Australia Makes a Deal

In early November, we wrote about how Australia's new government was aggressively pushing to revive stalled free-trade agreements (FTA) with regional neighbors, such as China, Japan, and South Korea. After several years of negotiations, Australia successfully concluded a trade deal with South Korea in mid-December.

The deal was initialed on Feb. 10 by the negotiators, and the text was released to the public early last week. Formal ratification by the two countries is expected within about four months, and the agreement will come into force by the year's end.

In the past, the primary obstacle to a deal had been Australia's refusal to include an international arbitration clause, which grants investors the right to sue a foreign government if a trade agreement is breached. But Australia compromised on this front, and the resulting deal includes explicit safeguards protecting the country's right to regulate in areas such as health and the environment.

In 2012, Australia and South Korea had two-way trade totaling AUD31.9 billion. Last year, South Korea bought AUD19 billion worth of Australia's goods, which makes the country Australia's third-largest export market after China and Japan. Australia's agriculture and manufacturing sectors are expected to benefit the most from the deal, with the government estimating that it could add AUD653 million annually to the country's economy.

Overall trade is expected to be 23 percent higher by 2030 than would have occurred in the absence of a deal. Manufactured exports to South Korea are forecast to rise 53 percent by 2030, while agricultural exports will jump by 73 percent, versus a decline of 29 percent that would have happened otherwise.

Australia's resource sector is also poised to benefit from the agreement. Three-quarters of the country's exports to South Korea are comprised of minerals and energy products, valued at roughly AUD15.3 ! billion last year. According to the Minerals Council of Australia, the FTA removes tariffs on a range of commodities including gold, titanium oxide, lead and nickel.

Meanwhile, negotiations remain underway with China, which is Australia's largest trading partner, with trade totaling AUD125.2 billion in 2012. Since Australia's fortune is closely aligned with its neighboring giant, Prime Minister Tony Abbott had placed a 12-month deadline late last year for the two countries to put together an FTA. Though Australia's previous government had attempted to broker a more narrow deal for the sake of expedience, the current government is seeking a comprehensive agreement.

A recent diplomatic squabble between the two countries regarding China's creation of an air-defense zone over disputed territory appeared to threaten the negotiations. That was underscored by China's failure to mention Australia among its priorities for this year's trade deals. But according to The Australian, Beijing insiders say that an FTA remains a priority for the country's Commerce Ministry this year.

One of the obstacles to a deal with China has been whether Australia is willing to allow foreign investment in agricultural land by individual Chinese firms of up to AUD1 billion without triggering scrutiny by the Foreign Investment Review Board. That's essentially the same treatment China has in its deal with the US.

To that end, Treasurer Joe Hockey has attempted to nudge China toward a deal by reducing the threshold that causes an automatic review of foreign investment, to AUD15 million from AUD248 million. This would apply solely to countries that don't already have an FTA with Australia. However, this could lead to tension within Australia's governing Coalition, as the rural-oriented Nationals are opposed to lowering this threshold as part of a trade deal with China.

Australia is dependent upon foreign inflows of capital to finance its persistent current account deficit. At the same tim! e, some r! ural constituencies are concerned that China will simply buy large swathes of agricultural land without the sort of reinvestment that supports the surrounding rural communities.

Meanwhile, the free flow of the country's exports is largely limited to natural resources, with agricultural exports bogged down by red tape and other restrictions. An FTA would facilitate trade in food and agriculture by streamlining administrative hurdles and removing tariffs and other market barriers.

Given the potential demand from China's burgeoning middle class, this could be a decades-long growth story for Australia's agriculture sector. Still, it's entirely possible that the benefits of an FTA won't be realized across the entire sector, as Beijing could seek to continue protecting certain agricultural industries of its own.

These deals are never without controversy, but they are key for ensuring Australia's future growth.