DISCUSSION
Japan – Pacific Alliance: Opportunities in a new global trade context
April 14, 2023
The global trade architecture has been undergoing fundamental changes for some time. Even before COVID-19 and the recent geopolitical tensions, there was already a debate about the extent to which the world economy had been disrupted and entered a new phase of de-globalization with important policy implications for countries around the world. Governments are reacting to these new trends and unexpected shocks by recalibrating their global economic integration strategies with geopolitical and security goals as a key consideration. This reality has raised expectations of major reconfiguration of global value chains (GVC), with the reshoring and nearshoring of manufacturing and service sector jobs. Recently, national security concerns have been added to the discourse on GVC with terms such as friend-shoring or ally-shoring, to minimize the risk of future disruptions or geopolitical concerns.
As a result, major Latin American trade partners have advanced new initiatives towards the Latin America and the Caribbean (LAC) region. At the 2022 Summit of the Americas in Los Angeles, U.S. President Biden launched the Americas Partnership for Economic Prosperity (APEP). China is increasing its presence in the region and has opened the door to new trade agreements. The European Union has included a “New Agenda for Latin America and the Caribbean” under the list of initiatives for 2023 under the chapter “A strong Europe in the world”, and there are also some promising prospects for finalizing this year the EU-Mercosur Association Agreement.
Therefore, in a world that will become more integrated among regional and geopolitical alliances and more protectionist and antagonistic towards the rest, the geopolitical dimension may emerge as a major force towards LAC hemispheric and global integration. Latin America could become an important player in this new context and open new opportunities to strengthen its ties with Japan.
As a result, major Latin American trade partners have advanced new initiatives towards the Latin America and the Caribbean (LAC) region. At the 2022 Summit of the Americas in Los Angeles, U.S. President Biden launched the Americas Partnership for Economic Prosperity (APEP). China is increasing its presence in the region and has opened the door to new trade agreements. The European Union has included a “New Agenda for Latin America and the Caribbean” under the list of initiatives for 2023 under the chapter “A strong Europe in the world”, and there are also some promising prospects for finalizing this year the EU-Mercosur Association Agreement.
Therefore, in a world that will become more integrated among regional and geopolitical alliances and more protectionist and antagonistic towards the rest, the geopolitical dimension may emerge as a major force towards LAC hemispheric and global integration. Latin America could become an important player in this new context and open new opportunities to strengthen its ties with Japan.
For starters, Japan has a long history of engagement in the region. Beginning in the 1960s, trade between Japan and LAC experienced a sustained boom, driven by Japanese demand for natural resources and the competitiveness of its manufacturing products in LAC markets. This pattern of trade has been followed by important foreign direct investment (FDI) flows by Japanese firms in LAC. While initially targeting natural resources, FDI has diversified into manufacturing and services. The presence of world-class Japanese firms in sectors ranging from automobiles to IT and clean energy brings cutting-edge technology, managerial know-how, and high-skilled jobs to the region.
First, many Japanese manufacturers use LAC investments to sell to third markets, directly increasing the region’s exports. In addition, the presence of major Japanese producers in large LAC economies has created new opportunities for neighboring countries to provide inputs, spurring nascent regional production chains. Finally, Japanese investment in LAC is likely linked to another feature of bilateral trade: the growing share of intermediate goods in LAC’s manufacturing imports from Japan. These products serve as key inputs for LAC-based production processes, potentially enhancing the competitiveness of domestic producers. As Japan contemplates its future relationship with LAC, it is worth keeping these lessons in mind.
The place to start is the Pacific Alliance (PA) which is one of the more advanced integration mechanisms in the region, with a focus in developing production linkages among them and with key global partners. Japan has already signed bilateral agreements with three of its members (Mexico, Chile, and Peru) and started negotiations with Colombia. It has also “observer state” status in the PA, joining a sixty plus list of observer states. Only Singapore became an “associate state” last January with the signature of a Free Trade Agreement with the PA which includes chapters on market access for goods, sanitary and phytosanitary measures, rules of origin, technical barriers to trade, economic and customs cooperation, trade facilitation, investment, e-commerce, cross-border trade in services, maritime services, telecommunications, temporary entry of business persons, state-owned enterprises, public procurement, competition policy, good regulatory practices, gender, SMEs and legal and institutional matters.
Japan should consider a similar agreement to complement the existing bilateral relationship with each member, encourage the attraction of investments, facilitate government procurement contracts, and enhance the access of service providers in a wide range of sectors. It will also open the door to cooperation in critical areas such as energy, food, infrastructure, urban development, and the digital economy.
The international fragmentation of production and the rise of global value chains has allowed countries to participate in productive processes without having to develop skills in each one of the tasks necessary to produce a final good. When each country in a value chain specializes in the inputs that can produce relatively better, the total cost of the final product decreases and this allows access to third markets in a more competitively manner than they could if each country acted individually. This is the rationale behind the objective of the PA countries to use their integration agreement as an export platform to the world, with special emphasis to Asia-Pacific. Connecting the Japanese and the PA markets through this trade agreement will allow the countries of the Alliance to use regional inputs from different countries enhancing regional production chains, attract FDI to an extended market and using it as a productive and export platform to the region.
In this context of potential reconfiguration of global value chains, a key factor to develop new production and commercial linkages between Japan and the PA would be the harmonization of rules of origin, which is the criteria to access a market under a preferential tariff treatment. It’s worth noting (a not very well-known fact) that there is a high level of heterogeneity between the different bilateral agreements signed by Japan with Chile, Mexico, and Peru with respect to which inputs non-originating in a particular country are allowed and which are not for each sector that can be competitively exported to the Japanese market (rules of origin). Therefore, a process of harmonization and convergence in these rules could allow for the development of new production chains and new foreign direct investments opportunities by Japanese firms in the PA. The launching of negotiations by Japan to become an associate member will be the first necessary step. In practice, however, only the private sector can ultimately decide whether the production chain in a particular sector is a profitable business or not. Let’s hope that this agenda can become a reality sooner than later.
First, many Japanese manufacturers use LAC investments to sell to third markets, directly increasing the region’s exports. In addition, the presence of major Japanese producers in large LAC economies has created new opportunities for neighboring countries to provide inputs, spurring nascent regional production chains. Finally, Japanese investment in LAC is likely linked to another feature of bilateral trade: the growing share of intermediate goods in LAC’s manufacturing imports from Japan. These products serve as key inputs for LAC-based production processes, potentially enhancing the competitiveness of domestic producers. As Japan contemplates its future relationship with LAC, it is worth keeping these lessons in mind.
The place to start is the Pacific Alliance (PA) which is one of the more advanced integration mechanisms in the region, with a focus in developing production linkages among them and with key global partners. Japan has already signed bilateral agreements with three of its members (Mexico, Chile, and Peru) and started negotiations with Colombia. It has also “observer state” status in the PA, joining a sixty plus list of observer states. Only Singapore became an “associate state” last January with the signature of a Free Trade Agreement with the PA which includes chapters on market access for goods, sanitary and phytosanitary measures, rules of origin, technical barriers to trade, economic and customs cooperation, trade facilitation, investment, e-commerce, cross-border trade in services, maritime services, telecommunications, temporary entry of business persons, state-owned enterprises, public procurement, competition policy, good regulatory practices, gender, SMEs and legal and institutional matters.
Japan should consider a similar agreement to complement the existing bilateral relationship with each member, encourage the attraction of investments, facilitate government procurement contracts, and enhance the access of service providers in a wide range of sectors. It will also open the door to cooperation in critical areas such as energy, food, infrastructure, urban development, and the digital economy.
The international fragmentation of production and the rise of global value chains has allowed countries to participate in productive processes without having to develop skills in each one of the tasks necessary to produce a final good. When each country in a value chain specializes in the inputs that can produce relatively better, the total cost of the final product decreases and this allows access to third markets in a more competitively manner than they could if each country acted individually. This is the rationale behind the objective of the PA countries to use their integration agreement as an export platform to the world, with special emphasis to Asia-Pacific. Connecting the Japanese and the PA markets through this trade agreement will allow the countries of the Alliance to use regional inputs from different countries enhancing regional production chains, attract FDI to an extended market and using it as a productive and export platform to the region.
In this context of potential reconfiguration of global value chains, a key factor to develop new production and commercial linkages between Japan and the PA would be the harmonization of rules of origin, which is the criteria to access a market under a preferential tariff treatment. It’s worth noting (a not very well-known fact) that there is a high level of heterogeneity between the different bilateral agreements signed by Japan with Chile, Mexico, and Peru with respect to which inputs non-originating in a particular country are allowed and which are not for each sector that can be competitively exported to the Japanese market (rules of origin). Therefore, a process of harmonization and convergence in these rules could allow for the development of new production chains and new foreign direct investments opportunities by Japanese firms in the PA. The launching of negotiations by Japan to become an associate member will be the first necessary step. In practice, however, only the private sector can ultimately decide whether the production chain in a particular sector is a profitable business or not. Let’s hope that this agenda can become a reality sooner than later.
