therefore, for countries in the region to secure stable export markets. There were strong incentives to overcome the disadvantage of exporting to countries engaged in other economic integration agreements by securing free trade agreements with them.17 In their
See http://www.wto.org/english/tratop_e/region_e/not_gt_e.htm 17 Chung, Eui-Yong, Deputy Minister for Trade, Ministry of Foreign Affairs and Trade, “The Background of the Decision to Promote Free Trade Agreements, Progress Made and the Future Plan,” December 17, 1998 (speech texts written in Japanese).

push for integration with the major world markets, Asian countries found thatthe negotiating power necessary, especially for small and medium-sized economies, largely depended on the attractiveness of the region as a whole. The desire for stronger negotiating power generated momentum for economic integration among neighboring economies (regional integration in a narrow sense).18
Secondly, the “contagion” of the currency crisis reminded Asian countries of how interdependent they really are. In addition, the International Monetary Fund’s (IMF) initial prescription of inducing economic contraction, did not address the basic problem: a capital account crisis. Instead the result was a full-fledged economic crisis. Asian countries began to recognize the need for a regional framework to complement the IMF’s global function. Although, the Asian Monetary Fund (AMF),19 proposed in August 1997, was vetoed by the U.S. and China, in November 2000, the ASEAN+3 countries agreed to a currency swap as a mechanism to prevent another currency and financial crisis.20 In this way, the Asian currency crisis increased the momentum for East Asian regional cooperation in the currency arena and ultimately contributed to a more comprehensive idea of regional integration.
18 “Transcript of Prime Minister Goh Chok Tong’s Interview with Mr. Osamu Kobayashi, Editor-in-Chief of Nikkei Business, on 19 December, 2000 at the Istana”, http://www.gov.sg/sgip/intervws/0101-03.htm 19 According to the Subcommittee on Asian Financial and Capital Markets, Council on Foreign Exchange and Other Transactions, Lessons from the Asian Currency Crises -Risks Related to Short-Term Capital Movement and the "21st Century-Type" Currency Crisis-, May 19, 1998 (http://www.mof.go.jp/english/tosin/e1a703.htm), proposals for an AMF “took shape at the meeting of supporting countries for Thailand” hosted by the IMF in Tokyo on August 11, 1997, “where a heightened interest was expressed in examining the feasibility of a permanent institution created by Asian countries. This matter had been already discussed among ASEAN countries in the spring of 1997.” 20 The so-called Chiang Mai Initiative was put forward at the ASEAN+3 Finance Ministers Meeting in May 2000. See “The Joint Ministerial Statement of the ASEAN+3 Finance Ministers Meeting,” May 6, 2000, Chiang Mai, Thailand (http://www.mof.go.jp/english/if/if014.htm.

Thirdly, the crisis aroused, particularly among countries with strong political leadership, a sense of urgency regarding economic reform. In order for these countries to obtain IMF financial assistance, they had to implement unpopular structural reform measures.21 Foreign investors were also watching with keen interest of how far some Asian governments were willing to go. Korean President Kim Dae Jung was particularly open to structural reform as a means to attract foreign investment and overcome the crisis.22 The need to restructure domestic economies and attract FDI became one of the driving forces behind FTA promotion.
Fourth, ASEAN’s power was on the decline. China’s relatively stable economic performance throughout the East Asian economic crisis (see Figure 4 in the appendix), the surge of FDI into Korea, and the collapse of domestic demand and slow progress of economic reform in ASEAN tempered the commonly held perception of ASEAN member countries as attractive investment destinations(see Figure 5 in appendix). Northeast Asian domestic demand for IT-related goods and services appeared to become the driving force behind future economic development in the region and IT related startups flourished. On the other hand, while ASEAN countries exported some IT-related products, overall they were characterized by a low level of IT diffusion, which lowered their presence in the region (see Figure 6 in appendix). The addition of new members
21 For reform measures related to trade and investment in particular, see, for example, paragraph 5 of the Letter of Intent of the Government of Korea, December 3, 1997, paragraph 26 of Memorandum on Economic Policies of the Royal Thai Government, May 26, 1998 and paragraphs 38-40 of the Letter of Intent of the Government of Indonesia, October 31, 1997. 22 President Kim’s determination is exhibited in, for example, Inaugural Address by Kim Dae Jung, February 25, 1998, “Foreigners will invest when reform succeeds: President Kim” 1998-03011, “All-out reforms, this year’s administration target” 1998-04-28, and “President Kim urges cabinet to step up reform”, press releases from the Office of the President, Republic of Korea. Major economic reform measures were actually implemented. In 1998, for example, the employment adjustment system was introduced to allow layoffs for managerial reasons, mergers and acquisitions (M&As) and other forms of investment by foreign investors were liberalized and encouraged (see, for example, the Korean Ministry of Foreign Affairs and Trade (MOFAT), “The Road to Recovery in 1999,”

widened the intra-regional economic gap, and compounded with the diversity of political
systems, put pressure on ASEAN’s cohesiveness.
In Indonesia political turmoil caused economic stagnation, and the lack of
Indonesian leadership and members’ preoccupation with domestic economic problems
dealt a severe blow to proactive ASEAN initiatives present before the crisis. Thus the
decline of ASEAN’s influence in these aspects prompted Singapore to strike out on its
own and strengthen relations with countries outside ASEAN.
Moreover, Asian countries’ perception of Japan seemed to have changed
following the crisis. Economic downturn in Japan caused concern that Japanese business
commitment in Asia might wane in the following years, creating a growing perception
that Japan has lost its attractiveness as an economic model and concurrently eliminated the threat of Japanese economic dominance in the region.23
Furthermore, regional concerns that the deterioration of the Japanese economy would deepen the Asian economic crisis24 grew and Japan’s passivity in the face of a bleak regional economic environment drew much criticism.25 Senior Asian and U.S.
May 27, 1999). 23 See, for example, Clyde Prestowitz, “What happened to the Japanese Economic Model?,” The Washington Post, December 14, 1997 24 Since the early stages of the crisis when speculators were looking for selling opportunities, there was an argument that the Japanese economy was the cause of the crisis. It was reported in Financial Times, November 21, 1997, “S Korea says Japanese banks are cutting credit” that Korean finance minister said, “Japanese financial institutions are calling back loans instead of rolling them over, “ which had raised fears of a liquidity crisis since one third of Korea’s short-term debt of $68bn must be paid by year-end. Japanese Ministry of Finance (MOF) immediately offered a refutation “that European banks had a higher proportion of lending in South Korea than Japanese groups,” which was carried in Financial Times, November 22, 1997, “Tokyo washes hands of blame.” After the currency crisis developed into a real economic crisis, a new version of arguments that blamed Japanese economy became prevalent, such as the idea that stagnant domestic demand in Japan was deteriorating Asian economy. 25 See, for example, The Washington Post, January 18, 1998, “Where’s Japan?,” which argues, “the time has come for Japan to stimulate its economy in a major way, in order to reduce its surplus with the world, provide an additional market for southeast Asia and do its part as a major world power,” and The Straits Times, February 14, 1998, “Asia will not forget,” to the effect that Japan should pump up demand, stabilize its banks and finance and not to abandon southeast Asia as a production base and that “any lack of