In Northeast Asia, the economies of Japan, South Korea, and China have made themselves heavily dependent on each other, but there is evidence that such mutual dependence has been beneficial to them all. With the growth of their economies and after the Asian financial crisis in 1997, they are achieving closer and closer economic relations.
Geographically, these three economies are neighbors, with South Korea situated in the middle. Seoul, capital of South Korea, is located approximately at the midpoint of a line joining the capitals of the other two countries, Beijing and Tokyo. South Korea is separated from China by North Korea and is connected to Japan by the Sea of Japan. Economically, these three economies are on different development paths and at different development stages. Japan has the most developed economy, but the economy of South Korea, which took off in the 1960s after some drastic economic reforms, is quickly growing and catching up. China opened up its economy at the end of the 1970s, and since then its growth has been more than spectacular. It has maintained an annual growth rate of approximately 9 percent nearly every year. It is now one of the economic powers of the world in terms of many economic indicators, including gross domestic product (GDP), trade volume, and foreign capital inflows.
These three economies share a common feature: they are all outward looking and depend for growth on their economic relations with other economies. All are export oriented, with large shares of their domestic outputs destined to other economies. Japan is also a major capital exporter, and South Korea is taking a similar path. China is mainly on the receiving end of foreign capital, being the largest recipient of foreign direct investment among all developing countries.
It is thus no coincidence that these three economies have close ties: they trade heavily among themselves; and Japan and South Korea are sending capital to China, with many of their firms setting up subsidiaries or joint ventures in China.
Recently, with the rising interest in regional economic integration among many Asian economies, China, South Korea, and Japan have seriously explored the possibilities of closer economic relations and cooperation. Among the options they have studied, both individually and jointly, are the establishment of free trade areas (FTAs), including some with countries in other regions, such as FTAs with the members of the Association of Southeast Asian Nations (ASEAN). They have also examined the impacts and possibilities of forming FTAs among themselves, including FTAs comprising two countries (Korea-Japan, Korea-China, Japan-China) and an FTA for all three countries (Korea-China-Japan).
Although the details of each of these FTAs have to be worked out and approved, it is clear that FTAs would allow freer movements of most goods (and possibly capital as well) among member countries. Because of the sizes of these three economies and their trade volumes, any FTA formed among them would create a large economy and also make a large impact on their economies and the economies of nonmember countries.
The purpose of this paper is to examine some of the features of these three economies— how they are dependent on each other and the nature and possible impacts of various FTAs among the three. In particular, this paper will analyze these impacts from the viewpoint of South Korea. It will also investigate some of the options and strategies of South Korea in establishing economic integration in Northeast Asia. This paper will try to rank various FTAs in terms of the welfare impacts on the economy of South Korea.