Generation 40s – 四十世代

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Taiwan’s trade dilemma amid flurry of regional pacts

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South China Morning Post
Comment›Insight & Opinion
2014-11-24

Erik Tollefson

Erik Tollefson says the Beijing-Seoul free trade deal sent political shockwaves through Taiwan, raising questions on whether it is too reliant on trade for economic competitiveness

Amid the diplomatic pageantry and sartorial tragedy of the recent Apec conference, a short announcement last Monday set off a figurative earthquake in Taiwan: China and South Korea had signed an outline free-trade agreement. Indeed, although many observers expected the pact would eventually be signed, few foresaw the early arrival date.

In Taiwan, the news catalysed a firestorm of debate: for pessimists, it was yet another sign that the island’s figurative economic sky was falling while, for optimists, the agreement underscored the urgency to pass the embattled Cross-Strait Service Trade Agreement to ensure market access.

While China’s agreement with South Korea is probably of greater symbolic than practical importance, the proliferation of regional trade agreements excluding Taiwan, coupled with an increasingly stagnant domestic debate on economic competitiveness, threatens its ability to respond.

The outline deal, if it is ultimately approved, will undoubtedly have an impact on some Taiwanese firms. According to Xinhua estimates, it will affect tariffs on a total of 90 per cent of bilateral exports across 17 product categories over the next 20 years. With Taipei estimating that there is a 77 per cent overlap in the trade structure between Taiwan and South Korea, some Taiwanese exports will be affected.

However, the final deal, as with nearly all trade agreements, did fail to meet initial lofty ambitions. The automobile industry, a key economic driver for both countries, was not included in the agreement, and cannot be negotiated for at least two years. Liberalisation of the agricultural sector, one of the most sensitive topics on both sides of the Yellow Sea, was pared back from the original positions. Furthermore, Seoul only won a partial opening of China’s prized petrochemical and steel markets, primarily for lower-value-added products, while the higher-end market will remain closed: a strategic decision to protect Chinese domestic producers’ fragile finances and move up the value-added ladder. Finally, the IT sector, which has experienced substantial liberalisation already due to the World Trade Organisation’s IT agreement, posted additional gains for Korea, including reduced tariffs for e-commerce.

Even with a less comprehensive scope, however, the agreement immediately became politicised in Taiwan. The Ministry of Economic Affairs said the FTA, if ultimately ratified, could dent Taiwan’s GDP by up to 0.5 per cent, with Taiwan’s exports to China falling by between 2 per cent and 5.4 per cent, to be replaced by rivals from South Korea. The estimates immediately came under attack as a veiled threat to catalyse the stalled cross-strait trade talks. Indeed, some foreign investment banks and analysts offered a more sanguine assessment of the deal’s impact on Taiwan and its economic future.

The simmering domestic argument over the agreement’s potential impact, however, illustrates the deep wounds and distrust from this spring’s divisions on the Cross-Strait Service Trade Agreement and Taiwan’s economic future.

Although the precise impact of China’s trade deal with South Korea on Taiwan is difficult to estimate, the raucous debate reveals two important points. First, in the midst of a tepid global economic recovery, relative economic gains matter more. Taiwan’s economy is not in ill health by any means: annual GDP is projected to grow close to 4 per cent this year, the fastest level of growth posted in three years. Granted, this was achieved largely on the back of robust third-quarter export growth as supply shipments for the iPhone 6 spiked. However, even if the free trade deal doesn’t severely affect Taiwan, it will help South Korea, with some estimates that it could add up to 3.3 per cent of GDP. In a world of seemingly inert demand and increasingly competitive pricing pressures, due to Japan’s recent decision to strengthen quantitative easing, these gains are even more important.

Second, the deal signals a rapidly shifting regional economic environment, with China emerging as an indispensable participant. Indeed, the Asia-Pacific Economic Cooperation conference discussed two main free trade plans: one led by the US, the other by China. However, the Trans-Pacific Partnership, Washington’s strategic answer to limiting Chinese influence through free trade, has faced numerous obstacles, and the US will find it increasingly difficult to construct an economic zone of influence around China after Beijing recently announced new free-trade agreements with Australia and Myanmar. The Chinese economy, and Chinese firms, are becoming intricately woven in the region’s developed and developing economies alike – a trend that Taiwan understands well.

All of these developments sharpen the policy dilemmas facing Taiwan. The main challenge of whether to further integrate with mainland China via the Cross-Strait Service Trade Agreement has captured the most attention due to the profound ramifications. The dilemma is only partially mitigated by the low but existent probability of Taiwan joining the TPP – a step that would potentially diversify economic trading partners. Even if Taiwan does ultimately join the partnership, however, it is facing another dilemma that could prove deleterious: an overdependence on trade to drive economic competitiveness.

The inflamed debate over China’s deal with South Korea illustrates how trade agreements have become the main modus operandi to improve economic competitiveness. This was not historically the case in Taiwan’s economic development, and evidence suggests Taiwan could strengthen its economic performance through effective, but politically difficult, structural reforms. According to the World Bank’s 2015 “Doing Business” survey that measures the ease of opening a business, Taiwan ranks a respectable 15th overall, but behind regional competitors such as Singapore, Hong Kong, South Korea and Malaysia. Taipei could particularly improve on credit availability (52nd) and contract enforcement (92nd). These important reforms, however, are increasingly buried under rhetoric to promote “free” (preferential) trade for exporters, as well as pressuring the central bank to depreciate the currency to effectively lower prices.

This development is equally disturbing as it complicates efforts to formulate a comprehensive economic response in a rapidly shifting economic environment. Indeed, Taiwan’s main dilemma is not the more publicised issue of whether or not to trade, but how to use trade as one policy tool among many to increase the island’s overall economic competitiveness.

Erik Tollefson is a freelance economic analyst

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