Category: Economics

As negotiations progress, opposition to the Trans-Pacific Partnership (TPP) is getting louder in Malaysia.

The opposition camp is focusing on possible loss of policy independence arising from the implementation of the TPP and its potential cost to ordinary Malaysians. While their concerns are legitimate and deserve attention, it is also important to know that there are possible losses from not joining the TPP.

The TPP is a proposed multilateral free trade agreement (FTA) among 12 diverse countries across the Pacific region. Those countries include Malaysia and the United States. Several other countries with reasonably large populations like Thailand have expressed interest in joining the TPP as well. If negotiations are successful, it will create the largest free trade area in the world in terms of gross domestic product.

The immediate primary purpose of having an FTA is to increase trade volume by reducing cost. That can be done by liberalizing trade tariffs or by standardizing regulations, among others. The ultimate aim of having greater trade volume is to improve the population’s average welfare. Greater trade volume means greater opportunity for increased income and more job creation.

That certainly has been true for Malaysia. In the years after the formation of Malaysia, the country embraced an import substitution industrialization policy (ISI), where imports were discouraged and actively replaced by domestic production. It did industrialize some parts of the economy but with a small population therefore small demand, industrialization efforts did not go far enough to push overall income and general welfare up convincingly. Furthermore, it was an expensive way to industrialize.

Malaysia and several other Asia-Pacific countries, most notably the four Asian Tigers, only really began to grow rapidly upon the adoption of an export-oriented industrialization policy (EOI) in the 1970s and the 1980s.

While the ISI looked inward and had limited trade, the EOI explored the world for growth to cater to global demand apart from domestic demand. With the explosion of trade volume, these countries grew rapidly soon after.

New jobs that did not even exist before were created. Average incomes of Malaysians zoomed up in a way no one had ever seen before. The result was the Asian Miracle: where others took centuries to achieve, these Asian countries took only a few decades thanks to trade.

The FTA helps support the EOI by granting low-tariff access to the international market.

Now, there are at least two effects of trade. One is the creation of new trade, which is good because it benefits the trading partners without hurting a third party. The other is trade diversion, which benefits the trade partners but hurts a third party.

There is an aphorism in support of free trade: a rising tide lifts all boats. That means trade is not a zero-sum game and the benefits outweigh the costs after all things are considered. The truth is that happens only if new trade is created.

Right now, the best way to create new trade is through a global trade agreement where every country co-ordinates with each other to liberalize its trade. Unfortunately, that global effort in the form of the Doha Round has been dead for some years now. In its place, countries are resorting to bilateral and regional trade arrangements.

While these bilateral and regional arrangements, which the Asean Free Trade Area and the TPP belong to, can create new trade, they can also create some diversionary effect to hurt countries which are not party to the arrangement. In some ways, such FTA can be thought as a preferential trade agreement, especially if the trade diversion effect is stronger than the trade creation effect.

A dramatic example effect of trade diversion would be China before it joined the WTO in late 2001. While the WTO is not exactly an FTA in a traditional sense, it functions as such.

All WTO members must treat each other equally and there is no requirement to treat non-members equally. That leads to a situation where trade barriers imposed by a member state against another member state are generally lower than that imposed on non-members. Since most countries in the world are WTO members, non-members are screwed… to put it simply.

A lot of trade flows circumvented China, the non-member. That was not because China had nothing to offer to the world but it was only because of trade diversion.

Once China joined the WTO, the trade diversion effect was reduced. Proof: China is now the factory of the world and that may not be just a figure of speech. It is worthwhile to take note that China became a global economic powerhouse when it opened up.

Here, we return to the TPP. It has the potential of becoming the largest FTA in the world. Because of its sheer size, the trade diversion effect from Malaysia missing the TPP boat can be so big that it can hurt, never mind the lost opportunity for new trade creation. It means job and income growth could be at stake, making Malaysia’s effort to catch up with the developed Asian Tigers harder than it should be.

This however does not mean the worry of the anti-TPP camp should be shoved aside. Certain provisions within the TPP may provide too much monopoly power to foreign corporations as the proposed agreement tries to put in place overly strong intellectual property rights that seem to turn the debate into the issue of market monopoly. Malaysia is already struggling to address pre-existing monopolists throughout its economy. The TPP may just exacerbate the situation by creating more monopolies in more sectors.

Nevertheless, those concerns and several others are sectoral in nature. It is wise to move out of the respective silos and look at the bigger picture from time to time.