Japan: To TPP or Not to TPP

Christopher Findlay
University of Adelaide
Vice-Chair AUSPECC

This article is cross-posted from the East Asia Forum website

Japanese politicians are still debating whether Japan should join the Trans-Pacific Partnership (TPP). TPP members are not allowed exclusions. Agriculture is the issue, specifically the domestic political constraints imposed by protection of that sector in Japan. At the same time, the business sector is pushing hard to join.

The TPP builds on the Trans-Pacific Strategic Economic Partnership Agreement which Brunei Darussalam, Chile, New Zealand and Singapore set up in 2006. The TPP negotiating group now includes those four plus Australia, the US, Peru, Vietnam and Malaysia. The Japanese debate brought the TPP back to the headlines and highlighted the questions about the value of the preferential route to trade and domestic reform.

A number of factors have contributed to Japan’s interest in the TPP.

A tactical interest in the short term is to respond to political issues in its various bilateral relationships. A commitment to a structure which includes the US might act to offset the consequences of other developments in the bilateral relationships with both China and the US. Joining the TPP may also give Japan more economic leverage in its dealing with the EU, and protect it from discrimination if a US deal eventually comes off with Korea.

But with Japan in the chair, there were also questions about APEC’s relationship to this very different binding and formal structure, and about the ability of TPP to deliver genuine integration across the region.

What does the TPP offer? Generally the average tariffs are low among the founders. They have, in some cases, made big changes over the years, in line with APEC’s path to the Bogor goals. Vietnam is still working to get its tariffs down (they averaged 16.8 per cent in 2007), but it is in the process of implementing WTO accession commitments. There are relatively high tariffs in Peru (6.1 per cent) and Malaysia (8.8 per cent) in 2008, according to StatsAPEC.

The challenge for the TPP is that the process of most-favoured-nation (MFN) tariff cuts has reduced the interest of business in participating, at least in the tariff aspect of preferential agreements if, on average at least, the margin of preference is not big. So the TPP may not offer so much on tariffs, especially when a number of members already have their own bilaterals.

Apart from the strategic questions noted above, there are two other issues.

One is that, as the agriculture debate in Japan indicates, there are still some sectors where in a preferential agreement such as TPP, the margins of preference can be big enough to create an expectation of some gain to exporters in trading partners. But then the question is whether the dynamics of negotiating the TPP would contribute to wider integration or rather drive the region apart with systematic exclusion of non-members, including potentially China.

A small new group in an arrangement like this has the incentive to join up new members, especially in the early stages where the market expansion exceeds the effect on competition from those new members. But over time, the competition effect becomes more important. The group may not be resilient enough to take on new members. Its constitution at foundation and the rules on access then become critical. The earlier P4 agreement does refer to the interest in taking in new members but allows for the differential treatment of new members.

New members, if the TPP is to be a building block for regional integration and not another noodle in a crowded bowl of other agreements, must be able to join on the same terms as the foundation members. It would be even better if all potential members could review the rules even if they do not plan to join right away.

The incentives will be strong for the foundation group to, first, close off accession until they get an agreement then, second, negotiate with new members one by one rather than have open entry on the basis of accession on the same rules. They may also differentiate among each other and new members, by making exceptions in respect of the way they are treated, for example.

This outcome is most likely because of the constraint on US negotiators to have approval by Congress in order to deal with new members. This approval rests on arguments for the negotiation, such as the creation of ‘high quality jobs’. This is clear in the letter from USTR Ron Kirk to the Speaker of the House of Representatives advising of his intention to include Malaysia in the negotiations.

So while margins of preference in some sectors might be a driver of interest for a small group of first movers, it is a dangerous dead-end in terms of wider regional integration.

A second issue is that the TPP agenda is meant to include items behind the border as well as those at the border. Regulatory coherence and connectivity for example are talking points. These are important and offer significant welfare gains across the region. They offer to cut costs in supply chains which have become relatively more important as tariffs have fallen.

It might make sense to get going on work on with these issues in a smaller group setting but generally their implementation is not sensibly done in a discriminatory manner. It will be costly to distinguish between trading partners in their application. At the same time, when implementation is not discriminatory, both members and non-members will get benefits in the markets of trading partners. This also means these commitments on domestic reforms won’t provide a driver for widening membership and therefore won’t help resolve the problem of the dynamics of membership just described, because others can free ride on the implementation.

Why then is progress with regulatory and other domestic reform bundled up in the preferential agreement?

More important than reforms behind the border in trading partners are the domestic gains from national reform, and the adjustment of domestic regulatory processes and benchmarking them against the practice in other economies. These domestic reforms create not only gainers and but also losers who might resist change. International commitments might help, in that context, to sustain the domestic reform program. The question is whether a preferential agreement is the best way to deliver those commitments. While the strategy is understandable in terms of negotiating traditions, particularly in the United States, it’s messy and it carries significant ‘baggage’. As illustrated by reference to the US negotiating authority, market access is seen to matter in this negotiating environment. Nor is it clear that support for its own domestic reform is a major US motivation, though it welcomes that progress in other members.

For these reasons, the TPP is not by itself and in the end likely to contribute to wider regional integration. If it is to make any contribution there has to be some ‘higher power’ which maintains the momentum and widens the participation.

There are a couple of ways of finding that momentum. The WTO offers a venue in which the issues related to border barriers might be resolved, since multilateralising the small group commitments is the best way forward. But potential TPP members still have to get to the table in the WTO with offers in their hands. Even more important then is to keep focusing on the end goal and the purpose of reform.

This is where APEC continues to make its great contribution. The Bogor vision remains relevant — and how it is set forth including a statement of the value of the reform agenda behind the border plus a clear set of expectations of how the members’ preferential agreements could and should evolve.

Japan, the chair of APEC Summit completed this weekend, was in a position to provide leadership on this question. Its efforts in APEC could still well be vital to whether or not its own TPP strategy simply further muddies the water on regional integration.

Christopher Findlay is Professor of Economics and Head of School at the University of Adelaide and a member of Australia’s Pacific Economic Cooperation Committee.