Free trade and the role of financial globalization
Jakarta Post | Monday, February 1, 2010
Free trade and the role of financial globalization
Wahyoe Soedarmono , Limoges, France | Mon, 02/01/2010 10:37 AM | Opinion
The ASEAN-China Free Trade Agreement (ACFTA) has sparked controversy in Indonesia because many believe the agreement will be detrimental to Indonesia’s domestic industry.
During last years summit, the Asia Pacific Economic Cooperation (APEC) reiterated their commitment to liberalizing trade in the region, setting the European Economic Community (EEC) as the benchmark of Asia Pacific community.
There are, however, some marked differences between the EEC and the proposed Asia Pacific
community.
Europe, led by France, England and Germany, already had one voice to establish a global community before trade liberalization was implemented. More importantly, most members of the EEC already enjoyed levels of advanced cooperation and development.
Capital mobility played a more pivotal role than labor mobility in boosting such development. At the same time, European countries were conscious of dealing with global economic forces rather than against them.
If the Asia Pacific intends to integrate as Europe did, it is important to note that trade liberalization was not the first step. It was just the fog after the fire.
Since the 1960s and 1970s, capital mobility through foreign direct investment (FDI) gradually became more important than international trade in Europe. Poor countries like Spain, Portugal and Greece increased their per capita income due to capital mobility into these countries in the past. Nowadays, capital is moving into Eastern Europe, again opening new opportunities.
The debate on the ASEAN-China FTA has somehow ignored the importance of financial globalization.
Financial globalization refers to foreign capital mobility, which can be divided into three forms: FDI, financial asset investment, and the operation of foreign financial institutions within a country.
China’s (and India’s) recent development cannot be separated from such globalization. Multinational companies and other foreign investors have created local jobs for workers in China. This investment has contributed to that country’s GDP per capita growth from US$949 in 2000 to $1963 in 2009, and China’s average economic growth of 10 percent per year throughout the last decade.
The awareness of financial globalization combined with government policies that support local
culture-based economies is the key that has led to China becoming a new economic model in the 21st century.
In regards to financial services, the window has been open for foreign ownership of Chinese banks for a full five years before the ASEAN-China FTA was announced.
If financial development was successful in preparing China’s economy for the eventual ASEAN-China FTA, then ASEAN countries including Indonesia have another story.
The general consensus is that financial liberalization, which marked the end of eighties, was one of the common shocks that triggered the 1997 Asian crisis. From this economic nightmare, one might be able to shed light on the adverse affect that capital mobility has on financial stability.
Paul Krugman, a 2008 Nobel Prize winner, reported that Asian countries with excessive growth in the non-tradable sector (N-sector) and less developed tradable sector (T-sector) were the ones that suffered the most during the Asian crisis.
The T-sector (productive sector) includes agriculture, industry, and mining; while the N-sector (speculative sector) mainly consists of construction, property and real estate.
Such evidence highlights that financial globalization since the end of eighties has mainly developed the N-sector rather than the T-sector. If this is the case, it is not capital mobility that matters, but the use of foreign capital entering the country.
Can the Indonesian economy’s T-sector compete and gain markets in the ASEAN-China FTA?
In the era of free trade, competitive products will emerge searching for markets across borders, while uncompetitive ones will be attacked by foreign players.
It is not unreasonable that speculate that the ASEAN-China FTA may weaken the T-sector’s products in Indonesia, notably value-added products based on technology, since they are still underdeveloped compared to those of raw commodities.
In such a situation, foreign players with the more advanced value-added products can prise away the domestic Indonesian market for value-added products.
Indonesia can still boost its export commodity based on raw commodities. But, the price of raw commodities is volatile; meaning that raw commodities-based exports can be risky if prices go down.
To overcome the adverse effects of free trade coming from the wave of value-added products entering the country, Indonesia, and more generally ASEAN countries, need to boost their financial globalization.
Nevertheless, the dilemma may eventuate after the tap of financial globalization has already been opened. It is not certain that capital inflow can be channeled to the T-sector to develop our value-added exports products. In the case of Indonesia, it is quite surprising that since the 1997 crisis, bank credit channeled to the N-sector still outweighs that afforded to the T-sector.
In 2005 the Indonesian Banking Statistics revealed that credit to the T-sector only reached Rp 170 billion, while N-sector credit reached Rp 210 billion.
At the end of 2008, T-sector credit reached more than Rp 300 billion, while N-sector credit reached more than Rp 460 billion. In terms of credit supply growth, N-sector credit supply has grown faster than that of the T-sector.
If our commercial banks still prefer lending to the N-sector over the T-sector, no one can guarantee that capital inflow gained from financial globalization can be optimized to boost export products yielded by the T-sector.
The government needs to be aware of such a situation, if we are ever to stand tall on the free-trade playing field.
The writer is a PhD candidate in Economics, specialized in Banking and Finance, and a teaching assistant at the Department of Economics, the University of Limoges, France. This is his personal opinion.
