Reimagining Asean - when will economic integration materialise?

Feature | 27 July 2017
ASEAN

Economic integration is vital for the Asean to realise its potential and shield itself from external threats, but integrating 10 diverse nations will not be easy. Three Deutsche Bank reports analyse the progress so far

Fifty years after its formation, Asean today includes 10 countries comprising 630 million people and a GDP of US$2.5trn. If Asean were one economy, it would rank as the world's sixth largest, which speaks to its potential. Yet, for that potential to translate into tangible growth and prosperity, new approaches and economic models will be required.

Most governments appear to be moving to seize the opportunities presented by an evolving economic and geopolitical landscape to advance critical economic reforms and drive growth. The Asean Economic Community (AEC) was established at the end of 2015 to help in this endeavour, guided by the AEC Blueprint 2025, which seeks to facilitate the free flow of goods, services, investments, capital and skilled labour. In short, it seeks a highly integrated and cohesive Asean - with significant intra-Asian trade and investment - that is competitive, innovative and dynamic. But, can Asean and the AEC deliver on the promise of economic growth for all?

Plotting Asean's current coordinates

As Deutsche Bank's economist, Diana Del Rosario outlines in her report1, Asia's exports are finally gathering steam after nearly two years of continuous decline. Export growth rates (year-on-year) from Hong Kong, India, Indonesia, Japan, Malaysia, Philippines, Singapore, South Korea, Taiwan, Thailand, and Vietnam turned positive in the final two months of 2016. What is more, all countries in emerging markets (EM) Asia have posted an expansion in exports during the first three months of 2017. The modest rebound in commodity prices has lifted export earnings, but so too has increasing global demand for electronics and other shipments.

As such, the report forecasts EM-Asia to sustain growth of 6.2% in 2017. Excluding China and India, the region is expected to gain pace, from 3.9% growth in 2016 to 4.2% in 2017, and speeding up slightly to 4.3% in 2018. Much of the expansion within EM-Asia, aside from China and India, would come from Asean, with Indonesia, Philippines, and Vietnam expected to post at least 5% growth in 2017 and 2018.

Del Rosario says, "We believe the next decade will be a crucial period for Asean. Policymakers can either spend this period firefighting downside risks in their domestic economies and markets, or go the extra mile and leverage the evolving global economic and political landscape in order to secure critical economic reforms."

Achieving inclusive and sustainable growth in the region will require a multitude of strategic initiatives, including sound macroeconomic management, sufficient public sector investments in both economic and social services, and efficient labour and financial markets that attract job-creating private sector investments.

But Asean will have to navigate choppy waters before it can fully realise its growth potential. Monetary policy normalisation in the US, to be followed by Europe and Japan, could trigger capital flow reversals in the region and place financial markets and indebted segments of the economy under stress. Moreover, tighter domestic liquidity as a result of sustained capital outflows will force borrowing costs to rise.

The economic threats don't stop there, however. While the recent recovery in commodity prices may lift sentiments in Malaysia and Indonesia, the persistent oil glut should keep the region's commodity-exporting economies on the defensive. In addition, a renewed slowdown in China, future political uncertainty in Europe triggered by Brexit, as well as possible protectionist moves by the US, can only intensify the headwinds already faced by Asean economies as they threaten the region's export-oriented growth model.

Figure 1: Expected GDP growth (%) in Asia 2015-2018

Source: CEIC and Deutsche Bank, as of February 2017

A story of untapped potential

A highly-prosperous, deeply-integrated Asean by 2025 is not beyond reach. Practically, however, what are the key markers of progress?

The level of intra-Asean trade is, of course, one oft-used barometer. According to the Asean Trade Statistics Database2, it has remained fairly stagnant at around 25% of total Asean trade for over a decade - a low share by the standards of other regional trading blocs such as Nafta and the EU.

"There is much scope for increasing the share of total Asean trade that comes from intra-Asean movements. As the AEC continues to develop, and as, hopefully, customs procedures across the region become easier, we should see intra-Asean volumes increase further," says Chris Humphrey, executive director at EU-Asean Business Council (EU-ABC).

Underlying any successful economic union is a framework with the lowest possible barriers to trade, services, and investment. Dr Alan Bollard, executive director of the Asia Pacific Economic Cooperation (APEC) secretariat, notes, "There are huge trading possibilities in manufacturing, services, finance and tourism. But the AEC and individual governments must make sure there are no unnecessary barriers restricting integration - neither tariffs nor unnecessary regulations that stop the opening up of supply chains."

In this respect, there has been major progress, especially when it comes to trade of goods. By early 2010, Brunei Darussalam, Indonesia, Malaysia, the Philippines, Singapore, and Thailand had cut tariffs to 0-5% on 99.7% of their tariff lines. As of early 2015, Cambodia, Laos, Myanmar, and Vietnam had reduced or eliminated tariffs on 98.9% of their tariff lines3. Yet statistics show that intra-regional trade remains heavily concentrated in goods, meaning there is much work to do with respect to services, which account for between 35-60% of GDP in Asean economies.

Figure 2: ASEAN’s growing debt burden

Source: CEIC, Haver Analytics and Deutsche Bank

Government policy and support

What will make the AEC Blueprint 2025 a reality? Clearly, the regional-level policy statements and plans need to be supported by each country in the form of national policies that are coherent, timely and effective. Sound policy frameworks will not only encourage further cooperation among member states, they will also reduce the risks of policy reversal and back pedalling in the long run.

The 2025 vision also focuses intently on increasing and enhancing dialogue and cooperation with the private sector. Ambassador Michael Michalak, senior vice president and regional managing director of the US-Asean Business Council, suggests this is likely to be well received. "The private sector is increasingly seeking expanded opportunities, especially to diversify in the face of slowing Chinese growth. It sees not only the opportunities afforded by doing business within Asean, but also by using Asean as a springboard to trade globally through its partner arrangements," he says.

Asean also needs to focus on the development of its SMEs. Asean has been very successful in attracting multinationals to invest and set up operations in the region, yet it has not facilitated widespread strong industrial links between these global firms and the local SMEs. Clearly, this is an area where SMEs require technical expertise from government agencies and financial institutions to allow them to understand market opportunities, and overcome challenges in terms of accessing finance and new technologies.

Diversification: an enabler or a barrier?

Promoting the benefits of regional integration is made more complex by the diversity of Asean. Singapore is 80 times richer than Myanmar, while Indonesia is geographically much bigger than Singapore. Disparity is everywhere. But should this be seen as a driver of integration or an immovable obstacle? This issue remains a matter of contention.

Dr Denis Hew, director of APEC's Policy Support Unit, is of the opinion that the development gap needs to be addressed if Asean is to avoid integration efforts creating a "two- or three-tier Asean". Hew says, "A cohesive Asean is simply not a reality without a concerted focus on shrinking that development gap."

However, uniformity is not the goal either. Developed value chains and production networks in the region will flourish only if economies can assume varying positions to drive different value propositions and synergistic competitiveness.

Change is clearly afoot, and many economies are trying to recalibrate their export models and move up the value chain to shield themselves against changing Chinese demand, volatile commodity prices and increasing wages.

Deutsche Bank's Boon-Hiong Chan, head of market advocacy APAC says, "China's economic model had to transition from one centred on low wages to one driven by greater automation, digitisation and mass manufacturing. As some industrialising Asean countries lose their comparative low-wage advantage, we can expect a similar transition. It is important that each country assesses its approach to digitisation and other knowledge-based industries to ensure that it can embrace the opportunities of an innovative Asean, and future-proof itself with new growth drivers, in ways beneficial to its society and demographics as a whole."

Figure 3: Network readiness index rankings

Source: World Economic Forum

The digital journey to 2025

The AEC vision places significant emphasis on the need for Asean countries to embrace evolving digital technology, aligning the initiative with Asean's Information and Communication Technology Masterplan 20204 and the Master Plan on Asean Connectivity 20255.

Evolving digital technology (notably mobile internet, cloud technology, the internet of things (or IoT) blockchain, and distributed ledger technology (or DLT) and big data) could boost Asean to new levels of economic development. According to Deloitte, the successful implementation of a radical digital agenda is estimated to be able to add US$1trn to the region's GDP over 10 years, and help Asean leap to the forefront of global competitiveness as a world-leading digital hub6.

"Digital technology offers a means by which the AEC can move closer to its overarching vision of a more integrated, prosperous and competitive Asean by 2025," says Hew.

Singapore's digitisation trajectory puts it at the top of the World Economic Forum's 2016 Network Readiness Index (which assesses the factors, policies and institutions that enable a country to fully leverage ICT for increased competitiveness and well-being7). In 2017, Vietnam reaffirmed its own vision (which will be backed by government policy and infrastructure) to become a cashless economy and to significantly improve electronic payment methods by 2020.

Yet while much is being done to further the digital agenda, there are still significant gaps to be addressed. The report says that to ensure sustainable, robust and resilient growth, Asean's journey towards comprehensive digitalisation in 2025 will need to include some of the following milestones:

  • Delivering on the business case for investing in internet and broadband infrastructure

  • Addressing the lack of trust that can hinder the uptake of digital services

  • Forging facilitative cross border e-commerce procedures and rules, digital trade and new payment players

  • Ensuring holistic responses to payments and financial services.

What does the future hold?

The EU-ABC's Chris Humphrey said in the report that the "key milestones for the AEC project will be in areas such as the full operationalisation of the Asean Single Window for customs clearances; the establishment of a firm and meaningful process for the removal of non-tariff barriers; and the full implementation of trade facilitation measures, including the WTO Trade Facilitation Agreement".

Economic integration is a long process, and one that may not be achieved by the time we reach 2025. Asean must therefore look outwards as well as inwards, with the ultimate aim being an economic bloc, deeply integrated into the global economy and global supply chains.

Deutsche Bank's series of white papers and reports, Re-imagining Asean, was published in June 2017 and is available at www.db.com/flow at http://bit.ly/2uib1nT

References: 

References

  1. See Deutsche Bank's microsite: www.db.com/flow (http://bit.ly/2uib1nT to download all the reports)

  2. See Asean stats: https://data.aseanstats.org/

  3. OECD report, 'Economic Outlook for Southeast Asia, China, India': https://www.oecd.org/dev/asia-pacific/SAEO2017_PV.pdf

  4. ASEAN ICT Masterplan: http://bit.ly/2udKZkP

  5. Masterplan on ASEAN Connectivity 2025: http://bit.ly/2tHLfrV at http://asean.org

  6. Deloitte's report, 'Advancing the ASEAN Economic Community': http://bit.ly/2hCtfK9

  7. World Economic Forum report, 'Global Information Technology Report 2016': http://bit.ly/29nwaCK

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