By Zhang Xiaoji

In order to implement the consensus reached by the heads of state of China, Japan and Republic of Korea (ROK) at the Manila "10+3" conference held in November 1999, the Development Research Center, authorized by the State Council, conducted joint research on the economic cooperation among the three countries along with the National Institute for Research Advancement (NIRA) of Japan and Korean Institute for International Economic Policy (KIEP). At the Brunei "10+3" conference held in November 2001, the three institutions presented the first "Joint Policy Recommendations" (see appendix) to the leaders of the three countries. In particular, the proposal concerning the promotion of trade facilitation was adopted and is being implemented. This research work received the strong support from the Ministry of Foreign Affairs, the Ministry of Foreign Trade and Economic Cooperation, the General Administration of Customs and the State Bureau of Quality and Technical Supervision. The following is a preliminary report on the analysis of the economic cooperation among the three countries.

I. China, Japan and Korea are Faced with the Challenges of Worldwide Regional Economic Grouping.

Since the beginning of the 1990s, a new wave of regional economic integration swept across the globe. The number of regional trade agreements (RTA) increased visibly. Most of the members of the World Trade Organization joined at least one bilateral or multilateral free trade agreement. The internal trade within the framework of regional trade agreements has accounted for more than 50 percent of the world's total trade. Some new regional trade agreements have gone beyond the limits of traditional goods trade. They cover wider areas, including service trade and investment, and even contain more contents than those covered by the WTO multilateral negotiations.

The economic community is drastically divided over the pros and cons of regional economic grouping. Some scholars believe that regional trade blocs are the "stumbling blocks" to global trade liberalization, while others regard them as the "foundation stones" for building a global framework of non-discriminatory trade liberalization. Despite the above arguments, the fact that regi0nalism is spreading across the globe indicates that countries, proceeding from their own practical interests or political interests, are still seeking to establish bilateral or multilateral regional trade agreements so as to acquire larger markets and higher efficiency. Even when they are still unsure about the gains that might arise from regional trade agreements, these countries do not want to miss any chances to participate in neighboring regional trade agreements for fear of being "marginalized" or being harmed by the effect of trade diversion.

The European Union (EU) and the North American Free Trade Agreement (NAFTA) are by far the two major regional trade blocs that have the greatest impact on the world economy. And with the promotion of the eastward expansion of the European Union and the plan to establish the Free Trade Area of America (FTAA), it is highly possible that in the next t0 years, world trade will be dominated by the two trade blocs.

In the face of the challenges from external regionalism, the countries in East Asia are also seeking various forms of regional economic cooperation. The Association of South East Asian Nations (ASEAN) plans to establish a free trade area comprising 10 member countries, and Singapore has reached agreement with Japan on a bilateral economic partnership in the new era (JSEPA). However, whether the East Asian region can truly form a regional trade bloc that can compete with Europe and America depends very much on how economic cooperation will develop among China, Japan and Korea. This is because the three countries are by far among the very few countries in the world that have not joined any regional trade bloc. The combined gross domestic product and trade volume of the three countries respectively account for 19.8 percent and 11.8 percent of the world''s totals. Within the "10+3" framework, the three countries'' GDP and trade respectively account for 91.2 percent and 67.9 percent. At the Brunei "10+3" conference in 2001, China reached consensus with the ASEAN on the establishment of a free trade area, a move that has attracted extensive attention in the world. In particular, the move has put an enormous pressure on Japan and Korea, and may well force the two countries to reconsider their strategies on the regional economic cooperation in East Asia. At stake is not only whether they will respectively establish free trade areas with the ASEAN but also whether they will strengthen regional economic cooperation with China.

II. The Trend of Regional Trade Development among China, Japan and Korea

In the past 10 years, the trade among the three countries has by and large maintained the momentum of growth except during the Asian financial crisis. In 2000, the intra-regional trade among them totaled about 160 billion U.S. dollars, with the proportion in their total trade rising from 11.3 percent in 1990 to 19.8 percent. But compared with the EU, the NAFTA, the Southern Common Market, the ASEAN and other regional trade blocs, both the proportion and the concentration coefficient of intra-regional trade among the three countries are still relatively low. The reason is that under the influence of market forces, the three countries'' trade structure, comparative advantages, division of production and other important factors affecting the intra-regional trade are undergoing changes and the governments of the three countries have yet to make sufficient reaction.

1. The structure of Sino-Korean trade tends to be similar with that of the Sino-Japanese trade.In 2000, of the top six major commodities in China's export to Korea, four were also ranked among the top six major commodities in China''s export to Japan. Of the top six major commodities in China''s import from Korea, five were also ranked among the top six major commodities in its import from Japan. Korean products are beginning to replace Japan''s exports to China because of the lower prices and the improvement in product quality. Since 1995, the growth of Sino-Korean trade was clearly faster than that of Sino-Japanese trade. As a result, Sino-Korean trade is gradually assuming greater importance in China''s foreign trade, while the importance of Sino-Japanese trade is declining in a relative term. A similar situation has also appeared in Korean foreign trade. In the past 10 years, the proportion of trade with China in Korea total trade rose almost from zero to 9.0 percent, while the proportion of trade with Japan declined from 23.1 percent to 16.4 percent. The latest statistics published by Korea indicate that Korean export to China in 2001 surpassed that to Japan for the first time in history.

2. The complementarity of the trade among China, Japan and Korea has somewhat declined. Trade complementarity depends primarily on the comparative advantages of the industries in different countries. The Chinese products that enjoy comparative advantages over Japan and Korea were mainly farm products, food, miscellaneous manufacturing goods, wood products, shoes and other labor-intensive products. The Japanese products that enjoy comparative advantages are mainly machinery, equipment and primary materials while the Korean products of the same nature are chemical products, mineral products, metal, plastics, rubber products and machinery. It is worth noting that compared with 1995 or earlier years, trade complementarity among the three countries is declining. In another word, the trade growth of some traditional products between Japan and Korea, between China and Korea and even between China and Japan has been slowing down or even becoming negative. This is a new trend of the industrial transfer and the changes in product structure among the three countries.

3. The horizontal division of labor has become increasingly visible among the industries of the three countries. With the investment in China by Japan and Korea being on the rise, many of the products that used to be produced in their own countries have been transferred to and produced in China through processing trade. In the area of processing trade, foreign-invested enterprises account for as high as 77.7 percent and 77.0 percent respectively of the Sino-Japanese and Sino-Korean trade. China's foreign-invested enterprises engaged in trade with Japan and Korea are mostly those invested by Japan and Korea. In the mode of processing trade, the parent companies generally control the import sources of spare parts and the export channels of finished products. Therefore, this is in fact an intra-industrial and intra-company trade. Even though they are all industrial transfers, they have differences in the scale of domestic market and the direction of export market. Most of the products produced in China by Japan-invested enterprises are sold to Japan, while the products produced in China by Korea-invested enterprises are mainly sold to Europe and the United States. This phenomenon explains why Sino-Japanese trade has turned from the huge deficit in the past to small surplus in recent years and Sino-Korean trade has always posted a relatively large deficit.

The above analysis indicates that comparative advantages are still maintained in a relative term among China, Japan and Korea. Such comparative advantages are spreading into intra-industrial and intra-company trade under the influence of market forces and through investment and industrial transfers. This is precisely where the enormous potential exists for the development of intra-regional trade among the three countries. However, some uncertain factors have also appeared with the development of intra-regional trade, including trade imbalance, trade protectionism in some sectors, trade disputes and the fear of "industrial hollowing out". This tells us that in order to ensure a steady development of the trade among the three countries, it is necessary to institutional cooperation among governments. And in this respect, promoting trade facilitation can be a positive and realistic choice for the three countries.

III. Obstacles to Trilateral Trade

In the joint research, the research groups from the three countries used the questionnaires to survey enterprises analyze the main barriers to trilateral trade. The investigations by the Japanese and Korean teams indicate that China''s non-tariff barriers and other obstacles seemed to be clearly higher than those of Japan and Korea. This of course reflects the reality of China''s trade system, but the method of investigation also played a part. Both the Japanese and Korean teams issued questionnaires through their chambers of commerce and the survey results mainly reflect the views of large enterprises. As the large enterprises of the two countries have long and close mutual trade relations, the obstacles they encountered in trade activities are naturally less than those encountered by small and medium-sized enterprises. Therefore, the investigation results of the Japanese and Korean teams are somewhat one-sided. The Chinese team used the random sampling method to issue questionnaires. In terms of the classifications of scale, industry and investment sources of the enterprises investigated, the results conform to the basic conditions of China's trade with Japan and Korea. In particular, as the foreign-invested enterprises including those invested by Japan and Korea accounted for 54 percent of all the enterprises investigated, this method ensured the objectivity of the survey results.

Despite some shortcomings associated with the trilateral enterprise survey, a comprehensive analysis of the results can still reveal the main obstacles to trade among the three countries.

l. Non-tariff barriers. The Chinese enterprises believe that the inspection and quarantine of farm products and food items are seriously impeding their exports to Japan and Korea. In the fields of customs clearance and trade administration, the lack of transparency on the part of the Japanese and Korean laws and regulations on import, the inadequate exchange of information and the complexity of customs clearance formalities have all caused difficulties to exporters. In terms of weighted average value, the measures of animal and plant inspection and quarantine constitute the main obstacle to the Japanese enterprises when they conduct trade with China and Korea. But as Japan's export of farm products to China and Korea is very small, the main non-tariff barrier that has actual impact on Japan''s export to China and Korea is the customs clearance formalities and trade administration.

As far as Korean enterprises are concerned, customs clearance and trade administration constitute the most important institutional obstacle to their export to China while the technical barrier and the license system are the largest obstacle to their export to Japan.

2. Government policy measures. The Chinese enterprises believe that the trade protectionism of the governments of Japan and Korea and the lack of policies to promote bilateral trade are the most important issues.

The Japanese enterprises believe that the complex organization of the Chinese government and the slow implementation of administrative measures impair their export to China. They share the view of the Chinese enterprises on the Government of Korea, believing that trade protectionism and the lack of policies to promote bilateral trade are the most prominent issues.

The Korean enterprises share the view of the Japanese enterprises on the Chinese government, believing that the most troubling issues in trade with China are the complex organization of the Chinese government and the slow implementation of administrative measures. They also have the same view of the Chinese enterprises on the Government of Japan, believing that the main obstacles are trade protectionism and the lack of policies to promote bilateral trade.

3. Obstacles arising from cultural and social factors. Lack of information is the most important problem confronting the Chinese enterprises in trading with Korea and Japan. As Sino-Korean trade has been in existence for only a relatively short period of time, the indexes of cultural and social obstacles in addition to cultural exclusiveness affecting China''s trade with Korea are all higher than those impeding China''s trade with Japan.

In their trade with China and Korea, the Japanese enterprises hold that the differences in business practices are the main cultural and social factors obstructing trade. Japanese-Korean trade relations are closer than those between Japan and China, but the Japanese enterprises confront a stronger cultural exclusiveness in their trade with Korea than with the Chinese enterprises.

The Korean enterprises indicate that the differences in business practices and the lack of information are the main cultural and social factors in their trade with Japan and China.

4. Most enterprises are confident about a continuous expansion of bilateral trade and supportive of the regional economic cooperation in Northeast Asia. Although the enterprises surveyed in the three countries all note that there exist various obstacles in varying degrees to trade, most of them are still willing to continue to expand bilateral import and export in consideration of the geographic proximity, product prices and quality, market potential and cultural similarity. Only a few enterprises plan to reduce bilateral trade and turn to other markets.

The enterprises in the three countries also express their views on the policy measures their governments should take to promote trade facilitation. These views have been included in the document "Joint Policy Recommendations" presented to the heads of state of the three countries.

With regard to developing the regional economic cooperation in Northeast Asia, most enterprises in the three countries express support, believing that this conforms to the world economic development. More enterprises believe that developing regional cooperation can further facilitate trade.

IV. Long-term Goals and Cooperation Mechanisms for Economic Cooperation among the Three Countries

The research project "Strengthen Economic Cooperation among China, Japan and Korea" was designed to implement the consensus reached by the heads of state of the three countries. It was conducted by the research institutions designated by the three countries and indirectly participated by the officials of their government departments. Therefore, the "Joint Policy Recommendations" presented to the heads of state by the research institutions of the three countries was a result of compromise of their political and economic intents.

1. The Korea proposal of Mini-APEC or mini-PECC. The Korea suggests from the very beginning that long-term goals be set for the economic cooperation among the three countries, namely to establish a China-Japan-Korea Free Trade Area in 10 years. The governments of the three countries should establish a Northeast Asian Economic Cooperation Committee as the cooperation mechanism to realize the goals. The framework of this committee should be similar to that of APEC or PECC, which will include a joint economic forum made up of government officials, business leaders and scholars. Eventually, the committee will merge with the ASEAN Free Trade Area into an East Asian Community (including an East Asian Free Trade Area).

2. The Japanese proposal of mini-Davos.

Japan has always had reservations about the establishment of a three-nation free trade area. It tends to favor a relatively loose mode of cooperation. It proposes that while the informal three-nation summit meeting under the framework of"10+3" conference is maintained, a forum including government officials, business leaders and scholars of the three countries be established for exchanges and discussions on issues such as trade, investment liberalization and functional cooperation and for making policy proposals to their heads of state.

Finally, the Japanese and Korean teams accepted the Chinese proposal. In the Joint Policy Recommendations submitted to the heads of state of the three countries, the establishment of a three-nation ministers conference system was taken as an important step for promoting the economic cooperation among the three countries. Developing regional economic cooperation in Northeast Asia is of vital strategic significance to China from the perspectives of both good-neighbor and economic development. Even though Korea is most active in promoting three-nation cooperation out of the consideration of its own interests, the process of either the regional economic cooperation in Northeast Asia or the three-nation economic cooperation will eventually depend on the willingness of the other two big countries, China and Japan. At present, Japan has the largest economic strength among all the countries in Northeast Asia, but it is impossible for Japan to play the leading role as the United States does in Americas and France and Germany do in Europe. In view of the development trend of China and Japan, time is on the side of China, whose position and roles in this region will gradually rise with the growth of its economic strength. Therefore, after China initiated negotiations with the ASEAN and with Hong Kong and Macao on the establishment of free trade areas, Japan and Korea will inevitably feel the pressure and may take some steps. We should study without delay the overall strategy on the regional economic cooperation either among China, Japan and Korea or in Northeast Asia. We should also establish a econometric model for analyzing the benefit and cost of different free trade area proposals so that we can keep the initiative in our own hand in the process of the regional grouping in East Asia.

Appendix: The Joint Policy Recommendations on Strengthening Trade Relations between China, Japan and Korea

Project: Strengthen Economic Cooperation among China, Japan and Korea

Project chief: Sun Xiaoyu

Chief of research group: Zhang Xiaoji

Members of research group: Zhang Xiaoji, Zhao Jinping, Zhang Qi and Lu Gang January 2002

Joint Policy Recommendations on Strengthening Trade Relations between China, Japan and Korea

1. Policy Measures Directly Linked to Trade Facilitation Establishment of Communication Channels of Laws and Regulations In order to avoid misunderstandings, delays and additional costs, the three governments must notify each other about their legislation and/or revision of laws, regulations and standards as well as the implementation procedures related to trade, as soon as they are decided by relevant bodies. Establishment of Training System for Customs, Inspection and Quarantine Institutions To establish a training program for people who are engaged in customs, inspection and quarantine institutions to simplify inspection and quarantine procedures and to harmonize the standards of the three countries. Establishment of Trade Dispute Early Warning System To establish a trade dispute early warning system in each country and consultation mechanism among the three countries so as to reduce unnecessary trade frictions between the three countries. Improve Business People Mobility To further promote business activities and facilitate commercial personnel mobility, the authorities should consider the establishment of visa waivers system for business people who are recommended by each government, along with simplification of visa application procedures and shortening of application time.

2. Policy Measures with Broader Implications Annual Economic Ministers Meetings In order to have healthy economic and trade development among the three countries, and further discuss and implement trade facilitation measures described above, as well as other important economic issues, a mechanism of annual meeting of Economic Ministers of the three countries must be established. Tripartite Dialogue With a view to building a comprehensive dialogue mechanism on trade and other economic issues between the three countries, it would be desirable to set up a tripartite forum including academia, business people and government officials. Inviting business community and government officials to the Beijing symposium next year can be a step nearer to dialogue mechanism building. In addition, the existing bilateral communication channel at the governmental level, such as vice economic minister''s meeting, may be extended to communication channel among the three countries for dialogue on broader economic issues.