Japan's New TPP Energy

Japanese Prime Minister Shinzo Abe announced on Friday that his country wants to join negotiations for a Trans-Pacific Partnership (TPP) trade deal. For some clues to the significance of the move, it helps to look past the two most distracting elements of this story to some trends that lie beneath.

The first distraction is that a trade deal would probably have a major, and negative, effect on Japanese farmers. By the government's estimate, farm production could decrease by roughly 40% in value over the first decade, compared to total expansion in real GDP of 0.66%.

No wonder farmers are up in arms to defend import tariffs of 778% on rice, 360% on dairy products and so on. These tariffs protect woefully inefficient agriculture. Some 60% of the country's rice fields are less than half the size of a soccer field (0.3 hectares, to be precise), Nicholas Smith of CLSA notes in a recent report, and only 8% are larger than one hectare. Economies of scale are such that growing rice on a 15 hectare plot is less than half as costly as cultivating 0.5 hectares.

But demography will force efficiency even if competition from imports doesn't. Most Japanese farmers are elderly part-timers—the average age is 66 years old. As they exit the labor force, the lack of younger farmers to take their place will drive consolidation and with it, eventually, greater competitiveness. The only question is whether Japanese consumers should have to pay more for rice, butter and wheat in the meantime. Mr. Abe apparently believes that's a winnable argument, and the weekend's opinion polls in favor of his TPP move suggest he's right.

The other distraction concerns opposition from U.S. carmakers. The 2.5% and 25% tariffs the U.S. imposes on Japanese passenger cars and pickup trucks respectively remain significant barriers to imports, and the threat that TPP could eliminate those protections motivates much opposition to Japan's TPP entry in Washington.

All else being equal, Japanese automakers would benefit from the elimination of these hurdles. But already the Japanese have become adept over the decades at circumventing all sorts of protectionism. Witness the so-called transplants Japanese companies such as Honda and Toyota have built in the American South. Mexico, which hosts factories of all major Japanese carmakers, also offers preferential access to the U.S. market by virtue of the North American Free Trade Agreement.

Expect those overseas auto investments to continue, again because of shifting demographics back home. Japanese manufacturing employment is falling as companies are increasingly building plants offshore. While Japanese alarmists blame a lack of competitiveness, the fact is that Japan's working-age population is declining, and within that population the proportion of workers willing to do manual jobs is also falling. Mr. Abe may have scope to work around American auto protectionism.

Having dispensed with these distractions, one comes to the matter of what's really going on here. Two points present themselves.

Return to the overseas investment theme, which Mr. Smith of CLSA suggests is a significant underreported benefit of TPP. A broad-based, high-quality trade pact would not only eliminate tariffs on goods, it would also tackle issues such as intellectual-property protection and government procurement that can fuel investment. Japan's cash-rich companies, on the prowl for opportunities in economies that, unlike Japan's, are actually growing, see huge potential in TPP participants such as Malaysia or Mexico.

And above all, the mother lode is natural gas. One important event happened between the first speculation about Japan's entry into TPP back in 2010 and Mr. Abe's announcement on Friday: the March 11, 2011, earthquake and tsunami. The resulting disaster at the Fukushima nuclear plant led to a shut-down of the country's full nuclear power-generation capacity. Since then, Japan has been reliant on imported fossil fuels to meet its energy needs.

This has not been cheap. Last year, Japan paid around $16.70 per million British thermal units for liquefied natural gas, according to a recent Bloomberg report, some seven times the price in the U.S. Japan has been almost entirely untouched by America's shale-gas revolution, since the U.S. does not export LNG to countries with which it does not have trade agreements. Mr. Abe surely hopes that joining TPP will open the U.S. gas spigot.

That prompts a thought: If many were wrong about the strength of agricultural opposition to TPP in Japan, could many also be wrong about the source of industrial opposition in the U.S.? Recent evidence suggests that U.S. auto opposition to free-trade deals is not insurmountable. Detroit ultimately, albeit reluctantly, acquiesced to a U.S.-South Korea trade pact touching on similar issues of non-tariff barriers to trade that Japan raises.

Rather, the threat to watch may relate to LNG exports. Actors to follow are environmentalist among President Obama's left-wing base such as the Sierra Club, which opposes any LNG exports at all, and also groups such as America's Energy Advantage (led by Dow Chemical, DOW -2.45% Nucor NUE +0.13% and Alcoa AA -0.35% ) that oppose any LNG exports that might make America's unsustainably low domestic gas prices rise. How odd that after decades of obsessing over all the goods the Japanese wanted to sell to America, the next trade sticking point could turn out to be something they want to buy.

March 20, 2013

Source: Wall Street Journal