New East Asian trade blocs create tough choices for China

Peter Petri, Michael Plummer 09 July 2020

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The split in US-Asia relations opened by the US-China trade war is widening. The world’s two largest economies now impose Smoot-Hawley level tariffs on each other (Bown 2020a), and bilateral technological nationalism threatens to divide the Asia-Pacific region into separate innovation regimes. Relations are also deteriorating due to the toxic politics of the Covid-19 pandemic and the doubtful premise that domestic supply chains will be safer than trans-Pacific ones (Baldwin and Freeman 2020). The US withdrawal from the Transpacific Partnership (TPP) agreement signaled that the it was taking a new inward-looking path, leaving East Asian countries are in a position they have long dreaded: having to choose between their most important economic and strategic partners (Lee 2020). 

The fissure in US-Asian relations will reinforce the effects of a recent agreement by 15 East Asian countries1 to form the Regional Comprehensive Economic Partnership (RCEP), a huge regional trade bloc with prominent roles for China, Japan, and Korea (India abruptly left the negotiations just before their conclusion). Moreover, the 11 negotiating partners of the TPP2 regrouped and formed an almost identical arrangement without the US, known as the Comprehensive and Progressive Agreement for Transpacific Partnership (CPTPP), which went into effect in December 2018. While smaller than RCEP, the CPTPP is a deep agreement with path-breaking chapters (in the areas of intellectual property protection, disciplines on state-owned enterprises, services, and labor and the environment) that are already setting international standards.

By lowering East Asian trade costs, RCEP and the CPTPP will accelerate the de-coupling of the East Asian and US economies, arguably the most productive regional partnership in economic history. At the same time, these relationships will challenge China to demonstrate its commitment to open trade and related domestic reforms.

Economic cooperation will compensate for the trade war

In our recent research (Petri and Plummer 2020)3, we estimate the economic implications of these ‘mega-regional’ arrangements in the context of the US-China trade war, assuming that trade and investment barriers remain indefinitely at levels reached under the Phase I agreement of January 2020. An overview of the results is included in Figure 1.

Figure1 Global Income Effects of the US-China Trade war and Asia-Pacific Megaregionals in 2030

Source: Adopted from simulations in Petri and Plummer (2020)

Not surprisingly, the trade war (the first column in Figure 1) generates powerful headwinds for the global economy, reducing global incomes by $301 billion annually by 2030 (relative to a baseline of pre-Trump policies). It will substantially shift trading relationships away from the US-China link, as shown in Table 1. If the trade war continues, China’s annual exports to the US will fall by $723 billion by 2030 from a baseline of $1006 billion (72%), and US exports to China by $193 billion from a baseline of $420 billion (46%). These declines result from increases in bilateral tariff averages of approximately 20%, along with a similar increase in non-tariff barriers.

Table 1 Trade War Effects on Global Trade Patterns, 2030 (US$ billions in 2030)

RCEP = Regional Comprehensive Economic Partnership

Note: Shaded cells show decreased trade flows.

Source: Authors’ simulations adopted from Petri and Plummer (2020).

The trade war will cause most global trade flows to decline (shown in Table 1 by a sea of shaded cells). The conflict is especially focused on decoupling: US imports will increase from suppliers other than China, and Chinese exports will increase to destinations other than the US. Meanwhile, US exports will fall in all markets that turn toward China and away from the US. In addition to this, Chinese imports will fall as shrinking inputs into China’s export industries are passed backward through international supply chains.

More surprisingly, the new agreements can more than replace the income destroyed by the US-China trade war (the last three bars of Figure 1) – although not specifically for the US and China themselves. The results also suggest a central role for East Asian trade in the future. For example, as Table 2 shows, RCEP15 will build deeper links among China, Japan, and South Korea, which already rank among each other’s top trade partners. Trade among all RCEP15 countries  (the three regions called “China”, “Japan and Korea”, and “RCEP other”) would increase by $428 billion, representing three-quarters of the increase in new trade attributable to RCEP15. The rest of the new trade consisting of trade between RCEP15 and other economies (the US and the rest of the world). Trade among other economies would fall by $39 billion.

Table 2 Effects of RCEP15 on Global Trade Patterns under Trade War (US$ billions in 2030)

Source: Authors’ simulations adopted from Petri and Plummer (2020).
Notes: results show incremental effects of RCEP15 given that CPTPP is also implemented. Shaded cells show increased trade flows.

These connections will incentivise collaborative manufacturing as well as interconnected innovation systems, enabling inventions in one country to enter production chains in others. Given their technological capabilities, China, Japan, and Korea are also poised for more ‘European-style’ trade in differentiated products. The simulations suggest a more regionally focused, China-centered East Asian economy. This will bring significant economic benefits but could also contribute to growing concerns about how China will exercise its political clout. The biggest losers, for now, will be India and the US, both in trade and in waning political influence.

China’s new role and responsibilities

China will be the largest beneficiary of RCEP15, gaining $100 billion annually. It will also be the region’s de facto leader, owing to its sheer size. The CPTPP and RCEP agreements, without the US and India, remove powerful balancing influences in determining economic policies in East Asia. Their exits reflect similar motives, including nationalist politics and fears of losing ground to China in economic and strategic competition. But ceding leadership of East Asian trade to China, depending on how China plays this role, could enhance its advantages within the region.

China is investing extensively in economic and military links to the region and some fear that it is pursuing the status of regional hegemony. The Belt and Road Initiative (BRI), which covers several RCEP members, has been estimated to offer funding of between $144 billion and $304 billion for transport projects alone (World Bank 2019). Overall, China has committed a total of $1.4 trillion to the initiative (Meltzer 2017), compared to $113 million in US funding for Southeast Asia.4 RCEP can offer a framework for making good economic use of China’s regional investments (Vines 2018).

Most optimistically, China will use its regional base to test open economic and foreign policies that support domestic reforms and address the large deficit in its soft power. At a press conference following the May 2020 National People’s Congress, Premier Li Keqiang noted that China was considering joining the CPTPP.5 Zhou and Gao (June 2020) underscore a ‘strong push’ to join from internal and external forces.6 In an earlier article (Petri and Plummer 2019), we estimated that Chinese membership in the CPTPP would triple the agreement’s global income gains from $147 billion to $632 billion annually.

Joining the CPTPP would require difficult Chinese reforms, something Premier Li surely understood. Notwithstanding, China may be able to negotiate exemptions for limited practices that it (and others) regard as strategically essential. However, adopting the CPTPP policy template would align China’s policies with critical global norms, demonstrating a constructive contribution to global dialogue, easing concerns about China’s assertive directions.

References

Baldwin, R and R Freeman (2020), “Supply Chain Contagion Waves: Thinking ahead on manufacturing ‘contagion and reinfection’ from the COVID concussion”, VoxEU.org, 01 April. 

Bown, C P (2020a), “Unappreciated hazards of the US-China phase one deal”, PIIE Trade and Investment Policy Watch, 21 January.

Lee, H L (2020), “The Endangered Asian Century: America, China and the Perils of Confrontation”, Foreign Affairs.

Meltzer, J P (2017), “China’s One Belt One Road Initiative: A View from the United States”, Brookings, 19 June. 

Petri, P A and M G Plummer (2020), “East Asian Decouples from the United States: Trade War, COVID-19, and East Asia’s New Trade Blocs”, Working Paper 20-6, Washington: Peterson Institute for International Economics.

Petri, P A and M G Plummer (2019), “China Should Join the New Trans-Pacific Partnership”, Policy Brief 19-1, Washington: Peterson Institute for International Economics.

Petri, P A, M G Plummer and F Zhai (2012), “The Trans-Pacific Partnership and Asia-Pacific Integration: A Quantitative Assessment”, Policy Analyses in International Economics 98, Washington: Peterson Institute for International Economics.

Vines, D (2018), “The BRI and RCEP: Ensuring cooperation in the liberalisation of trade in Asia”, Economic and Political Studies 6(3): 338-438.

World Bank (2019), Belt and Road Economics: Opportunities and Risks of Transport Corridors, Washington, DC: World Bank.

Endnotes

1 The agreement was announced on November 4, 2019 (“Joint Leaders’ Statement on the Regional Comprehensive Economic Partnership,” November 9, 2019, https://asean.org/joint-leaders-statement-regional-comprehensive-economic-partnership-rcep/). The 15 members of RCEP are Australia, Brunei, Cambodia, China, Indonesia, Japan, Laos, Malaysia, Myanmar, New Zealand, the Philippines, Singapore, South Korea, Thailand, and Vietnam.

2 These are: Australia, Brunei, Canada, Chile, Japan, Malaysia, Mexico, Peru, New Zealand, Singapore, Vietnam.

3 The method is summarized in Petri and Plummer (2020) but details can be found in Petri, et. al. (2012), or at our website.

4  https://www.scmp.com/news/china/economy/article/2157381/us-competes-chinas-belt-and-road-initiative-new-asian-investment

5 Lu Zhenhua, “Premier Sends ‘Powerful’ Signal for China to Join Asia-Pacific’s Largest Trade Pact”, Caixin, May 29, 2020.

6 Weihuan Zhou, Weihuan, and Henry Gao, “China and the CPTPP: is it time to rethink Beijing’s involvement in the trans-Pacific trade pact?”, South China Morning Post, 7 June.

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Topics:  International trade

Tags:  trade, Asia, East Asia, China, US, Trae war

Carl J. Shapiro Professor of International Finance, Brandeis International Business School

Director, SAIS Europe

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CEPR Policy Research