The fallout from the Japan–South Korea trade ruckus on global trade rules

Asia World

Author: Yasuyuki Todo, Waseda University

Japan and South Korea are engaged in a trade dispute generated by national security concerns. The fallout from this dispute has the potential to hurt the global economy through the propagation of negative shocks to global supply chains. Towards the end of last year, there was some back-off but the dispute raises systemic questions rules about international trade restrictions for national security reasons.

A woman tries out a Samsung Electronic's Galaxy A50 at a Samsung store in Seoul, South Korea, 14 November 2019 (Photo: Reuters/Kim Hong-Ji).

A woman tries out a Samsung Electronic's Galaxy A50 at a Samsung store in Seoul, South Korea, 14 November 2019 (Photo: Reuters/Kim Hong-Ji).

In July 2019, the Japanese government tightened controls on the export to South Korea of three materials used in semiconductor production. Japan claimed that some of the exported materials had been re-exported to other countries that could be a threat to Japan and the world — including North Korea. The following month, the Japanese government further tightened controls on exports to South Korea covering a broader range of goods.

South Korea responded by imposing similar controls on exports to Japan. The government also filed a dispute with the World Trade Organization (WTO) while South Korean consumers boycotted Japanese products such as Uniqlo clothes, Kirin beer and tourist travel to Japan.

There have been large economic losses for both countries. From August to November 2019, exports from Japan to South Korea and from South Korea to Japan declined by 315 billion yen (US$2.91 billion) or 16.5 per cent, and by 131 billion yen (US$1.2 billion) or 11.1 per cent respectively, compared with the same period in 2018. Exports from Japan to South Korea of hydrogen fluoride — one of the restricted chemicals — and beer dropped to virtually zero in October and November.

The negative effect of the trade dispute is aggravated by its propagation through global supply chains. South Korean semiconductor companies, such as Samsung Electronics and SK Hynix, are major targets of Japan’s export controls. They are hubs in global supply chains, linked with a large number of suppliers and customer companies around the world. Once production shrinks due to a shortage of essential materials from Japan, other suppliers to these companies are also affected by demand shortages. The customer companies are then affected by a shortage of production supplies, impacting the market for products like smartphones and memory chips.

The negative effect of the Great East Japan earthquake in 2011 propagated quickly and persistently through supply chains to regions not directly affected by the earthquake. Its indirect effect on production due to supply-chain disruptions was 100 times as large as the direct effects of the destruction of production facilities. The risk of the propagation effect from continued export controls between Japan and South Korea to the rest of the world through global supply chains should not be underestimated.

There are some signs that the situation may be improving. In November 2019, South Korea revoked its decision to withdraw from the General Security of Military Information Agreement with Japan and suspended the WTO dispute settlement procedure. A policy dialogue on export controls between the two countries was held in December 2019 for the first time in three and a half years. After the dialogue, tightened controls of photoresists, one of the three controlled semiconductor materials, was relaxed.

These improvements are encouraging. But because Japanese-South Korean economic ties have been severely damaged, more substantial progress is needed to minimise economic losses to the two countries and the rest of the world. The Japanese government should state what the South Korean government is required to do — for example improving laws and increasing personnel for export controls — in policy dialogues, and examine what exporters and importers are required to do to obtain permissions for exports to South Korea. The South Korean government should meet these requirements promptly and back away from the WTO dispute entirely.

Trade disputes originating from national security concerns are now proliferating around the world. The United States has restricted its exports to Huawei and other related companies claiming that information is stolen from Huawei’s devices. Because Huawei and other Chinese information and communication technology giants are major hubs in global supply chains, the effects of the US export restrictions can propagate through global supply chains and result in devastating economic losses for the United States, China and the rest of the world.

One way to alleviate the economic losses of such trade restrictions due to national security concerns is to establish clear international rules to define conditions under which such restrictions may be imposed legitimately. Such trade rules are defined in Article XXI of the General Agreement on Tariffs and Trade. But the article can be interpreted in an excessively broad manner as it has only been discussed once in a WTO dispute settlement panel, and has never been discussed in the WTO Appellate Body. These rules must be updated, for example, to specify which products can be targeted in trade restrictions and what information should be disclosed for the restrictions.

The WTO has been inactive — and will continue to be for some time — due to disagreement between developed and developing countries, and the offensive attitude of the United States towards the WTO. A first step might be to incorporate these rules into future regional free trade agreements (FTAs), such as the Japan–China–South Korea FTA and the Regional Comprehensive Economic Partnership. Japan should be encouraged to play a proactive role in setting up these new trade rules.

Yasuyuki Todo is Professor at the Faculty of Political Science and Economics, Waseda University, and Visiting Researcher at the University of Sydney.

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