Understanding Big Picture -- Stories of Trade, CAB, and BOP

Understanding Big Picture -- Stories of Trade, CAB, and BOP (S I X M ) (for Students in the GAD Course, GSID, Nagoya Univ.) Prof. Shigeru T. OTSUBO GSID, Nagoya University December 2005 1

Trade, CAB, and BOP Stories I (CAB S I X M) Arguments on SI Side of CAB Shortage of Capital? (Do we have enough savings to invest in our future?): Developing Cos. vs. Developed Cos. ( A Threat from the Developing World Arguments) Asia vs. Japan ( A Threat from Asia Arguments) Some Long-Term Trends of Great Concern Development Stages Theory of BOP Are we getting old? -- Can we continue to save enough? 2

Magnitudes and compositions of the aggregate net resource flows to developing countries and East Asia? 3

What about net claims and CABs? 4

Developing countries (and East Asia s) claims on resources are relative small 5

Trade, CAB, and BOP Stories I (CAB S I X M) Arguments on SI Side of CAB Shortage of Capital? (Do we have enough savings to invest in our future?): Developing Cos. vs. Developed Cos. ( A Threat from the Developing World Arguments) Asia vs. Japan ( A Threat from Asia Arguments) Some Long-Term Trends of Great Concern Development Stages Theory of BOP Are we getting old? -- Can we continue to save enough? 6

Development Stages Theory of BOP (cf. Crowther, 1957) Indonesia Malaysia Korea Singapore Japan Thailand Immature Debtor Country Matured Debtor Country Debt Repayment Country Immature Creditor Country Matured Creditor Country F. Asset Take-down Country - - + + + + - - + + + + - - - - - + + + + Net Foreign Assets - - - + + + + Capital Account Balance + + - -- - + 7

8

9

10

HI OECD saving and investment ratios declined from 27% to 22% in the past 30 years LMIC s saving ratio (GDS) increased from less than 20% (before 1970) to over 25% (mid 1970s) and stayed after CA deficit expanded from early 1970s (1%) to early 1980s (4-5%), and then shrank after the debt crisis (to 1-2% range) Except for the periods of Euro dollar circulation (mid 1970 to early 1980), LMIC s investment increases have been largely financed by their own saving increases 11

East Asia s saving ratio (GDS) increased from 22% to 32% in 1970s, and reached 37% before the AFC, supporting healthy increase in investment ratio CA deficit also expanded in 1990s till the AFC And then? 12

Separating the movements driven by the financial bubble that led to the AFC, what are the long-term trends in Asia? East Asia s Investment Needs Investment growth is expected to be strong because of the need to expand and upgrade existing infrastructure capacity, which was under severe strain as a result of rapid economic growth and urbanization before the AFC (ex. China, Malaysia, Philippines, Thailand, Indonesia, Vietnam ). East Asia will also reconsider and increases its investment to rural areas and agriculture (ex. China, Thailand, Indonesia ) with the ongoing moves toward decentralization. The current post-crisis level of investment ratio (less than 30%) will recover to the pre-crisis level (close to 38%). Typical East Asian S I Pattern Higher growth raises the saving rate, which helps finance the increased investment associated with higher growth. Capital Inflows Capital inflows (FDIs in particular) will resume with the expansion of global production networks and with more liberalization in investments in infrastructure. This will be supported by cofinancing effects (more domestic investment). Although size does matter in infrastructure investment, the positive effects of FDIs will continue to be more eminent in quality (product and industry upgrades). Trade and FTAs Expanded trade and trade competition will upgrade East Asia s industrial/trade structure continuously, where positive effects of trade are more eminent in quality (productivity) rather than in quantity (size contribution to GDP and growth). 13

Is the Doomsday Imminent? Determinants of the private saving ratio: Income (level), rates of return, uncertainty, domestic/foreign borrowing constraints, financial depth, fiscal policy, pension system, income/wealth distribution, and demographics 14

Trade, CAB, and BOP Stories II (CAB S I X M) Arguments on XM Side of CAB Developments in Trade (Export Competitiveness): Asia vs. Japan ( A Threat from Asia Arguments) Asia vs. China Free Trade Areas (FTAs) and Comprehensive Economic Partnerships (CEPs) in Asia Time Schedule Expected Impacts (GTAP CGE Model Simulations) 15

Revealed Comparative Advantage RCAij = ( Xij / Xi ) / ( Xj / X ) RCA>1 or RCA<1 1) RCA indices are computed for East Asian economies using UN/COMTRADE (WB Version) SITC 3-digit level (269 lines) data, for 1985, 1990, 1995, and 2000. 2) Then correlations among RCAs for Asian economies are computed. 16

17

18

19

20

21

Trade, CAB, and BOP Stories II (CAB S I X M) Arguments on XM Side of CAB Developments in Trade (Export Competitiveness): Asia vs. Japan ( A Threat from Asia Arguments) Asia vs. China Free Trade Areas (FTAs) and Comprehensive Economic Partnerships (CEPs) in Asia Time Schedule Expected Impacts (GTAP CGE Model Simulations) 22

Regionalization under Globalization There is a surge in the formation of regional arrangements in the 1990s, even with the successful completion of the Uruguay Round. New motives for new arrangements. Deep integration Safe haven Insurance Buy out Open regionalism can be conducive to free world. Developing countries can utilize regional arrangements to effectively negotiate in multilateral organizations such as the WTO. 23

Number of Existing Regional Integration Schemes (by their establishment year) Regions Prior to 1969 1970-79 1980-89 1990- Total Europe 1 2 0 36 39 Americas 2 1 15 22 40 Asia and Oceania 0 0 1 2 3 Middle East 0 0 3 1 4 Africa 2 2 0 4 8 Other 1 1 1 4 7 (across multiple regions) Total 6 6 20 69 101 Source: JETRO, White Paper on International Trade, 1996. 24

Classification of Regional Economic Integration Abolishment of tariffs and quantitative restrictions on trade among members Common tariff on imports from non-members Free factor movements among members Harmonization of economic policies Unification of policies by a supranational organization Free Trade Customs Common Economic Political Area Union Market Union Union X X X X X X X X X X Source: Compiled according to Balassa, Bella (1973) The Theory of Economic Integration. 25

Classification of Main Regional Integration (excl. bilateral agreements) Regional Cooperation Free Trade Area Customs Union Common Market Europe EFTA EU CEFTA Americas NAFTA LAFTA Asia Africa APEC ASEAN SAARC ECOWAS CEAO MRU CEPGL UDEAC PTA SADC AFTA MERCOSUR ANCOM CACM CARICOM (MRU) (ECOWAS) (CEAO) (CEPGL) (UDEAC) (PTA) SACU Note: 1. African RIs in parentheses indicate their objectives. 2. SADC is a cross-border initiative (CBI) aiming at sectoral coordination and transport links. 3. PTA also aims at establishing a regional development bank on top of a multilateral clearing house. 26

27

The GTAP Model GTAP Web Site: www.agecon.purdue.edu.gtap The GTAP model is a multi-region multi-industry computable general equilibrium (CGE) model constructed over a database consisting of bilateral trade, transport, and protection data for economic linkages among countries/regions, and of input-output tables that represent intersectoral interactions within each country/region. Each industry is represented by a single homogeneous commodity. The model includes three factors of production: labor, capital, and land. Labor and capital are mobile across domestic sectors, while land is assumed to be used only in agricultural sectors. Capital is traded internationally like intermediate inputs, while labor and land are not mobile across borders. Microeconomics-oriented model with incentive structures of economic agents explicitly modeled. Global saving-investment identity is preserved. WTO, WB, USDA, and EPA are among the active users. For further details, refer to the papers,, and the GTAP web site. 28

GTAP Macro Framework: Multi-Region Open Economy Model Regional Household Taxes Taxes Private Government Expenditures Expenditures Savings Private Household Government Global Bank Export Taxes Import Taxes Taxes Factor Payments Net Investment Private Domestic Public Domestic Purchases Purchases Imports Producer Imports Inter-Firm Transactions Imports Exports Rest of the World Note: Arrows show direction of payments. Source: Adapted from Brockmeier (1996), Figure 6. 29

Production Structure of the GTAP Model Gross Output (Leontief, =0) separable Value Added Intermediate Inputs (CES, VA ) (CES, D ) separable Land Labor Capital Domestic Foreign Armington Composite (CES, M ) Source: Adapted from Hertel (1997), Figure 2.6. Sources of Export Supply 30

Aggregation Aggregation 1. JAPAN 1. AGRICULTURE, FORESTRY & FISHERY 2. INDONESIA 2. MINING 3. MALAYSIA 3. FOOD & BEVERAGES 4. PHILIPPINES 4. TEXTILES 5. THAILAND 5. CHEMICALS 6. CHINA 6. METALS 7. HONG KONG 7. TRANSPORT EQUIPMENT 8. TAIWAN 8. MACHINERY & EQUIPMENT 9. SOUTH KOREA 9. OTHER MANUFACTURING 10. SINGAPORE 10. ELECTRICITY, GAS & WATER 11. VIETNAM 11. CONSTRUCTION 12. AUSTRALIA 12. TRADE & TRANSPORT 13. NEW ZEALAND 13. OTHER SERVICES (PRIVATE) 14. USA 14. OTHER SERVICES (GOVERNMENT) 15. CANADA 16. RUSSIA 17. MEXICO 18. CHILE 19. Other Latin America 20. WESTERN EUROPE 21. REST OF THE WORLD Source: Compiled from GTAP atabase (Version 4.0) 31

Welfare Implications of Asian FTAs ($US million) AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan -2,131 214 12,115-4,678 31,976 Singapore 3,309 541 2,812 4,292 3,142 Indonesia 860-22 243 1,821 719 Malaysia 1,083-60 457 1,932 567 Philippines -60-12 -1,061 76-881 Thailand -888-32 -1,915-159 -2,000 Vietnam 729-13 997 886 1,148 China -175-41 -1,171-4,972-8,247 Hong Kong -158-29 -281 8,616 4,945 S. Korea -267-48 -1,195-961 9,537 Taiwan -212-26 -792-1,415-4,329 Australia -151-33 -485-203 -807 New Zealand -57-6 -98-67 -170 Russia 11-14 -251-107 -1,003 USA -836-182 -3,010-2,717-8,005 Canada 33-8 1-100 -366 Mexico 29-1 -2 77-80 Chile 0-3 -38-15 -118 Latin America -101-39 -474-482 -1,682 Western Europe -840-141 -3,909-2,367-10,244 ROW -284-117 -1,175-405 -3,208 World -106-72 768-946 10,897 32

Welfare Changes due to Gains in Allocative Efficiency ($US million) AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan -73 23 361-87 1,168 Singapore 186 45 177 125 117 Indonesia -5-2 -50 103 695 Malaysia 624-11 966 820 1,100 Philippines 96-3 292 298 694 Thailand -762-6 868-549 1,099 Vietnam 280-4 363 403 562 China -40-12 -329-172 8,672 Hong Kong -4 0-7 -395-272 S. Korea -36-5 -155-132 1,459 Taiwan -25-5 -106-106 -414 Australia 19-4 -48 22-101 New Zealand -7-1 -19-3 -23 Russia -8-2 -26-21 -104 USA -25-19 -270-112 -455 Canada -3-1 -15-19 -12 Mexico -1-1 -13 19-15 Chile -1 0-4 -1-5 Latin America -42-10 -127-145 -365 Western Europe 13-5 -431-71 -802 ROW -264-50 -571-423 -1,322 World -76-72 856-445 11,674 33

Welfare Changes due to TOT Changes (excl. TOTcgds) ($US million) AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan -1,422 67 4,841-2,761 14,048 Singapore 2,886 482 2,467 3,816 2,812 Indonesia 466-15 333 893 172 Malaysia 444-51 -130 969-168 Philippines -52-9 -791-113 -976 Thailand 258-28 328 688 93 Vietnam 324-9 450 322 381 China -141-20 -607-4,375-9,982 Hong Kong -195-32 -283 7,409 4,340 S. Korea -196-29 -743-560 4,500 Taiwan -194-23 -663-1,164-3,454 Australia -150-24 -335-206 -492 New Zealand -45-4 -66-59 -115 Russia -7-8 -114-78 -438 USA -857-123 -1,875-2,390-4,270 Canada 22-5 49-73 -130 Mexico 25 0 18 53-23 Chile -3-2 -20-12 -54 Latin America -86-16 -164-276 -518 Western Europe -988-97 -2,323-2,309-5,151 ROW -100-55 -399-99 -978 World -10 0-29 -324-400 34

GDP Quantity Index AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan 0.00 0.00 0.01 0.00 0.02 Singapore 0.27 0.07 0.26 0.18 0.17 Indonesia 0.00 0.00-0.03 0.05 0.35 Malaysia 0.65-0.01 1.01 0.85 1.15 Philippines 0.14 0.00 0.41 0.42 0.99 Thailand -0.46 0.00 0.52-0.33 0.66 Vietnam 1.89-0.03 2.44 2.72 3.77 China -0.01 0.00-0.05-0.03 1.22 Hong Kong 0.00 0.00-0.01-0.38-0.26 S. Korea -0.01 0.00-0.03-0.03 0.32 Taiwan -0.01 0.00-0.04-0.04-0.15 Australia 0.01 0.00-0.01 0.01-0.03 New Zealand -0.01 0.00-0.03-0.01-0.04 Russia 0.00 0.00-0.01 0.00-0.02 USA 0.00 0.00 0.00 0.00-0.01 Canada 0.00 0.00 0.00 0.00 0.00 Mexico 0.00 0.00 0.00 0.01-0.01 Chile 0.00 0.00-0.01 0.00-0.01 Latin America 0.00 0.00-0.01-0.01-0.03 Western Europe 0.00 0.00 0.00 0.00-0.01 ROW -0.01 0.00-0.03-0.02-0.06 35

Trade Balances (US$ million) AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan 1,549-235 -1,892 5,445-2,662 Singapore -1,277-261 -1,261-1,545-1,362 Indonesia -177 4-530 -351-661 Malaysia -1,053 4-1,730-1,131-1,852 Philippines -1,301 13-2,244-1,785-2,682 Thailand -1,001 4-2,087-1,312-2,107 Vietnam -830 6-1,042-1,004-1,230 China 69-3 77-5,163-10,831 Hong Kong 53 18 215-8,615-4,707 S. Korea 101 11 325 393-3,497 Taiwan 22 1 26 40-44 Australia 196 27 513 399 1,026 New Zealand 19 2 33 44 79 Russia 84 5 162 334 536 USA 1,050 128 3,007 4,448 9,738 Canada 70 4 110 322 399 Mexico 34 1 54 137 167 Chile 7 1 20 35 70 Latin America 204 27 582 982 2,070 Western Europe 1,644 151 4,143 6,555 12,747 ROW 537 91 1,518 1,772 4,803 36

Terms of Trade (Export Price / Import Price) AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan -0.31 0.01 0.96-0.59 2.82 Singapore 2.20 0.37 1.89 2.92 2.16 Indonesia 0.84-0.03 0.58 1.60 0.28 Malaysia 0.46-0.06-0.18 1.04-0.24 Philippines -0.09-0.03-2.52-0.22-3.01 Thailand 0.40-0.04 0.50 1.01 0.23 Vietnam 4.19-0.11 5.80 4.19 4.91 China -0.09-0.01-0.32-2.24-4.26 Hong Kong -0.14-0.03-0.28 10.04 5.71 S. Korea -0.13-0.02-0.50-0.38 3.04 Taiwan -0.17-0.02-0.55-0.94-2.70 Australia -0.22-0.03-0.50-0.29-0.76 New Zealand -0.26-0.02-0.36-0.34-0.61 Russia -0.02-0.01-0.11-0.10-0.38 USA -0.10-0.02-0.24-0.28-0.58 Canada 0.01 0.00 0.04-0.04-0.01 Mexico 0.02 0.00 0.04 0.06 0.06 Chile -0.01-0.01-0.11-0.07-0.28 Latin America -0.04-0.01-0.10-0.14-0.35 Western Europe -0.04 0.00-0.09-0.09-0.19 ROW -0.01-0.01-0.08-0.01-0.22 37

Export and Import Volumes AFTA JAPAN JAPAN China, Hong Kong AFTA Cos. & Regions & Singapore plus AFTA plus AFTA plus 3 Japan exports 0.10 0.12 1.41 0.74 4.46 imports -0.57 0.20 3.18-1.03 9.09 Singapore exports 2.31-0.24 1.31 2.47 1.27 imports 5.51 0.33 4.17 6.60 4.47 Indonesia exports 1.37-0.01 2.60 2.84 3.99 imports 2.79-0.04 4.58 5.63 6.04 Malaysia exports imports Philippines exports imports Thailand exports imports Vietnam exports imports China exports imports Hong Kong exports -0.07 0.00-0.08 4.46 3.04 imports -0.27-0.04-0.49 17.62 10.22 S. Korea exports -0.03 0.00-0.13-0.04 6.03 imports -0.22-0.03-0.83-0.66 11.12 38

Impacts on Thailand by Sectors (Output: Value Added) AFTA JAPAN JAPAN China, Hong Kong AFTA Sectors & Singapore plus AFTA plus AFTA plus 3 Agriculture Mining Food & beverages Textiles Chemicals Metals Trasport equipments Machinery and equipments Other manufacturing Electricity, gas and water Construction Trade and transport Other services (private) Other services (government) cgds 39

Impacts on Japan by Sectors (Output: Value Added) AFTA JAPAN JAPAN China, Hong Kong AFTA Sectors & Singapore plus AFTA plus AFTA plus 3 Agriculture 0.1 0.0-0.5 0.1-1.2 Mining 0.3 0.0-0.7 0.6-1.9 Food & beverages 0.0 0.0-0.2 0.0-0.6 Textiles 0.0 0.0 0.1-1.6 1.5 Chemicals 0.0 0.0 0.2 0.0 0.3 Metals 0.0 0.0 0.5 0.0 0.6 Trasport equipments -0.3 0.2 2.1 0.0 2.5 Machinery and equipments 0.0 0.0-0.3 0.1-0.1 Other manufacturing 0.1 0.0 0.0 0.1 0.0 Electricity, gas and water 0.0 0.0 0.1 0.0 0.2 Construction -0.1 0.0 0.2-0.3 0.3 Trade and transport 0.0 0.0-0.1 0.1-0.2 Other services (private) 0.0 0.0 0.0 0.0-0.1 Other services (government) 0.0 0.0 0.0 0.0 0.0 40

Trade, CAB, and BOP Stories III (CAB S I X M) Linking SI and XM Sides of CAB FDI and Trade Flows in the APEC Region Does FDI create trade flows? If so, in which direction? (Panel and Cross-Section Econometric Analyses) Impacts of Japanese FDI in Asia What would be the optimal strategies for supplier and host countries? (CGE Model Analyses) 41

Trade in Goods, Trade in Services, and FDI Flows 42

Gravity Model of Directions of Trade Flows Trade ij = f [GDP i, pcgdp i, POP i, GDP j, pcgdp j, POP j, Distance ij, FDI ij (and/or FDI ji ), CMP ij, RTAD ijk, Other Dummies], Trade ij --- trade flow from country i to country j, pcgdp --- GDP per capita, POP --- population, FDI --- foreign direct investment (either direction), CMP --- complementarity index, RTAD --- a set of dummy variables for a set of k different regional trade arrangements (=1 if both i and j are members of the particular RTA). A similarity indexpcgdp i pcgdp j that represents the Linder Hypothesis is not included in the current study so as to focus on trade complementarity given the flying geese pattern of Asian production and trade. 43

Index of Trade Complementarity: k j i (1) CMP 1 / 2 (0 CMPij 1) ij M = k M j X X k i where i is an exporting region, j is an importing region, and k represents goods categories. This index takes the value of one when a composition of import needs in an importing country matches perfectly with the export bundle of an exporting country. At the other extreme, where an export bundle of an exporting country has no relevance to the import needs of an importing country, the index takes the value of zero. 44

Trade Complementarity Indices for Selected Trade Arrangements Trading arrangements Index Trading arrangements Index Successful arrangements Recent arrangements EEC (6) 0.53 NAFTA 0.56 Canada-U.S. FTA 0.64 Mercosur 0.29 Unsuccessful arrangements Potential arrangements LAFTA 0.22 Americas AFTA (NAFTA+5) a 0.31 Andean Pact 0.07 Asia-Pacific APEC (17) 0.35 Sub-Saharan Africa (20) 0.09 a The Americas free trade area is proxied by NAFTA plus the next five biggest economies: Argentina, Brazil, Chile, Colombia, and Venezuela. Source: World Bank, Global Economic Prospects and the Developing Countries 1995. 45

Intra-APEC Trade Complementarities and Trade Flows (average for 1992-94) 1,000,000 100,000 Exports (log of US$ millions) 10,000 1,000 100 10 1 0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 1.00 Complementarity Index 46

Estimation Results for World Trade Gravity Models with RTAs (113 countries) (Dependent variable is Export ij) 1 2 3 4 5 6 7 8 Year 1984 & 93 1984 & 93 1984 & 93 1984 1993 1984 & 93 1984 1993 Constant -15.26-12.44-14.57-13.53-15.71-11.94-10.81-13.17 (-76.82) a (-57.21) (-76.76) (-48.99) (-58.69) (-57.95) (-36.68) (-44.55) Distance ij -0.68-0.64-0.61-0.56-0.65-0.58-0.53-0.63 (-53.93) (-52.56) (-48.20) (-31.08) (-37.34) (-47.38) (-30.18) (-37.07) GNP i 0.44 0.33 0.41 0.37 0.46 0.31 0.27 0.36 (57.97) (39.74) (58.26) (37.51) (44.79) (40.67) (25.53) (31.72) GNP j 0.38 0.38 0.36 0.33 0.39 0.36 0.33 0.39 (56.65) (57.40) (57.00) (37.57) (42.99) (57.96) (38.73) (43.28) Per capita GNP i 0.28 0.12 0.26 0.30 0.23 0.12 0.14 0.09 (30.13) (14.47) (29.93) (24.64) (18.38) (14.35) (11.70) (8.53) Per capita GNP j 0.20 0.18 0.18 0.19 0.18 0.17 0.16 0.16 (23.90) (21.03) (23.19) (16.68) (15.75) (20.75) (14.48) (14.39) Border Dummy b 0.62 0.59 0.53 0.61 0.46 0.52 0.59 0.44 (8.92) (8.76) (8.29) (6.25) (5.43) (8.22) (6.24) (5.32) Complementarity 3.01 2.82 2.93 2.72 (33.70) (33.06) (24.92) (21.92) RTA Dummies c APEC 2.46 2.26 2.64 2.39 2.20 2.55 (28.99) (17.71) (23.95) (30.09) (18.43) (24.80) EU 1.46 1.53 1.36 1.07 1.07 1.03 (25.11) (16.85) (18.36) (19.08) (12.28) (14.41) NAFTA 0.52 x 0.77 x 0.28 x 0.29 x 0.62 x -0.03 x (1.55) (1.57) (0.61) (0.98) (1.45) (-0.07) MERCOSUR 0.97 1.01 0.93 0.93 0.95 0.90 (4.43) (3.41) (3.03) (4.45) (3.55) (2.96) LAFTA 0.52 0.37 0.67 0.66 0.56 0.75 (4.67) (2.14) (4.79) (6.01) (3.45) (5.22) ANDEAN PACT 0.27 x -0.05 x 0.60 0.47 0.17 x 0.78 (1.22) (-0.14) (2.27) (2.19) (0.56) (2.94) ASEAN5-0.08 x 0.13 x -0.29 x -0.18 x 0.04 x -0.39 x (-0.28) (0.31) (-0.67) (-0.64) (0.09) (-0.96) Sample size 23,923 23,923 23,923 11,740 12,183 23,923 11,740 12,183 F-statistics 6,576 6,286 3,502 1,354 2,123 3,584 1,426 2,133 SSE 41,554 38,775 37,917 18,061 19,528 35,535 16,717 18,479 Adjusted R 2 0.623 0.648 0.660 0.600 0.694 0.677 0.630 0.710 Note: a. Numbers in the parentheses are t-statistics. b. This dummy takes the value of one when two countries share a border. c. These dummies take the value of one when two countries are members of the same RTA. x = Insignificant at the 5% significance level (t-value<1.645) 47

Intra-APEC FDI and Trade Flows (average for 1992-94) 1,000,000 Bilateral Exports (log of US$ millions) 100,000 10,000 1,000 100 10 1 1 10 100 1,000 10,000 100,000 Inward FDI (log of US$ millions) 48

Results for APEC Trade Gravity Models with FDI (Dependent variable is Export ij) 1 2 3 4 5 6 7 8 9 10 11 Year 1984 1993 1993 1993 1993 1993 1993 1993 1993 1993 1993 Constant -8.44-6.03-6.46-6.77-7.11-7.25-5.02-5.22-5.81-5.94-6.21 (-4.65) a (-3.34) (-3.54) (-4.19) (-4.32) (-4.27) (-3.11) (-3.17) (-4.03) (-4.00) (-3.97) Distance ij -1.19-1.03-1.03-0.87-0.87-0.93-0.92-0.93-0.78-0.78-0.86 (-7.84) (-8.98) (-8.92) (-7.50) (-7.50) (-7.91) (-7.55) (-7.55) (-6.43) (-6.42) (-7.05) GNP i 0.22 0.25 0.23 0.21 0.19 0.19 0.19 0.18 0.16 0.15 0.15 (4.01) (5.11) (4.84) (4.61) (4.36) (4.25) (4.67) (4.58) (4.11) (4.05) (3.92) GNP j 0.28 0.26 0.27 0.18 0.19 0.23 0.25 0.25 0.18 0.18 0.23 (4.76) (5.23) (5.48) (4.20) (4.48) (5.15) (4.97) (5.07) (4.04) (4.12) (4.95) Per capita GNP i 0.76 0.51 0.45 0.57 0.52 0.44 0.36 0.35 0.43 0.42 0.34 (8.20) (7.25) (5.85) (8.71) (7.18) (6.58) (4.51) (4.18) (5.61) (5.33) (4.38) Per capita GNP j 0.69 0.50 0.50 0.31 0.31 0.39 0.42 0.43 0.26 0.26 0.35 (7.09) (6.87) (6.84) (4.26) (4.30) (5.47) (6.09) (6.05) (3.57) (3.57) (5.05) Border Dummy b 0.62 0.69 0.66 0.40 x 0.39 x 0.47 x 0.67 0.66 0.40 x 0.40 x 0.49 (1.71) (2.02) (1.93) (1.21) (1.14) (1.37) (2.31) (2.26) (1.41) (1.38) (1.65) Complementarity 3.67 3.52 3.29 3.20 2.92 (4.41) (4.09) (4.13) (3.84) (3.51) FDI ij 0.22 0.18 0.08 x 0.06 x (2.03) (1.70) (0.77) (0.54) FDI ji 0.68 0.66 0.62 0.62 (7.02) (6.98) (7.00) (7.03) FDI ij x FDI ji 0.40 0.32 (4.84) (3.99) Sample size 238 240 240 240 240 240 240 240 240 240 240 F-statistics 41.07 43.33 38.05 46.19 41.01 44.41 44.26 38.70 46.63 41.34 43.14 SSE 642.08 460.19 453.30 406.80 402.33 416.11 416.95 416.05 372.39 371.98 390.42 Adjusted R 2 0.504 0.515 0.520 0.570 0.573 0.600 0.559 0.558 0.604 0.603 0.585 Note: a. Numbers in the parentheses are t-statistics. b. This dummy takes the value one when two countries share the border. x = Insignificant at the 5% significance level (t-value<1.645) 49

2-2-9 50

Trade, CAB, and BOP Stories III (CAB S I X M) Linking SI and XM Sides of CAB FDI and Trade Flows in the APEC Region Does FDI create trade flows? If so, in which direction? (Panel and Cross-Section Econometric Analyses) Impacts of Japanese FDI in Asia What would be the optimal strategies for supplier and host countries? (CGE Model Analyses) 51

A proper way to analyze the impacts of FDIs The majority of existing anti-fdi arguments are either non-economic such as the nationalist and dependence approaches, or economic but short-term, partial-equilibrium arguments such as the exporting employment, and balance of payments stories that focus on the flow aspects of FDI. FDI, as a micro phenomenon, should not be blamed for negative macro outcomes such as a worsening trade balance that in principle is a reflection of a country s savings-investment imbalance. By focusing, instead, on the analysis of medium- to long-term general equilibrium impacts (stock impacts) of FDI, this paper tried to capture the growth and welfare impacts of Japan s FDI in Asia. Stock impacts analyzed in this paper are: 1) a capacity and output expansion in the recipient economies in Asia, matched by a reduced capital stock in Japan (stock effects); 2) an increase in productivity through technology transfer and spillover (technology effects); and 3) an increase in domestic investment driven by a higher expected rate of return on investment and larger domestic savings (cofinance effects). Following the existing dichotomy in the theories of FDI those that assume perfect markets and the others based on imperfect markets simulations were conducted under both industrial structures. Simulation results replicated the traditional transfer problem in real resources, and showed that FDI was a positive-sum game. Larger gains were observed in the existence of scale economies. 52

Japan's FDI to Asian Economies (million US$) 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 Indonesia 48 124 250 859 1,276 1,154 807 1,676 813 719 1,271 manufactures (%) 52 71 84 73 62 62 74 56 30 77 81 Malaysia 79 158 163 387 673 725 880 704 800 742 590 41 41 90 89 70 80 70 66 86 76 87 Philippines 61 21 72 134 202 258 203 160 207 668 736 70 72 71 67 63 76 78 65 63 46 81 Thailand 48 124 250 859 1,276 1,154 807 1,236 578 719 1,271 52 71 84 73 62 62 74 58 72 77 81 China 100 226 1,226 296 438 349 579 1,070 1,691 2,565 4,592 22 10 6 68 47 46 53 61 81 72 78 Hong Kong 131 502 1,072 1,662 1,898 1,785 925 735 1,238 1,133 1,176 11 10 10 5 6 6 13 12 21 19 24 Taiwan 114 291 367 372 494 446 405 292 292 278 467 96 94 69 71 61 62 46 43 67 68 60 South Korea 134 436 647 483 606 284 260 224 247 400 461 28 33 38 53 41 52 60 41 31 27 39 Singapore 339 302 494 747 1,902 840 613 670 644 1,054 1,215 9-Country Total 1,055 2,183 4,543 5,800 8,765 6,996 5,479 6,765 6,510 8,278 11,778 % of total 8 9 13 12 13 12 13 19 17 20 22 ROW 11,464 22,468 30,361 42,572 56,697 50,688 36,735 28,209 30,821 33,609 40,898 Total 12,518 24,651 34,905 48,371 65,462 57,684 42,213 34,974 37,332 41,886 52,676 53

Changes in Capital Stock and Japan s FDI (US$ million) Capital Stock FDI flows b/a 1992: a 1993 1994 1995 3-year average: b (%) Japan 12,088,694 6,510 8,278 11,778 8,855-0.073 Indonesia 260,626 813 719 1,271 934 0.359 Malaysia 158,812 800 742 590 711 0.447 Philippines 149,444 207 668 736 537 0.359 Thailand 252,487 578 719 1,271 856 0.339 China 991,254 1,691 2,565 4,592 2,950 0.298 Hong Kong 281,374 1,238 1,133 1,176 1,182 0.420 Taiwan 392,752 292 278 467 346 0.088 South Korea 706,058 247 400 461 369 0.052 Singapore 167,301 644 1,054 1,215 971 0.580 Source: Kokusai Kinyu Nenpo (Annual Report on International Finance), Ministry of Finance; GTAP Database, Version 3.0 54

Simulation Design Matrix Perfect Competition Monopolistic Competition Transfer of Capital Stock Simulation 1 Simulation 4 Transfer of Capital Stock & Technology Cofinance Joint Venture Simulation 2 Simulation 5 Simulation 3 Simulation 6 (on top of Simulation 2) (on top of Simulation 5) 55

Simulation 1: Transfer of Capital Stock under the Assumption of Perfect Competition (CRTS) A transfer of capital stock from Japan to nine developing Asian economies/regions (Indonesia, Malaysia, Philippines, Thailand, China, Hong Kong, Taiwan, South Korea, and Singapore) is emulated in order to assess the stock effects. Capital stock endowments of recipient Asian economies are augmented by 1 percent while Japan s capital stock is reduced by the amount equivalent to a total increase in the recipients capital stock. Without an accompanied technology transfer, there is no distinction between indirect investments and direct investments. International capital mobility is assumed. The savings rate is fixed. Simulation 2: Transfer of Capital Stock and Technology under the Assumption of Perfect Competition Production and managerial technologies accompany the transfer of capital stock. Assuming FDI flows to manufacturing sectors and there is resultant intra- and inter-industry technology spillover, the rate of technology growth is augmented in all seven manufacturing sectors (food & beverages, textiles, chemicals, metals, transport equipment, machinery, and other manufacturing) by 1 percent. Simulation 3: A Matching Increase in Capital Stock by Domestic Investment-Savings (Cofinance) Perceived higher rates of return in industrial activities with FDI inflows prompt domestic investors to mobilize domestic resources (savings) to cofinance the industrial projects. Recipient countries capital stock is further increased by an increment in domestic investment equivalent to the amount of the initial inflow of FDI. This simulation is conducted on top of Simulation 2 using the output file produced in Simulation 2. International capital flows are suppressed and the trade balance is fixed in order to force domestic savings to finance new domestic investment. The savings rate is thus endogenized on the marginal base. Simulation 4: Transfer of Capital Stock under the Assumption of Monopolistic Competition (IRTS) Transfer of capital stock (Simulation 1) is repeated, but this time, under an assumption of monopolistic competition with scale economies in all of the seven manufacturing sectors (food & beverages, textiles, chemicals, metals, transport equipment, machinery, and other manufacturing). International capital mobility is assumed. The savings rate is fixed. Simulation 5: Transfer of Capital Stock and Technology under the Assumption of Monopolistic Competition Transfer of capital stock and technology (Simulation 4) is repeated, except that monopolistic competition is assumed for the manufacturing sectors. Simulation 6: A Matching Increase in Capital Stock by Domestic Investment-Savings (Cofinance) Same as Simulation 3 except that the simulation is conducted under the assumption of scale economies and that the output file of Simulation 5 is used. International capital mobility is suppressed. The savings rate is endogenized. 56

World Aggregates FDI is a positive-sum game, not a zero-sum game! 57

Simulation Results under Perfect Competition (CRTS) -- Economy-Wide Effects Simulation Results under Monopolistic Competition (IRTS) -- Economy-Wide Effects 58

Simulation Results under Perfect Competition (CRTS) -- Economy-Wide Effects 59

Simulation Results under Monopolistic Competition (IRTS) -- Economy-Wide Effects 60

Major strategic implications of the study for Japan (FDI-supplier) are: (1) In order to benefit from the positive-sum game of FDI, Japan (or any FDI-supplier) should also provide a conducive environment to attract inward FDIs. Outward FDI alone is not likely to improve domestic welfare (just like the case in international trade) unless it is driven by welfare-improving domestic causes. Also, two-way flows in a large number of countries should enlarge the positive sum of FDI. (2) In order for Japan (FDI-supplier) to avoid the possible secondary burden of a transfer of productive resources, it should also mobilize local savings by looking for local partners and/or raising local funds when executing FDIs. (3) It may be important to retain R&D facilities in the domestic market and preserve technology terms of trade if one supplies technology abroad along with capital. Looking at the results from Developing Countries (FDI-recipient) point of view: (1) Developing Asia should promote (call back?) inward-fdis. (2) Intra-APEC FDIs should promote their exports and mitigate BOP problems. (3) Technology (productivity) enhancement is the key. (3) Cofinancing (mobilizing domestic savings/investment together with inward-fdis) will increase recipient s welfare, even though it turns TOT slightly against the recipient. 61

Understanding Big Picture -- Stories of Trade, CAB, and BOP (S I X M ) The End.. 62