All together now: The region is moving towards the establishment of a common market, although implementation is proving to be a challenge

ASEAN is set to declare itself a common market at the end of 2015. This could profoundly affect trade and investment flows throughout the region and have a significant impact on the economies of all member states, the Philippines included. It will create new opportunities for investors as some of the world's fastest-growing economies work together and combine their strengths, and as more and deeper exchanges between these countries begin to unlock value heretofore untapped.

Since its founding in 1967, ASEAN has served as a constructive forum for the countries of the region, and it has made business and trade promotion a top priority for years. Over time it has worked toward EU-style integration, first with a preferential tariff programme, followed by the ASEAN Free Trade Area and finally full integration, scheduled to take effect at the end of 2015. The ASEAN Economic Community (AEC) will allow for the free movement of goods, services, capital and skilled labour. Beyond the region, the bloc is also seeking to become a major trade player globally. As a grouping, it has signed free trade agreements with a number of countries: Australia, China, India, Japan, New Zealand and South Korea.

SIGNIFICANT GROUPING: The AEC has the potential to be a formidable economic power. It promises to bring together a market of 609m people in an area that is economically large and growing. In the past decade, the economies of emerging Asia have expanded by more than 7.5% a year, according to the IMF. ASEAN’s combined GDP is already valued at $2.3trn and is expected to reach $10trn by 2030. It is also important to note that ASEAN grew rapidly following the 2008-09 economic crisis, bucking the sharp drops in the West and resisting the slowdown in China. It not only cemented its reputation as a workshop for the world, but also as an engine of economic growth and as a burgeoning consumer market.

The key to the AEC is that it will change the way countries in the region relate to one another, breaking patterns going back decades. Historically, the member states have tended to compete in the same industries, focusing on the potential outside ASEAN rather than within the region itself. Even today, intra-ASEAN trade is just 25% of the region’s total trade. Thailand, for example, has become known as the “Detroit of the East” and a hub for global carmakers. Those same manufacturers have bases too in Indonesia, South-east Asia’s biggest car market, as well as the Philippines. The group’s 10 members also compete in areas such as food processing, telecommunications, tourism and business services.

The AEC promises to lead to further integration. Rather than taking each other on directly in terms of industries and products, it is likely that more organic economics will begin to emerge. Suppliers, subcontractors and assemblers will move to where it makes the most sense for them to locate, while exports and imports will increase within the region. Countries will no longer so much compete as they will complement one another to make for a stronger region in general. The traditional pattern where each country targeted the West or the more developed Asian economies, such as Japan, and focused less on their neighbours will be replaced by a sophisticated dynamic involving more local trade and a less simplistic way of interacting with the rest of the world.

GOOD FOR PHILIPPINES: When integration does take place, it is clear that the Philippines will be well placed in certain respects. The economy is consumer led, so its companies are quite experienced in meeting domestic demand requirements. This could be good for companies like Jollibee, which has been planning its regional expansion for some time. English-language abilities will also help quite a bit, as the AEC proposition is to a great extent predicated on integration with the world economy, and even locally a lingua franca is needed. Few countries have the combination that the Philippines offers. While others have the domestic demand – such as Indonesia – they do not have the English-language skills. While others have the language skills – Singapore and Malaysia, for example – they have set themselves up to be more export oriented and their labour costs are much higher. The Philippines offers a compelling combination that could play well in the AEC mix.

Medical tourism in particular is an area in which the Philippines could excel within the grouping. The country already has a good reputation for its high-quality service and reasonable prices, and could find that as trade and investment flows improve within ASEAN, money and capital gravitate towards its hospital groups.

The Philippines may also benefit from the AEC because it has lagged so far behind the region historically. This is especially the case when it comes to investment. The lack of FDI is not just a temporary phenomena. According to the World Bank, FDI as a percentage of GDP in the Philippines in 1995-2010 was 1.51%. For Thailand it was 3.34%; Malaysia, 3.23%; and Vietnam, 7.15%. Only Indonesia was lower (1.75%). As of 2012, inward FDI stock among the six largest ASEAN economies was the lowest in the Philippines, according to the UN Conference Trade and Development’s “World Investment Report”. It was $682.4bn in Singapore, $205.66bn in Indonesia, $132.4bn in Malaysia, $159.13bn in Thailand and $72.53bn in Vietnam. For the Philippines, it was just $31.03bn.

SLOW GOING: While the AEC has been greeted with considerable optimism, it is facing its share of problems. Implementation has turned out to be difficult, with the exact mechanisms for much of the integration still not worked out. Many of the benchmarks being set by the AEC fail to account for complexities on the ground, and while high-level agreements can be reached, they are often of little practical use to investors. The message now from the top is that 2015 is simply a guideline, not a deadline. The greater concern is that a failure to meet the benchmarks will lead to dashed expectations and an eventual pushback.

ASEAN is a region of huge disparities in terms of income, productivity, competitiveness and education levels, and while the diversity is a strength, some of the less developed nations in the region are asking for and being given certain protections and dispensations. And for all countries, some of the most important sectors – those key to true liberalisation – are being carved out and exempted from reforms. Finance, for example, has so-called pre-arranged flexibilities built in, which allow member states to opt out at will. Land is notably absent from the programme. Almost all ASEAN countries have restrictions on foreign ownership of land, and restrictions of this type are seen as one of the most fundamental trade barriers. But no country in the group is proposing any great reforms to allow greater property rights.

For the Philippines, the implementation of the AEC could be particularly problematic. While its lack of reforms at home suggests that it might benefit most from the formation of the group, it also raises the possibility that regional liberalisation may not work as hoped locally. The country generally likes the idea of open markets, but until it makes certain difficult changes domestically, some of these will be more or less meaningless. Ports are a good example. The country might agree to free trade, but it needs to improve its transportation infrastructure and reform the institutions that control the ports and Customs to fully realise the benefits of open markets.

The greatest risk to the AEC is the possibility of a downward spiral of protectionism. Failure by one party to fully implement the programme may lead others to cut corners and seek to hold tight to more restrictive practices. In the event, the AEC would become just another group of countries working out deals with each other to gain access, each seeking an advantage over the other. The Philippines could well fall into this trap. Very little progress has been made on initiating significant lower-level reforms, and local interests may dig in and focus more on what is to be lost rather than what could be gained. If this happens, the Philippines may not find others as welcoming to it as they should be under the terms of the AEC.

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The Report: The Philippines 2014

Trade & Investment chapter from The Report: The Philippines 2014

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