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Thursday, April 14, 2016

Economic Impacts of Service Trade Liberalization under Free Trade Agreements in East Asia

Hikari Ishido


While so many research reports feature positive impacts of FTAs on liberalization in the services sector, there seems to be no detailed quantitative analysis focusing exclusively on the liberalization of trade in services under FTAs in ASEAN. This paper addresses the impact of service trade liberalization under free trade agreements (FTAs), with a focus on “connectivity” and “inclusivity”.

Day-to-day observations suggest that domestic reforms have been done as positive impacts of forming FTAs, yet there appears to be no existing literature directly and quantitatively estimating the positive impact of reforms in the services sector driven by FTAs on productivity in the manufacturing sector. This short paper refers to a few preliminary analyses to fill this gap.

 

Survey-based analysis 1: Japanese governmental survey

The survey-based analyses for this paper have revealed that service firms’ major expectations of FTAs include service sector deregulation/liberalization and that the presence of service-covering FTAs significantly promote trade in services in terms of the number of new investment by foreign service suppliers.

The expectation of FTA-EPA expressed by Japanese foreign affiliates (headquartered in Japan) is shown in Table 1, with the following survey items (multiple choices):

Item 1. Reduction/Removal of tariffs

Item 2. Service sector deregulation/liberalization

Item 3. Deregulation/liberalization of investment, provision of investment rules

Item 4. Deregulation/liberalization of movement of people

Item 5. Provision of regulation on intellectual property rights

Item 6. Provision and transparency of business-related laws

Item 7. Mutual recognition of standards and conformances

Item 8. Facilitation/Simplification of custom procedures

Item 9. Improvement in the market access of government procurement

Item 10. Conflict resolution

Item 11. Deregulation/liberalization of money transmission and financial/foreign exchange transactions including cash management systems

Item 12. Simplification/harmonization of rules of origin (to gain preferential treatments)

Item 13. Elimination of disadvantageous competitive conditions arising from other countries’ FTAs

Item 14. Others (not listed in the table above for lack of space)

 

The Table reveals that the manufacturing industry and the nonmanufacturing industry both value "Reduction/Removal of tariffs" (item 1), and "Facilitation/Simplification of custom procedures" (Item 8). However, for the nonmanufacturing (including service) firms, the degree of high evaluation is relatively low, with the response rate to the item 1 (Reduction/Removal of tariffs) and the item 8 (Facilitation/Simplification of custom procedures) being lower than in the case of the manufacturing firms, and instead the response rate to the item 2 "Service sector deregulation/liberalization" is clearly higher (at 21.0 percent in the Table) for the non-manufacturing firms than for the manufacturing firms (at 10.3 percent). That is, in the service industries, domestic (or behind-the-border) deregulation is more important for FTAs to achieve.

Table 1. Expectations of FTAs expressed by Japanese firms (Total)


Units: number, %

 
Total responses
Item 1
Item 2
Item 3
Item 4
Item 5
Item 6
 
 
No. of responses
Share (%)
No.
Share (%)
No. of responses
Share (%)
No. of responses
Share (%)
No. of responses
Share (%)
No. of responses
Share (%)
No. of responses
Share (%)
Total
3,297
100.0
1,896
57.5
458
13.9
951
28.8
627
19.0
687
20.8
886
26.9
Manufacturing (reference)
2,192
100.0
1,407
64.2
226
10.3
633
28.9
410
18.7
514
23.4
583
26.6
Non-manufacturing (including service)
1,105
100.0
489
44.3
232
21.0
318
28.8
217
19.6
173
15.7
303
27.4
Agriculture, forestry
And fishery(reference)
6
100.0
3
50.0
-
-
1
16.7
1
16.7
2
33.3
2
33.3
  Mining
18
100.0
5
27.8
1
5.6
8
44.4
2
11.1
1
5.6
7
38.9
  Construction
90
100.0
35
38.9
14
15.6
28
31.1
28
31.1
9
10.0
34
37.8
  Information and
communication
148
100.0
30
20.3
36
24.3
38
25.7
38
25.7
51
34.5
41
27.7
  Transportation
126
100.0
37
29.4
31
24.6
40
31.7
19
15.1
5
4.0
34
27.0
  Wholesale
478
100.0
302
63.2
86
18.0
133
27.8
68
14.2
63
13.2
118
24.7
  Retailing
86
100.0
38
44.2
22
25.6
20
23.3
15
17.4
17
19.8
17
19.8
  Other services
91
100.0
23
25.3
26
28.6
25
27.5
28
30.8
19
20.9
26
28.6
Other
non-manufacturing
62
100.0
16
25.8
16
25.8
25
40.3
18
29.0
6
9.7
24
38.7



 
Table 1. Expectations of FTAs expressed by Japanese firms (Total) (Cont.)
Units: number, %

 

Item 7

Item 8

Item 9

Item 10

Item 11

Item 12

Item 13

 

 

No. of responses

Share (%)

No.

Share (%)

No. of responses

Share (%)

No. of responses

Share (%)

No. of responses

Share (%)

No. of responses

Share (%)

No. of responses

Share (%)

 

Total

381

11.6

1,598

48.5

57

1.7

110

3.3

967

29.3

590

17.9

213

6.5

 

Manufacturing (reference)

269

12.3

1,154

52.6

35

1.6

65

3.0

645

29.4

418

19.1

149

6.8

 

Non-manufacturing (including service)

112

10.1

444

40.2

22

2.0

45

4.1

322

29.1

172

15.6

64

5.8

 

Agriculture, forestry

And fishery(reference)

1

16.7

3

50.0

-

-

-

-

2

33.3

1

16.7

-

-

 

  Mining

1

5.6

5

27.8

-

-

1

5.6

7

38.9

-

-

-

-

 

  Construction

16

17.8

28

31.1

3

3.3

8

8.9

27

30.0

10

11.1

4

4.4

 

  Information and

communication

16

10.8

22

14.9

3

2.0

3

2.0

37

25.0

5

3.4

4

2.7

 

  Transportation

11

8.7

55

43.7

2

1.6

5

4.0

41

32.5

21

16.7

3

2.4

 

  Wholesale

51

10.7

264

55.2

7

1.5

17

3.6

129

27.0

118

24.7

41

8.6

 

  Retailing

6

7.0

33

38.4

1

1.2

5

5.8

23

26.7

8

9.3

3

3.5

 

  Other services

5

5.5

22

24.2

4

4.4

5

5.5

35

38.5

5

5.5

5

5.5

 

Other

non-manufacturing

5

8.1

12

19.4

2

3.2

1

1.6

21

33.9

4

6.5

4

6.5

 
Source: Japanese Ministry of Economy, Trade and Industry, “The 2008 (38th) Survey of Overseas Business Activities”.
Further break-down of Table 1 according to the size of respondent companies reveals an important general observation that the smaller the firm size is, the higher the expectation of the Item 1 (Reduction/Removal of tariffs) and the Item 8 (Facilitation/Simplification of custom procedures) becomes.
        Figure 1 and Figure 2 show the result of a standard “correspondence analysis” (the method to summarize the “closeness” of different categories by mapping along a few meaningful axes) applied to Table 1 (Expectations of FTAs expressed by Japanese firms (Total)). Judging from a separate analysis (not covered in this paper) which points to the high statistical significance of the correspondence analysis, there seem to be three meaningful factors (i.e., 1st, 2nd and the 3rd axes) along which different service sectors can be mapped.
 
 
Figure 1. Correspondence analysis of Table 1 (1st axis×2nd axis)
Source: Made from Table 1.
 
 
Figure 2. Correspondence analysis of Table 1 (1st axis×3rd axis)
Source: Made from Table 1.
 
While the characterization of these statistically meaningful axes is not easy, a suggested naming of the three factors is as follows:
1st Axis (or Factor): measurement of “tangible trade – intangible trade”;
2nd Axis (or Factor): measurement of “agglomeration (or scale economy)-network”; and
3rd Axis (or Factor): measurement of “trade liberalization-trade facilitation”.
What can be stated at least is that the three (and only three) factors dominate the variety of expectations of FTAs held and expressed by Japanese business firms. Trade liberalization through FTAs seem to: facilitate business firms’ tangible (in the case of manufacturing industry) or intangible trade (in the case of service industry); influence their choice of agglomeration or networking; and promote trade liberalization (through direct trade policy including tariff reduction and removal of service restrictions) or trade facilitation (through indirect impacts including the enhanced level of policy transparency). This survey also reveals that service firms’ size matters for different priorities or expectations of FTAs.
 
Survey-based analysis 2: Toyokeizai Shimposha’s data
The second analysis for this paper concerns the correlation between manufacturing and service investments, with a focus on Japanese firms’ foreign direct investments in some FTA partner countries in East Asia, using database released by Toyokeizzai Shimposha (a Japanese publisher). Table 2 overall reveals that there is a positive correlation between manufacturing and service investments, the latter (service investments) presumably supporting manufacturing investments.
 
Table 2. Correlation coefficients between the manufacturing investments and the service investments (both in number)

Japan’s FTA partner

Correlation coefficients

Indonesia

0.72

Malaysia

-0.62

Philippines

0.23

Singapore

0.14

Thailand

0.50

Vietnam

0.27

Average

0.21
Source: Toyokeizai Shimposha (2012).
 
Next, the binary logistic regression analysis using the same database and conducted for this paper reveals the following three points for the wholesale sector (which relates closely to connectivity): the presence of an already effective FTA with a service sector commitment makes the likelihood (or the “odds ratio” statistically speaking) of new service firms’ investment in the ASEAN country with the FTA 4.0329 times higher than would have been the case without such a service-covering FTA; the presence of an already effective FTA with a service sector commitment makes the size –in terms of the number of workers of the newly established firm a little smaller (0.9862 times bigger—actually “smaller”—); and the presence of an already effective FTA with a service sector commitment makes the level of the parent firm’s equity participation a little smaller (0.9762 times bigger—actually smaller—).
Thus, this short paper concludes that FTAs enhance connectivity across partner countries and across different industries, and that FTAs also seem to secure inclusive growth through encouraging smaller-sized firms to invest in the FTA partner country. More work along this line is needed through our connected and value-creating efforts.
 
 
References:
Toyokeizai Shimposha (2012), Kaigai Shinshutsu Kigyo Soran (in Japanese) (Japanese overseas investment : a complete listing by firms and countries), Data Bank Series 7.


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