Australia and Japan Create a New Economic Paradigm Australia-Japan Foundation Project 2015-16 By Manuel Panagiotopoulos Project Sponsored by AUSTRALIA AND JAPAN CREATE A NEW ECONOMIC PARADIGM Australia and Japan Create a New Economic Paradigm By Manuel Panagiotopoulos SEPTEMBER 2016 PREPARED FOR THE AUSTRALIA-JAPAN FOUNDATION Caveat: The opinions expressed herein are the personal opinions of the author. They do not necessarily represent the opinion of the Australia-Japan Foundation or any other Australian or Japanese institution, organisation, official nor any business with which the authors may be associated outside of this publication. Manuel Panagiotopoulos 2016 2 AUSTRALIA AND JAPAN CREATE A NEW ECONOMIC PARADIGM CONTENTS EXECUTIVE SUMMARY 4 FORWARD A PERSONAL REFLECTION 13 INTRODUCTION 15 SECTION 1 GEOPOLITICS IS MORE IMPORTANT THAN ECONOMICS… BUT GEOPOLITICS MUST BE INFORMED BY REAL UNDERSTANDING OF ECONOMICS 18 SECTION 2 GEOECONOMICS: USEFUL BUT LIMITED 21 SECTION 3 AUSTRALIA-JAPAN STRATEGIC PRIORITIES: MARITIME FREEDOM; US ALLIANCE; COOPERATION 24 SECTION 4 PROGRESS OF THE AUSTRALIA-JAPAN SECURITY RELATIONSHIP 30 SECTION 5 REITERATING THE NEW COMPLEMENTARITY BETWEEN AUSTRALIA AND JAPAN AND MOVING TOWARDS TOTAL ECONOMIC ENGAGEMENT NEW COMPLEMENTARITY, RELATIONAL ECONOMICS AND STRATEGIC ALIGNMENT 33 SECTION 6 AUSTRALIA’S SUBMARINE DECISION AND WIDER DEFENCE OPPORTUNITIES 40 SECTION 7 DEVELOPMENTS IN GOODS AND SERVICES TRADE 43 SECTION 8 NEW DIRECTIONS IN JAPANESE INVESTMENT AND 52 BANKING IN AUSTRALIA JAPAN NOW NO2, SOGO SHOSHA, LIST OF INVESTMENTS, JAPANESE BANKS IN AUSTRALIA, SYNERGIES IN 3RD MARKETS VIA INSIGHTS FROM TRANSACTION COST ECONOMICS SECTION 9 ASPECTS OF JAPAN MATTERS – INVESTMENT AND R&D POWERHOUSE 65 SECTION 10 JAPAN MATTERS FOR AUSTRALIA IN ASIA 68 SECTION 11 JAPAN MATTERS IN ASIA – INVESTMENT, TRADE, BANKING INVESTMENT, JAPAN AND ASEAN, ABENOMICS AND ASIA 73 SECTION 12 TOTAL ECONOMIC ENGAGEMENT – CREATING THE INDEX 81 SECTION 13 TOTAL ECONOMIC ENGAGEMENT – SOURCE DATA 90 AND APPLICATION SECTION 14 NOTES OF DISCUSSIONS WITH INVESTORS 96 SECTION 15 ABOUT THE AUTHOR 98 Manuel Panagiotopoulos 2016 3 AUSTRALIA AND JAPAN CREATE A NEW ECONOMIC PARADIGM EXECUTIVE SUMMARY ! The New Economic Paradigm that Japan and Australia have created is the transposition onto nation-level relations of the interplay of numerous factors and drivers that are found at the microeconomic and inter-firm level, combined with industry-level factors and ultimately with geopolitical, strategic and institutional alignments and the whole suite being risk-adjusted according to the principles of financial analysis: ! relational economic contracts ! new complementarities across value chains ! risk-adjusted valuation of investment and trade ! application of transaction cost economics ! geopolitical and strategic alignment with Australia’s economic partners ! institutional alignment, including values and legal protections ! The inspiration for the development of Total Economic Engagement comes from the unique experience of the combination of long-term contracts and minority equity foundations that Australian and Japanese companies used in the 1960s to build the Australian iron ore and coal industries. ! Geopolitics is more important than economics but geopolitical analysis must be based on a sound understanding of the global economy, far removed from any simplistic, mercantilist-inspired concepts. ! Beyond the strictly economic, the complementarities between Australia and Japan extend to the even more powerful spheres of geopolitics to achieve a richness of engagement of rare possibility. ! Both geopolitically and economically, Australia’s and Japan’s interests overlap so sharply as to be a true exemplar of a New Complementarity applied to the level of the nation state, which I have termed Total Economic Engagement ! The measurement of Total Economic Engagement is a function of: ! Trade ! Foreign Direct Investment ! Portfolio Investment ! Strategic Alignment ! Institutional Alignment ! Geopolitics is the interplay of strategic priorities and the institutional alignments between nation states, otherwise thought about as geography and politics. Institutional Alignment because also embodies value systems that, contrary to a simplistic “Realist’ framework, do have significant impacts on relations between nations. Manuel Panagiotopoulos 2016 4 AUSTRALIA AND JAPAN CREATE A NEW ECONOMIC PARADIGM ! Institutions are not just organizations and rules but are based on values. These are the very values that are often discussed in relation to Australia and Japan: ! democracy ! rule of law ! protection of individual human rights ! protection of private property rights and intellectual property ! promotion of a rules-based international system ! transparent governance and regulations ! Economic interactions between states can expand and diversify to become quite intense, but will depend on smooth geopolitical relations to be sustained. When geopolitics clashes with economics, the former will take priority. ! It cannot be emphasised strongly enough that current economic relationships cannot have priority over geopolitical forces that threaten national security and therefore future economic welfare security. ! Geopolitics, economics and value systems are intricately interlinked. Economic relationships between states that have clashing value systems are always resting on foundations that could shift quickly and catastrophically. ! A key problem with what is called ‘geoeconomics’ is that its essence is mercantilist. It does not take into account two significant economic factors: 1) the huge increase in the level of offshore production via FDI. Large shares of the production and revenue of US-based, UK-based, Japan-based, etc, companies are outside their country and a large proportion is re-imported to the home country; 2) it completely ignores the massive proliferation of global value chains and production networks locked in symbiotic embrace. Simple breakdowns of exports/imports and production give a distorted view of global economic structures and interrelationships. ! Australia and Japan are both island nations with completely different endowments, separated by huge geographic distances but sharing key strategic imperatives and interests, supported by shared values. ! Overlaying the strategic imperatives is now the rise and behaviour of China and the responses of the US, the key alliance partner of both Australia and Japan. ! Australia and Japan are important powers that share geopolitical interests and values, have been and should be developing stronger security ties to bolster the effectiveness of their alliance with the US. In my evaluation, Australia is an important middle power and Japan is a Great Power. Japan is not as big as China, but it is not a middle power. China is a Great Power but certainly not a Global Power, a status only achieved by the US and not likely to be achieved by either China nor India. ! A further impetus towards closer Australia-Japan geosecurity cooperation has been the lack of consistency in the responses of the US to the changing power balance in the Western Pacific. In November 2011 the Obama administration announced a ‘rebalance’ of the US military and security posture towards Asia and the Pacific Manuel Panagiotopoulos 2016 5 AUSTRALIA AND JAPAN CREATE A NEW ECONOMIC PARADIGM (sometimes called a ‘pivot’). While the policy has been broadly welcomed (except by China), there are serious misgivings about the practical effect of the policy. ! Australia and Japan can work together closely to enhance the US presence in our region, to form the foundation of multilateral efforts with other regional partners and to work bilaterally in the many arenas open to this vibrant partnership. ! Australia and Japan have been cooperating for many decades in numerous regional and global forums: PBEC, APEC, ASEAN Regional Forum, G20, EAS and TPP, among others. ! Australia and Japan have also been working together closely in non-economic areas such as nuclear non-proliferation. Australia has always supported Japan’s expanded security role in the UN, unlike China and South Korea. Similarly, Japan has always supported Australia’s inclusion in Asian regional forums, unlike China and Malaysia, greatly assisting Australia’s efforts to be included in the region. ! Over these decades there have been incremental steps taken in the fuller development of cooperation, collaboration and relationship-building founded on economic complementarity. Slowly, but with increasing vigour, the geopolitical and security dimensions were added to the economic, including UN peacekeeping and humanitarian assistance (since ‘security’ means more than just defence). ! The recent accelerations have built upon these foundations, spurred by the rise of China’s ambitions. But the developments also have their own positive character as they range across so many issues and universal goals. Australia and Japan are especially suited to be closer strategic partners. The Australia-Japan relationship is an example of “values-based alignment” which has been supplementing realpolitik calculations. ! Recent enhancements of the Australia-Japan strategic relationship include the Joint Declaration on Security Cooperation (JSDC), signed in 2007, the acquisition and cross-servicing agreement (ACSA) in 2010 and an information security agreement (ISA) in 2012, annual “2+2” foreign and defense Ministers meetings. In 2014 two Summits were held in Japan and in Australia, concluding the JAEPA and