Increasing trading within region will help Asean build resilience against global trade tensions
JUST when we thought the two largest countries in the world were close to an agreement to resolve their trade war, tensions have re-escalated. The United States raised the tariff rates of US$200 billion worth of imports from China to 25 per cent from 10 per cent effective on May 10. China retaliated and seems to have upped the ante on its rhetoric in response.
Financial markets reacted negatively, reflecting concerns that nobody wins in a trade war and the risk that it could derail global growth. The Asean region is not insulated, and will likely suffer more from rising risks of protectionism and de-globalisation. After all, Asean is home to some of the most open economies in the world including Singapore, Malaysia and Thailand, and is heavily reliant on exports.
Despite the dimming outlook as a result of the trade tensions, the Asean region has scope to respond to this threat and turn it into an opportunity to strengthen its own resilience over the long run, regardless of when we get a clear resolution in the trade conflict.
First, trade diversion is starting to happen with companies operating in the US and China increasing their imports from elsewhere to avoid the tariff increases slapped on them by both countries. A study by Nomura late last year showed that of the top 10 countries in Asia that are potential beneficiaries from this "import substitution effect", six are Asean countries, most notably Malaysia, Thailand and the Philippines. This is based, among others, on metrics such as the country's comparative advantage in products affected by the tariffs, geographic distance and existing trade linkages with both the US and China.
Beyond this short-term effect, multinational companies may eventually relocate their production facilities to suitable jurisdictions. Here, recipient countries can play a more proactive role in attracting foreign direct investment (FDI) via, for example, policies to liberalise ownership restrictions and improve the business climate.
To some extent, this process of rising FDI inflows is arguably already taking place in Asean, in part because of ageing demographics in China and Japan. But the uncertainty brought about by the trade tensions may accelerate this process, creating an opportunity for Asean countries. The trick is to continue to implement the right policies and capitalise on "pull" factors such as the availability of low-cost labour, political stability and rising infrastructure spending. On this count, Nomura's Production Relocation Index shows that Vietnam, Malaysia and Singapore stand to be potential winners, followed closely by Thailand, while Indonesia and the Philippines appear to be also catching up.
Second, Asean countries can trade more with each other. For a region that has a 50-year old grouping with ambitions to build an economic community, Asean has a relatively small share of intra-regional trade at between 20-25 per cent. To put this in perspective, this is less than half the equivalent share in the European Union, even after accounting for the fact that the EU is a monetary union.
A well-known reason for this low ratio is that while tariff rates are already set at zero for nearly all Asean products, non-tariff barriers have remained, although maybe less so for more open economies such as Singapore and Thailand.
Asean, therefore, has plenty of scope to increase trade within the region. Breaking down trade barriers, complemented by freer movement of labour and capital, is an effective way for Asean countries to help lift each other's growth potential and strengthen resilience from broader external risks at the same time.
Asean is very diverse not just in its levels of economic development, but also in its product markets (for example, it has both commodity producers and large commodity importers), pointing to large benefits of increased trade. In addition, the region's total population of more than 630 million is home to some of the fastest-growing economies in the world, due in part to internal reforms that are gaining traction, such as in Indonesia and the Philippines. With growth this strong, demand for exports from within should naturally pick up.
The good news is that Asean leaders appear to be increasingly cognisant of this, and the sense of urgency has perhaps increased due to rising risks of protectionism from their two largest trading partners. Asean cannot control the outcome of the ongoing trade conflict, but it can do more to attract FDI and seize the opportunities from trade diversion.
