ASEAN Economic Community: Playing a key role in Asian economic integration Asia Pacific Economic Outlook, Q4 2016

Five decades of successful promotion of economic and intergovernmental cooperation under ASEAN resulted in member nations of the organization realizing they could achieve more if they operated as one economy. Thus was formed the ASEAN Economic Community in 2015. Its potential as a single market and production base is immense, but the community still has several challenges to overcome.

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Countries:
Malaysia
The Philippines
Taiwan
Vietnam

In response to their growing interdependence, some Asian nations formed a regional organization in 1967, called the Association of South East Asian Nations (ASEAN).1 The primary objective was to promote intergovernmental cooperation and facilitate economic integration among its member nations, aiming to accelerate economic growth and trade. Currently, ASEAN is one of the most open economic regions in the world, whose merchandise exports account for nearly 54.0 percent of the total ASEAN GDP and 7.0 percent of global exports. Between 2007 and 2014, total trade increased by about US$ 1 trillion in the region, while the region’s total foreign direct investments (FDI) inflow as a share of the total global FDI inflows increased from 5.0 percent to 11.0 percent.2

Over the past five decades, ASEAN as an organization has immensely helped its member nations to achieve impressive economic growth as well as regional stability by working together harmoniously. The region has grown at an annual rate of 5.2 percent between 2007 and 2015, while the poverty rate has come down from 33.0 percent to 15.3 percent since 2000. Improved trade facilitation measures have increased trade growth and interdependence within the region while reducing trading costs for all the member nations.

With time, the member nations of ASEAN realized that they could achieve more if they operated as one economy. If this 10-member organization were one economy, it would be the sixth largest in the world with a combined GDP of US$ 2.4 trillion. With over 600 million people, the potential single market is expected to be larger than that of the European Union or North America.3 It will also be home to the third largest young labor force, next to the People’s Republic of China and India (figure 1).

With the aim of moving closer to create a single free-trade area for the region, member nations agreed on consolidating, integrating, and transforming ASEAN into a community called the ASEAN Economic Community (AEC) in 2007. The idea was to create an economic community, inspired by the regional integration of Europe, by bringing people closer and creating a business-friendly environment. With its focus on business and economy, AEC is expected to increase competitiveness, narrow development gaps, and improve resilience against external shocks.

With its focus on business and economy, AEC is expected to increase competitiveness, narrow development gaps, and improve resilience against external shocks.

The creation of AEC

AEC was formally established on December 2015, opening up opportunities for members to capitalize on their diverse resources, the comparative advantages of their geography, factors of production, and young and skilled human resources. The community is built on four interrelated and mutually reinforcing pillars (figure 1):

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  1. A single market and production base through free flow of goods, services, investment, skilled labor, and freer flow of capital
  2. A highly competitive economic region through a business-friendly and innovation-supporting regional environment; the adoption of common frameworks and standards and mutual co-operation across economic areas; and improvement of transport and network connectivity
  3. A region of equitable economic development through creative initiatives that encourage small and medium enterprises to participate in regional and global value chains
  4. ASEAN’s full integration into the global economy pursued through a coherent approach toward external economic relations, and with enhanced participation in global supply networks

In pursuit of the above objectives, significant progress has been made in opening up markets within the region since 2007. Measures, such as the elimination of intra-ASEAN import tariffs and restrictions in the goods and services sectors, simplification of cross-border trading processes, and harmonization of technical regulations, have created immense trading opportunities. The quality and efficiency of regulations affecting the business environment in the region have improved, particularly in terms of time and costs to trade. Cross-border movement of skilled people and professionals, along with better transportation facilities, have improved the regional competitiveness, productivity, and environment for doing business within the region. More importantly, a comprehensive economic partnership agreement and an innovation-supportive environment have been initiated to help narrow the development gap among the ASEAN member nations.

What AEC has to offer

The formation of AEC is expected to develop cohesiveness among ASEAN members. ASEAN as a single community offers big opportunities for both investors and business corporations because of its young workforce, rising incomes, improving infrastructure, and large foreign investments. From health care to support sectors, such as airlines, telecom, and infrastructure, consumer-focused multinational corporations are eyeing the AEC’s large and rising middle-income customer base to market their products, as growth opportunities in other regions seem uncertain.

At the same time, free labor mobility within the member nations offers the community a myriad opportunities to develop itself into an international business hub; Vietnam as a hub for manufacturing, Singapore for financial services, the Philippines for business process outsourcing, and Thailand for automotive. The existing free-trade agreements with some of the prominent Asian economies, such as China, Korea, India, New Zealand, and Australia (ASEAN +1) position the AEC strategically in the middle of Asia’s supply chain, creating new opportunities for member nations to trade with the entire Asian region. In addition, its integration with the rest of the world has been increasing. US companies have increased the level of trade and investments in the region, as they are optimistic about the profit outlook and the region’s contribution to worldwide revenues.4

Since 2000, FDI into the region has grown at an average rate of 14.0 percent. With rising inflow of capital into the region, stock exchanges from Indonesia, Malaysia, Philippines, Singapore, Thailand, and Vietnam are working together to form the ASEAN Exchange in order to promote ASEAN capital markets and offer more opportunities to investors in the region.

Challenges that lie ahead

The establishment of AEC is a major milestone in ASEAN’s agenda for regional economic integration. However, the path to realizing the goal is mired with challenges. The four pillars, which are key to AEC, require specific and committed actions by ASEAN member nations, both collectively and individually. Without significant progress in each of these areas, the core objective of the AEC may not be realized.

One of the biggest challenges is the development divide—the existing gap in the degree of economic development—among the member nations. Singapore is far more advanced economically than nations such as Cambodia, Laos, and Myanmar. Consequently, the level of protectionism is not uniform between the economically more advanced and the lesser developed member nations. There are differences between member countries with respect to issues ranging from tax codes to foreign ownership restrictions and custom requirements, while progress toward smoothing out cross-border regulations governing traded services remains marginal across the region.

The other challenge is that non-tariff barriers are replacing tariffs as protective measures in order to protect local interests and economically sensitive sectors, such as agriculture and services. According to a report by the Asia Development Bank, five sectors have the lowest degree of harmonization across ASEAN’s borders: media and marketing, property and construction, commodities and energy, consumer goods, and health care and pharmaceuticals.5

Unlike the European Union, the AEC lacks a proper framework that institutionalizes the structure of the community. The lack of a strong centralized institution and absence of an enforcement mechanism have often led to inaction by a few members, resulting in missed target deadlines. Currently, there is no appropriate mechanism to ensure compliance from member nations, which makes it difficult for private businesses to effortlessly operate across the region despite efforts by members to remove trade barriers.

The way forward

It’s evident that without proper coordination of regulations and synchronization of national policies across member nations, businesses and the members themselves will not be able to realize the full benefits of the single market and production base that AEC wants to accomplish. ASEAN nations need to undergo structural reforms within and take bold measures collectively to deepen the economic integration that is key to achieving the objectives of AEC. However, this won’t be an easy task, since it would require changes in domestic laws, and may even need amendments in the constitutions of the member nations, to accommodate the AEC accords.

In other words, the formal establishment of the AEC in 2015 is not the end goal, but a long-term dynamic process that will require true commitment from every member. In order to build on the achievements of the AEC, Blueprint 2025 has been adopted, which provides guidelines through strategic measures for the AEC from 2016 to 2025. That said, member nations have to be truly committed and mutually tolerant by suspending their sovereign interests and embracing the common goals laid by the AEC.