Trade Trends Analysis: Why global FTA use is low

   And with increasingly complex supply chains, companies that do not fully utilize all of the FTAs available to them are operating at a competitive disadvantage. 

   It turns out most companies fit this profile. 

   In a recent survey by Thomson Reuters and KPMG, just 30 percent of trade specialists surveyed said their organization fully utilizes all of the free trade agreements available to it. This is a widespread, institutional failure of global companies to use what’s there for the taking to maximize profits.

   The survey found that full FTA utilization is highest in the United States, at 41 percent, and lowest in India, at 19 percent. The full findings of the survey were unveiled this November. 

   Failing to fully use all available FTAs leads to higher costs and lower exports. But the statistic on low FTA utilization has wider-ranging implications.

   The time and effort required to craft trade deals is too enormous for those deals to not be used to their fullest possible extent. As David Line, managing editor of the Economist Intelligence Unit, put it in another FTA utilization survey, “the low usage rates of many FTAs will be a concern for policymakers, who put massive effort into completing such deals. They will also embolden proponents of the WTO system and regional megadeals, who claim these are needed to simplify the ‘noodle bowl’ effect.”

   That survey, a look at how Asian companies use FTAs, found that FTAs do reliably boost exports when used. Their complexity, however, prevents companies from seizing and profiting from the opportunities they create: 44 percent of respondents had limited or no understanding of FTAs, while half said they want to know more but that there isn’t enough transparency around them.

   FTA usage is particularly complicated in Asia because there are so many overlapping FTAs in that region. Six Asian countries are party to 10 or more FTAs, and 12 are party to at least five. Asia is home to a great deal of intraregional trade, with the China-Plus-One strategy in full force among multinationals, as we highlighted in the August edition of American Shipper. Shipments from one Asian country to another—for example, sending batteries made in one country to another country to put in cars—may be covered by more than one FTA. And Asia’s FTAs have particularly complicated and varying rules of origin. 

   The theme of FTAs being overly complex or time-consuming to understand, however, holds steady outside Asia. Respondents to the Thomson Reuters/KPMG survey widely attributed the underutilization of FTAs to the process of identifying FTA-specific rules of origin or gathering related documentation, which are both time-consuming processes that trade specialists often perform manually. It can be difficult to sort out which FTA to use when business is done across borders of countries that are parties to multiple FTAs. 

   One feature of the Trans-Pacific Partnership, which has 12 parties, is a single rule of origin and accumulation rule meant to tackle this situation. It is a good starting point to simplify FTAs for importers and exporters, and if there’s any evidence that FTA utilization is increasing, the market may see a future focus on similar integration.

   Although 79 percent of respondents cited either complexity with rules of origin or difficulties gathering documentation as one of the primary roadblocks, more than half—59 percent—said their companies miss available FTAs because they lack the internal expertise to identify them or the personnel to manage their compliance. Nearly three in four respondents said the net effect of using FTAs is positive. 

   In other words, identifying and leveraging FTAs is rightly acknowledged as an investment, not an expense, and the problem isn’t with poorly designed FTAs, it’s with the internal processes required to benefit from them.

   The bottom line is that companies are struggling to create processes to comply with FTAs effectively, in terms of collecting, storing, and making searchable the origin documentation from their suppliers. Products that have many configurations, such as automobiles, or where multiple suppliers are customarily used for the same input, such as chemicals, can cause the origin determination to fluctuate from one production batch to the other. 

   These tasks should be outsourced to technology. Instead, they’re done manually at a surprising number of multinationals. When it comes to investing in enterprise software, global trade does oftentimes take a backseat to other departments that also have an obvious need. Simply showing an efficiency is not usually enough to gain priority over other projects that show tangible return on investment. 

   One step in the process of achieving more complete FTA utilization, then, may be to show management two related things: the company’s low FTA utilization rate and the potential ROI of FTAs themselves.

   FTAs can have very high ROI, as they often eliminate customs duties on many raw materials, therefore significantly reducing the cost of goods sold. And the larger the manufacturing volume, the bigger the savings. Most of the problems with FTA usage can be eliminated through automation, allowing companies to utilize FTAs with confidence, substantially reducing the risk of associated non-compliance penalties or disruptions.

   Given the high ROI for FTA use, it is typically easy to construct a business case for trade automation. Payback can often be measured in months, sometimes weeks.

   Ruda heads Thomson Reuters’ global trade management business, ONESOURCE Global Trade. He can be reached by email at taneli.ruda@thomsonreuters.com.