ASEAN in the New Asia 9789814379298

Table of contents :
CONTENTS
TABLES
FIGURES
THE CONTRIBUTORS
PREFACE
1. ASEAN in a New Asia: Challenges and Opportunities
2. Foreign Direct Investment in Southeast Asia
3. Intra-Regional Trade Liberalization m ASEAN a la AFTA
4. EU-ASEAN Relationship: Trends and Issues
5. ASEAN and the Security of Southeast Asia
6. ASEAN in the New Millennium
Index
THE EDITORS

Citation preview

ASEAN IN THE

NEW ASIA ISSUES

&

TRENDS

The Giovanni Agnelli Foundation is an independent cultural and research institution in the field of human and social sciences. The principles underlying all the Foundation's research programmes and its other activities are: the orientation to the future, focus on policy orientation, the complementary approach to socio-economic variables and cultural and value systems. This approach is applied in these years mainly in two general research areas. The first is The New Geo-economy: it focuses on globalization and the changing conditions of the worldwide economic competition and the international division of labour. The second is Cultural Universes and Modernity: it studies the new role played by the historical cultural traditions in the transition towards modernity within the different cultural areas of the world. Special attention is paid to the dialogue between cultures. The Senator Giovanni Agnelli Prize for Dialogue between Cultural Universes, managed by the Foundation, refers strongly to this programme. In this framework, the promotion of the knowledge on Asia has become an autonomous programme of the Giovanni Agnelli Foundation. The Institute of Southeast Asian Studies (ISEAS) was established as an autonomous organization in 1968. It is a regional research centre for scholars and other specialists concerned with modern Southeast Asia, particularly the manyfaceted problems of stability and security, economic development, and political and social change. The Institute's research programmes are the Regional Economic Studies Programme (RES, including ASEAN and APEC), Regional Strategic and Political Studies Programme (RSPS), Regional Social and Cultural Studies Programme (RSCS), and the Indochina Programme (ICP). The Institute is governed by a twenty-two-member Board of Trustees comprising nominees from the Singapore Government, the National University of Singapore, the various Chambers of Commerce, and professional and civic ?rganizations. A ten-man Executive Committee oversees day-to-day operations; it IS chaired by the Director, the Institute's chief academic and administrative officer.

ISSUES

&

TRENDS

EDITED BY

CHIA SlOW YUE I MARCELLO PACINI INSTITUTE OF SOUTHEAST ASIAN STUDIES, SINGAPORE f; GIOVANNI AGNELLI FOUNDATION, ITALY

Published by Institute of Southeast Asian Studies Heng Mui Keng Terrace Pasir Panjang Road Singa]3ore 119596

Internet e-mail: [email protected] World Wide Web: http: //www.iseas.ac.sg/pub.html All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of the Institute of Southeast Asian Studies. © 1997 Institute of Southeast Asian Studies, Singapore

The responsibility for facts and opinions expmssed in this publication 1·ests exclusively with the a11thors and thei1· inte1pretations do not necessa1·ily reflect the views o1· the policy of the Institute or the Foundation. Cataloguing in Publication Data

ASEAN in the new Asia : issues and trends/edited by Chia Siow Yue and Marcello Pacini. " ... revised and edited papers first presented in late February 1996 at a conference in 1\1rin, Italy"- Pref. I. ASEAN countries-Politics and government-Congresses. 2. ASEAN countries- Foreign economic relations- Congresses. 3. Investments, Foreign-ASEAN countries-Congresses. 4. Free trade-ASEAN countries-Congresses. 5. National security-ASEAN countries-Congresses. I. Chia, Siow Yue. II. Pacini, Marcello. III. Convegue internazionale: Le prospettive geoeconomiche e geopolitiche del Sud-Est Asiatico (1996: Turin, Italy) DS526.7 A84 1997 ISBN 981 -3 055-84-7 (soft cover) ISBN 981-3055-85-5 (hard cover) Typeset by The Fototype Business Printed in Singapore by Stamford Press Pte Ltd.

CONTENTS

vi vii viii ix

List of Tables List of Figures List of Contributors Ereface 1 2 3

4 5 6

ASEAN in a New Asia: Challenges and Opportunities Tan Kong Yam Foreign Direct Investment in Southeast Asia Chia Siow Yue

1

34

'

Intra-Regional Trade Liberalization m ASEAN a la AFTA Mohamed A riff

67

EU-ASEAN Relationship: Trends and Issues Djisman S. Simandjuntak

92

ASEAN and the Security of Southeast Asia Daljit Singh

118

ASEAN in the New Millennium ChinKin Wah

144 165 176

Index The Editors

V

TABLES

1.1 1.2 1.3 1.4 1.5 2. 1 2.2 2.3 2.4 2.5 3.1 3.2 3.3 3.4 3.5 3.6 3.7

Foreign Direct Investment in Manufacturing in Selected Asian Countries Percentage Distribution of Investments in ASEAN, 1990 Growth Rate of GDP in ASEAN Countries Taiwan's Investment in ASEAN Countries and China Real GDP Growth of East Asia and Selected Countries, 1990-93 ASEAN: FDI Inflow/Gross Domestic Fixed Capital Formation Ratios, 1984-94 ASEAN: Inward FDI Stock/Gross Domestic Product Ratios ASEAN: Inward FDI Stock ASEAN: Inward FDI Flows ASEAN: Sourcing of Inward FDI AFTA: Number of Tariff Lines in CEPT AFTA: Tariff Lines in the Normal Track by Sector and by Country AFTA: Tariff Lines in the Fast Track by Sector and by Country AFTA: Tariff Lines in the Temporary Exclusion List by Sector and by Country AFTA: Number of Tariff Lines for Unprocessed Agricultural Products AFTA: Average CEPT Tariff Rates within New Time Frame AFTA: Most Prevalent NTBs, by Number of Tariff Lines vi

7 7 9 18 23 43 43 46 48 53 73 74 75 76 77 78 80

3.8 AFTA: Intra-Regional Exports of CEPT Products, 1993-94 3.9 AFTA: Intra-Regional Imports of CEPT Products, 1993-94

82 83

FIGURES

1.1 Indices of Selected Currencies against the US$ 1.2 Economic Growth: East Asia (Excluding China) against the United States, 1971-81 1.3 Economic Growth: East Asia (Including China) against the United States, 1983-93 3.1 AFTA: Normal Track Schedule 3.2 AFTA: Fast Track Schedule 3.3 ASEAN Institutional Arrangements

vii

6

23 24 70 71 73

THE CONTRIBUTORS

Mohamed Ariff holds the Chair of Analytical Economics in the Faculty of Economics and Administration, University of Malaya, Kuala Lumpur. Chia Siow Yue is Director of the Institute of Southeast Asian Studies in Singapore and was previously Associate Professor of Economics at the National University of Singapore. Chin Kin Wah is Associate Professor in Political Science at the Na-

tional University of Singapore. Djisman S. Simandjuntak is Executive Director of the Prasetiya Mulya Graduate School of Management in Jakarta. Da]jit Singh is a Senior Fellow at the Institute of Southeast Asian Studies, Singapore. Tan Kong Yam is currently Professor and Head of the Department of

Business Policy, Faculty of Business Administration at the National University of Singapore.

viii

PREFACE

This volume comprises the revised and edited papers first presented in late February 1996 at a conference in Turin, Italy. The conference was a collaborative effort by the Giovanni Agnelli Foundation of Italy and the Institute of Southeast Asian Studies (!SEAS) in Singapore. The idea of the conference came from the Giovanni Agnelli Foundation which saw the need to promote a better understanding of Southeast Asia among the academic, business, and media elite of Italy on the eve of the flrst meeting of government leaders of Asia and Europe (ASEM) in Bangkok in March 1996. The Giovanni Agnelli Foundation also bore the costs of the conference and of the production of ASEAN in the New Asia. !SEAS was responsible for getting scholars from Southeast Asia and for editing and publishing this volume. Since economic matters feature prominently in Southeast Asia- Europe relations, the focus of the conference was more economic. However, the relationship between the two regions goes beyond economics, and, further, any attempt to understand Southeast Asia must take into account the changes in the security environment. So issues of politics and security were not ignored. This is evident from the Table of Contents to this volume. We take this opportunity to thank the authors of the articles in this volume for their contributions. Chia Siow Yue Director Institute of Southeast Asian Studies Singapore

Marcello Pacini Director Giovanni Agnelli Foundation Italy June 1997 IX

1

ASEAN IN A NEW ASIA Challenges and Opportunities Tan Kong Yam

I Introduction

After World War II ended in 1945, the General Agreement on Tariffs and Trade (GATT) was established to create an open and free trading system. Together with the system of fixed currency exchange established under the International Monetary Fund (IMF) agreement at Bretton Woods, a stable global trading and monetary system was instituted. These two key post-war institutions, sustained by the hegemonic power of the United States - based on its technological, economic, and military superiority - ushered in an unprecedented period of steady expansion in world output and trade as well as closer economic interdependence in the non-communist free world. World trade in volume terms expanded at an average annual rate of 5.6 per cent between 1953 and 1963 and 8.5 per cent between 1963 and 1973, much higher than the average rate of 3.5 per cent between 1873 and 1913 and the 0.9 per cent in the inter-war period of 1919-39. This unprecedented expansion in world output and trade in the post-war era provided the Asia-Pacific economies like Japan

2

Tan Kong Yam

and the four East Asian newly industrializing economies (NIEs) South Korea, Taiwan, Hong Kong, and Singapore- with a conducive and stable environment for export-led growth. They were lucky to set sail on the tack of industrial catching-up when the gust of wind was strongest. Consequently, from the mid-1960s to the early 1990s the four NIEs were the most dynamic middle-income economies in the world. Their annual growth rates in gross national product (GNP) per capita between 1965 and 1990 have averaged 6 to 8 per cent, almost triple the average rate of 2.3 per cent for middleincome economies of the world and double the 3.6 per cent average for countries in the Association of Southeast Asian Nations (ASEAN), excluding Singapore. The pattern of industrialization and exports of the NIEs has been rather similar. After a short period of protectionistic importsubstitution policy in the 1950s and early 1960s, they soon turned to an export-oriented strategy for growth. During the early stage of the outward-oriented development strategy in the 1960s, the emphasis was on the production and export of traditional labourintensive products such as textiles, clothing, footwear, toys, leather goods, and other light manufactured goods. Technology for these products was standard and the main competitive factor in the world market was low labour cost relative to labour productivity. Their major markets were the Organization for Economic Cooperation and Development (OECD) countries, particularly the United States which had a major strategic interest in nurturing these market economies through generous foreign aid, capital inflow, technology transfer, market access, and special tariff preferences against the ideological challenge of the socialist countries of East Asia like China, North Korea, and North Vietnam. Consequently, the manufacturing exports of the four NIEs were able to grow between 20 per cent and 50 per cent per year for the period 1965-73 and even after the first and second oil shock, at an annual rate of 13-21 per cent between 1973 and 1985. Gradually, with

ASEAN in a New Asra

3

rising income and savings, together with a higher educational level and better infrastructural facilities, the NIEs, like Japan before them, were able to invest in and upgrade to more capital-, skill-, and technology-intensive industries like steel, shipbuilding, chemicals, machinery, electrical machinery, telecommunications, and office automation equipment. Thus, with the benefits of being late corners in the process of industrialization and taking full advantage of the conducive world trading system as well as the ideological imperatives of the free world, the NIEs have been able to telescope an industrialization process that took the OECD countries 100 to 150 years to complete in the nineteenth and early twentieth centuries within 25 to 30 years in the post-war era. However, unlike Japan, they have industrialized with a greater degree of dependence on direct foreign investment, particularly for Singapore. Throughout the 1980s, exports of foreign firms accounted for about 80 per cent of total exports for Singapore, 25 per cent for South Korea, 15 per cent for Taiwan, and 20 per cent for Hong Kong. By the beginning of the 1980s the success of the NIEs had begun to have a significant demonstration effect on policy makers in ASEAN and China. They had increasingly looked upon a liberal trading regime as well as the inflow of direct foreign investment as a quick way to jump-start the process of industrialization. 11 Competitive Unilateral Liberalization in East Asia 1. ASEAN Countries

Until the early 1980s many ASEAN countries, particularly Indonesia, Malaysia, and Thailand, clung on to the import-substituting industrialization strategy and remained restrictive in their trade and foreign investment policies. Protection of domestic industries under this strategy made possible the proliferation of inefficient public enterprises. The role of market forces and the potential role

4

Tan Kong Yam

of direct foreign investment in fostering dynamic economic growth and development were substantially circumscribed. The substantial decline in oil and commodity prices between 1982 and 1986 resulted in a significant deterioration in the terms of trade for the ASEAN countries. Prices (in current U.S. dollars) of non-fuel primary products like rubber, tin, and palm oil fell by 2560 per cent between 1981 and 1986. In addition, petroleum prices fell steadily from about US$39.0/barrel in 1981 to reach a low of US$14.8/barrel in 1986. This resulted in the Malaysian terms-oftrade index falling by about 24 per cent between 1980 and 1986. These external shocks were severe for the commodity-based ASEAN economies. The World Bank estimated that due to external disturbances over the period 1983-88, Indonesia suffered an income loss equivalent of some 9 per cent of its annual gross domestic product (GDP). The financial and budget burdens of the inefficient state-owned enterprises, which were masked during the commodity boom period in the 1970s, were starkly revealed. This dramatic decline in the terms of trade and consequent pressure on the budget gave the impetus to the political will for liberalization and drive against vested interests and inefficiencies. These economic and financial liberalization policies in ASEAN from the mid-1980s were aimed at directing the economies towards a system of regulation based on the competitive markets of the private sector. The basic paradigm was the pre-eminence of competition, whether domestic or international. The key areas of liberalization were international trade in goods and services, including tariff, quota, and licensing structure; internal and external capital movement, including abandonment of financial repression, deregulation of interest rates, and easing of restrictions on foreign banks and other financial institutions; privatization of state-owned enterprises; competitive goods and factors markets, including suppression of domestic rent seekers and elimination of subsidies; and significant revision and liberalization of foreign

ASEAN 1n a New As1a

5

investment regulations, particularly on equity rules for foreign investment, business fields open to foreign investors, and local content regulations. 1 More significantly the mid-1980s, when these ASEAN countries began to learn and absorb the lessons of the NIEs' success through the outward-oriented development strategy and were keen to liberalize and deregulate their economies to welcome the inflow of foreign capital and technology, coincided with the outflow of direct foreign investments from the NIEs and Japan. These capital outflows from Northeast Asia, under the pressure of U.S. and European Community (EC) protectionism, rising domestic wages and other business costs as well as the strengthening of currencies, were searching for cheaper offshore production bases to sustain their international export competitiveness and profitability. They found them in the ASEAN countries. In particular the significant appreciation of the Japanese yen, Taiwan dollar, Korean won, and Singapore dollar against the depreciating Indonesian rupiah, Malaysian ringgit, Thai baht, and Chinese yuan between 1986 and 1990 have acted as the key push and pull factors in attracting direct foreign investments from Japan and the NIEs into ASEAN and China since 1986 (see Figure 1.1). Consequently, since the mid-1980s, the outflows of foreign direct investment from Japan and the NIEs to ASEAN have been very rapid. Between 1986 and 1990, direct foreign investment in Malaysia rose by twelve times to US$6.2 billion, by twenty-four times in Thailand to US$14.1 billion, and by eleven times in Indonesia to US$8.8 billion (see Table 1.1). By 1990, the major foreign investors in the ASEAN countries like Malaysia, Indonesia, and Thailand were Taiwan, Japan, South Korea, Hong Kong, and Singapore, displacing the United States and Europe. While noting the usual caveats on comparability of data from different country sources, Table 1.2 shows that Hong Kong was the largest investor in Thailand, accounting for 50.7 per cent of the world total, followed by

Tan Kong Yam

6

FIGURE 1.1 Indices of Selected Currencies against the US$ (1985

= lOO)

190 180

Japanese Yen

170 160

NT$

150 140

>< Q.l

"t:l

:::::

Korean Won

130 120

llO 100 Ringgit

90 80 70 60 1984

1985

1986

1987 Year

1988

1989

1990

ASEAN 1n a New As1a

7

----------------------

TABLE 1.1 Foreign Direct Investment in Manufacturing in Selected Asian Countries (US$ million) Malaysia 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995

525 750 2,011 3,401 6,228 5,554 7,036 2,297 4,277 3,660

Thailand

Indonesia

579 1,949 6,249 7,995 14,128 4,988 10,792 4,294 5,950 16,436

800 1,240 4,409 4,719 8,750 8,778 10,180 8,100 23,724 39,915

China 3,330 4,319 6,191 6,294 6,986 12,422 58,736 110,000 81,406 90,288

Sources: Malaysian Industrial Development Authority; Board of Investment, Thailand; Capital Investment Co-ordinating Board (BKPM), Indonesia; and Statistical Yearbook of China_

TABLE 1.2 Percentage Distribution of Investments in ASEAN, 1990 Source

Thailand

Malaysia

Indonesia

Asia Japan NIEs Hong Kong South Korea Singapore Taiwan Europe United States

81.4 19.2 62.2 (50.7) (1.9) (4.2) (5.4) 10.3 7.7

85.1 23.9 47.2 (2.1) (3.7) (5.1) (36.3) 8.3 3.2

57.0 25.6 29.8 (11.4) (8.3) (3.0) (7.1) 12.2 1.8

World total (%)

100.0

100.0

100.0

14,128

6,228

8,750

World total (US$ million)

Sources: Board of Investment, Thailand; Capital Investment Co-ordinating Board (BKPM), Indonesia; and Malaysian Industrial Development Authority.

8

Tan Kong Yam

Japan, with 19.2 per cent. In Malaysia, the top investor in 1990 was Taiwan (36.3 per cent), followed by Japan (23.9 per cent), while in Indonesia, Japan (25.6 per cent) was the largest investor, followed by Hong Kong (11.4 per cent). The NIEs as a group constituted the largest investors in all the three major ASEAN countries. In all these three ASEAN countries investments by the NIEs accounted for the lion's share, being 62.2 per cent in Thailand, 47.2 per cent in Malaysia, and 29.8 per cent in Indonesia. While there were fluctuations, the NIEs and Japan continued to constitute the major investors in ASEAN in 1994, contributing 65 per cent in Thailand, 62 per cent in Malaysia, 57 per cent in Indonesia, and 32 per cent in the Philippines. In Malaysia the bulk of these upsurge in Northeast Asian foreign investments have concentrated in electrical and electronic products, chemicals and chemical products, food manufacturing, textiles and textile products, wood and wood products, and basic metal products. In Indonesia the concentration was in chemicals, paper and paper products, textiles, and increasingly metal products. In Thailand the bulk of direct foreign investments were concentrated in electrical and electronic products, chemicals, textiles, and machinery and transport equipment. This surge of foreign investment inflows from Northeast Asia into ASEAN, together with the dynamic effect of the liberalizing and deregulatory measures undertaken domestically, brought about an ASEAN economic boom between 1987 and 1995. The average annual real GDP growth rates during the period 1987-95 were 8.8 per cent for Singapore, 9.5 per cent for Thailand, 8.5 per cent for Malaysia, and 6.6 per cent for Indonesia, significantly higher than the 5.5, 5.4, 4.5, and 4.9 per cent achieved respectively during the period 1981-86 (Table 1.3). 2. China

In the meantime, in a sharp break with previous policies, China in

ASEAN

1n a New Asia

9

TABLE 1.3 Growth Rate of GDP in ASEAN Countries

Singapore 1981 1982 1983 1984 1985 1986 Average 1981-86 1987 1988 1989 1990 1991 1992 1993 1994 1995 Average 1987-95

Malaysia Thailand Indonesia Philippines

9.6 6.9 8.2 8.3 -1.6 1.8

6.9 5.9 6.3 7.8 -1.0 1.2

6.3 4.1 7.3 7.1 3.5 4.5

7.9 2.2 4.2 6.7 2.5 5.9

3.9 2.9 0.9 -6.0 -4.3 1.4

5.5

4.5

5.4

4.9

-0.2

9.4 11.1 9.2 8.3 6.7 5.8 9.8 10.1 8.9

5.2 8.9 8.8 9.8 8.8 8.0 8.6 8.7 9.5

9.5 13.2 12.0 10.0 8.2 7.4 8.2 8.4 8.7

4.9 5.7 7.4 7.4 6.6 6.1 6.6 6.9 7.5

4.7 6.3 5.6 2.4 -0.9 0.3 1.0 4.3 5.3

8.8

8.5

9.5

6.6

3.3

Sources: Asian Development Bank (1996); national statistics.

1978 began to pursue foreign capital actively, as part of the programme for opening up the economy. Such investment was also viewed as an effective means of transferring technology and managerial expertise to China. In 1978 it was announced that China would welcome foreign direct investment, and legislation governing such investment was adopted in the following year. In line with this approach, special economic zones (SEZs) were established in 1980 as the principal areas for direct investment. SEZs were set up along the southeastern coast of China at Shenzhen (near Hong Kong),

Tan Kong Yam

10 ~----

-----

- - - -

Shantou (north of Hong Kong), Zhuhai (near Macao), and Xiamen, positioned to attract investments from overseas Chinese. One crucial difference between SEZs and other areas in China was the administrative decentralization that permitted SEZ authorities to operate largely outside the state plan. They were allowed to attract foreign investors through preferential policies and undertake their own infrastructural development by raising their own funds. In 1984 it was decided to promote foreign investment on a wider geographic basis. To this end, fourteen coastal cities and Hainan island were permitted to offer tax incentives for such investment similar to those offered by the SEZs. In these areas, imports by foreign investors of machinery, equipment, and other inputs were exempt from import licences and customs duties and a special 15 per cent preferential income tax was applied to foreign investment enterprises. Direct foreign investments began to pick up in 1984, reaching US$2.9 billion in contracted value and US$1.4 billion in utilized value. The extensive liberalization and the opening of the fourteen coastal cities led to an upsurge in 1985, reaching an unprecedented contracted amount of US$6.3 billion. Although China had considerable success in attracting foreign investment, objectives in this area did not appear to have been completely fulfilled between 1980 and 1990. There were increasing complaints from foreign investors, particularly non-Chinese foreign investors, that the business environment in China was not favourable. In particular, they cited the artificial high costs of key inputs (such as land, office space, and labour), inadequacies of infrastructure (especially transportation and energy), unclear rules, punitive charges, and problems in dealing with the government bureaucracy. More significantly,~ the initial requirement that foreign investment enterprises had to balance their foreign exchange earnings was a major impediment to the expansion of foreign investment, in part because this requirement made it difficult for these enterprises to repatriate profits. It also severely restrained investment in projects designed to produce for the domestic

ASt:AN rn a New Asrz1

11

market, the key attraction in investing in China for non-overseas Chinese investors. These problems, as well as the cyclical swing in the macroeconomic cycle, resulted in the contracted amount of direct foreign investment declining to about US$3-4 billion between 1986 and 1987, while the ASEAN countries attracted away the bulk of the outflows of direct foreign investments from Japan and the NIEs during this period. To address the problems that had emerged, the State Council issued draft regulations on direct investment in October 1986. The regulations provided for reductions in land use fees, taxes, costs of certain inputs, and labour costs. Improved access was promised for important inputs under state control, particularly for transportation and energy. Approval and licensing procedures for foreign investment enterprises were streamlined, and greater autonomy of these enterprises over production plans, imports and exports, wages, and terms of employment was guaranteed. In addition, to address the problem of balancing foreign exchange accounts, foreign exchange adjustment centres were established. In 1988 the local authorities in a number of areas established 'one-stop' offices to speed up the processing of permits needed by foreign investment enterprises to begin or expand operations. Direct investment increased to about US$6 billion in 1988-89 but stagnated in 1990 due to the Tiananmen event on 4 June 1989 (see Table 1.1).

Ill Rivalry between ASEAN and China

The Tiananmen event in June 1989 introduced a significant level of uncertainty into the business and investment climate in China. Consequently, in 1989 and 1990 the outflows of investments from Japan and the NIEs were substantially diverted from China to ASEAN. While foreign direct investment (FDI) stagnated at US$6.9 billion in China in 1990, it almost doubled to a total of US$29 billion in Malaysia, Indonesia, and Thailand (see Table 1.1).

12

Tan Kong Yam

----

----------------------------

In late January 1992 Deng Xiaoping made a historic tour of south China, calling for faster economic growth and deeper economic reform. This speech was later circulated as Internal Party Document no. 2 for senior cadres to 'study'. This call for greater economic reforms sparked off an unprecedented investment boom in south China, which soon spread to other cities. Direct foreign investments contracted, which almost doubled from US$6.9 billion in 1990 to US$12.4 billion in 1991, skyrocketed to reach US$58.7 billion in 1992 and US$110 billion in 1993 before moderating to US$88 billion in 1994. 2 Foreign capital actually utilized also rose substantially, from US$3.5 billion in 1990 to US$4.4 billion in 1991 and more than doubled again to US$11.0 billion in 1992. The momentum continued unabated to reach US$26 billion in 1993 and about US$32 billion for 1994. The acceleration of economic reform and the open-door policy since early 1992 has led to the re-evaluation of China as a destination for direct investment by foreign companies. Labour costs and land prices in Shenzhen, for example, were 40 per cent lower than those in Batam island in Indonesia. Corporation tax rates in the SEZs are as low as that in Hong Kong. Per capita income in the coastal region was approaching US$1,000 (and much higher in purchasing power parity terms), making it an attractive market for consumer products. In addition, the Chinese Government has expanded the list of industries permitted for investment by foreigners to include service industries like commerce and retailing as well as infrastructural development like power generation, telecommunications, transportation, and real estate. At the same time regions open to foreign investment have been extended beyond the coastal regions to major cities along the border regions and the Yangtze River. Inflow of direct foreign investments into China included many mega-projects, reflecting growing confidence among investors. Hong Kong's Wharf Holdings, for example, has committed to invest over US$1.5 billion in infrastructure projects in Wuhan, and a

ASEAN in a New As1a

13

consortium consisting of six major Japanese trading companies has investment commitment of about US$4 billion in a large-scale petrochemical plant in the northern province of Liaoning. Some of the investments were made because China has rapidly relaxed many restrictions on foreign investors since early 1992. Foreign-invested factories producing consumer products that were formerly required to export the bulk of their output are now allowed to target China's 1.16 billion consumers. Meanwhile, foreign banks and law firms were getting more leeway to operate while foreign property developers are encouraged to build apartments, hotels, office towers, and shopping malls. Local authorities have also been given greater power to accept foreign investment without Beijing's approval. For foreign capital actually utilized in 1992, Asian investors led the way. Investors from Hong Kong invested US$7.7 billion, up from US$2.7 billion in 1991. Similarly, Taiwanese investment rose from US$471 million to US$1.1 billion while that of Singapore from US$56 million to US$126 million and that of Japan from US$611 million to US$748 million. This upsurge of direct foreign investment into China since early 1992 has been increasingly at the expense of ASEAN. The surge of Northeast Asian investments into Southeast Asia between 1986 and 1990 has moderated. While the ASEAN-Three (Indonesia, Malaysia, and Thailand) managed to capture 80 per cent of total direct foreign investments contracted flowing into Southeast Asia and China in 1990, their share had declined steadily to 59 per cent in 1991. By 1992 it had fallen to only 40 per cent, with China accounting for 58 per cent and Vietnam's share rising to about 3 per cent. In 1993 the ASEAN share had shrunk to only 11 per cent while China accounted for over 80 per cent (see Table 1.1). In Indonesia though FDI increased from US$8.8 billion in 1991 to US$10.2 billion in 1992, it was largely attributed to several large petroleum and mining projects. These included the US$1.5 billion Tanjung Uban Exor refinery, the US$1.6 billion Chandra Asri olefin

14

Tan Kong Yam

plant in West Java, and the US$0.8 billion expansion of Freeport copper mining in Irian Jaya. Excluding petroleum and mining projects, Prof. Soewito of Diponegoro University in Semarang, Central Java, estimated that foreign investment plunged by about 54 per cent in 1992. More significantly, domestic investment declined from 41.1 trillion rupiah in 1991 to 27.0 trillion rupiah in 1992, a fall of 34.3 per cent. These substantial fall in domestic and foreign investments has aroused considerable concern in Indonesia. A legislator of the Indonesia Democratic Party (PDI), Aberson Marle Sihaloho, has urged the government to monitor and control Indonesian investment in China to prevent the depletion of the nation's wealth. 3 Sihaloho noted that the wealthy Indonesian Chinese businessmen had acquired their fortunes in Indonesia, thanks to the facilities and assistance given by the government. The competitive pressure from China exerted a tremendous impact on the process of trade and investment liberalization in Southeast Asia, particularly Indonesia. 4 The various reform packages announced by the Indonesian Government since 1992 have largely the Chinese competition in mind. The main objectives have been to further ease foreign investment requirements, reduce import protection, ease bureaucratic impediments, and streamline the duty drawback scheme for exporters. An important step in deregulation was taken in July 1992, when 100 per cent foreign ownership was permitted for projects worth at least US$50 million or projects located in any one of fourteen less developed provinces (primarily in eastern Indonesia); or projects worth less than US$50 million and located outside the fourteen provinces but situated in bonded zones with 100 per cent of production to be exported. The October 1993 deregulation package further relaxed ownership restrictions by lowering the investment threshold for 100 per cent foreign-owned companies from US$50 million to US$4 million, provided that these companies produce inputs or components for other industries.

ASEAN 1n a New ASia

15

In October 1993 Indonesia further addressed the principal concerns of foreign investors on the bottle-necks in infra-structure (physical infrastructure, electricity, and communications), long and complex licensing procedures, complications in obtaining land titles, ownership limitations, and the lack of transparent rules for business dealings. Reflecting Indonesia's concerns about competitiveness in attracting foreign investment, the deregulation package, announced on 23 October 1993, focused on easing investment licensing restrictions at the provincial level, relaxing divestiture requirements, lowering minimum capital requirements for some investments, and streamlining procedures for environmental impact assessments. One of the most important measures entailed the simplification of investment licensing procedures through the elimination of some of the layers of bureaucracy in the approval process. The October 1993 package also extended the time span during which foreign investors were allowed to fully own companies in Indonesia. The divestment process now only has to start in the eleventh year of commercial production as compared with the sixth year previously. The divestment of shares, which should take place within twenty years, could be carried out through the capital market or direct placement, rather than through a forced sale to designated local partners. These liberalization reform measures, particularly the easing of restrictions on foreign ownership and forced divestment, have had a significant effect in sharpening Indonesia's competitiveness in attracting FDI compared to China, Vietnam, and South Asia. While FDI in Indonesia fell from US$10.2 billion in 1992 to US$8.1 billion in 1993, with particularly severe declines from Japan, Hong Kong, Taiwan, and the United States, it rose to a record of US$23. 7 billion in 1994, rising further to US$39.9 billion in 1995. Major infrastructural projects like power plants and refineries have boosted the approved FDI substantially.

16

Tan Kong Yam

IV Taiwans Southward Strategy

The intense rivalry between ASEAN and China for increasingly scarce direct foreign investment has created a major opportunity for a capital-exporting but diplomatically weak economy like Taiwan to exploit in formulating its southward strategy and diplomacy towards ASEAN. While the southward strategy was conceived in early 1993 to diversify Taiwan's investment linkages and economic dependence away from China towards Southeast Asia, the recent escalation in cross-strait relationship is bound to give it further impetus. The first wave of Taiwanese investment into China between 1987 and 1991 was pioneered by the small and medium enterprises. The forces driving them were largely those of structural adjustment, particularly pressure arising from an appreciating exchange rate, rapidly rising labour and land costs, as well as more stringent labour laws and environmental protection regulations. In addition, changes in Taiwan's mainland policy has been instrumental in pushing Taiwanese investment into China. In July 1985 Taiwan adopted the non-interference principle of indirect exports, a tacit recognition of the necessity of economic ties with China. More significantly, in 1987 Taiwan lifted martial law and permitted the visits of relatives in the mainland. In response, the State Council of China promulgated the twenty-two articles of "Regulations on Encouraging Taiwanese Investment" in July 1988. 5 This legislation allowed Taiwanese investors special privileges not available to other foreign investors. Following the lead of the central government, local and provincial authorities offered even greater preferences to Taiwanese investors. These included longer tax holiday, lower land use fees, duty-free imports, and special areas exclusively for Taiwanese investment. Subsequently, in October 1989 Taiwan promulgated regulations sanctioning indirect trade, investment, and technical co-operation with China. These liberalization policies from both sides have a significant

ASEAN 1n a New Aslc1

---------

17

impact on Taiwanese direct foreign investment in China. Investment rose rapidly from about US$100 million in 1987 to US$1,392 million by 1991 (see Table 1.4). The first wave of Taiwanese firms consisted of mostly familyowned, small and medium-sized, labour-intensive, export-oriented enterprises. These entities had little differentiation between ownership and management and were extremely flexible and adaptable. The common medium of communication and a shared system of values and cultural heritage in China were extremely important in facilitating their investment in China. These flexible enterprises were also able to operate well and effectively under the informal Chinese system with an underdeveloped property right protection system, unpredictable policy environment, opaque rules and regulations as well as an antagonistic bureaucracy. Through good contacts, bribery, and infiltration of key personnel in the bureaucracy, they were able to feel at home, reduce business risks and uncertainty, and operate well in the informal way of doing business. In this first phase of investment in China about 70-80 per cent of the Taiwanese firms exported 100 per cent of their products and they relied heavily on the supply of parts and materials from Taiwan. Consequently, exports from Taiwan to China (indirectly through Hong Kong) rose rapidly from US$1.2 billion in 1987 to US$4. 7 billion in 1991. The top twenty commodities indirectly exported to China included woven, synthetic textile materials, knitted fabric, yarn, and synthetic and polyester fibres which were raw materials for the textile and knitting industries; picture tubes, cathode ray tubes, apparatus, and equipment for television; and machinery for preparing and tanning hides, skins, or leather for the footwear industry. In addition, indirect exports of machines and mechanical appliances increased. This was because many of the investment projects used depreciated or spare machinery and equipment for the transplantation of production sites. 6 It is noteworthy that during this first wave of investment in China, Taiwanese investors largely concentrated

TABLE 1.4 Taiwan's Investment in ASEAN Countries and China (US$ million)

Year

Taiwan Approved

Locally Approved

Taiwan Approved

Locally Approved

Taiwan Approved

Locally Approved

Taiwan Approved

Locally Approved

Mainland China (Contract Basis)

1987 1988 1989 1990 1991 1992 1993

5.4 11.9 51.6 149.4 86.4 83.3 109.2

300.0 842.0 871.0 761.0 567.6 289.9 154.6

5.8 2.7 158.6 184.9 442.0 155.7 64.5

47.4 307.3 815.0 2,383.0 1,314.2 602.0 347.9

2.6 36.2 66.3 123.6 1.3 1.2 6.5

9.0 109.9 148.7 140.7 11.6 9.3 n.a.

1.0 1.9 0.3 61.9 160.3 39.9 25.5

7.9 913.0 158.0 618.0 1,056.5 563.3 131.4

100.0 420.0 517.0 984.0 1,392.3 5,547.9 10,000.0

Thailand

Malaysia

Philippines

Indonesia

Sources: Investment Commission, Ministry of Economic Affairs, Taiwan; Malaysian Industrial Development Authority; Board of Investment, Thailand; Capital Investment Co-ordinating Board (BKPM), Indonesia; and Statistical Yearbook of China.

ASEAN 1n ,J New As1a

19

on the southeastern seaboard. The survey by the Ministry of Economic Affairs in 1991 showed that Guangzhou and Fujian provinces accounted for 88 per cent of the investment projects and 67 per cent of the investment amount. Most of the industries were of the labour-intensive and simple processing type, producing electrical and electronic components, shoes, plastic products, textiles, metal products, athletic products, apparel, handbags and suitcases, food products, umbrellas, etc. As noted in Section III, the upsurge of direct foreign investments in China since early 1992 has been increasingly at the expense of ASEAN (see Table 1.1). Taiwanese investments played a significant role in the diversion from Southeast Asia to China. As indicated in Table 1.4, Taiwanese investment in Malaysia fell drastically from US$2,383 million in 1990 to US$348 million in 1993, from US$761 million to US$155 million in Thailand, and from US$618 million to only US$131 million in Indonesia during the same period. Taiwanese investment in China, however, rose more than ten times from US$984 million in 1990 to over US$10 billion in 1993. More significantly, the rapid expansion of investment has extended over a wider geographical zone. Instead of confining to the southeastern region of Guangdong and Fujian, it has expanded to the entire coastal region like the Yangtze River Valley around Shanghai, coastal areas around Bohai Sea, and some inland provinces. Part of this was due to the fact that some inland provinces like Sichuan and Hebei have copied the pattern developed in the coastal region and set up special zones for Taiwanese investors. The types of industries have also expanded beyond the shortterm, small-scale, labour-intensive, processing industries into longer term, capital- and technology-intensive industries like plasma splicing, laser products, bio-engineering, as well as infrastructure, energy, telecommunications, finance, and real estate. Increasingly, for the petrochemical and food-processing industries, Taiwanese investors are also targeting the rapidly expanding China market.

20

Tan Kong Yam ---~~~--~------------~-

In addition, this second wave of Taiwanese investment also consisted of many upstream and mid-stream producers. These producers were worried that their supply of intermediate inputs to the downstream producers who had moved to China could eventually be replaced by China's own developing upstream and mid-stream producers of intermediate inputs, particularly as China pursued its import-substituting industrialization. The Taiwanese Government observed these trends with great concern. The southward strategy was conceived in early 1993 to diversify Taiwan's investment linkages and economic dependence away from China towards Southeast Asia and to improve the political room for manoeuvre. The objective was to utilize party and government enterprises to develop industrial estates in Southeast Asia, supplemented by investment guarantee agreement and avoidance of double taxation treaty to lure Taiwanese investors away from China to Southeast Asia. In addition, the Taiwanese Government provided soft loans to Southeast Asian governments to finance the development of industrial parks, exportprocessing zones, and other infrastructural projects that catered to the needs of Taiwanese investors. Through this strategy, Taiwan was also looking towards to the ASEAN Free Trade Area (AFTA) as a expanding market to counter the attraction of the China market for its products in the long run. Preliminary data on Taiwan's investment in Southeast Asia showed that the southward strategy achieved some success. For the whole of 1994 Taiwanese investment in Southeast Asia and Vietnam surged by 320 per cent to reach US$4. 79 billion. On the other hand, investment in China fell by 46 per cent to reach US$3.39 billion. 7 Large Taiwanese business groups which have ventured into the Southeast Asian region include China General Plastics with a US$480 million petrochemical project in Malaysia, Far Eastern Textile with synthetic fibres production facilities in the Philippines, Hualon with a production base in Malaysia, Tuntex in Thailand,

ASEAN 1n a New As1a

---- --·--··--·---

21

Chung Hwa Pulp in Indonesia, and Acer Computer in Penang and Singapore. By 1995, the largest party-inspired projects were in Indonesia. China Development Corporation, headed by Liu Taiying, chairman of the Kuomintang's (KMT) Business Management Committee and a former classmate of President Lee Teng Hui at Comell University in the 1960s, had entered into partnership with the Djajanti Group. Their joint ventures included the US$600 million cement plant in eastern Indonesia as well as a US$1 billion petro-chemical plant near Surabaya. In Vietnam the development of an industrial zone outside Ho Chi Minh City was undertaken by the Central Trading and Development Group (CTD), a trading company owned by the ruling KMT. The CTD was committed to four projects with total approved investments amounting to US$600 million. These included the development and management of the 300-hectare Tan Thuan Export Processing Zone and a 675-megawatt power plant south of the city. In addition, the CTD had teamed up with the Ho Chi Minh City administration to develop a 2,600-hectare development zone called Saigon South, that was to include universities, hotels, parks, sports facilities, as well as commercial and residential zones. As at August 1994 Taiwanese investors had signed contracts totalling US$1.7 billion in Vietnam, ranking after Hong Kong (US$1.8 billion) and ahead of South Korea (US$782 million), Australia (US$760 million), France (US$739 million), and Singapore (US$578 million).

V East Asia as an Independent Engine of Growth

Since the mid-1980s competitive unilateral liberalization among the ASEAN countries and China, as well as the pressure of exchange rates and wage costs in Japan and the NIEs, have resulted in an investment-driven regionalism between Northeast and Southeast Asia. The fundamental forces driving greater economic integration in

22

Tan Kong Yam

East Asia were the forces of economic expansion, geographical proximity, web of business network, lower transportation and transaction costs, a higher level of information flows, intra-firm trade, and increasing policy convergence in trade and investment regime among countries in the region. While rapidly rising intraregional trade reflected greater intra-firm trade regionally with final demand from the United States and the European Union (EU) in the 1980s, increasing empirical evidence points to rapidly rising final demand and independent growth momentum within East Asia in the 1990s. Since the early 1990s it has become increasingly clear that East Asian (NIEs, ASEAN, and China) growth has managed to maintain its momentum despite the economic slowdown in the United States, Europe, and Japan. For example, while the major OECD economies were in recession between 1990 and 1992, the East Asian countries were still chalking up growth rates of 6-12 per cent during this period (see Table 1.5). The empirical evidence appears to support the fact that until the mid- to late 1980s, East Asia was basically a wagon. Now it has increasingly become an independent locomotive. Figure 1.2 shows that during the period 1971-81, East Asian growth (consisting of the NIEs and ASEAN but excluding Japan) tracked the U.S. growth very closely. Simple regression indicates that about 85 per cent of the variation in East Asian growth during this period can be attributed to variation in U.S. growth. During this period a one percentage point increase in the U.S. growth led to about 0.8 percentage point increase in East Asian growth. This was a period of asymmetrical relationship between the locomotive and the wagon. Figure 1.3 shows that remarkable structural changes had transpired between the earlier period and the period 1983-93. East Asian growth no longer tracked the U.S. growth closely, particularly when China is added. In fact, it appears from the chart that East

ASEAN 1n a New As1a

23

TABLE 1.5 Real GDP Growth of East Asia and Selected Countries, 1990-93 1990

1991

1992

1993

United States Germany United Kingdom Japan

0.8 4.5 1.0 5.2

-1.2 0.9 -2.2 4.4

1.9 1.8 -0.8 2.0

2.7 -1.3 1.8 0.1

ASEAN-Three China NIEs

9.5 5.2 5.8

7.7 7.0 6.6

7.2 12.8 6.5

7.8 12.0 6.6

Note: ASEAN-Three refers to Indonesia, Malaysia, and Thailand. Sources: OECD and national statistics.

FIGURE 1.2 Economic Growth: East Asia (Excluding China) against the United States, 1971-81 12,-------------------------------------------~

RSQ

••

= 85%

10 ,--,

:>R e._,

....

d

~

~...,

6

•••

• •

..c: ~0 8

•

~

t:il

4

-0.5 0

0.5

1

1.5

2 2.5 3 3.5 U.S. Growth (%)

Source: International Monetary Fund (various years).

4

4.5

5

5.5

6

Tan Kong Yam

24

FIGURE 1.3 Economic Growth: East Asia (Including China) against the United States, 1983-93 12,-----------------------------------------~

RSQ

10

=

36%

I-

,-..,

•

Cf.

'-'

..=: ~0 ....

8 r-

Cl

~.....

• • • •

•

Cli

61jj

~

•

••

~

4 -

-0.5 0

0.5

1

1.5

2 2.5 3 3.5 U.S. Growth (%)

4

4.5

5

5.5

6

Source: International Monetary Fund (various years).

Asian growth had consistently clustered around 6 per cent to 10 per cent, whether the U.S. economy was in recession at 0 per cent or booming at 4 per cent. Only 36 per cent of the variation in East Asian growth could now be attributed to variation in U.S. growth, with the other two-thirds driven by variables like their own domestic private consumption and investment. 8 This is the period of gradual transformation of the wagon into an independent locomotive. The major reasons for the East Asian independent momentum of growth include massive infrastructural development projects like highways, power plants, telecommunication facilities, housing, and construction of commercial and retail space; industrial estate

ASEAN

1n a New Asia

25

expansion that generates substantial independent domestic growth momentum; rising domestic purchasing power as a result of employment expansion and wage increases as well as a rapidly expanding middle class; substantial expansion in private investment and rising interdependence in direct foreign investment; and intra-industry trade flows among the regional economies. What are the implications of East Asia as an independent centre of growth in the global economy? Firstly, the emergence of East Asia as an independent engine of growth would substantially enhance East Asian bargaining power in a global environment of rapid slide towards regionalism. As North America and Europe decline as important markets for East Asian products, the EU and the North American Free Trade Agreement (NAFTA), even if increasingly protectionistic, would look less threatening. On the other hand, the lure of the East Asian market to North American and EU firms, both as destination for direct exports and direct investment targeting locaVregional sales, would increasingly emerge as an important countervailing force against protectionistic impulses in these regional groupings. Increasing export to the rapidly expanding East Asian market could also play an increasingly important role in growth and employment expansion in the United States and the EU. Secondly, fund managers from the United States and the EU are increasingly looking to the region for asset diversification and higher returns. Now that the East Asian business cycle is no longer an adjunct of the U.S. cycle, there is greater scope for geographical diversification. This has been picking up in the last few years, particularly from pension fund managers in the United States. Despite the recent Mexican crisis, the trend is likely to continue. This has significant implications as it implies that the higher rate of returns to capital in the East Asian economies would benefit future American retirees whose pension funds are now increasingly being invested in companies or projects in the region. There is no better way to ensure improved market access and cordial economic relations between the

26

Tan Kong Yam

United States, the EU, and East Asia than linking the future retirement income of citizens (voters) in the former to the economic prosperity in the latter. From this perspective, East Asian countries could do well by gradually liberalizing their capital markets and allowing the OECD funds to benefit from the growth of the region, thus deepening the industrialized West's interests in the region's peace and prosperity. This is somewhat similar to the period in the nineteenth century when capital from the United Kingdom financed and benefited from developing the infrastructure of the then New World in the United States, Canada, Argentina, and Australasia.

VI Conclusion

The competition for scarce capital, particularly in the fonn of FDI with its employment creation, wage increase, transfer of industrial technology, managerial expertise, and marketing know-how as well as stimulus to the development of local supporting and domestic industries, is likely to intensify in East Asia, particularly between Southeast Asia, Vietnam, and China. This is particularly so as the legitimacy of both democratic and authoritarian governments in the region has increasingly become dependent on delivering the goods to the people, especially in comparison with neighbouring countries. This competitive pressure in sustaining the 'mandate of heaven' is a key factor driving the process of unilateral liberalization in trading and investment regime in the region. In a way, the growing impetus to AFTA can be seen as the economic and security response on the part of ASEAN to the perceived competition and threat from China. This competitive dynamics among the developing East Asian countries has also significantly enhanced the bargaining power of Taiwan, a government with tremendous financial and business resources but weak diplomatic and political muscle. The diversion of direct foreign investment from ASEAN

ASE:AN --

1r1

27

a New As1e1

- · - -

--

---

---

---

- -

- - -

----

towards China has not yet significantly affected Singapore directly as its per capita income (US$24,000) and wage, skill, and technology levels are substantially above those of China. Like the other NIEs with per capita incomes of US$8,000-20,000, it is more complementary than competitive with the rapidly expanding Chinese economy, though segments of the rapidly developing cities and coastal region in China have begun to compete head-on with the NIEs. However, with GDP per capita comparable to that of China (US$370-2,000, depending on the region or statistical methodology used), Indonesia (US$700), Thailand (US$2,000), and Malaysia (US$3,000) are at wage, skill, and technology levels that are more competitive with various regions in China. The diversion of Japanese, Western, Taiwanese, and Hong Kong capital has consequently been more severe for them. In addition, the overseas Chinese capital in these ASEAN countries has also been flooding into China, largely through companies located in Hong Kong. The simultaneous decline in FDI and local investment as a result of competitive pressure from China has generated some uneasiness, particularly in Indonesia. Consequently, the southward strategy of Taiwan since 1994 has come as a godsend to ASEAN. This could have moderated potential anti-Chinese feeling, particularly in Malaysia and, to a lesser extent, Indonesia. More significantly, the substantial surplus labour to be released from the agricultural sector in China over the next two decades as China industrializes would likely sustain China's comparative advantage in labour-intensive products for a much longer period than Japan or the other NIEs had sustained during their earlier period of labour-intensive industrialization. This could mean that real wages for unskilled and semi-skilled workers in the East Asian region or even globally, would likely remain depressed for a sustained period. As real wages increase in the coastal region of China, labour-intensive industries would migrate inland, just as they have migrated from Japan to the NIEs to ASEAN over the past thirty years.

28

Tan Kong Yam

For a country at a similar stage of development with surplus labour like Indonesia, it could mean that real living standard might remain depressed for a sustained period. Income and regional inequality could also worsen. This would have significant implications for social and political stability as well as ethnic Chinese and indigenous Indonesian relations. Again, the deliberate diversion of Taiwanese capital from China to Southeast Asia would help to sustain the industrialization process in Southeast Asia. More significantly, as the bulk of the Taiwanese investment is still in the labour-intensive industries, the employment and wage stimulus would have a major income-equalizing effect, more so when Taiwanese capital flows away from major cities like Jakarta, Bangkok, and Penang into regional areas in these countries. This would assist in spreading development across ethnic groups and regions, thus contributing to social and political stability in these Southeast Asian countries. On the other hand, the southward strategy of Taiwan could increasingly create a network of overseas Chinese businesses in Southeast Asia linked to Taiwanese investors. Like the Taiwanese, a substantial proportion of overseas Chinese businessmen in Indonesia, Malaysia, Vietnam, and the Philippines are of Fujian province origin and speak the same Fujian dialect. The small and medium enterprises from Taiwan are able to form joint ventures with the local overseas Chinese businessmen who have intimate knowledge of the local political leadership, complex bureaucratic procedures, as well as opaque rules and regulations. These network of relationships substantially reduce the business and political risks and significantly facilitated Taiwanese capital's penetration into Southeast Asian economies. However, in view of the sensitive dominant economic position of overseas Chinese businesses in Southeast Asia, this linkage could lead to a greater aggravation of inter-ethnic relationship in Southeast Asian countries. On the other hand, the active collaboration of large corporations owned by the Taiwanese Government with state-owned and non-ethnic Chinese

ASEAN rn a New Asra

29

enterprises in Indonesia, Malaysia, the Philippines, and Vietnam would go a long way to reduce the ethnic sensitivity of Taiwanese investment in Southeast Asia. The competitive industrial and trade structure between China and Southeast Asian countries like Indonesia, Vietnam, Thailand, and to a lesser extent Malaysia as well as the strategy of Japan in integrating Southeast Asia into its regional industrial division of labour in order to sustain its global competitiveness despite the high yen could lead to intensifying Japan-China rivalry playing out in Southeast Asia. Japan's capital-surplus status, strong industrial and technological base as well as its dependence on energy and raw materials make it very complementary with the ASEAN economies. While Japan's interest would be in maintaining its position as the head goose in the harmonious flying-geese pattern, with Southeast Asian countries like Thailand, Vietnam, Indonesia, and Malaysia subsumed under an informal regional trade and investment grouping, China is bound to contest this pyramidal industrial structure and possibly use the powerful and pervasive overseas Chinese business groups in these countries to integrate Southeast Asian economies to the expanding China market to moderate the Japanese influence and prevent Japan from keiretsuing the ASEAN economies. The active cultivation of the Malaysian and Thai political and business groups by China could be an indication of this emerging trend. Looking beyond East Asia, ASEAN faces a different set of challenges. Realistically, ASEAN is too small, too competitive in economic structure as well as too dependent on extra-ASEAN investment and trade to be a regional grouping of any consequence. The Malaysian proposal of East Asian Economic Caucus (EAEC), on the other hand, would generate too much conflict across the Pacific and undem1ine the U.S. market of East Asia to be acceptable to a large number of East Asian countries. Aside from anchoring the United States in East Asia through

30

Tan Kong Yam

Asia-Pacific Economic Co-operation (APEC), ASEAN has a strategic interest in drawing the EU to have a major stake in the prosperity of the East Asian region and not see the region's dynamism as a threat. The increasingly independent growth momentum in East Asia could prove to be a boon for EU corporations, whose technological level and design and engineering expertise as well as strength in infrastructural development would be highly demanded by the developing countries in East Asia to fuel their rapid process of industrialization. Closer East Asian and EU linkages would also allow East Asia to diversify its dependence on technology and capital from Japan and the United States, particularly the former. With its political imperatives in preventing the past cycle of warfare, containing Franco-German rivalries, and restoring itself as a global player by pooling national strength, the EU would obviously have its own imperatives to maintain its momentum in closer economic and political integration. In proposing the Asia-EU Summit for March 1996, Singapore had used the ASEAN platform in drawing the EU to East Asia. Aside from fostering EU business interest in the region, it would close the other leg of bilateral relationship among the three regional groupings of the United States, the EU, and East Asia.

Notes 1. For more specific policy measures implemented by the ASEAN coun-

tries, see Tan and Wee (1995). 2. This large amount of investment contracted (as reported by the Ministry of Foreign Trade and Economic Co-operation, China) could be an over-estimation as localities competed to announce large contracts and projects. Some of the so-called foreign investments were disguised Chinese capital from Hong Kong taking advantage of preferential policies. However, the significant diversion effect from ASEAN to China has been unmistakable.

ASEAN 1n a New As1a

31

3. "Control on RI Investments in China Urged", Jakarta Post, 3 December 1992. 4. For more specific details on the liberalization of trade and investment policies in the ASEAN countries, particularly Malaysia and Thailand, see Tan and Wee (1995). 5. Before the twenty-two articles, there were several documents directing China's economic policy towards Taiwan. These included "The Temporary Regulations on Expanding Trade with the Taiwan Area" (May 1979), "Supplementary Rules on Purchasing Products Made in Taiwan" (April 1980), "Preferences for Taiwan Compatriots Investing in Special Economic Zones" (April1983), and "The Temporary Regulations on Centralizing Control of Trade with Taiwan Province" (July 1987). 6. Survey Report by Investment Commission, Ministry of Economic Affairs, Taiwan, May 1991. 7. Report by the Cabinet's Council for Economic Planning and Development (CEPD), as quoted in United Daily News, Taiwan, and Xinhua News Agency, 7 April 1995. 8. A Chow test on the stability of the coefficients during the two periods confirmed that we could reject the hypothesis that the relationship was stable at the 5 per cent level.

References Asian Development Bank. Asian Development Outlook 1996. Manila, 1996. Bhagwati, Jagdish N. The World Trading System at Risk. Princeton, New Jersey: Princeton University Press, 1991. Chi, L. and C. Chung. "An Assessment of Taiwan's Indirect Investment Toward Mainland China". Chung Hua Institution for Economic Research Occasional Paper no. 9201, 1992. Fishlow, Albert and Stephan Haggard. The United States and the Regionalisation of the World Economy. Paris: OECD Development Centre, 1992.

Tan Kor1g Yam

32 ---------

Frankel, Jeffrey A. "Is a Yen Bloc Forming in Pacific Asia?". In Finance and the International Economy: The AMEX Bank Review Prize Essays, edited by R.O'Brien. Oxford: Oxford University Press, 1991. _ . "Is Japan Creating a Yen Bloc in East Asia and the Pacific?". In Regionalism and Rivalry: Japan and the US in Pacific Asia, edited by Jeffrey Frankel and Miles Kahler. Chicago: University of Chicago Press, 1993. lmada, Pearl and Seiji Naya. AFTA: The Way Ahead. Singapore: Institute of Southeast Asian Studies, 1993. International Monetary Fund. International Financial Statistics Yearbook. New York, various years. Krugman, Paul. "The Move Toward Free Trade Zones". Paper presented at a symposium Policy Implications of Trade and Currency Zones, sponsored by the Federal Reserve Bank of Kansas City, August 1991, in Jackson Hole, Wyoming. Kuo W.J., Liu D.N., and Jing K.Y. "The Impact of Outward Direct Investment on Taiwan's Economic Development - An ASEAN Regional Survey" (in Chinese). Chung Hua Institution for Economic Research Discussion Paper, 1991. Lawrence, Robert. "Scenarios for the World Trading System and Their Implications for Developing Countries". OECD Technical Paper no. 47, October 1991a. "Emerging Regional Arrangements: Building Blocks or Stumbling Blocks?". In Finance and the International Economy, edited by Richard O'Brien, pp. 24-36. Oxford: Oxford University Press, 1991b. Melo, Jaime De and Arvind Panagariya, eds. New Dimensions in Regional Integration. Cambridge: Cambridge University Press, 1993. Ng Chee Yuen and Norbert Wagner. "Privatization and Deregulation: An Overview". ASEAN Economic Bulletin 5, no. 3 (March 1989). Petri, Peter. "The East Asian Trading Bloc: An Analytical History". In Regionalism and Rivalry: Japan and the US in Pacific Asia, edited by Jeffrey Frankel and Miles Kahler. Chicago: University of Chicago Press, 1993. Saxonhouse, Gary R. "Trading Blocs and East Asia". In New Dimensions in Regional Integration, edited by Jaime De Melo and Arvind Panagariya, pp. 388-422. Cambridge: Cambridge University Press, 1993.

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Schive, Chi and B.A. Majumdar. "Direct Foreign Investment and Linkage Effect: The Experience of Taiwan". Canadian Journal of Development Studies 11, no. 2 (1990): 325-42. Sopiee, Noordin, Chew Lay See, and Lim Siang Jin, eds. ASEAN at the Crossroads. Kuala Lumpur: Institute of Strategic and International Studies, 1990. Tan Kong Yam, Toh Mun Heng, and Linda Low. "ASEAN and Pacific Economic Co-operation". ASEAN and the Pacific, Special Issue. ASEAN Economic Bulletin 8, no. 3 (March 1992): 309-32. Tan Kong Yam and Wee Chow-Hou. "A Scenario for East Asia: Recent Trends and Future Challenges". Long Range Planning, February 1995, pp. 41-53. Winters, L. Alan. "The European Community: A Case of Successful Integration". In New Dimensions in Regional Integration, edited by Jaime De Melo and Arvind Panagariya, pp. 202-28. Cambridge: Cambridge University Press, 1993.

2 FOREIGN DIRECT INVESTMENT IN SOUTHEAST ASIA Chia Siow Yue

I Introduction

The focus of this chapter is on foreign direct investment (FDI) in ASEAN, including Vietnam, which joined the grouping in July 1995. The treatment of the other Southeast Asian countries of Cambodia, Laos, and Myanmar is very brief as investment information on these countries is not readily available or comparable with that of ASEAN. The rest of the chapter is divided into four sections. Section II outlines the global and regional trends in FDI. Section Ill surveys the trends and patterns of FDI in Southeast Asia. Section IV examines ASEAN's investment strategies and is followed by the concluding section.

11 Global and Regional Trends in FDI 1. Volume and Direction of Investments

In 1995 global FDI flows reached an all-time high of US$315 billion (UNCTAD 1996). This represents a continuing recovery from the Y!

Fore1gn D1rect Investment in Southeast As1a

35

FDI recession of 1991-92, reflecting the economic recovery of major home economies, rise in mergers and acquisitions, growing international competition, and advances in communication technology that led to increasing globalization of production, further liberalization of the regulatory regimes for FDI and trade, privatization of state-owned enterprises, and new investment opportunities in infrastructure. The Triad (the United States, the European Union, and Japan) remained the major sources of the world's FDI stocks and flows, although the Asian newly industrializing economies (NIEs) of Hong Kong, Singapore, South Korea, and Taiwan are rapidly emerging as significant foreign investors in East Asia. The United States lost its position as the world's leading foreign investor to Japan during 1988-90, but regained that position since 1991. In 1995 its FDI stock stood at US$706 billion or one-quarter of the world's stock, and its FDI outflow (balance of payments basis) stood at US$96 billion, or 30 per cent of the world outflows. The United States was also the world's single largest FDI recipient, with US$60 billion of inflows in 1995. For Japan, outward FDI stock reached US$306 billion and outflows reached US$21 billion in 1995, the latter showing a sharp recovery but remaining significantly below the 1989-91levels. In 1995 the developing countries had inward FDI stock of US$693 billion and inflows of US$84 billion, to account for 26 per cent of global stocks and 32 per cent of global flows respectively. FDI inflows have become the largest and fastest growing single component of external finance for developing countries, reflecting in part the improvements in investment climate with the expansion of markets and investment deregulations. FDis in developing countries are concentrated in the Asian region and in a limited number of countries. The Asian region accounts for over half of the total FDI flows to developing countries in 1990-95, reflecting the strength of the region's locational advantages. Within this region, China and the ASEAN-Five countries

36

Ch1a S1ow Yue

(Indonesia, Malaysia, the Philippines, Singapore, and Thailand) are the main recipients. The star performer is China, which has emerged as the largest FDI recipient in Asia and the second largest in the world after the United States. China's FDI inflows reached some US$38 billion in 1995, accounting for 38 per cent of all developing countries' inflows, and for 58 per cent of flows to East Asia. China's huge success in attracting FDI has raised the concern of other countries in the region over the issue of investment diversion. Since the mid-1980s intra-regional investments in East Asia have been growing rapidly in volume and relative to FDI inflows from the United States and the European Union (EU). The major investment flows are from Japan to Asian NIEs and ASEAN and from the Asian NIEs to China, ASEAN, and Indochina. Smaller flows are from China to Hong Kong, among the Asian NIEs, and among the ASEAN economies. The rapid growth of intra-regional investment flows has been in response to several developments. First, the past decade has witnessed the surge in Japanese outward FDI and the emergence of Asian NIEs as major regional investors. Second, the sluggish economic performance of Western economies in the 1980s and their preoccupation with North American and West European economic integration movements have diverted the investment interest of Western multinational corporations (MNCs). Third, East Asian developing countries have become highly attractive investment locations since the 1980s. They have attractive factor endowments and cost levels, and their investment environments have improved with domestic political and social stability, trade and investment liberalization measures, and rapid growth of domestic markets. Fourth, the close geographical proximity of East Asian countries facilitates intra-regional investments as it helps reduce information and transaction costs; proximity also facilitates a regional division of labour to exploit economic complementarities and differences in comparative advantages.

Fore1gn D1rect Investment 1n Soutrleast Am

37

- - - - - - -

2. Rise of Japan and Asian N/Es as Investors

Outward FDI by Japan and the Asian NIEs has been growing rapidly since the late 1970s and more so after the major currency realignments of 1985 (Chia 1993). Outward investments were in response to a combination of home-country push and host-country pull factors, essentially to secure natural resources, markets, and technology; to reduce costs; and to pursue corporate globalization and regionalization strategies. First, in the international environment of growing resource nationalism in the 1970s and early 1980s, a strong sense of resource insecurity pushed resource-poor Japan and the Asian NIEs to secure foreign natural resource supplies through the investment process, with investments in resource-rich Southeast Asia, Australia, Canada, and Latin America. Second, sustained high economic growth in Japan and the Asian NIEs led to high domestic savings rates, labour and land shortages, and rising wages and land costs. There were strong pressures in the 1980s to restructure economies to remain internationally competitive and to seek better returns for surplus funds, resulting in fmns relocating labour-intensive industries offshore. Growing environmental concerns in Japan and Taiwan also led to pressure to relocate polluting industries and processes. Rising land and real estate prices also increased the attractions of investing in foreign real estate, particularly in North America and Australasia. Third, these countries' strong economic and trade performances led to improved balance of payments, foreign exchange decontrols, and currency appreciation. The sharp yen appreciation following the Plaza Accord of September 1985 led to a series of Japanese corporate responses, including the relocation of production facilities offshore to remain cost competitive. Financial deregulation further bolstered cross-border financial transactions and investments. Likewise, currency appreciation in the Asian NIEs further eroded cost competitiveness. Fourth, as Japan and the Asian NIEs are highly export-dependent, market access became an increasingly important

38

Chra Srow Yue

issue in the 1980s with the rise of protectionist pressures and emergence of trading blocs in the West. Japan invested in the United States and Western Europe to overcome trade restrictions and frictions and to exploit the opportunities of the Single European Market, the United States-Canada Free Trade Area, and the North American Free Trade Agreement (NAFTA). For the Asian NIEs investments in Asian developing countries were also to secure market shares threatened by import-substitution measures, and to take advantage of host country GSP (Generalized System of Preferences) privileges and MFA (Multi-Fibre Arrangement) textile quotas. Apart from such defensive market-oriented investments, the rapid growth of the East Asian region itself as well as economic liberalization and deregulation in several countries have also made many of these domestic markets increasingly attractive to investors. Fifth, investors from the Asian NIEs invested abroad to access technology, by tapping into innovations emanating from the hightechnology industries and laboratories in the advanced countries to complement domestic research and development (R&D) efforts, and to diversify country, market, and product risks. The restructuring process led firms investing abroad to diversify out of mature industries and sectors in the home market. Saturation in the domestic market and the inherent risks of concentrating too much on one market also drove firms to diversify into neighbouring countries. For Hong Kong investors, there was also the search for political and economic security in view of the scheduled return of Hong Kong to Chinese sovereignty in July 1997. Finally, increasingly in the 1980s, Japanese corporations (and to a limited extent those from the Asian NIEs) invested abroad to pursue globalization strategies, investing in production facilities, distribution networks, and R&D facilities in various regions and countries. Japanese official notification statistics show that the cumulative outward FDI in FY1995 (ending March 1996) stood at US$513.2 billion. After growing rapidly in the 1980s, outward FDI peaked in

Forergn Drrect Investment rn Soutrleast Asra

39

FY1989 at US$67.5 billion. Outward investments declined in FY1990 and fell to US$34.1 billion in FY1992 before partial recovery in subsequent years to reach US$49.6 billion in FY1995. The sharp escalation in the level of Japanese outward FDI in the 1980s was also accompanied by a shift in geographical concentration. In the 1970s Japan was largely a regional investor, with investments concentrated in Asia, particularly in resource development and in importsubstituting industries. In the 1980s Japanese outward FDI became more global-oriented. Globalization through FDI led to global networks of production, sales, and financing. Many Japanese MNCs established regional headquarters in Europe, America, and Asia to build more effective production and sales networks (Tejima 1995). By FY1995 North America accounted for a 43.9 per cent share of the cumulative outward FDI, followed by Europe with 19.4 per cent; Asia ranked third with 17.2 per cent. Investments in North America and Europe were concentrated in real estate, finance, and insurance in response to the internationalization of the Japanese capital market, and in manufacturing to reduce trade frictions caused by the huge trade surpluses in Japan-United States and Japan-European Community (EC) trade and in anticipation of the Single European Market, the United States-Canada Free Trade Area, and NAFTA. Of Japanese outward FDI to developing countries, East Asia accounted for the bulk. Outward FDI by Asian NIEs has been growing at a fast rate in the past decade. Investments are concentrated in East Asia, particularly in China and the ASEAN region. Geographical proximity and improved infrastructural facilities in host countries made it possible for Asian NIE investors to locate their overseas operations near home headquarters to minimize transportation and transaction costs. Transaction costs have also been lowered by ethnic and cultural affinity with the Chinese communities in ASEAN, which facilitates information flows. Investments in China are undertaken largely by Hong Kong and Taiwan investors, the former relocating

40

Chia SlOW Yue

most of its manufacturing operations to southern China by 1995. Investments in the ASEAN-Four are to capitalize on lower production costs, gain access to natural resources, utilize GSP benefits and MFA textile quotas, and exploit firm-specific advantages such as lower managerial costs, better marketing channels, more appropriate technology, and better understanding of host-country consumers than investors from developed countries. Asian NIE investments in ASEAN have exceeded those by Japan.

3. Regional Division of Labour and Production Networks

Intra-regional investment is integrating the production of East Asian countries and giving rise to a regional division of labour incorporating the flying geese (product cycle), value chain, and production networks (Chia 1996). A vertical division of labour is emerging in East Asia among countries at different tiers of economic development and stages of industrialization. Industries, production processes, and technologies are transmitted from a higher tier country to a lower tier one as comparative advantage changes and according to different stages of the product cycle, from Japan to the Asian NIEs and then to ASEAN, China, and Vietnam. Intra-regional investments have facilitated the industrial restructuring of the more advanced economies and created new industrial capability in the next tier of economies. Since the mid-1980s the Asian NIEs have been engaged in industrial restructuring in response to land and labour scarcities and rising costs after a sustained period of economic and industrial growth, and progressively relocated their labour-intensive operations abroad. By the early 1990s the next tier of NIEs such as Malaysia were also experiencing labour shortages and rising wages and the need for industrial restructuring. A regional horizontal division of labour has also been evolving in East Asia in response to the rapid development of new technologies,

Fore1gn Direct Investment in Southeast Asia

41 -----·----·-----

shortened product life cycles, and increasing globalization and regionalization of production. It is no longer always true that an industry is first established in an advanced country and then passed on to the next tier with the maturing of the product cycle. Increasingly, countries specialize in different parts of the value chain, that is different subsectors of an industry and different niches, and a new pattern of division of labour takes place. In the electronics industry, for example, Singapore became a global producer and supplier of hard disk drives and Malaysia of semiconductors, while South Korea leads in the production of chips and Taiwan of personal computers. Similarly, Hong Kong and Singapore increasingly function as regional operational headquarters and procurement centres while manufacturing functions are undertaken by other countries. International companies locate different parts of the value chain in different host countries according to the comparative and competitive advantages of each location. Regional production and business networks have evolved rapidly in East Asia. Of particular interest are the Japanese and overseas Chinese networks. Japanese manufacturers increasingly treat the East Asian region as an economically integrated unit, relocating plants to service regional and global markets and promoting a regional division of labour according to production costs, technology, and target markets. Since the mid-1980s Japan has invested heavily in the manufacturing sectors of the Asian NIEs and ASEAN so as to shift production which was no longer competitive in Japan. This has involved upgrading production processes and products in the Asian NIEs, transfer of mature production processes and products to locations with lower manufacturing costs, and concentration of production of single products to improve cost competitiveness through mass production (JETRO 1995). Overseas affiliates are linked with parents and affiliates in Japan through management control and sourcing of capital goods and parts and components. In a different way Chinese businessmen in Hong Kong, Taiwan,

42

Ch1a Srow Yue

and Singapore are linking up with ethnic Chinese minorities in Southeast Asia in business ventures. The process has accelerated in the past decade as the investors gained in financial and technological strength and the Southeast Asian countries became more open to foreign investments. Cross-border investments may involve multiple partners from several countries. Ethnic and cultural ties reduce transaction costs. The best example of the Chinese business and production network is that taking place in the Chinese economic zone encompassing Hong Kong, Taiwan, and south China's coastal provinces of Guangdong and Fujian. Ill li'ends and Patterns of FDI Inflows into Southeast Asia 1. Dependence on FDI

Among the Southeast Asian countries FDI has played a crucial role among the ASEAN-Six market-oriented economies (that is, excluding Vietnam), particularly in the development of the energy (oil and gas) and industrial sectors and in the growth of manufactured exports. The ASEAN-Six offer various locational advantages Brunei has oil, the ASEAN-4 (Indonesia, Malaysia, the Philippines, and Thailand) offer abundant natural resources and labour supply, while Singapore has well-developed infrastructure and human resources. For some countries and industries, the domestic market provides an added attraction. The lndochina countries of Cambodia, Laos, and Vietnam are making the transition from command to market-oriented economies and are gradually welcoming inward FDI. Myanmar is the last of the Southeast Asian countries to open its door to inward FDI. Table 2.1 shows the magnitude of FDI inflow relative to gross domestic fixed capital formation (GDFCF) among Southeast Asian countries. Although the FDI inflows have grown very rapidly, they remain a very limited form of investment financing except for

Foreign Direct lnvesrmerlt 1n ':>out/least Asia -------

43

--------

----------

TABLE 2.1 ASEAN: FDI Inflow/Gross Domestic Fixed Capital Formation Ratios, 1984-94 (In percentages) 1984-89 1990 (annual average) Brunei Indonesia Malaysia Philippines Singapore Thailand Vietnam Cambodia Laos Myanmar

1.6 8.8 5.1 28.3 4.4

2.8 23.8 5.2 47.1 7.1

0.1

0.2

1991

1992

1993

1994

3.6 23.8 6.0 33.5 4.9

3.9 26.0 2.1 13.3 4.8

3.8 22.5 7.9 24.6 3.5

3.6 16.1 9.6 23.5

0.1

0.2

0.2

1.1

Source: UNCTAD (1996).

TABLE 2.2 ASEAN: Inward FDI Stock/Gross Domestic Product Ratios (In percentages)

Brunei Indonesia Malaysia Philippines Singapore Thailand Vietnam Cambodia Laos Myanmar Source: UNCTAD (1996).

1980

1985

1990

1994

0.4 14.2 24.8 3.8 52.9 3.0

0.9 28.6 27.2 4.2 73.6 5.1 0.2

1.1 36.6 33.0 4.7 86.6 9.3

1.9 26.5 46.2 8.3 72.8 10.1 1.9

0.1

0.1

0.1

1.1

44

Chia SlOW Yue

Singapore and Malaysia. The FDIIGDFCF ratio in the 1990-94 period ranged from a high of 28 per cent in Singapore to less than 10 per cent for Indonesia, the Philippines, and Thailand among the ASEANSix and was negligible in Myanmar; data are not available for the lndochina states. Likewise, the inward FDI stock/gross domestic product (GDP) ratio (Table 2.2) reached 72.8 per cent in Singapore in 1994 but was less than 2 per cent in Brunei and Vietnam; no data are available for Cambodia, Laos, and Myanmar. The large FDI role in Singapore may appear surprising, as Singapore is economically the most advanced country in ASEAN, has a national savings rate exceeding 40 per cent since the early 1980s, and has been a net capital exporter since 1986. It reflects the priority that Singapore's economic strategy places on foreign MNCs to provide the technological, managerial, organizational, and marketing capabilities. The above ratios only highlight the financing role of FDI. Unlike other forms of financing, FDI is also directly accompanied by technological, managerial, and marketing resources, which can often pose more serious investment bottle-necks than financial resources. The extent and nature of effects of FDI on ASEAN host countries depend on the volume and nature of investments, phase of project cycle, the policy framework, and the corporate strategies of investing firms. First, the larger the volume of FDI, the greater the quantitative impact on host-country production, employment, skill generation, technology transfer, and exports. The large scale of FDI in Singapore and Malaysia ensures, inter alia, larger direct and indirect investment effects than in other ASEAN host countries where the scale of FDI is much smaller. Second, traditional FDI in import-substitution industries enjoying import protection tends to be less beneficial to the host country, as there is less pressure to be efficient and competitive and great opportunity for monopoly profits, although such investments create infant industries and promote local linkages. Export-oriented investments are more internationally competitive and have more positive effects on the balance of payments. FDis in

Forergn Orrect lrwestmer1t in Southeast Asra

45

the ASEAN region are increasingly export-oriented and help develop efficient export industries. Third, lag effects mean that mature investment projects produce more spinoffs than new projects. The impacts of FDI on skills development, technology transfer, and linkages generally improve over time, particularly when the host country makes corresponding efforts to improve the absorptive capacity through human resource development, R&D, and development of a local supporting parts and components industry. Fourth, increasingly, corporate strategies of MNCs allocate different parts of the value chain to different geographical locations in accordance with the assessments of national and industry competitive advantages. Although the benefits of FDI are increasingly recognized, there remain concerns over possible 'crowding out' of domestic enterprises, excessive concessions to foreign firms, and unequal distribution of FDI within a country resulting in widening development gaps between subregions. First, a large influx of FDI creates opportunities for local businesses through joint ventures and backward and forward linkages, but the financial and technological ownership advantages of foreign MNCs could crowd out domestic enterprises through competition in both the product and factor markets. To offset this, host countries would need to upgrade local enterprises and develop local supporting industries. Second, there is the danger that the intensified competition for FDI may induce the host governments to offer excessive investment incentives and unduly relax environmental, labour safety, and prudential regulations. Too generous tax holidays and concessions can reduce government tax revenues, while heavy subsidies on industrial land and infrastructural facilities can impose a heavy burden on government resources. ASEAN governments need to rationalize their incentive structures to ensure that they are not giving too much away. Third, the creation of export processing zones and special economic zones in selected areas to attract FDI has contributed to

46

Ch1a S1ow Yue

----------

widening development and income gaps between subregions of a country. To offset this, ASEAN goverrunents are increasingly creating investment zones and providing investment incentives for disadvantaged areas, including the formation of growth triangles to encompass peripheral regions.

2. Trends in Inward FD/ Stocks and Flows

The ASEAN region has been and remains a highly attractive location for FDI, particularly following economic reforms in the ASEANFour in the post-1986 period and in Vietnam in recent years. Table 2.3 shows that inward FDI stock in the ASEAN-Six rose from US$24.8 billion in 1980 to US$168.3 billion in 1995. The group's share of total inward FDI stock in developing countries rose from

TABLE 2.3 ASEAN: Inward FDI Stock

Amount (US$ million) Brunei Indonesia Malaysia Philippines Singapore Thailand ASEAN-Six Vietnam ASEAN-Seven Cambodia Laos Myanmar Southeast Asia-Ten

1980

1985

1990

1994

1995

19 10,274 6,078 1,225 6,203 981 24,761 7 24,768

33 24,971 8,510 1,302 13,016 1,999 40,726 38 40,778

30 38,883 14,117 2,098 32,355 7,980 95,433 66 95,499

2 5 24,775

1 6 40,839

13 17 95,529

55 46,255 32,653 5,352 50,189 14,475 148,924 247 149,171 156 150 28 149,505

62 50,755 38,453 6,852 55,491 16,775 168,326 397 168,723 236 225 38 169,222

47

Fore1gn 01rect Investment 1r1 Southeast As1a ~----

--~--~---

TABLE 2.3 (Cont'd) 1980

1985

1990

1994

1995

0.08

0.08

0.03

0.04

0.04

Indonesia

41.47

61.14

40.70

30.94

29.99

Malaysia

24.53

20.84

14.78

21.84

22.72

Philippines

4.94

3.19

2.20

3.58

4.05

Singapore

25.04

31.87

33.87

33.57

32.79

Percentage Distribution Brunei

Thailand

3.96

4.89

8.35

9.68

9.91

99.94

99.72

99.90

99.61

99.47

0.03

0.09

0.07

0.17

0.23

99.97

99.85

99.97

99.78

99.71

Cambodia

0.00

0.00

0.00

0.10

0.14

Laos

0.01

0.00

0.01

0.10

0.13

Myanmar

0.02

0.01

0.02

0.02

0.02

100.00

100.00

100.00

100.00

100.00

108,271

196,764

341,675

593,621

693,300

ASEAN-Six

22.87

20.70

27.93

25.09

24.28

ASEAN-Seven

22.88

20.72

27.95

25.13

24.34

Southeast Asia-Ten

22.88

20.76

27.96

25.19

24.41

108,271

193,320

327,540

502,662

564,341

ASEAN-Six

22.87

22.07

29.14

29.63

29.83

ASEAN-Seven

22.88 22.88

21.09 21.13

29.16

29.68

29.90

29.17

29.74

29.99

ASEAN-Six Vietnam ASEAN-Seven

Southeast Asia-Ten Developing Countries (US$ million) Percentage share of

Developing Countries Excluding China (US$ million) Percentage share of

Southeast Asia-Ten Source: UNCTAD (1996).

48

Chia SlOW Yue

22.9 per cent in 1980 to 27.9 per cent by 1990, but declined in subsequent years, reaching 24.3 per cent in 1995 as China commanded a growing volume and share of FDI flows to the developing world. The group's share of total inward FDI stock in developing countries excluding China did not decline in the early 1990s. Among the Southeast Asian countries, Singapore had the largest stock of inward FDI, reaching US$55.5 billion by 1995 to account for almost one-third of the Southeast Asian total, followed by Indonesia, Malaysia, and Thailand. The lndochina states and Myanmar together accounted for only 0.5 per cent of the Southeast Asian stock of inward FDI. Table 2.4 shows FDI inflows into Southeast Asia. Inflows of the ASEAN-Six rose from an annual average of US$4.4 billion in the 1984-89 period to US$19.4 billion by 1995. However, the group's

TABLE2.4 ASEAN: Inward FDI Flows 1984-89 1990 (annual average) Amount (US$ million) Brunei Indonesia Malaysia Philippines Singapore Thailand ASEAN-Six Vietnam ASEAN-Seven Cambodia Laos Myanmar Southeast Asia-Ten

406 798 326 2,239 676 4,445 2 4,447 1 1 4,449

1991

1992

1993

1994

1995

3 1 4 14 6 7 1,093 1,482 1,777 2,004 2,109 4,500 2,333 3,998 5,183 5,006 4,348 5,800 530 544 228 1,025 1,457 1,500 5,575 4,879 2,351 5,016 5,588 5,302 2,444 2,014 2,116 1,726 640 2,300 11,975 12,917 11,655 14,777 14,142 19,402 16 32 100 150 24 25 11,991 12,949 11,679 14,802 14,242 19,552 54 69 80 33 6 8 9 60 60 75 10 5 4 4 3 12,002 12,957 11,724 14,920 14,375 19,717

49

Foreign D1rect Investment 1n Southeast As1a

TABLE 2.4 (Cont'd) 1984-89 1990 (annual average)

1991

1992

1993

1994

1995

0.01

0.03

0.09

0.04

0.04

Percentage Distribution Brunei

0.00

0.02

Indonesia

9.13

9.11

11.44

15.16

13.43

14.67

22.82

Malaysia

17.94

19.44

30.86

44.21

33.55

30.25

29.42

Philippines

7.33

4.42

4.20

1.94

6.87

10.14

7.61

Singapore

50.33

46.45

37.66

20.05

33.62

38.87

26.89

Thailand ASEAN-Six

15.19

20.36

15.54

18.05

11.57

4.45

11.67

99.91

99.78

99.69

99.41

99.04

98.38

98.40

0.04

0.13

0.25

0.20

0.17

0.70

0.76

99.96

99.91

99.94

99.62

99.21

99.07

99.16

Cambodia

0.00

0.00

0.00

0.28

0.36

0.48

0.41

Laos

0.02

0.05

0.06

0.08

0.40

0.42

0.38

0.04

0.00

0.03

0.03

0.03

0.05

Vietnam ASEAN-Seven

Myanmar Southeast Asia-Ten

0.02 100.00

100.00 100.00 100.00 100.00 100.00 100.00

Developing Countries (US$ million)

22,195

33,735 41,324 50,376 73,135 87,024 99,670

Percentage share of

20.03

ASEAN-Six

35.50

31.26

23.14

20.21

16.25

19.47

ASEAN-Seven

20.04

35.54

31.34

23.18

20.24

16.37

19.62

Southeast Asia-Ten

20.05

35.58

31.35

23.27

20.40

16.52

19.78

Developing Countries Excluding China (US$ million)

19,913

30,248 36,958 39,220 45,620 53,237 62,170

Percentage share of ASEAN-Six

22.32

39.59

34.95

29.72

32.39

26.56

31.21

ASEAN-Seven

22.33

39.64

35.04

29.78

32.45

26.75

31.45

Southeast Asia-Ten

22.34

39.68

35.06

29.89

32.70

27.00

31.71

Source: UNCTAD (1996).

50

Ch1a Siow Yue

- - - - - - -

share of FDI inflows to developing countries actually fell sharply from 35.5 per cent in 1990 to only 16.3 per cent in 1994, recovering marginally to 19.5 per cent in 1995. This has sparked concern among ASEAN policy makers over their loss of investment competitiveness as large volumes of FDI were diverted to China. The group's share of FDI inflows to developing countries excluding China did not fall that alarmingly in the 1990s, falling from 39.6 per cent in 1990 to 26.6 per cent in 1994 and recovering to 31.2 per cent in 1995. Among the Southeast Asian countries, Singapore continues to be the largest recipient, although its relative share fell sharply from over half in the 1980s to 26.9 per cent by 1995. The Indochina countries and Myanmar opened their doors to FDI only in recent years. Vietnam has seen FDI inflows jump from an average of less than US$25 million a year during 1990-93 to more than US$100 million during 1994-95. Cambodia and Laos have also witnessed sharp increases in FDI in 1993-95. Largescale flows of FDI to Myanmar have yet to materialize.

3. Industrial Composition of FDI

The industrial composition of FDI in ASEAN countries reflects not only the comparative advantage but also the impact of selective industrial and FDI policies. Every ASEAN country has pursued selective sectoral policies, and FDI has been actively promoted in particular sectors while prohibited or severely restricted in others. In Singapore FDI is welcomed in almost all areas of economic activity, with restrictions imposed only on investments in the mass media, defence industries, and the financial sector. However, in accordance with the country's changing comparative advantage, investment promotion efforts have increasingly focused on high-technology and high value-added industries and services. Labour-intensive products and processes are increasingly relocated to neighbouring countries with more abundant supplies of lower-wage labour. The ASEAN-Four (Indonesia, Malaysia, the Philippines, and

Forergn Drrect Investment

Ill

Soutlleast Asra

51

Thailand) are resource-rich middle-income countries, with somewhat different patterns of FDI inflows. FDI is important in the resource sector, particularly in oil and gas exploration and development. In manufacturing the earlier focus of FDI was on importsubstitution industries aimed at the domestic markets. Increasingly FDI in manufacturing is in labour-intensive and light manufactures for export. In recent years FDI in electronics has grown rapidly in Malaysia and Thailand, while FDI in textiles and garments for export has grown rapidly in Indonesia and the Philippines. Infrastructurerelated investments, increasingly based on new forms of investment such as build-operate-transfer (BOT), help overcome the severe infrastructure bottle-necks that have emerged as a result of the high economic growth rates of the past decade. In Vietnam FDI inflows have dominated four sectors, namely oil and gas, hotels and tourism, telecommunications, and light industries such as textiles and garments. Investments in infrastructurerelated projects are increasingly sought. FDI inflows to Cambodia, Laos, and Myanmar are of more recent origin and have flowed largely into resource, infrastructure, and tourism development as well as light industries.

4. Sourcing of FDI

The traditional sources of FDI among the ASEAN-Six were Western Europe and the United States. Colonial ties led to the dominance of U.S. investors in the Philippines and European investors in the other ASEAN countries. Up to the early 1980s, FDI flowing into the ASEAN region was mostly from the EC (mainly the United Kingdom, Germany, the Netherlands, and France) and the United States. Investing foreign firms had ownership advantages of capital, technology, and managerial and marketing expertise. Since then, FDI from the EC grew in volume but declined in relative terms, except in Singapore. FDI from the United States declined sharply in

52

Ch1a S1ow Yue

the Philippines but grew rapidly in the other ASEAN countries in the 1970s, with some levelling off in the 1980s, except in Singapore. (See Table 2.5.) The ASEAN countries experienced a surge in FDI from Japan in the 1980s, particularly in the post-1986 period when Japanese outward investments were pushed by the sharp yen appreciation. ASEAN's share of Japanese outward FDI rose from 3.8 per cent in 1986 to 12.4 per cent by FY1994. While Japan's outward FDI worldwide fell sharply after peaking in FY1989, its FDI in the ASEAN region showed a less steep decline in FY1990-91 and grew absolutely since then. Of cumulative investments in the ASEAN-Six in FY1995, Indonesia accounted for the largest share with US$5.5 billion or 29.0 per cent, followed by Thailand (22.4 per cent) and Singapore (21.4 per cent). In the ASEAN-Four since the mid-1980s and in Vietnam more recently, FDI has been increasingly dominated by Japan and the Asian NIEs. Only in Singapore is FDI still dominated by the Triad of the United States, the EU, and Japan. Investments from the Asian NIEs (including Singapore) became pronounced after 1987 as the latter countries were pushed into outward investment by cost factors and currency appreciation. Investments in the ASEAN-Four (and also in China) are to capitalize on lower production costs, gain access to natural resources, and circumvent protectionist measures in developed countries (especially textile quotas under the MFA). These investors are also able to exploit firm-specific advantages such as lower managerial costs, more appropriate technology, and better understanding of the host countries than Western investors. Geographical proximity and infrastructure facilities in the host countries have enabled these investors, most of which are medium-sized enterprises, to locate their overseas operations near home headquarters so as to minimize transportation and transaction costs. Geographical proximity has been enhanced by ethnic and cultural affinity with the Chinese communities in the ASEAN countries. NIE

TABLE 2.5 ASEAN: Sourcing of Inward FDI Inward FDI Flows (annual average)

Inward FDI Stock

1980 US$ million %Distribution

Indonesia EU Japan United States Subtotal Malaysia EU Japan United States Subtotal Philippines EU Japan United States Subtotal Singapore EU Japan United States Subtotal Thailand EU Japan United States Subtotal

10,274 851 3,462 437 4,750 6,462 1,720 1,135 413 3,268 1,225 114 206 669 989 6,211 2,024 679 1,219 3,922 981 156 285 322 763

Source: UNCTAD (1995).

100.0 8.3 33.7 4.3 46.2 100.0 26.6 17.6 6.4 50.6 100.0 9.3 16.8 54.6 80.7 100.0 32.6 10.9 19.6 63.1 100.0 15.9 29.1 32.8 77.8

1985 US$ million %Distribution

15,353 2,672 5,009 974 8,655 8,510 2,264 1,602 604 4,470 2,589 349 362 1,961 2,672 12,115 2,914 1,549 2,931 7,394 2,221 350 622 721 1,693

100.0 17.4 32.6 6.3 56.4 100.0 26.6 18.8 7.1 52.5 100.0 13.5 14.0 75.7 103.2 100.0 24.1 12.8 24.2 61.0 100.0 15.8 28.0 32.5 76.2

1993 US$ million %Distribution

67,625 9.967 13,937 3,701 27,605 34,091 5,842 7.435 3,586 16,863 4,389 748 890 1,937 3.575 38,584 9,265 2,568 6,813 18,646 13,918 1,484 4,579 2,412 8,475

100.0 14.7 20.6 5.5 40.8 100.0 17.1 21.8 10.5 49.5 100.0 17.0 20.3 44.1 81.5 100.0 24.0 6.7 17.7 48.3 100.0 10.7 32.9 17.3 60.9

1985-87 US$ million %Distribution

1,047 269 329 123 721 818 84 284 65 433 121 15 12 79 106 11,908 3,556 1,763 3,213 8,532 259 24 100 69 193

100.0 25.7 31.4 11.7 68.9 100.0 10.3 34.7 7.9 52.9 100.0 12.4 9.9 65.3 87.6 100.0 29.9 14.8 27.0 71.6 100.0 9.3 38.6 26.6 74.5

1990-93 US$ million %Distribution

8,999 1,205 1,379 450 3,034 5,508 837 1,142 709 2,688 329 111 55 237

100.0 13.4 15.3 5.0 33.7 100.0 15.2 20.7 12.9 48.8 100.0 21.6 33.7 16.7 72.0

2,050 210 602 311 1,123

100.0 10.2 29.4 15.2 54.8

71

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Ch1a S1ow Yue

investments in the ASEAN-Four jumped threefold in 1988 and overtook Japan by 1990. In Vietnam European investors dominated inflows in the early years of the open-door policy, largely in offshore oil and gas exploration. In the 1990s Asian investors have become the most prominent, with Hong Kong and Taiwan leading. Japanese firms were initially constrained by the U.S. embargo but have moved into Vietnam rapidly in the past two years and are expected to increase rapidly their presence over the coming years. A recent survey of the Export-Import Bank of Japan shows that Japanese investors rate Vietnam the most attractive place to invest in the next ten years, after China and ahead of countries such as Malaysia and Singapore (Tejima 1995). Among ASEAN investors, Singapore ranked fifth and Malaysia seventh. American investments were delayed until the full lifting of the U.S. embargo in early 1994 and subsequent normalization of diplomatic relations between the two countries. Vietnam would like to see a better balance of investments from the Triad, the NIEs, and ASEAN. Intra-ASEAN investments account for only a small share of ASEAN's total FDI inflows. Singapore is the main investor and Malaysia the main recipient. With the implementation of the ASEAN Free Trade Area (AFTA) and ASEAN growth triangles, such investments can be expected to grow rapidly.

IV Strategies Towards FDI I. Intensifying Global and Regional Investment Competition

An increasing number of countries have become FDI-friendly and

are now actively competing for international investment. The former command economies of China, Indochina, and Eastern Europe have been embarking on fundamental economic reforms and giving FDI

Fore1gn Direct Investment 1n Soutileast As1a

se;

a new role as an engine of economic growth, while market-oriented developing economies in Latin America and Asia are also giving new emphasis to the role of FDI. In East Asia itself, the past decade has seen investor interest shifting from the Asian NIEs to the ASEAN-Four and from the ASEAN-Four to China, Vietnam, and India in response to changing policy regimes and competitive advantages. China and ASEAN have become major recipients of investment flows from Japan and the Asian NIEs. The investment competition in the 1980s led to the dismantling of investment barriers and performance requirements, introduction of investment incentives and investment guarantees, and numerous overseas investment missions. With policy regimes becoming increasingly open and similar, national governments are making extra efforts to attract FD I. The ASEAN-Six countries are concerned over the ability to maintain their position as a favoured location for FDI, particularly with the possible investment diversion arising from the formation of trading blocs in Western Europe and North America, and the opening up of China and India. The latter two countries are rapidly liberalizing their economies to attract FDI and are in the same 'world region' for purposes ofMNC global strategies. They have cost levels that are substantially lower than those in ASEAN, and have huge potential markets. None the less these two countries are disadvantaged by the severe shortage of infrastructure, absence of a legal-institutional framework in the case of China, and continuing political resistance in some quarters to greater FDI penetration in India.

2. Investment Liberalization and Facilitation

To remain investment competitive, ASEAN countries need to be policy-competitive, cost-competitive, and market-competitive. First, there is need for continuing policy reforms to deregulate and marketize their economies, and for greater policy coherence in the use

56

Olla Siow Yue

of investment incentives and disincentives. Second, there is need to accelerate the development of physical infrastructure and human resources, which have become serious bottle-necks to FDI in some ASEAN countries, and to adopt further measures to raise productivity levels. Third, there is need to enlarge the ASEAN market and improve cost competitiveness through accelerating the pace of trade liberalization under AFTA and through the development of growth triangles. Given the limited market size of AFTA, even with the inclusion of the lndochina countries and Myanmar eventually, it is critical for ASEAN to remain outward-looking and to seek strategic trade and investment alliances with other regional groupings, countries, and firms. Until the mid-1980s, ASEAN countries showed wide diversities in policies and attitudes towards FDI, which reflected different historical experiences and priorities. Singapore has always maintained the most open economy with free capital flows. It also has political stability, prudent macroeconomic policies, efficient administration, adequate infrastructure, and minimal restrictions on foreign ownership. The government pursues a strongly pro-active policy with liberal use of investment incentives and aggressive investment promotion efforts by the Economic Development Board to overcome the limitations posed by the lack of natural resources and market, more stringent labour and environmental regulations, and relatively high land and labour costs. The ASEAN-Four countries had fairly restrictive FDI policies. For some of them, constitutional provisions and economic nationalism prohibited or severely restricted foreign ownership of land, natural resources, and corporate equity. The desire to nurture infant industries, protect domestic firms, and maintain control of the financial sector led to import substitution in manufacturing and restrictions on foreign participation in manufacturing, distributive trades, and financial services. In the case of Malaysia concern with the ethnic distribution of the economic pie led to the New Economic Policy (NEP) in 1970 which

Fore1gn Direct Investment 1r1 Southeast A