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Jakarta Post

EU-Indonesia trade deal: A wise resolve

Indonesia is soon to resume previously stalled negotiations on the comprehensive economic partnership agreement (CEPA) with the EU

Audrey Soedjito (The Jakarta Post)
Jakarta
Mon, July 6, 2015

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EU-Indonesia trade deal: A wise resolve

I

ndonesia is soon to resume previously stalled negotiations on the comprehensive economic partnership agreement (CEPA) with the EU.

Through the CEPA, the two vastly different economies will be brought together in a mutually beneficial economic partnership. While this ambition could be a positive note for both economies, questions remain on how to bring the two economies together.

Fundamentally, the CEPA is bound to be successful because of the inherently complementary nature of the two economies.

The vast difference in economic structure and comparative advantage between the EU and Indonesia should translate into a high potential to achieve a successful CEPA.

The vast difference in terms of comparative advantage has, in fact, been dominant in driving trade between the EU and Indonesia for years. Indonesia has always been a supplier of raw materials to the EU while the EU exports capital goods to Indonesia, notably to the machinery and electrical sectors.

At the same time, the EU, as one of the largest service providers in the world, has more than enough capacity to cater to Indonesia'€™s increasing demand for the high-quality and reliable services needed to support its economic development.

Other snapshots on bilateral trade between the EU and Indonesia, however, show a perennial pattern of untapped opportunities.

Indonesia'€™s export performance in the EU'€™s goods market is stagnant, save for a couple of sectors dominated by raw materials. This represents a point for improvement, as Indonesia has the capacity to be developed as production hub, rather than just a source of raw materials.

The majority of Indonesia'€™s export sectors have average penetration rates below 4 percent in the EU market. This is incredibly low in comparison with the vegetable oils sector, with an average penetration rate of 30.1 percent during the period from 2010 to 2013.

On the services front, the EU'€™s limited commercial presence in Indonesia'€™s services sector has also left a gap between the supply of services from the EU and the demand for services in Indonesia.

Another potential yet to be tapped is the EU'€™s foreign direct investment (FDI) in Indonesia. While the EU is one of the largest sources of FDI in Indonesia, its investment has mainly been concentrated in the transportation, storage and communication sector, as well as the mining and quarrying sector.

As it stands, the two economies have a common interest to tap these opportunities, providing much-needed momentum to upgrade their economic relationship. Massive infrastructure and industrial development are required in order to boost Indonesia'€™s competitiveness in the world goods market. At the same time, putting a strong industrial foothold in Indonesia is certainly not without its benefits for the EU.

Nonetheless, solid investment from the EU is needed for it to be able to tap into Indonesia'€™s potential in the long run. One means to do this is through the relocation of manufacturing production bases from the EU to Indonesia.

Indonesia is a suitable choice for this type of FDI. At the outset of its independence from the Dutch, Indonesia was a country abundant in natural resources with massive potential in agriculture.

Fast forward seven decades, Indonesia'€™s wealth in natural resources is now equipped with a massive potential to emerge as a global manufacturing base given its comparative advantage in terms of population and market base.

In the same package, intensification and diversification of the EU'€™s commercial presence in Indonesia'€™s services market is also needed to assist the skills-transfer in the services sector that will further boost industrial development in Indonesia.

Against this backdrop, the CEPA between EU and Indonesia should aim to facilitate the intensification and diversification of EU FDI in Indonesia. On the other hand, it is also crucial to realize that the potential cost of not completing the CEPA on Indonesia'€™s exports to the EU is high.

Currently, around 70 percent of Indonesia'€™s exports to the EU receive a tariff of lower than 5 percent, with almost half of these low-tariff exports established under the EU'€™s general scheme of preference (GSP). As Indonesia is soon to leave the GSP, several losses will take place.

Based on a study carried out by the Centre for Strategic and International Studies (CSIS), an almost 12 percent loss in terms of Indonesia'€™s annual export value to the EU '€” around US$2.4 billion '€” is expected should the most favored nation (MFN) tariff be applied in the amount of annual exports to the EU.

In case of a failure to secure preferential access to the EU, trade agreements between EU and other ASEAN countries will result in an 8 percent decline of around $1.6 billion in terms of Indonesia'€™s annual export value to the EU. In the latter scenario, the sector that will suffer the largest losses is the machinery and electrical sector.

An ambitious and comprehensive CEPA will deliver real gains to both sides. Amid this momentum to push for the CEPA, however, it is to be acknowledged that for two economies with vast differences in the level of development, challenges in terms of prioritized concerns will certainly occur.

As such, the success of the CEPA negotiations depends very much on the level of accommodation each party is willing to extend.

That said, it is of paramount importance to realize that the CEPA is an unmatched opportunity for both economies to exploit the untapped opportunities that exist between them. As such, achieving a CEPA is a wise resolve for both economies.
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The writer is an economics researcher at the Centre for Strategic and International Studies in Jakarta.

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