China and New Zealand: an assessment of the recent FTA agreement

Transcription

1 China and New Zealand: an assessment of the recent FTA agreement by Ron Sandrey and Hans Grinsted Jensen tralac Working Paper 5 July 2008 Ron Sandrey, tralac, and Hans Grinsted Jensen, University of Copenhagen, Institute of Food and Resource Economics

2 Copyright tralac, Readers are encouraged to quote and reproduce this material for educational, non-profit purposes, provided the source is acknowledged. All views and opinions expressed remain solely those of the authors and do not purport to reflect the views of tralac. This publication should be cited as: Sandrey, R. and Grinsted, H China and New Zealand: an assessment of the recent FTA agreement. tralac Working Paper No 5. [Online]. Available:

3 1 Summary and key points China and New Zealand signed a free trade agreement (FTA) in April For the former it is the first signing of an FTA with a developed country, while for the latter it marks the first signing with a major power for around twenty five years since the Closer Economic Relations Agreement (CER) with Australia. For both it represents a comprehensive agreement, with complete duty-free access offered to China for merchandise goods into New Zealand and some minor exceptions on sensitive agricultural products and some forestry products into China. In addition, there are significant concessions on services and investment for both parties, but we have not modelled these gains. This paper uses the pre-release Version 7 of the Global Trade Analysis Project (GTAP) model to assess the welfare and trade gains from the FTA as determined by merchandise goods access only. The results show that the considerable welfare gains to New Zealand of $478 million or 0.30 percent of Gross Domestic Product (GDP) demonstrate that a small economy can stand to gain from an FTA with a larger one, as the welfare gains to China are a lower $323 or an almost imperceptible 0.01 percent of GDP. These gains to New Zealand reconcile with or even exceed comparable modelling research undertaken with either different models or an earlier version of GTAP. Overall, the FTA represents a solid pass mark for New Zealand s negotiators. Scrutinising the output reveals that New Zealand s gains largely come from the agricultural sector where almost complete duty-free access into China is traded off against the New Zealand manufacturing sector (and the clothing sector in particular). Enhanced agricultural exports to China of $761 million are concentrated in vegetables and fruit and other agricultural products in primary agriculture, and beef/sheep meat, dairy products and other foods in processed agriculture. These increased exports are about evenly split between new exports or trade creation and current exports or trade diversion away from other destinations. Increased imports from China are some $946 million, with again an almost even split between new trade creation and trade diversion away from other sources. Nearly 40 percent of these enhanced imports from China are in the textile, clothing and

4 2 leather (footwear) sectors (TCF), with around 70 percent of the $196 million in clothing imports being new trade. Output in the clothing sector reduces by 13.2 percent as a result of preferential access. Other increases in manufacturing imports from China are spread across all sectors, with machinery the largest single increase and trade diversion away from other suppliers more evident outside of the TCF sectors. Interestingly, the abolition of the TCF tariffs signals New Zealand as an almost duty-free destination for global traders in the very near future as just over half of the current total tariff take at the New Zealand border is from tariffs applied to TCF imports from China. The only alternative scenario presented is one whereby a reduction in the non-tariff measures facing New Zealand s imports into China is simulated by effectively assessing these barriers equivalent to tariffs of between two and five percent. Welfare results for New Zealand increase from $478 million to $902 million (almost double), while China s welfare results reduce by a miniscule $5 million. Much of the increase here for New Zealand results from terms of trade gains as the prices of exports increase. 1 Introduction In assessing the future trade policy options for South Africa and China, China s dramatically increasing role as a trading giant on the world scene has to be taken into account in these considerations. Research is being conducted by tralac for a book that focuses on the South African agricultural trading relationship with China, and in particular how this relationship may be advanced by the adoption of a free trade agreement (FTA) between South Africa (or, more properly, SACU) and China. To assist with this analysis, the internationally accepted benchmark Global Trade Analysis Project (GTAP) 1 global computer model will be used as the analytical tool. Specifically, the programme will start from a base of an FTA between South Africa and China and then sequentially examine the different defensive and offensive alternatives vis-à-vis the strategy of competitor countries. In undertaking this analysis, the starting point is a simulation of the known and best estimate conditions that will prevail at the end of a given period (2020 in this case) and then assessing 1 See the GTAP website at for a full introduction to the model.

5 3 the difference that the selected policy change under consideration is likely to make. In the case of China, we can now add the recently concluded FTA with New Zealand into the known baseline. While New Zealand and South Africa do not have a onefor-one trade mapping profile in either China or global markets, there are enough similarities between the two southern hemisphere agricultural and horticultural exporting countries to afford some degree of relevance to South Africa from the New Zealand experience. The objective of this paper is to undertake a simulation that adds the New Zealand FTA with China into the new baseline for examining the impacts of an FTA between South Africa (SACU) and China. We use the latest pre-release Version 7 of the GTAP database as discussed below to undertake this assessment. We believe such an analysis provides a useful pointer to the potential gains that a small country can make given a comprehensive FTA with China. 2 The GTAP database/model GTAP is supported by a fully documented, publicly available, global database and underlying software for data manipulation and implementing the model. The framework is a system of multisector country economy-wide input/output tables linked at the sector level through trade flows between commodities used both for final consumption and intermediate use in production. The latest GTAP Version 7 database divides the global economy into 106 countries/regions with 57 commodities specified in the database. The Version 7 database represents the global economy/trade in the year 2004 measured in millions of 2004 US$. At the time of writing, the Version 7 pre-release was not available for public release, but tralac through its association with the Institute of Food and Resource Economics, University of Copenhagen (as a Board Member of GTAP), was able to use it. GTAP is a comparative, static, general equilibrium model, which means that while it examines all aspects of an economy via its general equilibrium feature (as distinct from a partial equilibrium approach that examines only the sector under consideration), it is static in the sense that it does not specifically incorporate dynamics such as improved technology and economies of scale unless these are specifically built in. The economic agents of consumers, producers and government

6 4 are modelled according to neoclassical economic theory, with both producers and consumers maximising their profits and welfare respectively with markets perfectly competitive, and all regions and activities linked. Results are measured as a change in welfare arising principally from the reallocation of resources within an economy and the resulting change in allocative efficiency and terms of trade effects 2, which may be significant in many instances. This welfare is based upon a representative household, so unless this is modified it is not possible to examine the distributional aspects other than through the skilled/unskilled labour market closures. The standard GTAP model also does not address the time path of benefits and capital flows over time. These changes are important as they allow consumers to borrow, which in turn allows consumption patterns to vary over time. The interpretation of GTAP results The GTAP model expresses the welfare implications of a modelled change in a country s policy as the Equivalent Variation (EV) in income. The EV in income measures annual change in a country s income (gains or losses) from having implemented, for example, an FTA scenario. The EV is simply defined as the difference between the initial pre-fta scenario income and the post-fta scenario income after implementation of the FTA, with all prices set as fixed at current (pre-fta) levels. EV = post-fta income pre-fta income If a country s EV in income increases due to a policy change, the country can increase its consumption of goods equal to the increase in income and thereby improve the national welfare in the country. The EV is a doubly effective measure for measuring global economic impacts of an FTA agreement between groups of countries. Firstly, the EV provides a monetary valuation of effects induced by FTA policy changes globally and at the country or regional level, so as to illuminate 2 Where terms of trade are the relative changes in import and export prices following a change. Improved allocative efficiency within a country comes about as it moves resources into more internationally competitive activities following a reduction in its own border protection. It is paradoxically this allocative efficiency that is providing most of the benefits to the home country from reducing its own protection rather than the exporter gaining better market access as the partner country reduces tariffs. This is an example of where a general equilibrium model is often able to counter the common mercantilist argument that a country needs protection to develop its own industrial sector.

7 5 winners and losers. And secondly, the EV also facilitates comparisons of different policy scenarios, given that income changes are measured in initial base prices. These total welfare gains/losses can be decomposed into contributions from improvements in allocative efficiency, capital accumulation, changes in the employment rate of the labour force, and terms of trade. Gains from allocative efficiency arise from improved reallocation of productive resources (such as labour, capital and land) from less to more productive uses. For instance, when import tariffs are abolished, resources shift from previously protected industries towards other sectors, which are more in line with the country s comparative advantage, producing an increase in economic welfare. Terms of trade effects are consequences of changing export and import prices facing a country. So, when a country experiences an increase in its export price relative to its import price (e.g. due to improved market access), it may finance a larger quantity of imports with the same quantity of exports, thus expanding the supply of products available to the country s consumers. Whereas allocative efficiency contributes to increases in global welfare gains, the terms of trade affect the distribution of global welfare gains across countries; essentially, one country s terms of trade gain is another country s terms of trade loss. The global total must therefore add to zero, and if a large proportion of the benefits to New Zealand from an FTA is derived from terms of trade effects, this is implying transfers to New Zealand from the rest of the world Capital accumulation summarises the long-run welfare consequences of changes in the stock of capital due to changes in net investment. A policy shock affects the global supply of savings for investment as well as the regional distribution of investments. If a trade agreement has a positive effect on income through improvements in efficiency and/or terms of trade, a part of that extra income will be saved by households, making possible an expansion in the capital stock. At the same time, rising income will increase demand for produced goods, pushing up factor returns and thus attracting more investments. Generally, economies with the highest growth will be prepared to pay the largest rate of return to capital, and will get most of

8 6 the new investments. Therefore we will tend to see that the long-run welfare gains from capital accumulation reinforce the short-term welfare gains deriving from allocative efficiency and terms of trade. The welfare effects of changed employment rates are consequences of changes in the extent of the unskilled labour force employed due to changes in the real wage. In a situation where the demand for labour increases and thereby the real wage, the amount of labour employed increases, reducing the relative raise in the real wage and thereby increasing the competitiveness of the country s industries (increasing EV in income). 3 The global trading environment and China s FTA policy Dent (2008) considers that we are on the verge of a new FTA era. The WTO multilateral regime is still intact but under significant pressure from various sources, including: (i) tensions between developed and developing countries, often over FTArelated issues; (ii) the broad anti-globalisation movement at the civil society level; and (iii) the intensifying global FTA activity itself. The world trade system needs to find a path where a greater sense of global community rather than parochial fragmentation prevails. Large emerging developing countries such as China, Brazil, India and South Africa have an important partnering role to play here, as they are emerging as key world economies. However, deepening FTA activity may make this objective more difficult to achieve through its fragmentary and adversarial competition (e.g. countries seeking to gain preferential market access advantages over other rival states) effects. While FTAs are not likely help relieve the developed developing country tension, the FTA juggernaut nevertheless appears to be gathering yet more pace. This presents special challenges to developing countries in all regions across the world. The WTO (2008) reports that China's overall trade policy objective is to accelerate its opening to the outside world, develop foreign trade, and promote sound economic development. While it remains committed to the WTO and the multilateral system, China has been intensifying its pursuit of bilateral/regional arrangements involving free-trade agreements. These main agreements are:

9 7 The ASEAN China free-trade area (ACFTA), which entered into force on 1 July Both parties agreed to negotiate the establishment of an ACFTA within ten years. An early harvest programme specified that tariffs on all products in HS Chapters 1-8 and a limited number of products outside these chapters would be eliminated over three years beginning 1 January 2004, although a longer time frame of no later than January 2010 was accorded to Cambodia, Lao PDR, Myanmar and Viet Nam and, in addition, some products from Lao and the Philippines are totally excluded. The earlier China-Thailand FTA for agricultural produce pre-dated the ACFTA as it took effect in October 2003, and under this agreement tariffs for 188 types of fruits and vegetables have been cut to zero. Academics from China, Japan, and the Republic of Korea have been conducting a feasibility study for a trilateral free-trade agreement covering trade and investment, information and communication technology industries, environmental protection, and financial cooperation. China and India agreed to form a Joint Study Group in June 2003 to explore the potential for expanded bilateral trade and cooperation, and a feasibility study on a China India FTA was started in Both (a) Hong Kong and China and (b) Macao and China have agreements whereby from 1 January 2004 China began to implement a staged elimination of tariffs on imports originating in these two Special Autonomous Regions. Since 1 January 2006 tariffs on merchandise imports originating in Hong Kong and Macao have been fully eliminated. The China and Chile FTA entered into force on 1 October 2006, and under this agreement 74% of Chile's tariffs were eliminated immediately while 63% of China's tariffs were eliminated in two steps from 1 October 2006 to 1 January Most other tariffs are to be eliminated within five or ten years with 97% of both countries' tariffs eliminated by 1 January In November 2003 China signed a preferential trade agreement with Pakistan. Under an Early Harvest Agreement (from 1 January 2006) bilateral tariffs on certain products were to be eliminated gradually by 1 January 2008, and a further (limited) FTA entered into force on 1 July 2007.

10 8 China and Australia signed a Trade and Economic Framework Agreement in 2003, and the two countries commenced FTA negotiations in April These negotiations are ongoing, and the New Zealand FTA suggests that access for some of the sensitive agricultural products in China may prove difficult for Australia. China recently signed its first FTA with a developed country, namely the China/New Zealand FTA. On merchandise goods, the agreement comes close to maintaining New Zealand's unique position of signing comprehensive agreements where all merchandise trade is covered. Some with 96% of imports into China will be covered at the end of the nine-year full phase-in period, and these omissions apply not to the expected dairy sector but to certain processed wood and paper products and some sensitive agricultural products of little or no relevance to New Zealand. In addition, commentators are saying that the agreement has far-reaching provisions on services and investment that will benefit New Zealand. In July 2004 China and the Gulf Cooperation Council announced that they had signed a Framework Agreement on Economic, Trade, Investment and Technology Cooperation, and agreed to launch FTA negotiations. In December 2006 China and Iceland agreed to start negotiating an FTA. The China-Peru FTA feasibility study was completed in September 2007, and the first round of FTA negotiations was held in January New Zealand and external factors influencing trade policies The backbone of New Zealand s bilateral FTA policy is the Australia-New Zealand Closer Economic Relations Trade Agreement ANZCERTA (CER), which was signed in In 1988 Australia and New Zealand agreed to accelerate CER s liberalisation provisions and, importantly, extend the agreement to include trade in services and investment. Following CER both economies adopted comprehensive liberalisation programmes that included freer trade policies with not only each other but also the rest of the world. In New Zealand s case the 20 percent of imports sourced from Australia was high enough to put significant pressure on the tariff structure and hasten even wider liberalisation.

11 9 Apart from successful comprehensive FTAs with Singapore and Thailand (with the former being extended later to include Chile and Brunei) New Zealand s FTA harvest has proven to relatively modest. This is despite considerable effort at both the bilateral and regional levels. A major breakthrough came in the form of New Zealand being the first developed country to sign a comprehensive and high-quality FT with China in April As of mid 2008 the following is a summary of New Zealand s negotiating processes: The ASEAN-Australia-New Zealand FTA (AANZFTA) negotiators are aiming to conclude an agreement before the end of 2008; There is agreement to re-engage discussion with Malaysia on the bilateral FTA; Negotiations have commenced with the GCC following scoping discussions over 2006/07; The Trans-Pacific Strategic Economic Partnership Agreement between New Zealand, Chile, Singapore and Brunei (P4) entered into force in 2006, and in February 2008 the US announced its participation in the P4 negotiations on investment and financial services. Negotiations began in March 2008, while the P4 countries are also discussing P4 s possible further expansion to include others in the Asia-Pacific region; In November 2007, the report of the Joint Experts Group on the Strengthening of Bilateral Economic Relations was presented to the New Zealand and Mexican Ministers responsible for trade. Mexico is currently considering the recommendations of this report including whether to negotiate an FTA with New Zealand.. A Joint Study Group (JSG), launched in 2007, is looking at the feasibility of New Zealand and India entering into an FTA; A privately-conducted joint study into the feasibility of a Republic of a Korea-New Zealand FTA was completed at the end of 2007 and inter-governmental preparatory talks to discuss a possible Korea-NZ FTA are likely to take place in late 2008.

12 10 Prime Ministers Clark and Fukuda agreed in May 2008 that Japan and New Zealand undertake an authoritative joint study of the potential benefits of a bilateral Economic Partnership Agreement (EPA); and There has been further discussion at senior official and Ministerial level on the possible resumption of FTA negotiations with Hong Kong. 5 The bilateral trading relationship The New Zealand perspective 3 China is New Zealand s third-largest trading partner. During the December 2007 year, merchandise exports to China at NZ$1.95 billion accounted for 5.3 percent of New Zealand s total exports, with imports from China at NZ$5.59 billion constituting 13.3 percent of New Zealand s total imports. In addition, perhaps up to one-third of New Zealand s exports to Hong Kong and to a lesser extent Singapore may be destined for the mainland. These overall exports to China are dominated by agricultural products (55%), with dairy, wool and oils and fats the main products. However, exports have diversified, with forestry, seafood, machinery, aluminium, and high technology products (especially telecommunications) featuring in New Zealand s non-agricultural exports. New Zealand s imports from China include electrical machinery and equipment, textiles, clothing and footwear, toys, and a wide range of light consumer goods. The average duty assessed on New Zealand agricultural and fisheries imports into China during 2007, as estimated by tralac, would have been percent. The Chinese trade is also diversifying, as the services sector products of education and tourism are New Zealand s major exports and 2004 saw the peak of education-related foreign exchange earnings, totalling around NZ$2 billion. The huge increase since 1998 in the number of Chinese students travelling to New Zealand for secondary, tertiary and English language study (reaching around 65,000 in 2003/04) has for a number of reasons declined in recent years. Visitor numbers from China have grown by a factor of six since New Zealand was granted Approved Destination 3 This section was downloaded from the New Zealand Ministry of Foreign Affairs and Trade website at on 10 June 2008 and edited by tralac.

13 11 Status (ADS) by China in 1999, and China has now overtaken the Republic of Korea to become New Zealand s fifth-largest source of visitors (120,000 in the past year). Investment is another strand of the economic relationship. China's investments in New Zealand total in the vicinity of NZ$1.4 billion as at the end of Most investment has been in the forestry sector but there is also significant investment in manufacturing and commercial construction. Similarly, there is also significant New Zealand investment in China (ANZ bank, Fonterra, Richina Pacific, NDA Engineering, Hayes International and PAN PAC). The Chinese perspective While South Africa is China s 26th main import source (with EU countries counted individually) and 29th main export destination, one must drop further down the list to find New Zealand at 52nd for an import source and 56th as an export destination. In general, the Chinese data concurs with the New Zealand discussion above in that agricultural imports have made up around half of the total imports, with fisheries products around another five percent, and, importantly, forestry and forestry-related products another 28 percent. A feature of New Zealand agricultural imports is that in lines where it actively competes, it tends to have a much larger market share that its overall importance to the Chinese market would suggest (and especially in dairy and sheep products). In general, however, it may be fair to say that as China ventures into the business of undertaking FTAs with developed countries, New Zealand could be regarded as a starter pack to test the waters. 6 The GTAP simulation Introduction Model, database and scenarios The analysis undertaken in this paper is based upon a variant of the Global Trade Analysis Project (GTAP) model to simulate the impact of possible multilateral market access reforms resulting from an FTA between the New Zealand and China. The database is the most recent pre-release Version 7 GTAP database with the base

14 12 year where the 2004 tariff data originating from the Market Access Maps (MacMap) database has been used with some verification and minor modifications. The main unskilled labour market closure of the model has been changed so that the supply of unskilled labour is endogenously determined by the labour supply elasticity. Like any applied economic model, this model is, of course, based on assumptions, both in terms of theoretical structure as well as the specific parameters and data used. Regional production is generated by a constant return to scale technology in a perfectly competitive environment, and the private demand system is represented by a non-homothetic demand system (Constant Difference Elasticity function) 5. The foreign trade structure is characterised by the Armington assumption implying imperfect substitutability between domestic and foreign goods. The macroeconomic closure is a neoclassical closure where investments are endogenous and adjust to accommodate any changes in savings. This approach is adopted at the global level, and investments are then allocated across regions so that all expected regional rates of return change by the same percentage. Although global investments and savings must be equal, this does not apply at the regional level, where the trade balance is endogenously determined as the difference between regional savings and regional investments. This is valid as the regional savings enter the regional utility function. The quantity of endowments (land, skilled labour and natural resources) in each region is fixed exogenously within the model, while the extent to which unskilled labour is employed is endogenously determined. The capital closure adopted in the model is based on the theory that changes in investment levels in each country/region become on-line instantly, updating the capital stocks endogenously in the model simulation 6. Finally, the numeraire used in the model is a price index of the global primary factor index. 4 The documentation of the Version 7 database is forthcoming with its public release by the Centre of Global Trade Analysis. More information about the database can be found on the website 5 Hence, the present analysis abstracts from features such as imperfect competition and increasing return to scale, which may be important in certain sectors. We are therefore using what can be thought of as a base GTAP structure. 6 This capital closure adopted in the model is the so-called Baldwin closure as documented in GTAP Technical Paper no. 7.

15 13 The applied ad valorem equivalents (AVEs) tariff data found in the standard GTAP Version 7 database originates from the Market Access Maps (MAcMap) database, contributed by the Centre d Etudes Prospectives et d Information Internationales (CEPII). The MAcMaps database is compiled from UNCTAD TRAINS data, country notifications to the WTO, the Agricultural Marketing Access Database (AMAD), and from national customs information (Bouet et al., 2005). The MacMap database contains bilateral applied tariff rates (both specific and ad valorem) at the 6-digit Harmonised Systems (HS6) level. These are than aggregated to GTAP concordance using trade weights. Baseline projection Before simulating the trade policy (FTA) scenario, we construct a baseline scenario to serve as an updated basis for analysis. The baseline scenario updates the standard database with a projection of the world economy from 2004 to 2020, applying suitable shocks to GDP, population, labour and capital, as well as incorporating the most important developments, realised or planned, since We have identified and updated the database with the following developments: Updated Chinese tariffs to their final MFN rates in their accession schedule to the WTO; Implemented the FTA between China and Chile; Implemented the FTA between China and Pakistan; Abolished export quotas on textiles and apparel shipped to the EU and the US; Implemented the TDCA between the EU27 and South Africa; Enlarged the European Union from 25 to 27 member countries; Reformed the European Union CAP (decoupling of direct subsidies); EBA agreement between LDCs and the EU27.

16 14 Box 1 summarises the baseline scenario. Box 1. Assumptions shaping the baseline Projections Shocks to GDP, factor endowments and population Total factor productivity endogenously determined Trade policy changes Implementation of the TDCA agreement between South Africa and the EU FTA between China-Chile and China-Pakistan. Update of China s MFN tariff rates in accordance with end rates found in China s accession schedule to the WTO Abolishment of export quotas on textiles and apparel shipped to the EU and the US Enlargement of the EU customs union and the extension of the EFTA to include the new member countries EBA agreement between LDCs and the EU EU agricultural subsidies All direct payments deflated by 2% per year (budgetary outlays fixed in nominal terms) and introduction of decoupled payments US agricultural subsidies Agricultural expenditure fixed in nominal terms at its 2004 level As always, we apply shocks to GDP, population, labour force, and capital to project the world economy to the baseline year of 2020 a year in which we assume that a FTA could be fully implemented. The projection of the world economy uses the exogenous assumptions listed in Table 1, and is important in shaping the baseline scenario. The general sources for these assumptions in Table 1 are given as a footnote to the table, and they represent the best estimates of the possible future path of the data. The GTAP model then determines changes in output through both an expansionary and a substitution effect in each country/region of the model. This expansionary effect represents the effects of growth in domestic and foreign demand shaped by income and population growth and the assumed income elasticities, while the substitution effect reflects the changes in competitiveness in each country/region

17 15 shaped by changes in relative total factor productivity, cost of production as well as any policy changes. Thus, the GTAP model uses this set of macroeconomic projections to generate the best estimate of the global production and trade data as it will be in Therefore the relative growth rates between each country/region for GDP, population, labour, capital and total factor productivity play an important role in determining the relative growth in output of the commodities when projecting the world economy from 2004 to 2020, and we can now take the resulting data set from this baseline simulation as the new base for our FTA scenario. A simulation scenario measures the difference between our baseline model s output at 2020 in the absence of, for example, the FTA against what it would be if an FTA outcome were introduced. Therefore the model results shown in this paper present the isolated effect of a possible FTA outcome or any other simulated scenarios in the year Table 1. Macroeconomic projections expressed as average annual growth rates, Quantity Total Total Unskilled Skilled Capital Total Real population labour labour labour Factor GDP force Productivity South Africa Botswana Rest of SACU China EU US India New Zealand Australia Chile Argentina Brazil Rest of World* Source: World Bank forecasts, Walmsley (2006) and own assumptions. Note: The annual growth rate in total factor productivity is determined endogenously by the exogenous variables (GDP, unskilled/skilled labour force and capital), the model and the associated database. *Where Rest of World is those regions not shown. The New Zealand-China FTA The FTA primary scenario considered in this paper entails the result from the removal of trade barriers between China and New Zealand as measured in the year 2020 in a world shaped by the baseline scenario. This implies that all ad valorem tariffs and ad valorem equivalents of specific tariffs between China and New Zealand are abolished except where exemptions to these reductions are outlined in the FTA.

18 16 Differences between the so-called baseline scenario and this so-called primary scenario are therefore the results of implementation of the New Zealand-China FTA. Note that we are not modelling reductions in either services or any non-tariff barriers in the primary scenario. Note also that we are not modelling Chinese tariff rebates to industries importing intermediate goods. This is important since our results are probably overestimating the market access gains for New Zealand into China if it is intermediates that New Zealand is exporting and not goods for final consumption. While it is always possible to do an almost endless number of what if?' scenarios, we have limited analysis to the primary FTA outcome where all tariffs between the partners are reduced as set out in the FTA, and a second simulation whereby nontariff barriers (NTBs) are also reduced against New Zealand s imports into China. The big picture results Table 2 shows the changes in welfare from the FTA assuming the announced reductions in merchandise tariffs, with the data expressed in US$ million as one-off increases in annual welfare at the assessed end point of New Zealand s gains are $478 million, a figure higher than China s $323 million. The biggest losers in dollar terms are the rest of the world, the EU, with the US, Australia and India also losing marginally. South Africa s losses of $2 million are insignificant. The gains to New Zealand are spread across the contributing factors of increased allocative efficiency ($103m), capital stock ($206m) and the terms of trade gains of $164 million from better relative prices between exports and imports. China s gains are concentrated in capital ($241m) and allocative efficiency ($72m).

19 17 Table 2. Change in welfare (EV of income) due to New Zealand/China, $ million at 2020 Total Allocative efficiency Labour Capital Terms of trade New Zealand China EU US India South Africa Australia Rest of World Total Source: GTAP results. Note that we have included the rest of SACU, Botswana, the rest of Africa, Chile, Argentina and Brazil into the RoW total as the impacts are minor for these regions. In further examining the GTAP results we are able to decompose the results to find that: New Zealand s welfare gains are split between gains from better access into China ($432 million) and $46 million through reductions in its own tariffs. China s gains are $200 million from increased access into New Zealand and $123 million as a result of reducing its own tariffs. The EU loss is mostly as a result of China opening its market to New Zealand competition and displacing EU imports ($250m), although it gains as a result of the impacts of a more prosperous New Zealand. The US loses as a result of the changes in China s production and trade patterns that result from reducing Chinese tariffs for New Zealand imports. The Rest of the World (ROW) and India similarly lose because New Zealand displaces them both in the Chinese market, but, like the EU and US, they gain as New Zealand becomes more prosperous. For the total, GTAP is showing that the FTA is welfare-enhancing for the world, as world welfare increases by $223 million (and, as shown in Table 3, this is mostly from increased investment and capital stock in New Zealand and China). Not surprisingly, Australia loses as China displaces it in the New Zealand market, but enhanced New Zealand competition in China has little effect.

20 18 Table 3 expands upon the welfare gains to show on the left-hand side what the actual percentage changes are in the terms of trade, real GDP and factor income in New Zealand s and the Chinese economy. The right-hand side of the table provides some insights into where the contributions to changes in factor income are coming from. In Column 3, real GDP, New Zealand gains by some 0.30 percent, while, not unexpectedly, China s relative gains expressed as a percentage of GDP are very minor. These results flow in large part from Table 2 above, as the increased allocative efficiency, employment (labour) and capital stock increase real GDP with more resources being better used within the economy. Table 3. Percentage change in terms of trade, real GDP and factor income, 2020 Total Contributions from factor unskilled skilled natural TOT Real GDP income Land labour labour Capital resource China New Zealand Source: GTAP results On the right-hand side of Table 3, the relative contributions to total factor income are shown, and indeed these must add to equate with the total factor income percentages shown. Thus, for New Zealand s 0.64 percentage increases in total factor income, 0.14 percent is derived from better land use, 0.16 percent from enhanced unskilled labour, 0.07 percent from skilled labour, 0.23 percent from capital, and the final 0.05 percent from the natural resource base. Note that for land, skilled labour and natural resources, the quantities are fixed in the GTAP model, so the increases are derived from price increases as their values are bid up, while for both unskilled labour and capital where the quantities are not fixed, there are both a price and a quantity effect. Table 4 extends this analysis to look at the agricultural sector changes. Here the quantity of land is fixed in that it can only be used in primary agricultural production while unskilled/skilled labour and capital can increase in both price and quantity as resource can move freely in and out of other industries in the economy. We can see that for New Zealand the impacts upon agricultural factor income are mostly positive. Land prices increase significantly while contributions from employed unskilled labour also increase notably. Thus, a New Zealand-China FTA is positive for New Zealand

21 19 agriculture. Chinese land prices marginally decline, and that is the only measurable impact on Chinese agriculture. Table 4. Percentage change in primary agricultural factor income, 2020 Agricultural Contributions from factor unskilled skilled Natural income Land labour labour Capital resources China New Zealand Source: GTAP results Changes in trade flows Table 5 starts by introducing the aggregate overall changes to trade flows for the partner countries 7 in 2020, expressed as percentage changes for both exports and imports and then in US$ million for the trade balance. New Zealand has increased exports globally by 1.1 percent once all markets are accounted for, but the higher increase of 1.7 percent in imports leads to a small deterioration of $7million in the overall trade balance. A similar pattern merges for China, albeit with much lower percentage values but a higher negative change in the trade balance in dollar values. Not surprisingly, the trade effects do not register for South Africa. Table 5. Percentage change in quantity of total import\export & trade balance, 2020 NZL China South Africa Exports % change Imports % change Trade balance mill US$ Source: GTAP results The specific sector results the agricultural and natural resource sectors This section will discuss the production, trade and relative price changes in the main GTAP sectors as they relate to New Zealand. We have not undertaken a similar analysis for China as obviously the relative impacts are minimal for such a large country. We will start with agriculture and natural resources before discussing manufacturing. Table 6 shows the agricultural sectors in the first two blocks of the table and natural resources in the final block. Column 1 shows GTAP sectors, with Columns 2 and 3 showing the initial Chinese tariff as from MacMaps database at 2004 and the final FTA tariffs. The next three sets of columns show changes in New 7 South Africa is included here as the senior author, formally from MFAT, now resides in South Africa.

22 20 Zealand s exports to China (4 and 5), other destinations (6 and 7) and finally the grand total (8 and 9). Table 6. changes to New Zealand s agricultural/natural resources export profile, $m & % Exports to China Exports to other Total exports Tariff change in change in change in original new US$m % quant US$m % quant US$m % quant Primary agriculture vegetables, fruit other crops cattle other agricultural products wool Subtotal Secondary agriculture beef, sheep meat other meat vegetable oils dairy products sugar other foods beverage/tobacco Subtotal Natural resources forestry coal, oil & gas Subtotal Source: GTAP results New Zealand s enhanced agricultural exports to China are important, with an increase of $213 million for primary and $548 million for secondary products to give a very large total of $761 million. The big gains are in vegetables and fruit ($152m) and other agricultural products ($105m) in primary agriculture, and beef and sheep meat ($108m), dairy products ($220m), and other foods ($155m) in secondary agriculture. The only decrease to China worth noting is the decline in wool exports. Although the tariff did not change it has been argued that the new improved access conditions may enhance this trade, but in the absence of any concrete data we cannot model the subjective. Note that there are no gains to the beverages and tobacco trade despite significant tariff reductions in China.

23 21 Moving away from the increased exports to China (or trade creation) we now examine the right-hand side of the table to assess the degree of trade diversion or trade merely being reflected away from other markets to service China. Firstly, all exports in both primary and secondary products to the others (as defined as all destinations except China and not RoW as displayed elsewhere in the results) show decreases (of $365 million in total). This leads to increased global exports of agricultural products across the table of $396 million, which clearly indicates that there is trade diversion taking place in agricultural exports. Indeed, the overall agricultural total is split almost evenly between trade diversion (beef and sheep meats in particular) and trade creation (with vegetables and fruit, other agricultural products, and other foods the best examples where there is substantial new trade). Despite this degree of trade diversion, New Zealand agriculture has done well out of the China FTA. There is very limited action in the natural resources sector where, despite good tariff rate preferences, the modest increases in exports to China in forestry and coal and oil are merely diversions away from other markets and the overall exports are down as resources are drawn away from these sectors at the margin. Table 7, following the same format as Table 6 for exports, replicates this data for New Zealand s agricultural imports. As shown, the agricultural impacts are minimal. In primary agriculture there is effectively no increase in the importation of Chinese products and effectively no global changes except more minor increases in vegetable and fruit imports. For processed products in secondary agriculture, there is an increase in Chinese dairy-related products of $14.9 million, with nearly half of this merely trade diversion from other import sources. The final outcome in secondary agriculture is, however, for a modest overall increase in most sectors. There are no recordable changes in the natural resource sectors not shown, as again we have only shown those GTAP sectors where there is a change of at least one million dollars.

24 22 Table 7: changes to New Zealand s agricultural/natural resource import profile, $m & % From China From other Total imports Tariff change in change in change in original US$m % quant US$m % quant US$m % quant Primary vegetables, fruit other agricultural products subtotal Secondary other meat vegetable oils dairy products large other foods beverages/tobacco Subtotal Source: GTAP results. Note that we are not reporting the new tariffs here, as unlike the situation for Chinese tariffs, all the New Zealand tariffs go to zero. The next question is to how these trade results translate into output and prices in New Zealand. This section will summarise and discuss the production, trade and relative price changes in the main GTAP sectors as they relate to New Zealand. Table 8 starts with agricultural sectors in the first two blocks of the table, where large production increases are shown in vegetables and fruit, other crops, other meats, dairy and other foods (note that the subtotals may not reconcile due to omitted sectors). Overall agricultural production increases by some $607 million, and these production changes are reflected through to (or driven by) changes in trade (exports and imports) and changes in real output prices. Note that wool, a major export from New Zealand to China, faces a reduction. This is because (a) there was effectively no change to the import regime and therefore (b) other sectors drew resources away at the margin.

25 23 Table 8. Changes in production, trade and prices for New Zealand, $m and % Contributions from % Change Change Change in tariff reductions in in real production NZ China quantity of output into Sector $m % China into NZ exports imports prices Primary agriculture vegetables, fruit other grain cattle other crops wool Subtotal 275 Secondary agriculture beef, sheep meat other meat vegetable oils dairy sugar other food beverages, tobacco Subtotal 332 Natural resources forestry other minerals Subtotal 61 Source: GTAP output In the third block of natural resources there are modest gains to the forestry sector despite declining exports, as again there were constraints on the extent of tariff reductions offered to New Zealand in this sector. Table 9 provides a summary of the changes to the agricultural and natural resource sectors in New Zealand. The complete profile of all GTAP sectors is given, although note that in the case of paddy rice, plant fibres and cane and beet sugar these sectors are irrelevant in New Zealand, therefore the percentage changes are meaningless. Also, raw milk is an input into the dairy sector and is again non-traded. There are some important changes here as agriculture responds to across-the-board price increases, but again, as the base levels are not provided, care must be taken in the interpretation of some of the data. Notwithstanding this proviso, the table gives a useful summary of the FTA for New Zealand s agriculture.

26 24 Table 9. Summary of changes in agricultural and resource sectors for New Zealand Changes in % quantity of real prices output exports imports % Primary agriculture paddy rice wheat other grains vegetable, fruit oil seeds cane, beet, sugar plant fibre other crops cattle other agricultural products raw milk wool Secondary agriculture beef, sheep meat other meat vegetable oils dairy products rice sugar other foods beverages, tobacco Natural resources fish forestry coal other minerals Source: GTAP results The manufacturing sectors This part of the paper will replicate the analysis made above for the agricultural and natural resource sectors, but this time for the manufacturing sectors. Table 10 shows the manufacturing sectors, with Column 1 showing GTAP sectors, Columns 2 and 3 the initial Chinese tariff as from MacMaps data base at 2004 and the final FTA tariffs, and the next three sets of columns showing changes in New Zealand s exports to China (4 and 5), other destinations (6 and 7) and finally the grand total (8 and 9).