Prospects for Economic Cooperation in Northeast Asia

In contrast to developments in other world regions, efforts to institutionalize regional economic cooperation in East Asia have been weak. Though Southeast Asian economies have taken action toward trade liberalization (ASEAN Free Trade Area), the major economies of the region such as China, Japan and Korea have not been part of any formal trade groupings until recently. Ongoing economic cooperation in Northeast Asia has been exclusively informal, driven by market forces. However, given the slow pace of progress within AFTA and the importance of the Northeast Asian countries in terms of weight in the Asian economy, a de facto Northeast Asian economic cooperation is a necessary condition for an East Asian integration. This paper investigates the substance of current and prospective economic cooperation in Northeast Asia. The trilateral economic cooperation is analyzed through examination of trade and direct investment links in the 1990s and early 2000s. The analysis reveals an increasing trend of trade cooperation. Although intra-regional direct investment between the three countries is limited the increase is propelled by intra-regional trade. As Japan is the main investor in the region, this paper emphasizes the determinants of Japanese direct investment and provides an estimate of the impact of changes in the yen-yuan exchange rate and yen-won exchange rate on Japanese direct investment in China and Korea. This paper concludes from an analysis of the effects of the exchange rate on direct investment that Japanese direct investment has been largely driven by the yen appreciation and the growth prospects in recipient countries. JEL Classification: F14, F15, F21