Southeast Asia was built on trade. In centuries past, merchants from East and West met in the region's thriving ports to exchange goods and ideas. More recently, intricate supply chains weaved economies of the Association of Southeast Asian Nations into a global production network, while their abundant raw materials helped power China's economic rise.
The trouble is that world trade is sputtering. Exports alone will no longer ensure prosperity. Consumers in the West have grown tired and demand from China is slowing. A new strategy is needed, one that will allow the region to fulfill its potential.
That is where the ASEAN Economic Community comes in, an ambitious endeavor to fuse the region's disparate economies together. Inaugurated last Dec. 31, the AEC aims to create a single production base within its borders, built around the free flow of goods, services and investment. This, it is hoped, will not only attract more investment by foreign companies but also make local ones more competitive.
That goal, however, remains a long way from being achieved. Many goods remain subject to trade restrictions, whether formal or informal. Services are still highly fragmented across ASEAN, not least in telecommunications, banking and insurance. And even the free flow of skilled labor, touted as a key pillar of the AEC, has yet to be implemented fully.
The numbers speak for themselves. Intra-ASEAN trade amounts to only 22% of members' overall exports and imports. Foreign direct investment, too, shows only limited integration. Last year, flows within the bloc amounted to a mere 16% of what ASEAN received from overseas. This stands in contrast to the European Union, where intraregional trade and investment dominates.
True, comparisons with the EU are a little unfair. ASEAN, after all, does not aspire to the deep integration that the EU has pursued for decades. For example, there are no plans, rightly so, to create a monetary union or to set up supranational bodies with sweeping regulatory powers.
Still, the point remains: ASEAN economies are highly open and geared toward international trade and investment. But their relationships are invariably stronger with economies outside the region than those within. Therefore, with world trade stagnating, and few prospects of a swift rebound, ASEAN economies inevitably feel the pinch. Foreign investment from outside the region has also slowed over the past year.
The AEC thus opens critical avenues for growth, expanding regional trade and markets for local companies. The challenge, in short, is to accelerate the integration process as a potent countermeasure to fragile global demand. However, political realities often intrude, with progress hampered not least by the disparate levels of development of individual members from Singapore's advanced service and production hub to still largely agricultural Laos.
Yet ASEAN's diversity is also a source of strength that, if carefully harnessed, should unlock vast gains in productivity. Richer economies will benefit from more competitive labor costs in less developed areas, while technology transfers and greater investment will raise incomes in the latter.
FOUR PATHS AHEAD How, then, to achieve greater integration within ASEAN in the coming years? First, the agenda will need to be narrowed. The AEC is ambitious, an inspiring blueprint for the region in the years, if not decades, to come. The agreement comprises 17 core elements and outlines 176 priority actions, covering, among other areas, the free flow of investment, migration of skilled labor, small and midsize enterprise development, infrastructure development, capital market integration, equitable development and intellectual property rights. Ministerial working groups are tasked with devising concrete rules for integration in each of these areas, eventually to be adopted by consensus.
A narrower focus would help to accelerate the process, delivering tangible results on which to build. The current comprehensive agenda is a drain on administrative resources, especially for smaller members, causing delays or even a standstill in some areas. The AEC's broad sweep often enables negotiators to claim success, with periodic scorecards reporting a high completion rate -- but the few outstanding issues are usually the most important ones.
The second point is that ASEAN requires a stronger, independent administration to monitor progress in negotiations and, crucially, in implementation. The ASEAN Secretariat remains woefully understaffed, with its budget reportedly amounting to less than $20 million in 2015. A larger bureaucracy would offer poorer members know-how and expertise they all too often lack for highly complex agreements. This is not to say that the ASEAN Secretariat should evolve into a supranational regulator, akin to the EU Commission, which would jar with the "ASEAN way" of consensus decision-making. And yet, a beefed-up secretariat could inform and speed up decisions, and serve as an independent advocate for policies that foster ASEAN integration.
Third, ASEAN needs to improve its physical connectivity. This goal has been on the regional agenda for decades, but key projects remain stuck on drawing boards. Harmonizing regulations means little in practice if companies cannot easily ship goods from one country to another and border areas remain inadequately connected. Especially in mainland Southeast Asia, far more roads, bridges, and rail-lines are needed to fuse economies together and unleash the benefits of greater trade integration.
One solution would be to set up an independent ASEAN Infrastructure Bank that could help to finance the integration of less advanced economies with their more advanced neighbors. Such an institution would not only provide cheaper funding but also more effective cost distribution among members and the expertise needed to implement complex projects. Further, it could work in conjunction with foreign donors and multilateral development banks, including the Asian Development Bank's ASEAN Infrastructure Fund, to identify projects that enhance the bloc's physical connectivity.
The final point is closely related to the third: an acceleration of financial integration. Under the AEC, members have spelled out a strategy to remove restrictions on financial services within ASEAN, build an integrated capital market, and harmonize payments and settlement services by 2020. This, of course, is a highly complex endeavor and the timeline already appears ambitious. Such a process, moreover, must be carefully sequenced and should not entail sweeping liberalization without regard to local requirements. But finance is key to spurring growth, and greater integration would help to deploy the region's uneven pool of savings to its most productive use.
A narrower agenda, concentrating on expanding the free flow of goods and selected services, greater physical connectivity, more financial integration, as well as a strengthened ASEAN Secretariat, would be key steps to accelerate ASEAN integration and help sustain growth at a time when global trade and direct investment flows have begun to sputter. The rewards would be substantial. ASEAN's history, after all, has proven the power of trade in driving prosperity. For now, those opportunities lie closer to home than ever before.
Frederic Neumann is co-head of Asian Economics Research at HSBC.