China and 14 other Asia-Pacific nations recently signed the world’s largest free trade deal, the Regional Comprehensive Economic Partnership (RCEP). As discussed in Asia-Pacific RCEPonds to Trump’s Snub, the RCEP’s launch raises uncomfortable questions for Washington, though it is actually quite modest in terms of member commitments. That said, RCEP will usher in changes, and its resulting framework could give rise to interesting opportunities, not just for companies from member countries, but local subsidiaries of U.S. companies and those of other nonmembers as well.
So what is exactly is RCEP about? In the first of a two-part series on this new agreement, we explore its implications for trade in goods, including the establishment of a single rule of origin, as well as services and investments.
One of RCEP’s most significant achievements will be to eliminate a broad range of tariffs. According to Singapore’s Ministry of Trade and Industry, tariffs will be eliminated on at least 92% of goods traded among member countries. According to Nikkei, “tariffs are expected to be removed from 91.5% of goods exported from Japan, as well as 98.6% of goods imported by Japan.”
The changes in some bilateral trade relationships will be dramatic. Taking just one example, Nikkei reports that the percentage of Japanese goods exported to South Korea enjoying duty-free treatment will increase from 19% to 92%. According to the Japan External Trade Organization, South Korea was Japan’s third-largest export market (fourth if the European Union is counted as a unit). The dollar value of Japanese exports to Korea surpassed $46 billion. Tariff savings are bound to be significant, helping Japanese products maintain their competitiveness and reducing costs for Korean consumers.
In some cases, RCEP members may be able to gain market share at the expense of non-RCEP competitors, on account of lower tariffs. However, such opportunities will be limited. For many products, the stiffest competition will come from within RCEP. Moreover, some members have trade deals with non-members such as the United States and the European Union, which may blunt the ability of fellow RCEP members to edge out outsiders. And, given the relatively generous rule of origin established by RCEP (see below), for some non-RCEP producers it might not be that difficult to modify their supply chain in a way that allows their product to take advantage of RCEP benefits.
Complicating the situation, not all countries will offer a single tariff to fellow RCEP members. Indonesia, for instance, will have separate tariffs for ASEAN and each of the non-ASEAN RCEP countries (for a total of six tariffs).
One country that could be negatively impacted is Taiwan. With no realistic prospects of joining RCEP due to China’s influence, Taiwanese exports will be at a disadvantage compared to those of its main regional competitors.
2. Rule of Origin
Another important feature of RCEP is its establishment of a single rule of origin. As the Asian Trade Center explains, “once a product is created to meet RCEP originating criteria, the rules are the same for all 15 member economies.” This will simplify content calculations for businesses and streamline supply chains. To illustrate the benefits of a single rule of origin, consider this example from the Asian Trade Center, involving a hypothetical shampoo manufacturer from Singapore (which is an ASEAN member):
If the firm wanted to send a bottle to South Korea, it may need to ensure that it adds more Korean ingredients to meet rules of origin under ASEAN/Korea.
If the company got an order from Japan, it may not be able to use the same bottle, because the Korean ‘content’ would not count. It may need to be swapped out for Japanese raw materials instead to qualify for lower tariffs under ASEAN/Japan.
If a staff member in Singapore accidentally shipped the Japanese content bottle to Korea and claimed FTA preferences under ASEAN/Korea, the firm could be liable for mis-declaration with potentially significant fees and penalties.
Under RCEP, however, the shampoo company can make shampoo safe in the knowledge that—as long as the content in the bottle comes from anywhere in the 15 markets in Asia meeting the ROOs for RCEP—it can be shipped to any of the 15 markets in Asia without any changes in formulation. Given the size and diversity of these markets, this is a significant advantage to all Asia-based firms.
Even better, under RCEP, firms will need to fill out only one sheet of paper to prove that their products ‘qualify’ for origin. The new RCEP certificate of origin (CO) should reduce costs and time for companies.
One bright spot for companies from non-RCEP economies is that only 40% of RCEP content is required for goods to be considered of RCEP origin. This surprisingly modest amount still allows for 60% content to be sourced from outside Asia. This could provide interesting opportunities for companies pursuing a “China plus one” strategy (provided the “plus one” is not an RCEP country).
According to Singapore’s Ministry of Trade and Industry “at least 65% of services sectors will be fully open with increased foreign shareholding limits including in Professional Services, Telecommunications, Financial Services, Computer and Related Services, Distribution and Logistics Services.” As with goods, the opening-up will not be uniform, with each member excluding certain sectors from the agreement.
Some countries, including China, have adopted a “positive list” approach, under which only specified sectors are open to other RCEP members. By contrast, other countries, such as Australia, have opted for a “negative list” approach, specifically listing those sectors that are not open. However, the former group of countries must transition to a negative list within six years.
Though there is plenty of protectionism baked into the RCEP framework, there will still be ample opportunities for services exporters. Australia’s Department of Foreign Affairs and Trade, for example, has highlighted the expected benefits for Australian firms engaged in professional, education, and healthcare services, among others.
This liberalization in trade in services might make it worthwhile for U.S. and other non-RCEP companies to partner up with Australian or New Zealand, or Singaporean companies in ventures geared for the RCEP market.
RCEP also calls for added protections for investors, including a commitment by members to eliminate “performance requirements, such as requirements to make invested firms use a certain level of domestic content, export a certain percentage of goods, transfer technology as a condition of investment and so forth.”
According to the New Zealand Ministry of Foreign Affairs and Trade, “the RCEP investment chapter provides certainty for New Zealand investors by protecting their investments from actions of other governments that are grossly unfair or unjust, including the expropriation of assets without compensation, or actions that involve discrimination based on nationality unless subject to an exception. Investors will also benefit from an obligation that requires RCEP parties to provide New Zealanders with the same treatment afforded to other foreign investors unless subject to an exception.”
It is striking that, even when providing “feel good” recaps of what RCEP accomplished, both Australia’s and New Zealand’s trade ministries felt the need to highlight RCEP’s limits. As seen above, New Zealand mentioned exceptions two times in as many sentences. For its part, Australia clarified that RCEP will “preserve the right of parties to regulate in areas of particular sensitivity [and] for important public welfare objectives, including public health [and] to protect their essential security interests in relation to investment.” This may have more to do with justifying their own foreign investment restrictions than setting low expectations abroad for their companies, but it nonetheless sets an unambitious tone.
That said, both Antipodean governments are highlighting that they will “for the first time, benefit from market access commitments from China” (as well as some ASEAN members, with the Kiwis singling out Indonesia and the Philippines). Of course, we will have to see how this plays out in practice, especially in China. Even with countries with which it enjoys warmer relationships, look for China to amply rely on permissible exceptions, with its stated reservations being only a starting point.