Trade & Supply Chain

Making the most of intraregional trade

Published: Nov 2018

Cargo ship packed with containers

A number of initiatives are set to support the growth of intraregional trade over the coming years. Where are the opportunities, and how can treasurers support their organisations in reaping the rewards in this evolving landscape?

Where trade is concerned, the last 12 months have brought their fair share of challenges. Eleven Asia Pacific countries signed the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) in May, paving the way for better trading conditions across the region. However, other factors have also been at play – not least of all the brewing global trade war sparked by trade tariffs imposed by the US on Chinese exports.

So far, the impact of these measures has been limited: despite the scale of the tariffs announced earlier this year Chinese exports rose by almost 15% year-on-year in September, resulting in a record trade surplus with the US. However, the recent depreciation of the renminbi may have played a part in this increase, and it is also likely that many companies have chosen to expedite orders before tariffs kick in. Meanwhile, further tariffs on US$200bn of Chinese exports were announced at the end of September – meaning that around half of all Chinese exports to the US will be covered by tariffs.

While the longer-term impact of the trade war could be considerable, Asia’s external trading relationships are only part of the picture. Intraregional trade accounts for 50% of total trade in East Asia and the Pacific, according to research published by the World Bank. And while intraregional trade only accounts for 5% of South Asia’s total at present, the World Bank report noted that there is plenty of room for improvement: “Gravity models show that total goods trade within South Asia could be worth US$67bn rather than the actual trade of only US$23bn.” The report notes that trade amongst South Asia countries is continuing to grow, with much scope for future improvement – India and Pakistan, for example, “have merely scratched the surface of their bilateral trade potential”.

Driving growth

Looking at the region as a whole, a number of factors are expected to drive intraregional trade in the coming years. “Asia is the engine of global trade growth,” says Ajay Sharma, Regional Head of Global Trade and Receivables Finance, Asia Pacific at HSBC, noting that the value of intra-Asian trade is already equal to that of Asia’s trade with Europe and North America combined. He adds that intra-Asian trade growth will be driven by the region’s continuing urbanisation and its burgeoning middle class. “It’s projected that by 2030 44% of the population in Asia will live in cities, and that they will contribute to over 85% of the region’s GDP,” Sharma says. “Also by 2030, Asia will be home to 1.2 billion middle-class households and account for two-thirds of the world’s middle-class population.”

Other notable drivers of growth include China’s Belt and Road Initiative: as well as improving physical infrastructure in more than 60 countries, the projects included within the initiative could bring a range of other benefits across the region. “These infrastructure projects – and the trade they enable – will provide a commercial boost to contractors and supply chains, and create wealth in communities along the routes,” comments Sharma.

Consumption economies in Asia tend to be heterogeneous and diversified. Apart from different rules, legal constructs and regulations, each differs in its consumption preferences, language and market practices.

Rakshith Kundha, head of Trade and Supply Chain Solutions, South East Asia and India, Global Transaction Services, Bank of America Merrill Lynch

Another notable development is the Regional Comprehensive Economic Partnership (RCEP), a free trade agreement between the ten ASEAN countries (Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Thailand and Vietnam) together with six partners (Australia, China, India, Japan, South Korea and New Zealand). The agreement, which could incorporate 3.4 billion people and 30% of global trade, is intended to lower trade barriers and improve market access for goods and services for Asian businesses.

In addition to the RCEP, Sharma notes that Asia as a whole “will benefit from the region’s collective efforts to further liberalise trade, which also include the economic integration of ASEAN and the pending ratification of the CPTPP”.

Likewise, Vivek Gupta, Head of Trade and Supply Chain for Greater China and North Asia at ANZ notes that a number of regulator-sponsored trade-related initiatives are progressing well, including the Hong Kong Monetary Authority (HKMA) sponsored Trade Finance Blockchain Project set to go live in the fourth quarter of 2018, the Singapore National Trade Platform (NTP) and the Global Trade and Connectivity Network (GTCN) project which is jointly sponsored by the HKMA and the Monetary Authority of Singapore (MAS).

Rising stars

Alongside these initiatives, there may be space for some of the less prominent players in the region to make headway in intra-regional trade. “In the last couple of years, we’ve seen the gradual movement away from ‘Made in China’,” comments Aziz Parvez, head of Trade and Supply Chain Finance, Asia Pacific, Global Transaction Services at Bank of America Merrill Lynch. “Benefiting from lower labour costs, land and resources, businesses – particularly consumption-driven industries – are relocating their manufacturing centres into ASEAN and South Asia.”

Parvez notes that manufacturing is increasingly tilting towards countries such as Vietnam, Indonesia, India, Sri Lanka and Bangladesh. “Evolving patterns of consumption in Asia are also altering existing supply chain designs,” he observes. “We are seeing the emergence of Asian economies being major consumers of industrial and commercial goods. The above developments, combined with changes that may occur if the trade dispute extends, would require businesses to closely partner with their banks as they look to rework their supply chains.”

That’s not to say that the big players will be falling by the wayside. Agatha Lee, Head of Global Trade and Loan Products for Asia Pacific at J.P. Morgan predicts that traditionally strong contributors – namely China, Korea and Japan – will maintain their stronghold on intra-Asia trade. “Not only have Japanese, Korean and Chinese corporates evolved into MNCs, expanding their manufacturing outside home markets starting with APAC countries, there has also been increasing demand for ‘made-in’ Japan, Korea and China goods across the region,” she explains. “But the rising stars are the fast-growing ASEAN economies – the likes of Vietnam, Cambodia, Philippines and Indonesia – which have seen a significant uptick in the production and exports of consumer items including clothing, electronics, perishables and general goods to the region.”

Challenges and headwinds

Alongside these opportunities, there are also a number of challenges for companies operating in this environment. “Consumption economies in Asia tend to be heterogeneous and diversified,” comments Rakshith Kundha, head of Trade and Supply Chain Solutions, South East Asia and India, Global Transaction Services at Bank of America Merrill Lynch. “Apart from different rules, legal constructs and regulations, each differs in its consumption preferences, language and market practices.” He notes that companies need to navigate different financial markets with varied rates of financing, as well as dealing with a larger number of currencies – and, consequently, increasingly complex foreign exchange risk management.

Trade costs can also be an obstacle for trade within the region. “The UN reports that average intra-Asian trade costs, excluding tariffs, can range from 51% to 130% of the value of the goods, depending on the source and destination,” notes Sharma, adding that intra-EU represents ‘best practice’ as trade costs are 42%.

Looking ahead, ANZ’s Gupta cites several headwinds affecting trade finance in the region. These include the possibility of US and China
tariffs reducing demand down the line as costs to the ultimate consumer increase, as well as the depreciation of emerging market currencies and the possibility of rising domestic interest rates as emerging market central banks increase their interest rates.

This could lead to higher working capital costs for companies and their supply chains, alongside potential long-term structural impact of tariffs on supply chains. Gupta also cites the prospect of “rapid regulatory changes in Asian countries impacting access to trade
finance”, and the resulting importance of remaining close to key trade banking relationships.

But alongside these challenges, trade barriers arising from protectionism can sometimes have a different effect. J.P. Morgan’s Lee observes that protectionist measures “sometimes have the potential to bring trading partners closer, and in turn drive more intra-regional activity”. She notes that an agribusiness conglomerate significantly boosted shipments from Australia to China earlier this year after Beijing imposed tariffs on US agricultural products, adding: “We expect similar such activities, which would bolster regional trade.”

Lee notes that other factors can act as a barrier to intra-Asia trade. She notes that World Bank figures show that South Asia’s rate of intra-regional trade remains among the lowest in the world. She also notes that a lack of funding options can inhibit trade in developing markets. “In markets like Cambodia, Myanmar and Laos, local financing can be challenging given their less developed financial infrastructure,”she comments.

How can treasurers help?

As treasurers take on an increasingly strategic role within their organisations, there is much that they can do to support their
companies’ trading activities in this environment. First and foremost, it is important to understand that strategies that may be effective in other regions are not always suitable in Asia.

“Given the different regulatory and legal constructs in various Asian markets, treasurers would need to plan carefully for future growth,” comments Bank of America Merrill Lynch’s Kundha. “A model geared towards centralisation of cash flow, procurement and sales may bring tremendous efficiencies in open markets, but may not always work across heterogeneous markets.”

In addition, there are a number of other ways in which treasurers can support their organisations in this climate:

  • Understand procurement patterns. Kundha advises that treasurers should consider current procurement and sales patterns, taking into account factors such as the locations of shared service centres and pool headers, the technology solutions deployed and the entities through which sales are routed.
  • Contingency planning. Lee points out that contingency planning is key in this environment: “Treasurers will be relied upon to take a holistic view and ensure the business is well-prepared regardless of scenarios and outcomes,” she says, adding that strategies around FX hedging, cash flow forecasting, risk mitigation and ensuring sufficient credit and funding “will be critical”.
  • Staying close to regulators. Lee also notes the importance of staying close to regulators.
    “Maintaining frequent and open dialogues with regulators will be key to ensuring clear understanding of government’s objectives around trade policy changes that impact corporates, and for both sides to work towards a mutual solution,” she says.
  • Leverage supply chain finance. Kundha points out that supply chain finance “can be an important tool to ensure funding across a physical supply chain that is spread over several geographies”. And Gupta notes that some fintechs are now offering niche supply chain finance (SCF) solutions, which have the potential to accelerate supplier onboarding and the fuller utilisation of SCF programmes.
  • Engage with the industry. Lee observes that engaging with industry organisations, forums and conferences can help treasurers keep abreast of best practices and gain insights from their peers.
  • Work with the right banks. Also important is choosing banking partners which have detailed knowledge of the relevant local markets, from business culture to the regulatory climate, and taking advantage of their support.

Looking to the future

Predicting the future is never straightforward, but it seems likely that initiatives currently under way could play an important role in reshaping Asia’s trade patterns in the future. “We see increasing engagement among the Asian governments to intensify the economic integration; the proposed free trade agreement between ASEAN member states, or Regional Comprehensive Economic Partnership (RCEP), is a good example,” comments Lee. “This should help boost to intra-Asia trade volumes going forward.”

Parvez, likewise, predicts that intra-Asia trade is set to grow, supported by initiatives such as the CPTPP. “Supply chains will continue to shift, given lower cost manufacturing locations and new centres of consumption,” he says. “Apart from large corporates, both Asian and global, who will look to manufacture and sell within Asia, we are also likely to see a lot of activity in the MME space.”

In the meantime, Parvez notes that there is already a high volume of manufactured goods coming from the Chinese MME segment to different Asian markets. “While they clearly have the advantage of scale, we may in future see some of them also shifting manufacturing bases, a trend already playing out in the large corporate space,” he concludes.

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