Economies in Asia and the Pacific should consider utilization rates as a regional public good allowed to raise the value of trade agreements and foster regional value chains.
At the recent World Trade Organization (WTO) Committee on Rules of Origin meeting in Geneva, Switzerland, the Cambodian delegation presented an extensive analysis comparing the utilization rates of the duty-free quota-free preference unilaterally granted by Japan with the ASEAN-Japan Comprehensive Economic Partnership.
This intervention is a valuable lesson for developing Asia and the Pacific. It shows how utilization rates of trade preferences can be used to identify rules of origin that might be business-unfriendly, leading to under-utilization of a specific scheme. While recent discussions at the WTO suggested lumping together utilization rates of different trading schemes for Least Developed Countries, Cambodia’s intervention is a successful response to set the record straight.
Governments are increasingly negotiating free trade agreements to secure better market access for their firms. Each free trade agreement negotiation requires extensive technical and financial resources to be successfully completed. For example, it took eight years and 31 full negotiating rounds for the Regional Comprehensive Economic Partnership (RCEP) to be concluded and signed in November 2020.
While the benefits of a trade deal are expected to compensate initial fixed costs of negotiations, the reality may be different as trade agreements may remain paper tigers, with low utilization of trade preferences by the private sector. However, once the deal is sealed and negotiating outcome praised in the media, there is no political incentive to face this reality.
When a good is exported to a partner economy under a specific free trade agreement, at the time of imports customs clearance, the application of the tariff negotiated under the agreement (preferential tariff) is not automatic as it is conditional upon compliance with rules of origin requirements. If there is not compliance, customs officials levy the most favored nation tariff, which is the one applicable in the absence of a free trade agreement, for WTO members.
Drawn from customs import data, utilization rates are defined as the share of the imports receiving the preferential tariff negotiated under a trade agreement, out of the total dutiable imports eligible for the preferential treatment. This formula was agreed at UNCTAD and subsequently at the WTO. Utilization rates are therefore crucial to determine whether an agreement is effectively delivering benefits to the private sector, and to identify the needs for reforms of rules of origin.
However, most governments do not systematically monitor the degree of implementation of their trade agreements based on utilization rates. Often, governments focus on import data and the fiscal impact of preferences offered, keeping only a record of preferential origin certificates issued for export (with no data on their acceptance and utilization rates in the importing economy), or simply do not make utilization rates available to the public as these could give a merciless picture of the situation, revealing flaws in an a priori promising and trumpeted agreement.
The issue is even more complex in the presence of multiple schemes of trade preferences as is often the case in Asia and the Pacific due to overlapping of free trade agreements, as demonstrated by the Cambodian intervention at the last the WTO Committee on Rules of origin meeting.
As Cambodian firms can choose which scheme to use when exporting to Japan, the results showed a much higher utilization of the duty-free quota free preferences consistently around 80% from 2006 to 2022.
In contrast, ASEAN-Japan Comprehensive Economic Partnership utilization rates are below 20% over the period 2013 to 2022. In addition, trade volumes under the duty-free quota free have grown intensively from 2013 onwards while those under ASEAN-Japan Comprehensive Economic Partnership remained stagnant.
Cambodia explained that the differences of utilization rates and trade volumes stem from the applicable rules of origin that are more lenient under the Japan General System of Preferences than under ASEAN-Japan Comprehensive Economic Partnership.
Cambodia’s intervention at the WTO Committee on Rules of Origin meeting showcases the importance of analyzing utilization rates of trade agreements to improve business friendliness and efficacy.
These findings are alarming, as Cambodia may graduate from the Least Developed Country status in 2027. As the duty-free quota free preferences scheme granted by Japan to Least Developed Countries under its Generalized System of Preferences does not contain any explicit smooth transition (or grace period) provisions, offsetting the loss of trade preferences upon graduation may constitute a major trade policy challenge. The country can consider negotiating more lenient rules of origin with Japan under ASEAN-Japan Comprehensive Economic Partnership or a bilateral free trade agreement, following the example of many ASEAN members.
Most importantly, these findings could not be identified using underutilization measures as suggested in WTO discussions. By compensating low utilization figures of unilateral preferences with other reciprocal schemes such as free trade agreements, the approach does not allow for effective monitoring of the utilization rates of the various trade preferences available to a country, like Cambodia, which benefits from unilateral trade preferences and is a partner in multiple free trade agreements.
But the lesson learned goes much further than Cambodia’s individual case. It shows why improved collection and exploitation of transparent utilization rates data, differentiated by schemes of preferences, are essential and should be made publicly available. Advocacy and in-depth analysis towards reforms such as the application of a repeated offenders methodology do not rely only on nationally-collected certificate of origin issuance data.
In a similar vein, a recent analysis presented at the Global Origin Conference organized by World Customs Organization pointed out the different utilization rates that Viet Nam is recording when exporting to Japan under the multiple trade preferences under bilateral (Vietnam-Japan Free Trade Agreement), regional (ASEAN-Japan Free Trade Agreement), and megaregional agreements like RCEP and the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP).
Cambodia’s intervention also goes hand-in-hand with the proposal by the Republic of Korea in the context of RCEP implementation to start to reciprocally notify utilization rates of RCEP to monitor its effective use.
This is particularly important to avoid following the same destiny of one of the oldest free trade agreements, the ASEAN Trade in Goods Agreement. In spite of being in force for more than a decade, and notwithstanding the introduction of innovative electronic certificates of origin (e-CO) exchanged trough ASEAN single window, ASEAN Trade in Goods Agreement utilization rates from 2016 to 2018 amounted to 50% on average, highlighting the need for an effective monitoring and evaluation from the outset of free trade agreement implementation.
As overlapping and multiple free trade agreements continue to flourish in Asia and the Pacific, utilization rates of each individual free trade agreement and unilateral preferences scheme should be systematically reported, monitored and made publicly available by governments to firms and researchers at the detailed product level.
It is critical for economies in Asia and the Pacific to consider utilization rates as a regional public good allowed to raise the value of trade agreements and foster regional value chains.