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COST/BENEFIT ANALYSIS OF ASEAN-EU FTA

Edmund W. Sim

Hunton & Williams

adapted from a previous presentation by Dr. Andrew Szamosszegi, Capital Trade Incorporated

Thai Ministry of Commerce, Bangkok

30 October 2007

2C A PC A P I T A L T R I T A L T R A D EA D EI N C O R P O R A T E D

Presentation to Thai Ministry of Commerce, October 30, 2007

Qualitative assessment—economic perspective

Anticipated FTA benefits

Increase in exports

Lower priced imports

Increased competition, leading to lower prices in general

Reallocation of resources toward export industries, where countries have comparative advantage

Increased economic welfare and growth



Qualitative assessment—economic perspective (ctd.)

Anticipated FTA costs

Lost industry sales and output due to higher import levels

Lost pricing flexibility in import-competing industries

Adjustment costs in import competing sectors:

Lower rates of return on industry assets

Potential lost jobs/wage pressures




Benefits typically outweigh the costs

That is why governments continue to pursue agreements that reduce duties

EU has signed 21 agreements and is currently pursuing other agreements with Asian countries.

The EU is renewing its focus on FTAs as a tool for increasing competitiveness.

Many other countries and regions, including ASEAN, are pursuing FTAs.




Potential for trade diversion among ASEAN countries

Trade structures of ASEAN countries are “substitutable.”

Keep eye on the ball.

Losses to other ASEAN countries dwarfed by FTA gains.



Quantitative AnalysisAssessment of comparative advantage

Compared competitiveness by 6-digit HS codes for Thailand and EU in 2005.

5,223 6-digit codes

Trade between the Thailand and the EU is complementary.

Thailand’s comparative advantage is more concentrated.

Thailand has fewer codes in which it has a comparative advantage, but more codes with high comparative advantage values.



Quantitative AnalysisAssessment of comparative advantage (ctd.)

In virtually every HS section (22 in all), there are codes for which Thailand has a comparative advantage and the EU does not, and vice versa.

This pattern suggests there will be export and import growth in most sectors.

The Thai sectors that score well in the comparative advantage analysis are live animal and animal products, textile and textile articles, footwear, vegetable products, prepared food, jewelry, and miscellaneous manufactured products.

The EU scored well in chemicals, machinery & appliances, industrial instruments, pulp & paper, and base metals.



Quantitative AnalysisAssessment of comparative advantage (ctd.)

Number of HS Codes with EU Comparative Disadvantage and ASEAN Comparative Advantage

458507

627

685

0

100

200

300

400

500

600

700

800

Malaysia Vietnam Indonesia Thailand

Nu

mb

er

Source: Based on data from United Nations Statistics Division, COMTRADE database.



Quantitative AnalysisMethodology and Analysis (ctd.)

This study’s approach: Applied general equilibrium analysis using the GTAP database and model.

Incorporates actual tariff information, sector-specific data on trade flows and production levels, and macroeconomic data in a unified framework.

Global exports equal imports (less transportation and tariffs)

Global production equals global consumption.

Allows for a detailed assessment of macroeconomic as well as industry-specific performance.

Simply put, the use of GTAP allows for the most detailed analysis of multiple sector and country effects potentially resulting from an FTA.




Changes in:Relative pricesDemand for domestic goods

Economy inequilibrium

FTA reducestariffs

Demand for importsDemand for exportsDemand for labor, capital, etc.Production levels by sectors

Private consumptionEconomy inequilibrium

GDP = Government consumptionInvestmentTrade balance

Simplified Schematic Diagram of GTAP FTA Analaysis




The GTAP base year is 2001. Updated every two years—next database is expected to be

released in Fall 2007Changes made to the database to reflect Thailand’s current conditions

and needs. Tariff rates in database were updated using 2006 trade flows and

duty rates. EU-enlargement and the ASEAN FTA were incorporated. GTAP sector “chemicals, rubber, and plastics” split into two

sectors, “chemicals” and “rubber and plastic,” using actual trade and production data.




2 simulations of the envisioned FTA

Full liberalization of goods trade – the perfect world

SIM1 = short-to-medium run results

1-3 years

SIM2 = long run results

4-10 years



Quantitative AnalysisChange in Thai Exports to EU with FTA

Services

Paper products

Mining

Forestry & Lumber

Iron & steel

Vegetable oil

Fisheries

Dairy

Fruits & vegetables

Chemicals

Rubber & plastic

Other crops

Machinery & equipment

Electrical equipment

Other goods

Motor vehicles

Processed food

Textiles

Footwear

Apparel

MeatRice

-500 0 500 1,000 1,500 2,000

Million dollarsSource: Revised GTAP database and model.



Quantitative AnalysisChange in EU Exports to Thailand with FTA

Mining

Fisheries

Rice

Electrical equipment

Vegetable oil

Fruits & vegetables

Other crops

Iron & steel

Meat

Paper products

Forestry & lumber

Dairy

Rubber & plastic

Textiles

Footwear

Apparel

Services

Other goods

Processed food

Chemicals

Machinery & equipmentMotor vehicles

-500 0 500 1,000 1,500 2,000

Million dollarsSource: Revised GTAP database and model.



Quantitative AnalysisChanges to Thai Trade and Balances Due to FTA

$Mil. Percent $Mil. PercentExport value 910 1.1 2,860 3.5Import value 1,002 1.5 2,202 3.4

Goods & services trade balanceMerchandise trade balanceSource: Revised GTAP database and model.

-92661

6591,240

Short Run Long Run

$Mil. $Mil.



Quantitative AnalysisChanges to Thai Exports & Imports Due to FTA

0.91

2.86

1.00

2.20

-

0.5

1.0

1.5

2.0

2.5

3.0

3.5

SIM1 SIM2

Bil

lion

dol

lars

Increase in total exports

Increase in total imports

Source: Revised GTAP database and model.



Quantitative AnalysisTrade Diversion Due to FTA

Long-run diversion = $0.1 billion

Long run increase in Thai exports to EU due to FTA = $5.4 billion

The increase in Thai exports exceeds estimated trade diversion by a factor of 40!

Keep your eye on the ball.



Quantitative AnalysisPrice effects of FTA

Import prices decline, as predicted by theory.

Import prices fall in virtually very sector.

Lower import prices, however, do not drag down Thai prices.

Summary of FTA Price and Cost Effects

SIM1 SIM2

GDP deflator 2.4 1.7Import price range by sector -7.9 to 0.1 -7.9 to 0.3Consumption price range by sector -2.1 to 14.0 -2.1 to 14.4Factor cost index 3.1 2.3

Item/SectorPercent Change




Quantitative AnalysisCost effects of FTA

The FTA would increase demand in labor intensive industries, resulting in higher wages.

Thus, businesses pay less for imports but more for domestic factors of production.

Returns on capital increase as well, especially in the short run.

SIM1 SIM2

Unskilled labor 3.3 4.1Skilled labor 1.9 2.4Capital 1.9 0.1


SectorPercent

Cost Estimates for Mobile Factors



Quantitative AnalysisEmployment effects

The GTAP model assumes full employment.

Employment can grow in certain industries, but only if other industries in the model experience employment losses.

If the economy in fact has unemployed or underutilized labor resources, then industries predicted to lose employees might not lose any at all.

The rice, meat, footwear, apparel, textiles, fisheries, vehicles, and processed food industries add employees.



Quantitative AnalysisInvestment effects

Fixed investment increases disproportionately in Thailand.

Real output of the capital goods sector increases by 3.3 percent in Thailand compared to lower amounts for ASEAN and the EU.

Investment Performance By Region

0

500

1,000

1,500

2,000

2,500

3,000

Thailand ASEAN EU

$m

illio

n

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

Value of fixed investment (left) Real output of capital goods sector (right)



Quantitative AnalysisWelfare effects of FTA

Increase in Welfare Due to the FTA

1.3

3.3

0.1

2.8

7.8

1.9

0

1

2

3

4

5

6

7

8

9

Thailand ASEAN EU

Bil

lion

s of

dol

lars

SIM1 SIM2




Quantitative AnalysisGDP effects of FTA

INDONESIA, 1,693.4

MALAYSIA, 1,142.9

THAILAND,2,309.7

THAILAND,65.1

INDONESIA, 224.8

MALAYSIA,84.8

VIETNAM,990.3VIETNAM,

183.3

ROASEAN,1,238.0

ROASEAN,82.7

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

SIM1 SIM2Source: Revised GTAP database and model.

Distribution of GDP Gains within ASEAN ($million and percent)



Quantitative AnalysisWelfare vs. GDP effects

Welfare and GDP are not the same thing.

GDP measures output.

Welfare also measures the improvement in the “terms of trade,” improvements in resource allocation, and other measures.

In the short run (SIM1), Thailand benefits because its exports “command” more imports than in the pre-FTA period.

Thus, the gain in SIM1 welfare exceeds SIM1 GDP.



Quantitative AnalysisWelfare vs. GDP effects (ctd.)

SIM2 (long run)

Thailand’s GDP gains are quite large.

Welfare gains are even larger.

For both measures, Thailand’s gains are proportionately large within ASEAN.

Thailand accounts for 20 percent of ASEAN GDP, but accounts for …

30 percent of ASEAN long-run GDP increase.

40 percent of ASEAN long-run welfare increase.



Quantitative AnalysisChange in producer revenues due to FTA

SIM2 (long run) In the long run, 14 of the 22 specified sectors experience increased

revenue. Only 4 of the 22 sectors experience revenue losses in excess of 2

percent: Other crops, dairy, rubber & plastic, forestry & lumber.However of the 4 sectors, losses in 2 (other crops and dairy) probably reflect a

shift of resources to other agricultural and food sectors where demand increases.

In the two remaining sectors, the comparative advantage analysis indicates that these sectors are likely to benefit from an FTA.



Quantitative AnalysisPreliminary conclusions

Why an ASEAN-Thai FTA?An FTA would benefit Thai and ASEAN tradeTrade diversion losses to Thailand are minimal!Thai and ASEAN welfare and GDP grow

Thai gains are disproportionately large.Only a handful of sectors experience losses.Most losses that due occur are not due to increasing imports, but to resource

shifts to high demand industries.The bottom line: the benefits of this agreement would significantly exceed its

economic costs.



Conclusion

THANK YOUTHANK YOU

EDMUND SIM

Hunton & WilliamsHunton & Williams

SINGAPORE

65-6876-6708

[email protected]

Special Thanks to Dr. Andrew Szamosszegi, Capital Trade Incorporated

Technology

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