Chapter 3

Issues on the ASEAN–China

Free Trade Area

Inkyo Cheong
Inha University, Republic of Korea

Yeri Ryu
Gyeonsang National University,
Republic of Korea
60 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

1. Economic Development of ASEAN Member

States
It is quite reasonable to say that the Association of Southeast Asian Nations (ASEAN) has played a
significant role in the economic development and regional cooperation of Southeast Asian countries
over the past 3 decades. Without the role of ASEAN, the international status of the 10 Southeast Asian
countries with diverse backgrounds would be much lower. ASEAN has been at the centre, coordinating
the positions of each Member State and enhancing the status of Southeast Asian countries in East
Asia and the Pacific beyond economic integration in the region. Representative achievements include
the ASEAN Economic Community (AEC) and ASEAN+1 free trade agreements (FTAs) with countries
such as China, Japan, and the Republic of Korea (henceforth, Korea). In addition, during the Regional
Comprehensive Economic Partnership (RCEP) negotiation process, ASEAN presented important
ideas and contributed to the successful conclusion of the negotiations. It is also widely recognised
that the Economic Research Institute for ASEAN and East Asia (ERIA) has played an important role in
formulating ASEAN policies.

For a country to grow and develop its economy, it is necessary to ease or abolish unnecessary
regulations so that the price system operates smoothly, allocating resources efficiently. The domestic
economic law system, such as the protection of intellectual property rights, must also be established
in accordance with the principles of the market economy. In addition, international economic policy
is important, trade must be opened up, and the domestic business environment should be favourable
enough to attract foreign direct investment (FDI). This can be summarised as the need for reform and
opening up so that the domestic economic system meets global standards. Reform and opening up are
not as easy as they appear because they cause conflicts of interest amongst stakeholders. Considering
the domestic political environment, gradual reform is inevitable. In the late 1990s, FTA regionalism
attracted worldwide attention because the international community recognised that reform and
opening up through FTAs was the most realistic approach. This is called the ‘lock-in effects of FTAs’.

Korea is exemplary in this respect. Pushed into the foreign exchange crisis in the aftermath of the East
Asian economic crisis, Korea strategically announced FTA policies in late 1998 to promote reform and
openness policies. Over the past 20 years, FTA policy has been a fundamental pillar of trade policy
in Korea, along with the trade rules of the World Trade Organization (WTO). The Korean government
made smart use of FTA policies to improve its business environment and ease excessive regulations,
although excessive regulations and practices persist in some sectors. In fact, many improvements have
been made to the economic system through the implementation of FTAs.

Improving the business environment of ASEAN Member States (AMS) must be accompanied by the
efforts by individual AMS in addition to policies at the ASEAN level. Since the domestic circumstances
of AMS differ across countries, the areas of economic reform that should be prioritised will be different.
We believe that these priorities will be discussed much better by experts from AMS than by the
researchers of this paper.
 Issues on the ACFTA 61

We would like to suggest the following three points. First, today, supply chain stability is the most
important economic issue for all countries around the world. Recent global economic risks and
challenges are discussed in section 3. In a situation where the WTO is not functioning properly, the
importance of trade agreements is increasing in response to intensifying geopolitical risks. FTAs, which
are highly regarded in terms of the scope and level of market opening and the comprehensive scope of
trade rules, will contribute to the stability of the supply chain. Therefore, the ASEAN–China Free Trade
Area (ACFTA) must be upgraded for this purpose. As supply chains have been severed or distorted due
to hegemony conflicts between the United States (US) and China, the coronavirus disease (COVID-19)
pandemic, natural disasters, and the Russia–Ukraine war, countries around the world have become
alarmed about their economic security. Although no international definition of economic security has
been established, it is generally defined as various measures to maintain the stability of the supply
chain from external shocks. Ryu (2023) defined economic security as a state in which safe and resilient
supply of strategic resources is maintained, future core technologies are supported and nurtured, and
economic activities of the people are not hindered from external factors.

No country can completely stabilise its supply chain with domestic policies in the open economic
system. Close international cooperation is needed to increase the stability of the supply chain. The
supply chain can be divided into backward linkages for domestic production activities and forward
linkages that allow intermediary products to be put into foreign production activities. FTAs can
strengthen the stability and resilience of forward and backward linkages. AMS, which have a high
share of manufacturing in their overall economy and are closely linked to the global supply chain,
should strengthen their awareness of economic security. In summary, upgrading existing FTAs would
strengthen economic security for member countries and will be a shortcut to improving the business
environment.

Second, since agreements become outdated over time, it is necessary to negotiate upgrades to existing
agreements. Concluding and implementing high-quality FTAs can dramatically improve the business
environment. According to the Doing Business report released by the World Bank, some AMS have
improved in their business environment rankings (Fung, 2022). Although some countries, such as
Singapore, have a world-class business environment, the evaluation of the business environments of
latecomer countries (Viet Nam, Cambodia, Myanmar, and the Lao People’s Democratic Republic) is still
low.

All AMS must properly implement the RCEP agreement. The sanitary and phytosanitary measures,
technical barriers to trade, transparency, etc. included in the RCEP are regulated at a higher level than
existing agreements signed by AMS. However, ASEAN’s other FTAs, which are currently in effect, must
be negotiated to improve the content of the FTAs. Since the ACFTA is the first agreement signed by
ASEAN with a non-ASEAN country, its content and system are outdated, and must be revised as soon
as possible.

Third, proactive industrial policies are needed to reap higher economic gains from the implementation
of FTAs. Economic effects do not occur simply with the conclusion of an FTA. Considering current
circumstances, it is necessary to support the business sector in enhancing the utilisation of FTAs and
policies to attract FDI, which is important for industrial development, technology spillover, and regional
development.
62 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

AMS must continue to reform their legal and trade frameworks to improve the ease of doing business
while investing in infrastructure and sophisticated manufacturing capabilities. Consideration should be
given to providing incentives such as tax exemptions, subsidies, and preferential treatment of land for
foreign companies that wish to relocate manufacturing facilities or supply chains to ASEAN. Moreover,
the ASEAN region, which has a large domestic market and abundant labour force, is increasing its
value as a production base. AMS are expanding their industrial ecosystems, focusing on competitive
sectors such as electric parts (the Philippines, Malaysia, and Viet Nam); automobiles (Thailand);
semiconductors (Thailand); processed food (Thailand and the Philippines); and aerospace parts
(Singapore). Sophisticated policy efforts are needed to develop these industrial livelihoods further.

2. ASEAN’s Economy and the ACFTA

2.1. Overview
The total gross domestic product (GDP) of the 10 AMS is about US$3 trillion, and the overall GDP of
ASEAN increased at an average annual rate of 5% during 2010–2019. AMS also stood out in trade,
recording high growth. Between 2016 and 2020, ASEAN’s total exports increased by 21% from US$1.15
trillion to US$1.39 trillion, similar to China’s growth of 23% from US$2.1 trillion to US$2.59 trillion
(Paterson, 2022).

The population of ASEAN is 660 million, accounting for 8.5% of the world’s population, and ASEAN
is the world’s most populous region after China and India. The median age of ASEAN’s population is
30.3 years old, which is much younger than that of mainland China (38.4 years old). As the population
is growing, ASEAN enjoys a demographic dividend. Over the next 10 years, ASEAN’s population is
projected to increase by 140 million.

AMS have long been closely linked to the global trade system, and their trade-to-GDP ratios are
well above the global average. With average per capita GDP of US$4,500, there is large room for
income growth. ASEAN can provide an abundant labour force with much lower wages than China.
Its demographic dividend, expanding middle class, and improved business climate have attracted
significant FDI from around the world. As of 2020, the US, Hong Kong, Japan, and China, respectively,
provided the highest amounts of FDI in ASEAN.
 Issues on the ACFTA 63

Foreign investors that are considering investing in AMS face several difficulties, including a weak local
supply chain. Thailand must import many raw and intermediate materials from China, Japan, Korea,
and other countries for production purposes. Due to technological disadvantages, many intermediate
goods are not locally sourced (HSBC, 2020). Viet Nam is facing severe domestic supply chain
vulnerabilities. When large foreign companies consider entering the Vietnamese market, they have to
build a local industrial ecosystem by partnering with upstream and downstream firms. In areas close to
the Viet Nam–China border, these difficulties can be mitigated by the procurement of Chinese parts.

The shortage of skilled workers is another major challenge for ASEAN to overcome. Thailand promotes
investment in high-tech industries but struggles to attract quality talent (HSBC, 2020). The lack of
infrastructure in many AMS is also an issue:

Vietnam’s infrastructure is still relatively poor at present, with only 24% of paved roads and transport
networks particularly inaccessible. Therefore, when choosing a specific location to invest in, it is difficult
to find upstream and downstream providers geographically as well as efficient logistic services providers
(HSBC, 2020).

Logistics infrastructure is one of the prerequisites for foreign investors. AMS must continue to increase
infrastructure investment to catch up with other countries.

2.2. ASEAN–China trade

The trade volume of goods between ASEAN and China in 2021 was US$878.2 billion, up 28.1% from
the previous year. China’s exports to ASEAN reached US$483.69 billion, up 26.1% year on year, while
China’s imports from ASEAN reached US$394.51 billion, up 30.8% year on year. Since 2019, ASEAN has
been China’s largest trading partner (Embassy of China in Brunei Darussalam, 2022). Amongst AMS,
the largest trading partners with China are Viet Nam, Malaysia, Thailand, Singapore, and Indonesia,
respectively.

As with most countries around the world, AMS have rapidly increased trade with China, while trade with
the US, the European Union (EU), and Japan has gradually contracted (Figure 3.1). The ACFTA, which
came into effect in 2010, may have contributed to the expansion of trade between China and ASEAN,
but no study has quantitatively analysed it. Although many studies have analysed the ex-ante effects
of the ACFTA using the computable general equilibrium model, it is difficult to find studies that have
conducted empirical analyses after the agreement entered into force.
64 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

Figure 3.1 ASEAN’s Major Trading Partners

(% share of ASEAN’s total trade value)

25%

Mainland
20%
China

15%
US
10%
EU
Japan
5%

0%
2004 2006 2008 2010 2012 2014 2016 2018 2020

ASEAN=The Association of Southeast Asian Nations, EU=European Union, UK=The United Kingdom
Note: UK left the EU on 31 January 2020.
Source: www.ASEANstat.org

During the ongoing US–China conflict, the US has enacted many domestic laws to support strategic
industries, and the global supply chain is being reorganised with supply chain intervention policies such
as decoupling, onshoring, nearshoring, and friend-shoring. Russia’s invasion of Ukraine in February
2022 served as a driving force for the US to rally its allies. The US is pursuing new trade forums with
countries that support its trade policies. In 2021, the US regularised the Trade and Technology Council
meetings with the EU and is promoting the Indo-Pacific Economic Framework for Prosperity (IPEF)
with countries in the Asia-Pacific region and the Americas Partnership for Economic Prosperity with
countries in Latin America. In this geopolitical environment, many countries are forced to choose
between the US and China. AMS with diverse political and economic backgrounds will not be able to
choose one country, and most countries will hope to continue economic cooperation with both the US
and China in an effort to maximise the national interest while reducing geopolitical risk.

Today, securing supply chain stability is not an option but a necessity for survival and a key requirement
for business sectors and countries. The importance of supply chain stability and resilience will increase
over time. China is the top priority for AMS in terms of supply chain stability. Paterson (2022) accurately
presented the reasons for this. First, the ASEAN region depends on China for securing intermediate
goods for the production of tradable goods, and a significant part of ASEAN’s trade growth has been
supported by trade with China. As exports to China account for 15% of all ASEAN’s exports, trade with
China cannot be underestimated. Between 2016 and 2020, ASEAN’s exports to China increased by
51%, while exports to the rest of the world increased by 16% (ASEANstats, n.d.). The ACFTA provided
conducive conditions for the high amount of trade between ASEAN and China.
 Issues on the ACFTA 65

Second, countries must import intermediate goods to produce exports. The dependence of AMS on
intermediate goods from China has been increasing. From 2018 to 2022, imports from countries
other than China increased by 13.8%, while imports from China increased by 33% – 2.5 times higher
(ASEANstats, n.d.). This suggests that China is supporting the backward linkage of ASEAN industries.
This applies to most countries in East Asia.

In the context of today’s international trade, where global value chains are active, trade in intermediate
goods has more diverse impacts on the economic effect of FTAs than trade in final goods. Sheng,
Tang, and Xu (2012) demonstrated this using an extended gravity model, including imports and
exports between AMS and China for parts and intermediate goods. They calculated a new economic
effect that many researchers do not consider when assessing the impact of the ACFTA with empirical
models that are built on only final goods. Intermediate goods trade expands the forward and backward
linkage effects, revitalises the industrial ecosystem of the importing country, and creates new trade
opportunities. In other words, simply analysing the effect of tariff elimination on final goods trade
underestimates the ripple effect of the implementation of an FTA. In addition, depending on the
production network, the forward and backward linkage effects of intermediary goods activate trade
with third countries, which can have a positive impact on the world economy.

2.3. From crisis to an opportunity

As US President Biden refers to systemic competition with China over the next 10 years, it seems
inevitable that competition and conflict between the US and China will continue in the future (Blinken,
2022). For China, ASEAN could be an important partner in countering the US containment and blockade,
but as seen in the IPEF, the US will want to entice ASEAN over to its side due to its geopolitical
importance. AMS are crucial in the Indo–Pacific strategy of the US. AMS also need to judge the current
international situation wisely. To avoid being forced to choose between the US and China, a diplomatic
strategy towards the US and China is needed at the ASEAN level – rather than at the level of individual
AMS.

The current US–China conflict could be an opportunity for ASEAN to redefine the structure of economic
cooperation with China. The US is taking strong protectionist measures (America First) for high-tech
industries, and the supply chain of high-tech industries such as high-performance semiconductors
will be reorganised around the US and its allies. Japan, Korea, Taiwan, and the EU will align with the
US on industrial policies, either formally or informally. Currently, the US, Japan, Korea, and Chinese
Taiwan are participating in the Fab 4 semiconductor alliance. The US has also embarked on a policy of
reducing its trade dependence on China. However, even though China’s labour costs have risen, it is not
easy to exclude Chinese products entirely because no other country can match China’s competitiveness
66 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

in general purpose products. In other words, a complete decoupling would cause the US to endure huge
economic losses. As a result, the Biden administration switched to strategic decoupling from the full
decoupling under the Trump administration. In any case, the US will gradually reduce its dependence
on China.

China has also been pursuing policies in response to the US decoupling policy. China’s external
dependence has already been greatly reduced, and international trade has shifted to supply chain
management with East Asian countries through the Dual Circulation policy (DCP). In this process,
ASEAN has become the largest cooperative partner in China’s DCP. ASEAN overtook the EU and the
US to become China’s largest trading partner in 2020, and this situation will continue for a substantial
period in the future.

Since the reorganisation of the global supply chain, China’s strengthening of economic exchanges
with ASEAN has become evident in the electronics industry. Korea and Taiwan were major exporters
of integrated circuits to China, but China has recently expanded trade in parts for semiconductors
and electronics with AMS. Intra-industry trade between ASEAN and China is growing rapidly in these
sectors. Major trade items include microprocessor chips, chip capacitors, and analogue-to-digital
converters.

Behind ASEAN’s trade expansion is the ongoing restructuring of supply chains in East Asia. As
economic uncertainty grows due to the US–China trade war and hegemonic struggle, many Japanese
and Korean companies have started to relocate production to ASEAN, enticed by cheap wages and
favourable investment incentives. These companies are setting up integrated circuit factories in
Malaysia, Viet Nam, and Thailand; and shifting their supply chains to ASEAN to meet demand in Chinese
companies (Medina, 2020; HSBC, 2020). To respond to the containment of China by the US, China is
pushing to strengthen its own supply chain through the Made in China 2025 initiative, the DCP, and the
Belt and Road Initiative. Despite the Chinese economy’s size and reserve of resources, it is difficult
to maintain stable economic growth without economic cooperation with foreign countries. China and
ASEAN have high complementarity, and the ASEAN market has high growth potential. ASEAN, through
the economic integration of the AEC, forms one of the fastest growing major economies in the world
(HSBC, 2020). ASEAN should make active efforts to transform the current supply chain crisis into an
opportunity to expand the industrial ecosystem in the region and the trade network with China. This
reorganisation of the supply chain may not shift the entire supply chain to ASEAN but could result in an
expansion of the ASEAN–China supply chain.

Policies and efforts are needed from ASEAN to ensure that China transfers more of its raw materials
and intermediate goods, machinery and facilities, and technology and know-how to ASEAN in the
future. The ACFTA needs to be improved to achieve higher economic gains. In addition to low labour
costs, ASEAN should use FTAs to encourage multinational companies to do business in their markets.
 Issues on the ACFTA 67

In October 2019, ASEAN and China agreed to upgrade the ACFTA. The ACFTA applies zero tariffs to
90% of Chinese and ASEAN products, but it needs to give more products duty free status. Furthermore,
economic and trade systems should be improved via deregulation. The existing bilateral FTAs between
China and each AMS should be improved with the goal of creating a favourable business environment
that goes beyond the RCEP.

3. Global Economy and Geopolitical Risks

3.1. Overview
The IMF (2023) projected that the world economy would grow by 3.0% in 2023. This is a 0.3 percentage
point increase from the IMF (2022) forecast. However, certain factors still oppress the global economy.
In 2023, the world economy was expected to experience a significant economic downturn in the
context of normalising monetary policy and the aftermath of the coronavirus disease (COVID-19)
pandemic. High interest rates led to the bankruptcy of Silicon Valley Bank, which subsequently pushed
several banks in the US and Switzerland to the brink of default. Those countries’ financial authorities,
concerned about a banking crisis, were able to put out the urgent fire by providing funds quickly.
However, funding shortages are appearing in many countries around the world.

The major risks to global economic growth include the transfer of the private debt burden to the real
economy following a sharp rise in interest rates, the dilemma of fiscal roles, and the high geopolitical
risk. Economic vitality will shrink due to monetary tightening pressures, additional fiscal capacity
limitations, and policy space constraints resulting from sensitive market sentiment. The fragmentation
of international cooperation will emerge due to the reshaping (reallocation) of global supply chains
caused by competition between the US and China and the COVID-19 pandemic, as well as rapid
changes in geopolitical factors since the onset of the Russia–Ukraine war. In addition, the risk of
another pandemic could increase uncertainty and downward pressure on the global economy. With no
means or devices to check protectionism, economic nationalism is rampant. For example, the intent of
the EU’s supply chain due diligence policy may sound reasonable, but it can also be seen as a non-tariff
barrier. Such a measure was unimaginable in the past when WTO rules were strictly followed. But now,
as protectionism is prevalent, barriers to imports are being set up without hesitation.

The spread of national protectionism and competition for hegemony between the US and China
are heating up the competition for industrial dominance. As the US–China conflict escalates, the
international community’s attention is focused on the follow-up regulations of the US on technology
and investment. With bipartisan congressional support, it is expected that the US will expand and
68 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

strengthen its foreign policy against China. Since the Trump administration, the US has promoted the
following measures: (i) China’s investment regulation in the US; (ii) import regulation (Article 301 tariff);
(iii) high-tech export controls (semiconductors); and (iv) regulations for US companies investing in
China.

Major countries’ establishment of domestic-centered supply chains and protectionist industrial policies
to nurture core industries will have a negative impact on global exports and investments. The WTO
rules prohibit active industrial policies accompanied by subsidies and protectionist trade policies.
However, countries no longer appear to be paying attention to the WTO rules. The US is subsidising
industry enormously through the Infrastructure Investment and Jobs Act, the CHIPS and Science Act,
the Inflation Reduction Act, and the executive order to advance biotechnology and biomanufacturing.
The EU is also pursuing policies to protect industries in the region through supply chain due diligence,
the Carbon Boundary Adjustment Scheme, the Core Raw Materials Act, and offshore subsidy
guidelines. These laws and measures were created to contain China directly or indirectly. The US has
a decisive influence on China’s supply chain through export controls and investment screening. The
US Department of Commerce is considering suspending export licences entirely for Huawei and is
continuously strengthening foreign investment screening.

3.2. Building the domestic US supply chain

The US is pursuing an America First policy and an extreme industrial policy to build a domestic
supply chain system. Following policy actions on semiconductors, electric vehicles, and batteries,
it is announcing measures favourable to US companies in other areas, including building materials
needed for infrastructure construction. On 15 November 2021, the Biden administration enacted the
Infrastructure Investment and Jobs Act, which entails a budget of US$1.2 trillion. The infrastructure act
was part of the Build Back Better Act, and its purpose was to strengthen the competitiveness of the US
through unprecedented infrastructure investments. The law includes the principle of using domestically
produced building materials. An infrastructure task force was launched the same day the law was
enacted to oversee the enormous scale of infrastructure projects.

The infrastructure act was designed to apply the requirements of ‘Buy America’, a US-made
procurement preference scheme. The Buy America regulations mandate the use of US-made steel,
manufactured goods, and building materials in federally funded projects. These regulations stipulate
that the entire manufacturing process of US steel, from casting to coating, must occur in the US.
However, in the case of manufactured products, the method of calculating the price and cost of
components is unclear. Since this regulation was difficult to apply due to the production characteristics
of each item, a separate guideline was needed.
 Issues on the ACFTA 69

In April 2023, the Office of Management and Budget (OMB) of the White House failed to prepare
clear regulations for building materials – even in the implementation of Buy America – so it applied
temporary guidelines and announced that it would finalise and announce separate standards in the
future. New guidelines were revealed on 7 February 2023.

The OMB then took action to ensure that the Buy America system could be applied across the
government in the federal government’s infrastructure projects. The items regulated as building
materials include non-ferrous metals, plastics and polymers, glass, fibre optic cables, wood, and
drywall (gypsum plaster, etc.).

The WTO Agreement on Government Procurement and most FTAs stipulate that international
competitive bidding be undertaken when purchasing goods or services (construction, etc.) of a certain
amount with government finances. Regarding this, the recently revised OMB’s Buy America guidelines
can be adopted by other countries, regardless of the principles of internationally open government
procurement in the WTO Agreement on Government Procurement and FTAs. However, there may be
room for trade disputes in the future.

The Biden administration’s Build Back Better policy is ostensibly to increase infrastructure investment
in the US and foster strategic industries through subsidies and tax support. It also serves to keep China
in check. Therefore, US policy will reorganise the global supply chain and further affect the global
industrial landscape.

In the case of semiconductors, companies that received federal government subsidies were banned
from investing in China for the next 10 years. The CHIPS and Science Act, enacted in August 2022,
will provide US and foreign semiconductor companies with US$52.7 billion in subsidies in aggregate.
At the end of February 2022, the US Department of Commerce announced guidelines for the subsidy
requirements. After that, Samsung Electronics expressed its intention to build a new US$17 billion
foundry plant in Texas, while Intel and TSMC are planning investments of US$20 billion and US$40
billion, respectively, to build new production facilities. Companies receiving subsidies or tax benefits
from the federal government must abide by the ‘guardrail’ clause, which prohibits new semiconductor
production facilities in China for the next 10 years.

The US is pursuing a strategy to exclude China from its supply chain through subsidy requirements
for electric vehicles and batteries. However, China has been the world leader in the production of rare
metals such as lithium, neodymium, and cobalt; and is prominent in the production of electric vehicles.
This market dominance has motivated the US to check China’s rise. The Inflation Reduction Act, which
stipulates subsidies for electric vehicles and batteries, requires production in the US and the use of
raw materials procured from the US or countries with which the US has signed FTAs. Batteries are a
key component of electric vehicles, and many electric vehicle companies use Chinese-made materials
such as lithium and cobalt. These auto makers have been producing batteries using raw materials from
China, but have just begun the construction of massive production facilities for batteries in the US.
70 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

The building materials guidelines aimed at preventing federal subsidy outflows abroad by clarifying
procurement requirements in the US based on Buy America regulations. In addition to establishing
an industrial base, the government seeks to create jobs and stimulate the economy by revitalising
production activities in the US through federal subsidies. Behind this, two goals are at play: (i) improving
self-sufficiency in general purpose products, and (ii) reducing dependence on Chinese products. During
the COVID-19 pandemic, the US has been experiencing difficulties in supplying basic goods due to
supply chain distortions and logistics disruptions. The US sees China as capable of ‘weaponising’ trade
dependence, as it is the world’s largest supplier of many products or ‘the world’s factory’.

In the second half of President Trump’s presidency, the US pushed for economic separation
(decoupling) from China. The Biden administration has switched to strategic decoupling (a similar
concept to the ‘de-risking’ adopted at the Hiroshima G7 Summit in May 2023). As discussed above,
China faces serious trade barriers in high-tech industries (e.g. semiconductors, electric vehicles, and
batteries), while general purpose products are subject to reshoring and domestic use requirements, as
seen in the building materials regulations for infrastructure construction projects.

The next 10 years will be crucial for the US to prevent China from forming a new international order.
During the Biden administration, US industrial policy will continue expanding subsidies on the number
of strategic industries with intensive requirements. The effects of these US policies are already visible.
According to Han (2023) and Duong (2023) on recent supply chain distortions in Korea and Viet Nam,
respectively, trade with China has significantly decreased in these countries, and these countries’ trade
with other East Asian countries and the US is rapidly increasing. This trend is likely to continue, and
China’s participation in global supply chains may be gradually reduced.

3.3. Abuse of national security logic

Launched in 1948, the General Agreement on Tariffs and Trade (GATT) stipulates general exceptions
in Article 20 and national security exceptions in Article 21. General exceptions are allowed only when
certain conditions are met, but measures for national security are virtually unlimited.1 However,
security exceptions were not frequently invoked when the multilateral trade system was firmly
maintained by WTO members, because they had the will to respect and develop the multilateral trading
system.

1
Regarding the international trade dispute in which the US imposed high tariffs on steel and aluminum for reasons of national
security, in December 2022, the WTO Dispute Settlement Body judged that the high tariffs imposed by the US on foreign steel
and aluminum in 2018 due to national security threats are not in accordance with Article 21 of GATT, which allows the WTO to
restrict imports for reasons of national security.
 Issues on the ACFTA 71

Recently, however, a trend of contempt for the open economic system is spreading due to the abuse
of national security logic. Although the need for stable economic operations and technological self-
sufficiency to respond to malicious and deliberate disruptive acts by other countries by reducing
excessive external dependence is acknowledged, there is always a risk of spreading an inefficient
autarky stance that is in direct opposition to international trade theory.

As a result, the reinforcement of inward-oriented logic have been raised. The possibility of rent-
seeking by stakeholders under the guise of security also increases in this process. It is necessary to
establish economic and technological security strategies and trade policies that pursue protection
and cooperation in a balanced way. A rational approach based on the analysis of the deterioration in
economic feasibility and the resulting ripple effect is needed.

3.4. Active industrial policy

During the Trump administration, the US restricted trade with China through various measures, such
as imposing high tariffs under Section 232 of the Trade Expansion Act, 1964, reshoring using taxes
and subsidies, strengthening investment screening, and restricting people-to-people exchanges. In
the Biden administration, the US has raised human rights issues in the Xinjiang Uighur region, and
in addition to the existing Trump measures, new measures such as industrial subsidies for fostering
strategic industries and strengthening export controls have been imposed.

Major countries around the world are implementing industrial policies through subsidies. The EU’s
supply chain reorganisation policies are aimed at strengthening regional production capacity, reducing
dependence outside the region, and diversifying imports, with a focus on semiconductors, batteries,
and rare minerals. A strategy is under way to restrict China from its core position in the supply chain
and strengthen the EU’s industrial competitiveness through subsidies, investment in technology
development, and restrictions on exports.

The US Infrastructure Investment and Jobs Act, enacted in November 2021, provides subsidies to
projects throughout the entire battery process, including core mineral mining and smelting and battery
cell manufacturing. The US has implemented additional legislation, such as the CHIPS and Science Act
and the Inflation Reduction Act in August 2022. The former includes provisions that prohibit companies
receiving benefits from the US government from expanding semiconductor-related facilities in China
and other countries of concern for the next 10 years, while the latter provides subsidy benefits for
electric vehicles to respond to climate change but applies them differentially by limiting geographical
conditions for the final production of electric vehicles, production of electric vehicle batteries, and
production of minerals and parts for electric vehicle batteries.
72 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

The European Chips Act became effective in 2023. It plans to increase the share of European
production in the semiconductor market to 20% through public–private joint ventures. EU battery
regulations adopted in December 2022 are strengthening environmental standards for sustainable
battery production, such as raising the waste battery recovery rate target, strengthening the ratio of
recycled raw materials, making carbon footprint labelling mandatory, and undertaking supply chain
due diligence. The European Critical Raw Materials Act, which was accepted by the European Council
in April 2024, consists of identifying key raw material dependence, improving access to raw materials
through offshore cooperation, promoting environment-friendly investments, and developing alternative
technologies.

China is providing massive subsidies for the localisation of key items and technologies in current and
future supply chains through the DCP strategy and innovation-led growth policy. The DCP strategy sets
the goal of strengthening internal supply chain capabilities through self-reliance on core technologies
and the advancement of industrial structures. The innovation-led growth policy seeks to enhance
China’s own supply chain capabilities by fostering eight technologies and nine emerging industries.

3.5. Supply chain blocs

The era of nationalism dominated by geopolitics has put an end to the multilateralism and most
favoured nation principles that lasted for about 70 years. The era of geopolitics centred on geographical
location and the era of tech-politics centred on science and technology are beginning at the same time.
In the future, the fragmentation of the global economy will become even more serious as it deteriorates
into an era determined by the convergence of geo-economics and geopolitics. In traditional economic
statecraft, official development assistance, trade, investment, and finance are used as economic means
to achieve foreign policy goals. With the emphasis on economic security, the localisation of the supply
chain is widely used as a tactic of international economic governance.

As major countries increase their interest in economic security, the strategic hegemony of resources
and technology spreads and the global supply chain is being reorganised. To survive global competition,
the importance of stabilising the supply chain is increasing for companies as well as countries. Rifkin
(2022) stated that it has become an era in which adaptability becomes important in efficiency, in the
transition from an era of progress to an era of resilience.

The global supply chain structure, which focused on efficient international division of labour, is being
reorganised into regional production sharing for stable supply chains due to various reasons (e.g.
COVID-19). Here, we see a phenomenon in which regional supply chains are strengthened through
 Issues on the ACFTA 73

regional value chains. Deglobalisation is changing the value chain structure. In the existing international
division of labour, the phenomenon of localising the value chain is intensifying, and the transition to the
domestic value chain is accelerating. Based on this trend, trade agreements amongst countries that
share similar values are likely to increase in the future.

In this regard, Duong (2023) suggested that FTAs can help improve Viet Nam’s participation in the
global supply chain after COVID-19. The Comprehensive and Progressive Agreement for Trans-Pacific
Partnership (CPTPP) and the RCEP are contributing to supply chain stability, and these agreements are
expected to have significant implications on the upgrade of the ASEAN+1 FTAs (the ASEAN–Australia–
New Zealand Free Trade Area, the ACFTA, the ASEAN–Korea Free Trade Area (AKFTA), etc.) that were
signed long ago.

3.6. Developing a discourse for trade restoration

It will be difficult for the WTO to normalise, but discourse on trade and investment restoration may
increase in the future, centred on international organisations and countries. The World Economic Forum
Annual Meeting 2023 at Davos, under the theme of ‘Cooperation in a Fragmented World’, warned of the
losses that cracks in the world economy would bring. Concerns were raised about the declining trade
and investment and consequent loss of global growth engines, while the need for international policy
coordination for trade restoration was emphasised. At the forum, attendees criticised the industrial
and subsidy policies of the US and China that violate the international trade order, and emphasised
international solidarity to restore globalism and free trade. The direction of trade discourse is expected
to be introspection on the imbalance of attitudes towards the light and shade of trade liberalisation,
international cooperation measures for inclusive and sustainable trade, and the derivation of realistic
measures for trade restoration under the constraints of security and values.

In the meantime, the international community’s passive response to the side effects of trade
liberalisation, combined with political populism amid the economic recession, are deepening the
decline in trade. As the first step in discussions on trade restoration, it is time to systematically
investigate how trade and openness are linked to income inequality, poverty, the deterioration of
working conditions, and environmental destruction. It is necessary to form an international consensus
on deriving an international trade system that accepts the side effects of trade liberalisation as part of
the trade agenda and minimises the derived costs. The need for international public discussion on the
concept and scope of security and value, and the impact of trade on the heterogeneity of security and
value amongst countries, could also be raised.
74 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

4. To-Do List for ASEAN–China 3.0

ASEAN and China signed a bilateral FTA at a time when they lacked FTA experience and know-how.
The ACFTA is poor, both structurally and in terms of content. China’s FTAs with Australia and Korea
are better than the ACFTA, but compared with the CPTPP and the US–Mexico–Canada Agreement,
the market access scope is narrower and the trade rules are weaker. ASEAN has completed market
integration within the ASEAN region through the AEC and is promoting various cooperative projects.
Moreover, ASEAN and China are members of the RCEP, and the RCEP is better than the ACFTA.
The RCEP also has many shortcomings in market access and trade rules, such as sanitary and
phytosanitary measures and technical barriers to trade. The ACFTA revision should overcome the
limitations of the RCEP. China has already expressed its intention to join the CPTPP. In addition, China
needs to find a close partner for economic cooperation in the Asian region in response to the US
containment policy. Considering this situation, ASEAN and China should upgrade the ACFTA as soon as
possible.

4.1. A single agreement

In 2002, ASEAN and China signed the Framework Agreement on China–ASEAN Comprehensive
Economic Cooperation, which is regarded as the starting point of the ACFTA. At the time, Japan and
Korea were negotiating a bilateral FTA, and China was pursuing trade agreements with Hong Kong,
Macau, and ASEAN. It was the time when the wind for FTA regionalism in East Asia had just begun. In
2004, ASEAN and China concluded the Agreement on Trade in Goods, followed by the Agreement on
Trade in Services in 2007 and the Agreement on Investment in 2009. When these four agreements
are combined with the Agreement on Dispute Settlement Mechanism, a total of five individual FTAs
constitute the ACFTA (Figures 3.2 and 3.3).

The agreement for goods organises the tariff elimination schedule of each member country in two
annexes (I and II) according to their market opening sensitivity (normal, sensitive), and the rules of
origin criteria for each item are presented in Annex III. In addition, specific commitments are written in
separate files for service and investment liberalisation.
 Issues on the ACFTA 75

Figure 3.2 Structure of the ACFTA

ACFTA Framework • signed on 4 November 2022 in

Agreement Phnom Penh, Cambodia

ACFTA on Dispute
ACTA on Goods ACFTA on Services ACFTA on Investment
Settlement

• signed on 29 November • signed on 14 January • signed on August

2004 in Vientiane, Lao 2007 in Cebu, Philippines 15, 2009 in Bangkok,
PDR • Agreement on Trade in Thailand
• Effective on 1 January Services (July 1, 2007) • Signed and in effect on
2010 1 January 2010

ACFTA = ASEAN–China Free Trade Area, ASEAN = Association of Southeast Asian Nations.
Source: Authors.

Figure 3.3 Annexes and Schedules of the ACFTA

ACFTA Framework
Agreement

ACFTA on Dispute
ACFTA on Goods ACFTA on Services ACFTA on Investment
Settlement

Schedule of Specific Schedule of Specific

Annex I: Normal
Commitment Commitment

Annex II: Sensitive

Annex III: ROOs

ACFTA = ASEAN–China Free Trade Area, ASEAN = Association of Southeast Asian Nations, ROO = rules of origin.
Source: Authors.
76 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

The ACFTA upgrades are necessary in several respects. First, it is necessary to transform these five
separate agreements into one integrated agreement with expanded market access and global standard
trade rules. In 2002, ASEAN and China, which lacked FTA experience and know-how, took a step-by-
step approach to ease the burden of market opening. Although negotiations were conducted on goods,
services, and investment for 7 years until 2009, the scope of market opening was relatively narrow and
the level of opening is shallow compared with other FTAs, since both ASEAN and China were passive
about market opening. In the end, a typical ‘South–South FTA’ was concluded.

4.2. Improve poor market access

The low utilisation of the ACFTA can be seen through the results of Viet Nam’s FTA utilisation survey.
According to Duong (2023), the ACFTA has utilisation rates as low as 33.9% in Viet Nam. Cheong (2014)
pointed out that the utilisation of the ACFTA is affected by many factors, but the scope and speed of
tariff elimination are the most important determinants. Although there is no research on the reason for
the low utilisation of the ACFTA, it is highly likely that poor market access due to the low level of tariff
elimination and tariff preference are the background for the low utilisation of the FTA.

The scope of market opening and the tariff elimination schedule of the ACFTA should be advanced.
An FTA cannot be described as ‘high-quality’ if the tariff elimination rate is not close to 100%. In
addition, the extent of openness to services and investment should be expanded, and the protection of
intellectual property rights (IPR) should be improved. Tariff elimination alone makes it difficult for FTAs
to contribute to supply chain stability. The rules related to the goods–investment–services–IPR nexus
should be defined at the global level so that multinational companies review their business in ASEAN
and China.

4.3. Achieve AEC+ in the ACFTA 3.0

The AEC, launched on 31 December 2015, is a regional economic integration initiative aimed at creating
a single market and production base amongst the 10 AMS (Figure 3.4). The AEC aims to promote the
free flow of goods, services, investment, skilled labour, and capital amongst AMS, benchmarking the
EU. It also aims to create a more competitive and dynamic region by promoting innovation, increasing
productivity, and fostering a business-friendly environment.

To achieve these goals, the AEC has implemented various measures, including reducing trade barriers,
harmonising standards and regulations, promoting the development of small and medium-sized
enterprises, enhancing connectivity and infrastructure, and facilitating the mobility of skilled workers
within the region. The AEC is expected to bring many benefits to the ASEAN region, such as increased
trade and investment flows, greater efficiency and productivity, and improved competitiveness.
 Issues on the ACFTA 77

Figure 3.4 Structure of the AEC

ASEAN Economic Community

(AEC)

ATIGA ATISA ACIA AAMNP

MRA
(Goods) (Services) (Investment) (Human Mobility)

Horizontal commitments

List of Most-Favoured
Nation Exemptions

Schedule of commitments
for modes 1,2 and 3

AAMNP = ASEAN Agreement on the Movement of Natural Persons, ACIA = ASEAN Comprehensive Investment Agreement,
AEC = ASEAN Economic Community, ASEAN = Association of Southeast Asian Nations, ATIGA = ASEAN Trade in Goods
Agreement, ATISA = ASEAN Trade in Services Agreement, MRA = ASEAN Sectoral Mutual Recognition Arrangement.

Source: Authors.

The ASEAN Free Trade Area (AFTA) is a free trade area amongst the AMS. Under the AFTA, tariffs on
goods traded amongst AMS are gradually being reduced to zero. As of 2021, the average tariff rate
for intra-ASEAN trade was around 0.1%. This is a significant reduction from the average tariff rate
of 6% in 1993 when the AFTA was established. The reduction in tariffs has been achieved through a
series of tariff reduction schedules negotiated by AMS. Under these schedules, AMS have agreed to
gradually reduce tariffs on goods traded amongst themselves, with the aim of achieving a tariff rate of
zero by 2025 for most products. It is important to note that some sensitive products, such as certain
agricultural products and automobiles, are still subject to higher tariff rates within ASEAN. However,
AMS have also agreed to negotiate a reduction of these tariffs through the ASEAN Trade in Goods
Agreement.

In upgrading the ACFTA, ASEAN and China should set market opening beyond the AEC as a negotiation
goal. This applies to goods, services, and investment. In addition, both parties should benchmark the
CPTPP for trade rules and IPR. There are concerns over spaghetti bowl effect losses as many FTAs
have overlapped in Asia. When ASEAN and China agree on a high-level FTA suitable for the times,
rather than creating another tedious FTA, the ACFTA could contribute to strengthening the supply chain
between the two regions during a time of chaos in the world economy.
78 Further ASEAN–China Cooperation for Joint Prosperity: Envisioning ACFTA 3.0 in the Digital Era

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