Peter A. Petri／Michael G. Plummer
Japan, like the United States, faces myriad economic, diplomatic, and political challenges requiring attention, but it has one advantage in early 2013: a solid electoral majority that permits reform. Appropriately, Prime Minister Shinzo Abe has focused on jump-starting the economy. But monetary and fiscal policies cannot alone ensure sustained growth―that will also require structural change.
Trade policy offers a rare and urgent opportunity. Japan is the fourth largest exporter in the world, but its trade policy is falling behind that of other countries―not just immense, low-wage China, but also advanced competitors like Korea. In 2003 Korea established a “roadmap” for free trade with all major trade partners and has nearly completed this mission. Korea has signed agreements with the European Union, the United States and many Asian neighbors, and by the end of 2012 had finished four rounds of negotiations with China.
It’s time for Japan to be bold. Trade policy could stimulate economic renewal, build confidence among investors and consumers, and solidify Japan’s geopolitical position―mostly without government spending. The LDP has been cautious in its pre-election statements but, wisely, left room to make decisions. We find that economic analysis strongly supports the many Japanese business, academic and political leaders who are now urging membership in the Trans-Pacific Partnership (TPP) as well as other regional trade negotiations.
■The TPP option
The TPP negotiations have expanded rapidly in the last three years―from 4 to 8, to 9 and now 11 countries―and are the most advanced of the negotiations underway. Designed as a “21st Century” accord, the TPP will cover most trade-related aspects of economic integration in a high quality agreement. It will have chapters on foreign direct investment, competition policy, intellectual property protection, services and trade facilitation―issues that are important to advanced economies like Japan and the United States.
Using a detailed computable equilibrium model, we estimate that Japan would be the largest beneficiary of a 13-member TPP agreement. Its income gains could reach $119 billion dollars per year, or 2.2 percent of GDP in 2025. Japanese exports would rise by 14 percent over baseline projections. These large gains depend in part on reducing non-tariff and investment barriers, an important feature of the TPP that should lead to substantial new foreign investment in Japan, greater exports of sophisticated manufactured products, and improvements in service productivity.
The benefits from the TPP would be about 25 percent larger than those expected from a possible Asian Regional Comprehensive Economic Partnership (RCEP) agreement, but that too would generate significant gains of $96 billion per year (see Figure and more details on our website, www.asiapacifictrade.org). The lower gains are due to RCEP’s “flexible” approach; as that negotiation depends on a successful deal with China and many other countries, it is likely to take much longer and could exclude important sectors, such as automobiles, because they are considered sensitive by other Asian countries.
■Benefits of a “two-track” strategy
Like Japan, most Asian economies would gain more from the TPP than RCEP. This is due to the more rigorous provisions of the TPP and the fact that many Asian countries already have FTAs with each other but not with North America. Consequently the TPP is likely to expand further in the future.
Simple comparisons of the TPP and RCEP, however, suggest a false choice. Nothing prevents most countries, including Japan, from pursuing membership in both agreements. A “two track” strategy will generate by far the largest income gains―for Japan, around 4 percent of GDP. An overlap between the agreements will also ensure that they do not divide the region in two.
China and the United States will initially favor RCEP and the TPP, respectively, since they are not likely to join both groups. But as the tracks strengthen, these two countries will have powerful incentives to consolidate them into a region-wide agreement, such as the Free Trade Agreement of the Asia Pacific (FTAAP). That positive outcome cannot be predicted with certainty, but huge economic gains will argue in its favor.
Despite the prospect of large gains, trade policy has been controversial in Japan and many other countries. Structural change always entails costs; in the United States, for example, we estimate somewhat slower growth in transport equipment production than on the baseline. But those losses would be more than offset by expansion in service sectors and, since the changes would occur over a decade, they would have minimal effect on normal flows of workers into and out of major industries.
Opposition to the TPP and other trade initiatives is often based on legitimate concerns, but ones that are greatly exaggerated. Stopping trade agreements does not stop technological or global economic change, it just delays adjustment. The right policy is to manage adjustment rather than to fear it―to use the benefits that flow from change to help people who are adversely affected by it. Of course, this is a complex equation and its politics are difficult everywhere.
Concerns in Japan appear to focus on three issues. First, agriculture generates strong opposition, as it has for many decades. Yet studies show that current agricultural policies prevent specialization in new areas of farming and discourage the entry of younger farmers. Our estimates project mild, gradual declines for agriculture under the TPP, alongside much larger gains in transport equipment and services―dynamic sectors essential to Japan’s future. This issue will surely continue to be debated, but with some leadership compromises that benefit everyone can be found.
Second, many fear the “hollowing out” of Japanese manufacturing. The services sector has been taking up a greater share of the Japanese economy over time, following a trend common to all developed economies, and that is likely to continue. Trade plays a minor role in this process―population aging, changing consumption patterns, and rising productivity in manufacturing are far more important. Under various trade agreements we do project some negative effects for Japan’s least productive apparel, footwear and electronics firms (especially under RCEP due to Asian competition) but, at the same time, positive effects for manufacturing as a whole. Trade agreements would lead to more efficient division of labor within Japanese manufacturing, not a decline in the industry.
Third, some believe that the TPP will undermine Japanese health care by supposedly imposing the U.S. health care model on other countries. This is implausible; the problems with the U.S. system are widely understood and few countries would agree to that outcome. The TPP may require that advanced medicines be given consideration in drug selection, and that some medical services and insurance markets be open to competition. U.S. negotiators have said that it will not require changing Japan’s national health care system. And the same intellectual-property-related disciplines would protect Japan’s increasingly competitive pharmaceutical companies in their business abroad.
The TPP partners have now completed 15 rounds of negotiations, but the most important details remain to be settled. The political calendar in the United States makes 2013 a crucial year; if an agreement is not concluded this year, it will become much harder to pass in the U.S. Congress. If Japan commits to joining the discussions now―having announced its interest more than a year ago―it can still influence the agreement before it is completed.
Japan’s renewal depends on restoring economic dynamism. That will require an active trade policy―an early commitment to the TPP and other negotiations. This strategy appears to have support from the Japanese people. We hope that the new Abe administration will seize this opportunity to spur growth and build foundations for economic progress for years to come.