The case for connecting South Asia and Southeast Asia

[JaiMin]

By Ganeshan Wignaraja, Peter Morgan and Michael G. Plummer. Posted May 25, 2015

A new opportunity for South Asia–Southeast Asia integration

Asiapathways – adbi – The time is ripe for enhancing economic integration between South Asia and Southeast Asia. The new “normal” era of slow growth in advanced industrial economies following the global financial crisis suggests that Asian economies will need to rely more on domestic and regional demand to secure inclusive growth. The recent slowdown in growth in the People’s Republic of China suggests further grounds for tapping growth opportunities between South Asia and Southeast Asia. The move toward an Association of Southeast Asian Nations (ASEAN) Economic Community (AEC) in 2015 and beyond will provide for a large and more integrated market with notable purchasing power and scale economies. This will facilitate the deepening of foreign direct investment-driven production networks and strengthen the role of ASEAN as a conductor of Asian regional integration.

A new pro-business Indian government signals impetus for advancing India’s new Act East Policy, enhancing cross-border infrastructure investments and deepening domestic economic reforms. Negotiations are underway for the mega-regional Trans-Pacific Partnership (TPP) and the Regional Comprehensive Economic Partnership (RCEP) but most South Asian and Southeast Asian economies are excluded at this point. Recent political and economic reforms in Myanmar—a key land bridge between the two subregions—has made possible closer economic ties and connectivity that were not feasible a few years ago. Yet, there is still little research on the role of hard and soft connectivity in deepening economic ties between South Asia and Southeast Asia.

Accordingly, the Asian Development Bank (ADB) and the Asian Development Bank Institute (ADBI) conducted a comprehensive study of how improved physical connectivity and associated soft infrastructure can foster closer economic ties between the two subregions1. Physical connectivity here relates to transport and energy, while associated soft infrastructure includes the critical areas of financing of infrastructure, trade facilitation, reforms, and institutions for coordination. The study concludes that relatively modest investments in physical connectivity can significantly enhance regional integration between South Asia and Southeast Asia. Furthermore, the benefits of such physical connectivity-led integration are likely to far outweigh the costs. Some noteworthy findings from the ADB/ADBI study are discussed below.

Assessing economic ties and cross-border connectivity

First, economic ties between these two subregions, while making progress, have been limited, hindered by bottlenecks in infrastructure, financial markets, trade facilitation, trade barriers, and limited regional cooperation. South Asia and Southeast Asia cross-subregional trade increased 23 times from $4 billion to $90 billion over 1990–2013. But Southeast Asia’s share of South Asian trade rose from 6% to only 10%, while South Asia’s share of Southeast Asian trade just doubled from about 2% to only 4%. The same story applies to cross-subregional investment and cross-subregional financial flows. This suggests that there is significant potential for growth of economic ties between the two subregions. In particular, foreign direct investment-driven production networks and parts and components trade, which are a key drivers of trade expansion in Southeast Asia, have yet to take firm root in South Asia.

Second, improving transport and energy connectivity is a crucial building block for greater economic integration between the two subregions. Key land barriers to cross-subregional transport are located mainly in Myanmar while other gaps are identified in Bangladesh, Cambodia, India, the Lao People’s Democratic Republic, Thailand, and Viet Nam. Although road connections exist, many segments need to be upgraded, especially in Bangladesh, India, and Myanmar. In contrast, there are no existing railway links between the Greater Mekong Subregion (GMS) countries and South Asia, or between the GMS countries themselves, with the exception of a connection between the People’s Republic of China and Viet Nam. Moreover, the incompatibility of railway gauges (track widths) between the regional border countries of India, Bangladesh, Thailand, and Myanmar and other technical differences mean that transshipment will be required even after through rail links are developed.

The bulk of cross-subregional trade still moves by ship. However, important seaports for South Asia–Southeast Asia trade—notably Kolkata Port in India, Chittagong Port in Bangladesh, and Yangon Port in Myanmar—suffer from problems relating to limited accessibility for large ships, gaps in facilities, variable operational efficiency, and gaps in connectivity between seaports and rail and road networks.

Energy trade between South Asia and Southeast Asia, except for conventional shipments of coal, gas, and other fuels, does not occur, yet there is much unexploited potential to be tapped. The main opportunities for cross-subregional energy trade lie in electric (mainly hydro) power and gas pipelines, plus pooling and interconnection of electric power grids. Myanmar has an important potential role to play in energy trading, given its substantial capacity for hydropower and reserves of natural gas, plus its critical position as a gas pipeline location.

Costing and financing cross-border connectivity projects

Third, the total investment costs for projects to enhance cross-subregional connectivity (in highways, railroads, ports, and energy trading) are estimated at $73 billion. This figure includes $18 billion for roads, $34 billion for railways, $11 billion for port projects, and $11 billion for energy trading projects2. The total costs for priority investment projects in transport are estimated at $8 billion (including $1 billion for roads, $5 billion for railroads, and $2 billion for ports).

Road corridor options to connect South Asia to Southeast Asia have been evaluated and the best option is the 4,430 kilometer Kolkata–Ho Chi Minh City Corridor. Rail connectivity comes as a second priority after road connectivity due to much higher costs, more extensive gaps, and incompatibilities between national networks. Priority seaport projects include the construction of new deepwater ports or floating container transshipment terminals at Chittagong and Kolkata, and improvement of the road infrastructure linking Thilawa Port with Yangon. The promotion of more frequent visits by large-scale container ships is the key to lowering transport costs and supporting development of supply chain networks.

Fourth, financing cross-subregional infrastructure projects remains challenging. Traditional sources of infrastructure financing, including public finance and bank loans, are becoming more constrained. The development of Asian financial markets and related initiatives is needed to strengthen access to infrastructure finance. Bond markets can play a greater role in channeling Asian savings toward infrastructure projects. Guarantees for project bonds may help foster demand for these products by long-term institutional investors. Infrastructure funds, both domestic and international, are valuable, especially if the ASEAN Infrastructure Fund is extended to a Pan-Asian infrastructure fund covering South Asia as well. Measures to integrate regional financial markets and ease restrictions on international capital flows can also contribute. Future collaboration, including co-financing infrastructure projects between development banks—ADB, the emerging Asian Infrastructure Investment Bank, and the World Bank—would contribute to increasing the supply of infrastructure finance in Asia.

Public–private partnerships (PPPs) provide an important top-up for infrastructure funding, but are not a panacea. Improving the transparency, regulatory framework, and governance of PPP projects, together with the addition of political risk guarantees, can increase the attractiveness of this asset class. Furthermore, support from multilateral development banks and international coordination for cross-border projects can help ensure success in PPPs.

Trade facilitation and coordination

Fifth, improving trade and transport facilitation would make trading between the two subregions easier and more stable, with lower transaction costs. Businesses complain about excessive documentation requirements for customs clearance and there has been limited adherence in the subregions to international best practices for customs modernization. The ASEAN Single Window Initiative is presently being implemented and will eventually provide for a notable reduction in trade costs. There is a need to consider development of a regional single window initiative covering South Asia as well. The lack of cross-border transit agreements in the two subregions is another major obstacle that needs to be addressed.

Sixth, closing coordination gaps in South Asian and Southeast Asian cooperation and integration may require retooling existing institutions and creating new institutions to facilitate economic links. The current institutional landscape for regional connectivity is populated by several—at times overlapping—institutions under ASEAN, South Asian Subregional Economic Cooperation (SASEC), South Asia Subregional Economic Cooperation (SAARC), GMS, or Bay of Bengal Initiative for Multi-Sectoral Technical and Economic Cooperation (BIMSTEC) arrangements. It may be productive to explore linking SASEC with the GMS through officials participating in each other’s meetings as observers and then focusing on specific regional connectivity projects. Improving capacity building for land infrastructure connectivity in economies such as Myanmar, Bangladesh, and India is also important.

Estimating gains from closer integration

The potential gains from connectivity-led closer South Asian–Southeast Asian integration are potentially large. The ADB/ADBI study used a modern computable general equilibrium model to explore the potential economic effects of alternative integration schemes involving South Asian and Southeast Asian economies. The policy scenarios are conservative and are likely to reflect lower-bound estimates of what true results can be expected. The best-case deep integration scenario involves (i) removal of all tariffs associated with South Asian and Southeast Asian trade, (ii) a 50% reduction in inter-regional non-tariff barriers, and (iii) a 15% reduction in trade costs reflecting improved trade facilitation and investment in infrastructure. The model results show that this scenario would raise welfare by $375 billion (8.9% of gross domestic product) in South Asia and $193 billion in Southeast Asia (6.4% of gross domestic product). Most participating countries show large gains, especially the smaller countries in South Asia.

Certainly, the process of closer intra-regional economic integration generates potential benefits but may entail some additional costs that need serious review and mitigation measures. For instance, some sectors will lose due to greater competition, and there may be increases in regional inequalities. Also, closer intra-regional economic ties and faster growth may entail pollution, environmental degradation, and migration issues. Regional economic integration may also hasten the spread of disease and crime. In addition, the process may exacerbate fears of migration, ethnic tensions, and other security-related issues. However, our analysis suggests that the overall benefits substantially outweigh the costs, so it should be feasible to develop compensating mechanisms to address these costs. As cross-regional integration progresses, countries and regional institutions will need to conduct research on the economic implications of these challenges and formulate appropriate policy remedies.
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1 The ADB/ADBI (2015) study Connecting South Asia and Southeast Asia can be downloaded here.
2 The figures only cover projects directly related to connectivity between South Asia and Southeast Asia. Projects related primarily to intra-subregional connectivity or connectivity with other subregions are not included.

About the Author
Ganeshan Wignaraja is Advisor in the Economic Research and Regional Cooperation Department of the Asian Development Bank.

View all posts by Ganeshan Wignaraja →

About the Author
Peter Morgan is Senior Consultant for Research at the Asian Development Bank Institute.

View all posts by Peter Morgan →

About the Author
Mike Plummer is Director in the School of Advanced International Studies (SAIS) Europe and Eni Professor of International Economics at Johns Hopkins University.


Very interesting article @Yorozuya, @Carlosa , @xesy, @Nihonjin1051 , @Cossack25A1, @Viet , @somsak, @Pinoy

Source: The case for connecting South Asia and Southeast Asia | Asia Pathways

 

[William Hung]

Interesting article. The authors have great vision.

Mainland south east asia belongs to our mon-khmer tribe. We can unify the greater sub mekong empire and unify all our mon-khmer brothers again. The tai-kadai immigrants are welcomed to stay, as long as they follow our rule.

 

[JaiMin]

REGIONAL COOPERATION
Potential gains from closer cooperation between South Asia and Southeast Asia
By Ganeshan Wignaraja, Peter Morgan, Michael G. Plummer and Fan Zhai. Posted MARCH 4, 2015

South Asian and Southeast Asian economies have all embraced an outward-oriented development strategy, albeit to different degrees. The result has been an impressive increase in international trade, foreign direct investment (FDI) inflows, and significant productivity improvements, which in turn have contributed to important socio-economic gains. Indeed, some of these economies have delivered among the most striking economic performances in the world.

Nevertheless, economic integration across these two large subregions is still very low, even if the value of cross-subregional trade has been growing over time. A forthcoming (2015) ADB/ADBI study considers what the bottlenecks to economic integration have been, including those related to transport infrastructure, policy-related barriers, trade-facilitation issues, and institutional constraints, and how the two subregions might address them. Below we estimate the potential benefits (and costs) of closer integration using a Computable General Equilibrium (CGE) model under several policy scenarios.

We find the potential gains of closer cooperation to be large, assuming that appropriate “soft” (e.g., trade facilitation) and “hard” infrastructure are put in place to reduce cross-subregional trade costs, which at present are high. With Myanmar adopting sweeping reforms beginning in 2011, the prospects for improving connectivity across the two subregions are better than ever.

Model of Integration and Scenarios

The model employed uses recent innovations in trade theory that incorporate heterogeneous firms into the CGE framework. The firms of most sectors in the model are heterogeneous in productivity, enabling the model to reflect intra-industry changes that occur when, for example, trade liberalization enables the most productive firms to export more and expand output, and the least productive ones to contract in the face of stiffer import competition (thereby increasing efficiency and productivity). Given the additional costs incurred in export activity, including both fixed and variable costs, the model is also able to capture both the intensive margins (more trade of already-traded products) and extensive margins (trade in products not traded previously).

We used several scenarios to capture the effects of South Asia–Southeast Asian economic integration on economic welfare, trade, factor returns, and structural change for the subregional economies, each corresponding to differing levels of integration ambition. The policy innovations include full liberalization of tariff barriers, reduction of non-tariff barriers (NTBs) by 50 percent (under the assumption that not all NTBs can be addressed by policy), and improvements in (soft and hard) “connectivity” manifested in varying decreases in trade costs. We assume two possibilities of trade-cost reduction, i.e., 5 percent and 15 percent, to provide a range of efficiency gains due to better connectivity. Given relatively high cross-subregional trade costs and ample room to reduce them via trade facilitation and investment in hard infrastructure, this range was deemed to be plausible.

Liberalization of these barriers to trade is assumed to take place over the period 2016–2025 and is compared relative to the baseline forecasts, with projections ending in 2030. The simulations allow for the following country breakdowns within the two subregions: (1) South Asia: Bangladesh, India, Nepal, Pakistan, Sri Lanka, and “Other South Asia”; and (2) Southeast Asia: Cambodia, Indonesia, Lao PDR, Malaysia, the Philippines, Singapore, Thailand, Viet Nam, and “Other ASEAN,” which is mainly composed of Myanmar but also includes Brunei Darussalam and Timor-Leste. In addition, the model includes 21 sectors (7 in primary products/agriculture, 9 manufacturing sectors, and 5 service sectors).

The scenarios analyzed below are:

1. SAFTA1: Removal of all tariffs across South Asian economies over period 2016–2025;
2. SAFTA2: SAFTA1, plus 50 percent reduction in NTBs and 15 percent reduction in trade costs;
3. SA/SEA1: Removal of all tariffs across South Asian and Southeast Asian economies; and
4. SA/SEA2: SA/SEA1, plus 50 percent reduction in NTBs between South Asia and Southeast Asia and a 15 percent reduction in trade costs associated with South Asian and Southeast Asian trade.

Trade integration is considered separately for South Asia first, since Southeast Asian cooperation is already deep—with the ASEAN Free Trade Area (AFTA) in place and an ASEAN Economic Community (AEC) on the way. The third and fourth scenarios then show the overall benefits of cross-subregional integration for both subregions.

Results

The results from the simulations are included in the table below. Net gains accrue in all scenarios and for all economies, though the distribution of the aggregate net benefits varies considerably. For example, under scenario SA/SEA2, welfare in South Asia and Southeast Asia would rise by $375 billion (8.9 percent of GDP) and $193 billion (6.4 percent of GDP), respectively, by 2030, relative to the baseline. In South Asia, the smaller countries show the greatest percentage gains under this scenario, especially Nepal and Sri Lanka. In Southeast Asia, the greatest percentage gains are seen in Singapore, Malaysia and Viet Nam, while the Lao PDR loses slightly. These gains will be driven by rising exports and competitiveness, particularly for South Asia, whose exports almost rise by two-thirds. Hence, we conclude that investments in cross-subregional connectivity would justify a high level of investment.

Table 1: Effects on income and exports of deeper South Asia-Southeast Asian cooperation

A. South Asia

B. Southeast Asia

Source: Wignaraja et al. 2014.

The model results show that South Asian economies often experience large changes in industrial structure as they specialize further in sectors where they have a comparative advantage. Sometimes these estimated changes look exaggerated, as a small change from a very small base will yield a large result. For example, in Nepal, the chemical sector in both SAFTA2 and SA/SEA2 increases by more than 10 fold, but it is a small sector (5 percent of the manufacturing sector and only 0.67% of labor compensation in manufacturing). The Food and Other Grains sectors in India experience a strong negative shock, whereas metals and chemicals experience significant gains. Indeed, structural change in India and Pakistan present essentially mirror results; the Indian manufacturing and services sectors tend to expand and agriculture contracts, whereas the exact opposite happens in the case of Pakistan. An important point to underscore, however, is that since this is a long-run model, the employment closure in the model assumes full employment, meaning that for a comparative advantage sector to expand, resources have to be moved from another sector. Movement across sectors in favor of greater efficiency is what ultimately leads to the large economic gains reaped by South Asian economies.

There will be significant structural adjustment in the ASEAN economies as well, but again one must be careful in drawing conclusions regarding the significance of the magnitudes of the effects. For example, Singapore experiences a contraction of one-third in its “Other Gains” sector. However, this sector is extremely small; the percentage change may be large, but the significance for labor adjustment in Singapore is trivial. Still some general observations are in order. First, more agricultural sectors will contract than expand in most ASEAN economies, with the notable exceptions of Indonesia and Thailand. Manufacturing sectors tend to expand in the majority of countries, again with the exception of Indonesia (whose manufacturing sectors contract) and varied results in the cases of the Lao PDR and Myanmar/other ASEAN. The effects on service sectors are even more mixed, with Singapore and Malaysia mostly winning but with varied results in other economies.

Conclusions

In sum, the gains from cross-subregional economic integration are in fact large for essentially all countries. In general, the deeper the integration scenarios, the greater the gains. Reducing trade costs in the subregions generates the most important gains, but so does removing NTBs and tariffs (in the context of South Asia in particular). On the whole, South Asia does much better in the context of a cross-subregional FTA than with merely an intra-subregional FTA. Still, the results support a two-track approach to economic cooperation on the part of South Asian countries; that is, strengthening intra-subregional integration across South Asian partners at the same time that it pursues deeper forms of economic cooperation with Southeast Asia. Moreover, by deepening links with South Asia, Southeast Asia is able to benefit from greater market access and cost reductions in the relatively protected South Asian subregion, leading to greater gains (6.4 percent rise in real income relative to GDP) than even in the case of the AEC, where Petri et al. (2012), for example, estimates a subregional gain of about 5 percent. Exports tend to be an important driver of gains in all scenarios but particularly in the context of a South Asian-Southeast Asian FTA for the larger South Asian economies. Additionally, a South Asia-Southeast Asia FTA would increase significantly the internationalization of especially the South Asian economies. Indeed, the internationalization of the Nepalese economy rises by almost one-third, and of the “Other South Asian economies” by more than one-fourth.

In short, the estimates generated by the CGE model make a strong case for deeper intra- and cross-subregional economic cooperation as well as initiatives that lower the cost of doing business and trade, especially in South Asia, via investments in greater connectively through improved hard and soft infrastructure. ADB/ADBI (forthcoming 2015) suggests how this might be done in terms of improving trade-facilitation-related variables, investments in transport infrastructure and energy, improved financial infrastructure to facilitate investment and provide trade finance, and concomitant cooperation and development of regional institutions.

To be sure, dramatic increases in efficiency always derive from structural change. These changes could alter the distribution of income in ways that could exacerbate existing problems, such as the trend toward rising income inequality in many Asian economies since the global financial crisis. This does not suggest that these initiatives should not be embraced; it only underscores the importance of active government policies to facilitate economic integration and ensure that the big “winners” of integration will compensate the most vulnerable that lose from it.
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References:
ADB/ADBI, forthcoming 2015. Connecting South Asia and Southeast Asia. Tokyo: ADB Institute.
Petri, Peter A, Michael G. Plummer, and Fan Zhai, 2012. The Economic Impact of the ASEAN Economic Community: An Applied General Equilibrium Approach. Asian Economic Journal 26(2): 93–118.
Wignaraja, Ganeshan, Peter Morgan, Michael G. Plummer, and Fan Zhai, 2014. Economic Implications of Deeper South Asian-Southeast Asian Integration: A CGE Approach, ADBI Working Paper No. 494.

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