Extract from Draft Report by Department of the Special Trade Representative

Canberra, [8 August 1979]

CONFIDENTIAL

Australia- New Zealand Economic Relations Summary of Conclusions1

• 1.1 The initiative for closer economic co-operation must come from New Zealand and this report provides a framework within which to consider an Australian response.
• 1.2 At the present time policy-makers and opinion-leaders in New Zealand are far more concerned about New Zealand’s economic future than at any previous time and appear to be taking a more open and positive attitude towards closer economic co-operation with Australia. At the wider community level attitudes are less clear and considerable effort would be required to assuage deeply held reservations about closer links with Australia.
• 1.3 The New Zealand economy has suffered external shocks similar to those experienced by other OECD economies during the 1970s, but their impact has been more severe, and their consequences deeper rooted.
• 1.4 Without further progress in implementing policies for structural change, it seems probable that living standards in New Zealand will continue to be severely constrained, inflation rates comparatively high and labour market conditions weak. A key requirement for a return to reasonable and sustainable growth in the medium term is to reverse the long term trends towards the erosion of profitability in the export sector.
• 1.5 There is little in the international trade and economic outlook for the 1980s to suggest that the difficult experiences of the 1970s are past and that there will be a return to the steady growth and trade expansion witnessed in the two previous decades. Although the uncertainties should not be overlooked, it is likely that Australia, with its broad resource base, will fare better than New Zealand in the 1980s through its capacity to play an increasingly important role as a supplier of energy and mineral based products.
• 1.6 It is important that the potential benefits arising from closer co-operation between Australia and New Zealand should be viewed in a wide perspective. New Zealand could not expect to solve its economic problems simply by forging closer economic links with Australia. To deny this risks creating a situation of disappointed expectations analogous to that we now face with ASEAN. Nor should expanded trans-Tasman trade be seen as an alternative to the further opening of the Australian and New Zealand markets to competition from the rest of the world.
• 1.7 On the other hand, Australia and New Zealand cannot expect to withstand wider international competition if they are not even prepared to contemplate a more open trading situation across the Tasman.
• 1.8 There is an obvious need to do something about NAFTA, the full expectations of which have not been realised. The reasons why experience with NAFTA has not been completely successful relate to the nature of the agreement itself (especially the virtual provision that no existing industry in either country should be damaged), the economic and trade environment in which it has operated and to industry developments and the attitudes of the two governments.
• 1.9 Unless there is some substantial change in the way in which both sides interpret NAFTA it seems unlikely that there will be any further significant increase in the free trade coverage or that arrangements under Article 3:72 will continue to expand. The prospect then is for a continuation into the foreseeable future of the present situation with minor additions being made to Schedule A3 from time to time and the general level of NAFTA activity remaining roughly at present levels.
• 1.10 The broad options examined in this report are threefold:
  • increased co-operation in international consultations and negotiations
  • co-operation on sectoral issues
  • extended forms of trade and economic integration.

The emphasis is on the last. This would involve a political commitment to ‘leapfrog’ the present difficulties and adopt a plan and schedule for the implementation of measures directed towards the establishment of a complete free trade area or, more dramatically, a customs union.

• 1.11 From the viewpoint of establishing a more efficient allocation of resources within an open trans-Tasman trading environment it would be more appropriate to opt for a full customs union with a suitable common external tariff. As will be seen below, this has serious consequences for New Zealand and the only politically practical course may be a phased approach to a near complete free trade area.
• 1.12 The New Zealand customs tariff and import licensing system are administered in such a way as to ensure, (a) a high level of protection for goods produced in New Zealand, and (b) that essential imports of producer goods and raw materials for further manufacture enter free or at minimal rates of duty.
• 1.13 If a common external tariff (CET) were to be set at current Australian tariff levels it would have the general effect of reducing the level of New Zealand protection on finished goods produced in that country and increasing the cost of essential producer goods and raw materials, thus adding to the cost of New Zealand manufacturers.
• 1.14 Secondary industry in New Zealand enjoys a number of advantages over similar industry in Australia, viz. lower raw material costs, even though they may be sourced from Australia, lower labour costs and an extensive range of incentives. On the other hand, Australian industry has the advantages of economies of scale and generally speaking a higher level of technology.
• 1.15 A full customs union without provision to secure New Zealand lower raw materials costs would jeopardise many existing New Zealand industries and affect future industrial development.
• 1.16 Furthermore, Australian exports of producer goods and raw materials would become more competitive with third country suppliers in the New Zealand market and, in addition, receive increased prices for existing exports to New Zealand. This would create an unbalanced situation and to be acceptable to New Zealand the consequent industry restructuring would need to occur over an orderly time scale and there would have to be offsetting gains in other areas.
• 1.17 A CET which gave the equivalent protection of the current New Zealand tariff and import licensing systems would be much higher than the present Australian tariff. It would have the effect of severely disadvantaging New Zealand’s secondary industry if applied to producer goods and raw materials. From Australia’s view point a CET of this kind would be contrary to the White Paper4 thrust and cause massive structural, price and resource allocation effects. Such a price for a customs union would be too high for Australia and New Zealand to pay.
• 1.18 There are, however, more complex intermediate options including some form of phasing arrangement whereby New Zealand would progressively reduce its tariff barriers to Australia’s level. The potential benefits to be derived from eliminating tariffs on a wider range of products would not be maximised unless other impediments to trade, such as import licensing, were substantially removed.
• 1.19 In any closer trading arrangements between Australia and New Zealand it would seem essential for New Zealand to continue to be able to obtain its producer goods and raw materials at minimal or free rates of duty. An extension to a full free trade area with no exceptions would achieve this purpose. A full free trade area could have some disadvantages for Australian secondary industry because of the higher costs of producer goods and raw materials in Australia and the competition of third country suppliers in the New Zealand market for producer goods and raw materials. A compromise providing for a minimum margin of preference rather than a CET might be an acceptable solution.
• 1.20 In the short term the effects of removing internal trade barriers would be felt by industries producing goods in four trade categories: those on NAFTA schedules; those subject to Article 3:7 arrangements; those bilaterally traded outside of NAFTA; and those not currently traded because of import barriers. For the first category the effect could only increase the flow of trade because of the imposition of a CET and the elimination of import licensing and quotas. Goods subject to Article 3:7 arrangements could be affected to a greater degree. As a general observation, due to the weighted advantage that the current 3:7 formula has for New Zealand, Australian manufacturers could stand to make reasonable gains in this area. For goods currently traded outside NAFTA, or not currently traded because of import barriers, the introduction of free internal trade could be significant. Trade not covered by arrangements under NAFTA was approximately $240m or 25% of total trade in 1977/78.
• 1.21 Given the lower wage rates in New Zealand it can be expected that in such labour intensive areas as textiles and apparel the effect of a full free trade area or customs union would be to redirect industry concentration to that country with consequent extensive industry adjustment in Australia. The total effect, however, would be one of overall diversion of trade from cheaper third country sources, including ASEAN. It would therefore be necessary to review any policy for the restructured industries in the light of overall trade and industry policy objectives.
• 1.22 In the agricultural industries, a customs union would bring clear benefits to New Zealand in the dairy sector with some gain in minor industries such as vegetables and berry fruits. Australia would gain advantage in a range of important industries, including sugar, grains, wine and canned fruit as well as in a number of smaller industries such as citrus and tropical fruit. These judgements need qualifying because of the determining influence of factors such as single institutional buying and selling organisations, stabilisation and support programmes, etc. which need not necessarily be influenced by conventional rules applicable to a customs union.
• 1.23 In the major rural industries where there are already no barriers to trade between Australia and New Zealand, i.e. wool, beef and sheepmeat, the establishment of a full free trade area or a customs union between the two countries would be unlikely to entail significant costs or benefits for either country.
• 1.24 In the case of diary products there could be both significant benefits to the New Zealand industry and costs to the Australian industry in a full free trade area or customs union. Removal of the barriers that limit New Zealand exports to Australia or even their significant relaxation in the short or medium term could lead to an increase in imports from New Zealand that could undermine the current domestic pricing arrangements (especially for butter and cheese) in Australia and force a further significant contraction in an industry which has already undergone substantial restructuring over the past decade.
• 1.25 In the case of wheat the export orientation of the Australian industry requires significantly different marketing/stabilisation arrangements to the New Zealand industry which is oriented towards imports and increasing self-sufficiency. Absorption of New Zealand into existing Australian stabilisation arrangements could result in greater fluctuations of returns to New Zealand producers with possibly some reduction in New Zealand production given Australia’s comparative advantage in wheat production.
• 1.26 Similarly, New Zealand’s complete dependence on imports of sugar poses the question of how trade between the two countries would be fitted into a full free trade area or customs union arrangement given the administered domestic price system in Australia and the embargo on imports. There would be benefits to the Australian industry if New Zealand was absorbed into the Australian domestic stabilisation arrangements and the Australian domestic price applied to that market. Under circumstances of depressed world prices, however, this could result in New Zealand paying higher prices for its sugar and would create problems for New Zealand (and Australia) in its relations with Fiji.
• 1.27 Other smaller agricultural industries which could be sensitive from Australia’s point of view are frozen peas and beans, potatoes, mushrooms and berry fruits, but the gains to New Zealand and the losses to Australia would not be appreciable.
• 1.28 The broad conclusion which emerges from the preliminary analysis in this report of industry issues-rural and secondary-is that there are benefits in moving towards a full free trade area. It is possible to envisage a range of options which in toto would be more beneficial than present NAFTA arrangements but all involve governments being prepared to recognise that ‘losses’ in particular industry sectors would be involved.
• 1.29 In respect of energy, creation of a full free trade area or customs union would not have any direct effect on New Zealand’s situation in respect of petroleum imports but clearly the closer co-operation implied by such a development would indirectly strengthen Australia’s obligations.
• 1.30 In the short term there may be scope for co-ordination in petroleum product imports from the Middle East, etc. to reduce New Zealand’s supply vulnerability and/or scope for assuring New Zealand of some basic level of our domestic production at world parity prices in the event of any supply crisis. If New Zealand’s vulnerability to interruption of supply could somehow be mitigated, this would provide more time in which to formulate and execute a more comprehensive energy programme.
• 1.31 There are, however, many other areas of policy which would need to be harmonised in a customs union, including industries assistance policy, customs valuation, by-law policy, anti-dumping and countervailing, etc. To a lesser extent this would also be true of a full free trade area. From a preliminary examination it is apparent that significant differences exist between all the essential policies and practices of Australia and New Zealand required to be harmonised in a customs union.
• 1.32 In some areas events are taking place internationally and domestically which could smooth the way for harmonisation. These are the GATT Codes with respect to customs valuation and subsidies and countervailing practices, action in the Customs Co-operation Council with respect to tariff nomenclature harmonisation and the reference to the IAC on tariff simplification.
• 1.33 A full free trade area or a customs union between Australia and New Zealand would be substantially conditioned by the cost of shipping-the higher the freight rates, the higher the common external tariff which would be needed. In a situation of fast rising freight rates, the potential benefits of a union could be lost. In the favourable situation where shipping costs between third countries and Australia and New Zealand rise faster than those across the Tasman, trans-Tasman trade could be stimulated beyond what a customs union might generate by itself. At either extreme, the trends could be self-reinforcing.
• 1.34 Transport costs, in some cases as much as 27% of the cost of the goods, may therefore be a ‘make or break’ item. The existing service with its eight component parts is demonstrably below an optimal shipping service. Movement towards closer economic integration would provide a unique opportunity to negotiate rationalisation in a context of real prospects for increased cargo flows.
• 1.35 In approaching the foreign policy implications of closer economic integration between Australia and New Zealand it is assumed that the foreign policy of each partner will continue to be formally independent and distinctive in development, elaboration and performance. For convenience the analysis is conducted in terms of a full customs union. The experience of, for example, the Beneluxs5 partners and the members of the European Community has been that creation of a customs union has not lessened the scope for independent development and pursuit of foreign policy.
• 1.36 The effect of a customs union on bilateral relationships with third countries will depend on whether the common external tariff is perceived by third countries as lowering, maintaining or increasing the overall effective level of protection or not and, more generally, whether the union is perceived as conferring any benefits on third countries.
• 1.37 With regard to the Generalised System of Preferences (GSP) for Developing Countries, under a customs union the two systems would desirably be merged. Assuming the merger led to a net gain for developing countries, i.e. included all products on both lists at the most favourable rate of preference in an ANZ GSP, then this should be a helpful influence in the partners’ economic and foreign relations with developing countries.
• 1.38 The risk that ASEAN may perceive a customs union as a partial withdrawal from the region, a shoring up of a Western enclave and a symbolic retreat into the past of the two English speaking and wealthy countries in the South East Asian region seems slight and should be able to be minimised by well prepared and sensitive explanation of the rationale behind the move.
• 1.39 To the extent that a customs union strengthens the capacity of the partners to develop their market, then union should be welcomed by ASEAN and by the members of the South Pacific Forum. In respect of the latter, it may be desirable to head off misunderstandings in advance by envisaging an option of ultimate association, perhaps as a development of the proposed trade arrangements, and analogous to association status enjoyed by many developing countries with the European Community.
• 1.40 To the extent that a customs union strengthens the capabilities of Australia and New Zealand, then it may be expected that Japan, the United States and the European Communities would welcome such a move, but they may be expected to critically assess the implications for their economic interests, vigorously defend threatened interests and take full advantage of new opportunities.

[NAA: A1838, 370/1/19/18, iii]

• 1 The report contains 95 pages divided into twelve chapters and six annexes. Only the Summary of Conclusions is published here.
• 2 Article 3:7 allowed for the remission or reduction of duties on goods that were not duty free.
• 3 Schedule A listed items to be traded duty free between the two countries.
• 4 White Paper on Manufacturing Industry, 1977.
• 5 Belgium, the Netherlands and Luxembourg.