Open-ended impact of afta on fdi inflows: Evidence from macro-level data of indonesia, malaysia, thailand and firm-level data of indonesia

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This study attempts to observe the ASEAN economic integration progress based on the impact of ASEAN Free Trade Area (AFTA) on FDI inflows of both multi-country (Indonesia, Malaysia and Thailand) with macroeconomy-level data and single country (Indonesia) with micro firm-level data. Macroeconomy level data uses macroeconomy data set with time-dummy variable of 'before and after' the comprehensive implementation of AFTA as the representation of AFTA. Micro firm-level data utilizes Indonesia's manufacturing survey of 25,696 firms under the International Standard of Industrial Classification digit 5 (ISIC-5) with the ASEAN's Common Effective Preferential Tariff (CEPT) of 19,425 tariff rates data as the representation of AFTA. The form of the macro-level data is longitudinal and the form of the micro-level data is cross-sectional. From the multi-country analysis this study finds that AFTA is not effective in attracting FDI inflows while from the single-country analysis it finds the opposite. These findings prove that the impact of AFTA on FDI inflows in ASEAN is open-ended and varies within member states.1.IntroductionThe World Trade Organization (WTO) considers Trade Agreement (RTA), under the open-regionalism principle, as a complement to the multilateral trade liberalization frameworks. Pascal Lamy, Director of WTO has stated, Regional Agreements are like the 'pepper' in the multilateral 'curry'.2 He mentioned that RTA is important as more than 50 percent of world trade value came from it.One of the famous RTAs in the world is ASEAN Free Trade Area (AFTA) which was established by the Association of Southeast Asian Nations (ASEAN) in 1992 but took in-effect in 1999.Yet, ASEAN signed her first Preferential Trade Arrangement (PTA) in 1977. It took more than 20 years from 1977 to 1999 for ASEAN to transform her RTA from PTA to FTA. Comparing this to the European Union's (EU) economic integration process, ASEAN's process is a bit slower. The EU completed FTA in less than 8 years from 1951 to 1957.Despite its slow in progress in achieving economic integration, ASEAN still shares its grand vision of a regional economic integration, the ASEAN Economic Community (AEC) by this year 2015. Actually, ASEAN has three pillars: the ASEAN Economic Community, the ASEAN Security Community (ASC) and the ASEAN Socio-Cultural Community (ASCC). This study will focus only on the economic pillar of the ASEAN Economic Community.The AEC covers wide and various economic cooperation areas such as infrastructure (Trans-ASEAN Transportation Networks, Telecommunication Networks), energy and food security (Trans-ASEAN Energy Networks and Food Security Reserves), and investment cooperation (ASEAN Investment Area/AIA). Though areas such as local infrastructure capacity, logistic cost and domestic government reform are also very important, these are left to each member's discretion on domestic reform tasks. In terms of financial integration, AEC focuses on capital account liberalization, financial services liberalization, capital market development and exchange rate cooperation. The AEC of 2015 is basically a starting point to move forward from AFTA to the the next level of regional integration of (1) ASEAN Single Market, with trade in service liberalization (Mode 3: Commercial Presence), free movement of people (Mode 4: Presence of natural person) and free capital movement and (2) ASEAN financial integration, with single monetary union and single currency.According to the basic theory, trade and investment integration in the region is a necessary condition for building a solid regional economic community (Balassa, 1961). Therefore any Economic Community (EC) including the AEC requires comprehensive trade and investment integration. This integration is the most important factor to support free flows of capital and people (Plummer and Cheong, 2008). Given this, one of the important purposes of the AEC is to enhance trade (intra-regional trade) and investment (Foreign Direct Investment/FDI) integration in Southeast Asia. …