COMMISSION STAFF WORKING DOCUMENT

IMPACT ASSESSMENT REPORT ON EU-JAPAN TRADE RELATIONS

Accompanying the document

Recommendation for a Council Decision

authorising the opening of negotiations on a Free Trade Agreement between the European Union and Japan

TABLE OF CONTENTS

1. PROCEDURAL ISSUES AND CONSULTATION OF INTERESTED PARTIES

1.1. Organisation and timing

1.2. Consultation and expertise

2. PROBLEM DEFINITION

2.1. Introduction

2.2. The problem

2.3. The problem drivers

2.4. The need for EU policy intervention

3. OBJECTIVES

3.1. General objectives

3.2. Specific objectives

3.3. The EU's operational objectives

3.4. Japanese operational objectives

3.5. Consistency of the EU's operational objectives with other EU policies

4. POLICY OPTIONS

4.1. Policy Option A: No policy change (baseline scenario)

4.2. Analysis of a possible enhancement through sectoral agreements

4.3. Policy Option B: EU-Japan Free Trade Agreement

5. IMPACT ANALYSIS

5.1. Economic impacts of the different policy options

5.1.1 Option A: The baseline scenario

5.1.2 Option B: EU-Japan Free Trade Agreement

5.1.3: Sector specific analyses

5.1.3.1: Financial services sector

5.1.3.2: Business services sector

5.1.3.3: Motor vehicle sector

5.1.4: Impact on sectoral competitiveness

5.1.5: Impact on small and medium enterprises (SMEs)

5.2. Analysis of environmental impacts on the EU, Japan, and the world

5.2.1: Introduction

5.2.2: Analysis of the impact of the policy options on the climate and climate change resulting from CO2 emissions

5.2.3: Assessment of the potential impact of the policy options on biodiversity, natural resources and waste, and the environmental consequences for firms and consumers

5.3. The social impact

5.3.1: Overall increase of welfare for both the EU and Japan

5.3.2: Sectoral analysis of the impacts on employment

5.4 Analysis of the impact on Human Rights

5.5 Impact on administrative costs and mutual simplification benefits

6. COMPARISON OF THE DIFFERENT POLICY OPTIONS

6.1. Positive and negative effects of each option

6.2. Comparison of the effects of the different policy options on individual stakeholders

6.3. Summary of the effects of the different policy options in table form

6.4. Identification of a preferred option

7. MONITORING AND EVALUATION:

7.1. Core indicators of progress towards meeting the objectives

7.2. Monitoring and evaluation arrangements

GLOSSARY OF ACRONYMS

ANNEXES

ANNEX 1 || Executive summary of the complementary study assessing barriers to trade and investment between the EU and Japan

ANNEX 2 || The main aspects of the Computable General Equilibrium (CGE) Model

ANNEX 3 || The approach on non-tariff measures

ANNEX 4 || The current institutional framework for EU Japan bilateral relations

ANNEX 5 || Tables showing the economic impact of policy options

ANNEX 6 || EU Japan statistics

ANNEX 7 || Summaries of contributions to the Public Consultation on: ‘The future of EU Japan trade and economic relations’

1. PROCEDURAL ISSUES AND CONSULTATION OF INTERESTED PARTIES

1.1. Organisation and timing

The 2001 EU/Japan Action Plan – which set up the political and economic framework of the EU Japan bilateral relationship – is coming to an end in 2011 and has to be reviewed. The Japanese government has proposed to enter into a free trade agreement (FTA) with the EU.

The 28 April 2010 Japan-EU summit established a Joint High Level Group (JHLG) to identify "options for strengthening all the aspects of the Japan-EU relationship'. The JHLG reported to the summit held on 28 May 2011 with a full analysis of the current working arrangements, and the options open to the parties to enhance and improve their relationship.

At the 28 May 2011 Japan-EU summit the Summit statement concluded as follows:

" . . . Summit leaders agreed to start the process for parallel negotiations for:

· a deep and comprehensive Free Trade Agreement (FTA)/Economic Partnership Agreement (EPA), addressing all issues of shared interest to both sides including tariffs, non-tariff measures, services, investment, Intellectual Property Rights, competition and public procurement; and

· a binding agreement, covering political, global and other sectoral cooperation in a comprehensive manner, and underpinned by their shared commitment to fundamental values and principles.

Summit leaders decided, to this end, that the two sides would start discussions with a view to defining the scope and level of ambition of both negotiations. Such scoping would be carried out as soon as possible."

The summit statement echoed the conclusions of the European Council meeting of 25 March 2011, which referred to the 'potential launch of negotiations for a free trade agreement on the basis that Japan is willing to tackle inter alia the issue of non tariff barriers and restrictions on public procurement'.

The scoping exercise with Japan foreseen by the 2011 Summit in respect of a possible FTA/EPA is currently ongoing.

In advance of a decision to request a negotiating mandate, Commission services have undertaken an impact assessment of a possible FTA with Japan[1]. An impact assessment steering group (IASG) was created on 14 June 2010 for the purpose of this impact assessment and met on 24 June 2010, 29 September 2010, 14 January 2011, 18 July 2011 and 14 October 2011.

The decision of the Commission flowing from this impact assessment would take the form of a proposed decision of the Council authorizing the opening of negotiations, as well as the public legal act nominating the Commission as the negotiator on behalf of the European Union, accompanied by negotiating directives, which provide guidance to the Commission as negotiator subject to ongoing review within the Council of the progress of negotiations.

The scoping exercise currently underway is designed to test the extent to which the parties agree on the scope of coverage of an FTA and the degree of shared ambition concerning their priorities. As such, it is destined to give both sides some reassurance that the negotiations, once entered into, will produce results which are likely to fall within an acceptable range of outcomes.

The scoping exercise is independent of the impact assessment but it has nevertheless been informed by the findings of the latter. It will not in any event affect the EU's own assessment of its priorities. The Council's decision to authorize negotiations is likely to be taken only after the Member States can see that the scoping exercise provides this reassurance. The negotiating directives that will give guidance to the Commission as the EU's negotiator, will, however, reflect the EU's goals rather than the indications of potential outcomes that the scoping exercise may deliver.

1.2. Consultation and expert evidence

Several economic studies on barriers to trade and investment between the EU and Japan were already available when the impact assessment was launched. Ecorys, the Swedish Board of Trade, and Copenhagen Economics each had produced a study analysing the potential economic impact of further trade liberalisation[2].

DG Trade commissioned a complementary study that supported the impact assessment by supplying additional factual information and economic analysis. The contractor was requested to compare the results of the existing studies and explain the differences between their findings; to look in greater depth at barriers to trade and investment in Japan in certain sectors; and to assess the likely social and environmental impacts of trade liberalization between the two economies. An executive summary is set out in Annex 1 including a table comparing the three pre-existing studies

The complementary study considers two possible scenarios for closer trade and economic cooperation: a limited liberalization scenario in key identified sectors, and a more ambitious scenario involving widespread liberalization of both tariffs and non-tariff measures. In order to complement the previous studies it provides inter alia:

· an updated inventory of Japanese non-tariff measures,

· a more detailed analysis of the impact on trade and investment of the full removal of the cost of Japanese NTMs in the distribution (retail and wholesale trade), maritime transport, postal/courier services and business services sectors[3],

· an examination of Japanese tariff barriers which constitute market access priorities for EU industry[4],

· an analysis of the employment impact of trade opening between the EU and Japan,

· an analysis of the impact on CO2 emissions of a reduction of barriers to trade and investment between the EU and Japan.

The impact assessment has been prepared following extensive consultations with all interested stakeholders including representatives of civil society, industry and Member States. In addition, in the course of repeated and regular missions to Japan, DG Trade met a number of interested business organizations, such as the European Business Council in Japan, and other stakeholders.

An online public consultation was launched on 9 September 2010 on the DG Trade website and posted on "Your voice in Europe"[5]. It took the form of a web-based online questionnaire open to all interested parties. The consultation ran from 9 September 2010 to 5 November 2010 (with extensions granted in exceptional cases to stakeholders who requested them). In total, 87 exploitable contributions were received from representatives of industry and business associations, non-governmental organizations, trade unions, academic institutions, research centres, private companies and government departments.

The aim of the public consultation was to gather views and opinions from stakeholders on the future of the EU's trade and economic relationship with Japan. The responses to the online consultation have provided very useful information: in terms of the expectations of stakeholders concerning the economic relationship, as well as precise, detailed elements of a large number of issues. The summary of the results of the consultation exercise is set out in Annex 7.

The majority of respondents favour strengthened trade ties between the EU and Japan. In particular, many called for greater cooperation and economic integration via a comprehensive free trade agreement (sometimes labelled an "economic integration agreement"). However, European respondents tended to qualify this conclusion with the major caveat that, before the EU entered into negotiations for any such agreement, Japan should show goodwill by making progress on existing trade barriers.

In parallel to the online consultation, DG Trade organized or participated in a number of outreach activities designed to inform the public. First, two ad hoc civil society meetings took place in Brussels, on 8 June and 19 October 2010 respectively. Although the former was organized before the impact assessment process officially began and was only partially devoted to the future of EU-Japan trade, DG Trade used the opportunity to inform civil society about the upcoming public consultation.[6] The latter meeting was undertaken specifically with the aim of consulting civil society on the issue. The Commission presented an outline of current EU-Japan relations, and described recent developments which led Japan to advocate the negotiation of an advanced trade agreement with the EU. It also explained the reasons and aims behind the impact assessment process, and invited representatives of civil society to share with the Commission their views on what the priorities for future EU-Japan trade and economic relations should be. Many questions were raised and civil society representatives commented extensively on the issue. As a result, a number of opinions and recommendations were voiced about enhancing trade and investment with Japan, improving future bilateral cooperation, and tackling market access problems in various sectors more effectively.[7] These comments have been analysed and taken into consideration in the process of preparing the IA report.

In addition, DG Trade took part in the multi-sectoral social dialogue meeting on trade sustainability impact assessments and trade policy organised by DG EMPL on 15 October 2010. During this meeting DG Trade delivered a presentation on the public consultation procedure, and informed social partners about the ongoing online consultation process. Additionally, small and medium enterprises (SMEs) were informed about the public consultation through the weekly newsletter of DG ENTR, which is distributed to its network partners over the intranet.

DG Trade representatives also participated in a number of seminars and conferences dealing with EU-Japan relations, where they presented the Commission's views on the economic and trade aspects of the EU-Japan relationship. The events included a seminar[8] organized by the European Institute for Asian Studies; and the 13th EU-Japan Conference[9] organized by the Catholic University of Leuven and Brussels Free University, together with the EU-Japan Centre for Industrial Cooperation. Although not formally part of the IA process, these events supplied valuable information and insights on EU-Japan economic relations, and on the views of stakeholders in this respect. Their views have been taken into account, where relevant, in this IA report.

1.3. The opinion of the Impact Assessment Board

Following its hearing on 7 December the Impact Assessment Board delivered an opinion in favour of the impact assessment report but requiring a number of changes and additions to it.

This draft incorporates changes designed to take that opinion into account, notably by clarifying the nature of the Commission decision to be taken pursuant to the impact assessment, authorizing the negotiation of a Free Trade Agreement, and the relation between the process of impact assessment and the scoping exercise. The changes also clarify the area of public procurement, including the relation of possible FTA negotiations to the proposed horizontal initiative on access to third countries' procurement markets. The changes are intended to explain more clearly the various FTA scenarios, notably as concerns non-tariff measures, and to provide a clearer picture of the methodology and modelling choices leading to the estimated impacts. Within those estimates, varous effects have been clarified, notably the contribution of spill over effects and the impacts on certain sectors.

The revised draft also estimates the loss to the EU budget from the loss of tariff revenues following the implementation of an FTA but does not attempt to estimate increases in the EU budget arising from increases in GDP.

2. PROBLEM DEFINITION

2.1. Introduction

Both the EU and Japan are highly developed economies and major global traders and investors. The EU is the largest economy in the world, representing more than 25% of world GDP and 17% of world trade. Japan is the fourth largest national economy (the third largest national economy after the US and China) accounting for 8% of world GDP and 6% of world trade. Together, the EU and Japan account for more than 632 million people.[10]

The bilateral trade relationship between the EU and Japan is important for both partners. In 2011 the EU was Japan's third largest trading partner with 11.1% of trade in goods, while Japan was the EU's 7th largest trading partner with 3.6% of the EU's total trade in goods.

However, bilateral trade is in decline in both absolute and relative terms. The EU's exports of goods to Japan fell by 0.6% per annum over the 5 year period 2006/2010, while total exports rose by 3.8% over the same period. For Japan, exports to the EU fell by 3.2% per annum over the period 2006/2010, while Japan's total exports rose by 3.1% per annum[11]. The full figures for trade both bilateral and in a global context are set out in Annex 6. To confirm the longstanding downward trend, Japan's share in EU imports almost halved between 2000 and 2008 (from 9.3% to 4.8% of the EU total imports, and continued to fall thereafter. Likewise EU exports to Japan fell from 5.4% to 3.2% of total EU exports,

In 2010, the EU exported €18.3 billion of services to Japan, while imports of services from Japan amounted to €14.5 billion. EU exports of services to Japan declined slightly relative to total worldwide exports over the period 2008/3.8%, 2009/3.7% to 2010/3.5%. Japan accounted for just over 3% of the EU's total external trade in services[12].

EU outward FDI stocks in Japan grew at an average 5.5% over the period 2007-2010, amounting to 93.6 bn Euro in 2010. While this represented about 61.7% of total inward FDI stocks in Japan over the same period, it nevertheless amounts to only 2.3% of total EU outward FDI stocks (an average 3,592 bn Euro over that period). Moreover, FDI flows into Japan are generally considered very low in comparison with other developed economies and Japan was ranked the 6th most closed country in terms of restrictiveness of inward investment in the OECD's 2010 update on the FDI Restrictiveness Index.

Conversely, over the same period, Japanese outward FDI stocks in the EU, at an average of 127.3 bn Euro per year, represented around 4.8% of total EU inward FDI stocks (an average of 2,660 bn Euro a year over the period) and 25.5% of total Japanese FDI outflows (an average of 498.4 bn) over the period.

Thus, even a cursory examination of trade and investment figures points at a relative decline and at flows of both exports and FDI from the EU that appear not in line with the relative weight of the EU and Japan in the world economy.

A number of factors have contributed to the decline in trade and investment between the EU and Japan. One major factor is the rapid rise of emerging market economies in developing countries. In the last decade, the emerging economies of Asia and Europe have been growing faster than the EU and Japan. The increased competitiveness, output and increased export volumes of new emerging markets have altered the traditional configuration of world trade flows, by reducing the share of global trade taken by traditional developed economies such as the EU and Japan. Japan's trade has followed these developments with its exports, for example, to China, India, Korea and ASEAN growing significantly faster than exports to established markets such as the EU[13]. Likewise, China has just moved to become the EU’s largest trading partner, just ahead of the US, and is the EU’s fastest growing export market.

Rapid regional trade integration has also played a role. The EU's enlargement to EU 27 and the EU's Neighbourhood policy has affected trade with the enlarged EU's neighbours, in particular Russia and Turkey, which have become major trading partners for the EU. China and Korea have become much more important for Japan, with China moving into position as Japan's largest trading partner ahead of the USA. There has also been a rapid expansion of FTAs within Asia.

The question arises, therefore, of whether this trend results from objective circumstances that render it unavoidable, or alternatively, whether there is unfulfilled potential in EU-Japan bilateral trade and investment. The Japanese authorities appear to firmly believe that the latter is the case (as demonstrated by the clear policy choice to seek a FTA with the EU). From the EU’s point of view, the issue is rather more open, and it would be better framed as to whether the decline in bilateral trade ought to be attributed mainly to changes in global trade pattern or by disillusionment arising from the well-known difficulties in penetrating the Japanese market, or both.

Indeed, there are particular problems – some cultural, others structural – relating to trade and investment in Japan. In trade terms, a demanding consumer market with strong national preferences and tastes has rendered market penetration difficult. In terms of investment, historically, there has been a deep cultural aversion in Japan towards selling one's company; which made domestic mergers and acquisitions (M&A) rare and foreign takeovers almost unthinkable. In a similar vein, a cultural aversion to confrontation has made hostile takeovers rare. The continued existence of cross-shareholdings acquired and held on the basis of non-economic criteria restricts the amount of common stock available in the market. These factors have contributed to maintaining an imbalance in favour of Japan in respect of both trade and investment.

For many years Japan has enjoyed a strong trade surplus vis-à-vis the EU. At one level export-driven economies such as Japan generally have lower imports relative to GDP, and the particular macro-economic structure of Japan’s economy (with high savings and investments) must also be taken into account. By contrast, the EU market has always been relatively more open to imports.

Nevertheless, the fact that Japan's trade and current account surpluses have remained high since 1995 is also a reflection of continuing market access problems for foreign firms in Japan. Trade figures have become less imbalanced recently, but Japan continues to be a country where, because of specific structural features in the Japanese economy, trading and investment are often particularly difficult.

2.2. The problem

A. Bilateral trade is not fulfilling its potential

However, even against the background of the cultural and structural factors highlighted in the preceding section, both the economic studies and the public consultation underscored that bilateral trade volumes are not as large as could be expected between large developed economies, cited the need to revitalise bilateral trade between the EU and Japan, and highlighted a perception of considerable unrealised economic potential.

The European and Japanese stakeholders responding to the public consultation exercise conducted for this impact assessment towards the end of 2010 all voiced concern that the bilateral trade relationship is failing to deliver results that live up to its potential. Almost all the EU respondents indicated that the Japanese market offers significant potential and that business interests and opportunities are limited by barriers in a number of areas. Most of the Japanese respondents also indicated that Japanese business interests go beyond current trade flows with the EU. These business interests involve both trade (for a variety of goods and services sectors) and investment. Specific issues were raised in relation to interests and opportunities in the public procurement sector.

For example, the EU agro-food, dairy and meat sectors reported that the current combination of high import tariffs and low tariff-rate quotas is restricting their market share. The leather and sports goods sector highlighted interest and opportunities that are limited by tariff barriers. Japanese respondents stated that EU tariffs on a number of products, such as cars, parts and components, home appliances and agrochemical products, should be eliminated

The majority of respondents also pointed out that NTMs are the major barriers limiting existing interests and opportunities. The EU food, automotive, pharmaceuticals and medical devices sectors all stressed that current Japanese regulatory barriers limit their business interests and opportunities.

A similar message, of business interests, ambitions and potential higher than the current level of trade flows, has also emerged from other consultation exercises, such as those within the EU-Japan Business Round Table. In that context, inter alia, the vast majority of respondents from the pharmaceutical, medical devices, healthcare, telecommunications and railway sectors emphasize that tariffs and especially NTMs limit business interests to a level that is below their potential.

Expert studies have also noted that business interests and opportunities are limited by the current level of tariffs and NTMs, and have highlighted the opportunities that might exist for the EU pharmaceutical, medical devices, processed food, motor vehicles and transport equipment sectors[14]. The Copenhagen Economics (2009) study for instance highlighted that three quarters of the firms they had surveyed perceived the Japanese market as more difficult than other markets. For two thirds of these firms, the existing barriers reduce the variety of goods they supply to the Japanese market and increase the cost of exporting to Japan by 10 to 30 percent, depending on the sector. The studies further claim that Japan’s imports of services are below their potential; and services import penetration of the Japanese market is certainly low when compared to those of other developed countries. The degree of penetration of the Japanese market is particularly low in financial services and communications (telecommunications and postal) services as well as in business services, transport and distribution.

The public consultation exercise also revealed that Japan represents an investment destination of considerable interest for EU investors. That impression is combined, however, with perceptions of unfulfilled potential and of the need for the EU and Japan to improve the situation. Independent studies also underline the high potential for FDI in Japan – set against a low current performance

The public procurement market in Japan is another area where European firms report serious difficulties. Japan's commitments under the WTO Government Procurement Agreement provide a theoretical level of access, if falling short of that of the EU. However, the implementation of the commitments has been restrictively interpreted to further cut back access. Examples of difficulties in the Japanese procurement market include: (i) the lack of a central access point for information about public contracts; (ii) the lack of clarity and transparency about eligibility and award criteria; (iii) extensive use of single or restricted tendering; (iv) Japan’s “operational safety clause” has been used extensively to exclude foreign suppliers from even bidding for public contracts in the rail transport sector; (v) complex customer-supplier relationship requirements favour domestic bidders; (vi) new bidders may be deterred by requirements to demonstrate previous work carried out in the Japanese market, and previous experience of working with local partners. The Copenhagen Economics study referred to above confirm strong potential in Japan's public procurement market[15].

B. Why unfulfilled potential is undesirable

As highlighted in the document accompanying the Commission Communication "Trade, Growth and World Affairs", trade is a driver of prosperity[16]. Completing all ongoing free trade negotiations (DDA and bilateral agreements) would add more than 0.5% to EU GDP, and making further progress on services and regulatory issues with major trading partners could push this figure above 1% of EU GDP.

Thus globally, trade and investment are important for the welfare. Given that Japan represents 3.8% of overall EU trade, while the EU represents over 11% of Japan's overall trade (in 2010), the first consequence of unfulfilled trade and investment potential is a reduction of the possibility to increase the welfare of both sides. In addition, opportunities to increase the competitiveness and productivity of both EU and Japanese firms are lost. For example, opportunities for technology and knowledge transfer as well as research cooperation are limited in the absence of more intense trade and investment flows; and as a result, potential gains in competitiveness and productivity resulting from cooperation between two highly developed industrial economies with high levels of research and development are lost.

Accordingly, failure to harness the full benefits derived from trade and investment to economic growth must be considered to be another undesirable consequence.

C. The consequences of restricted access and choice for consumers

The Commission Communication "Trade, Growth and World Affairs" highlighted that trade brings a wider variety of goods and services to consumers and to companies, at lower prices. Consumer benefits alone are estimated at 600 Euro per year[17]. In the current state of affairs, both EU and Japanese consumers are deprived of the opportunities flowing from a wider choice of goods and services. For example, trade in the least environmentally harmful motor vehicles seems to be far below its potential. In a similar vein, consumers are deprived of choice and access to the latest technologies and treatments – for example, Japanese consumers in the healthcare sector. Moreover, EU and Japanese consumers face higher prices because of the reduced competition resulting from limited trade flows. NTMs identified in the expert studies increase the cost of exporting to Japan by 10% to 30%, depending on the sector. This in turn affects consumers and firms who pay the costs for many of these measures in terms of higher prices, reduced competition, and limited access to capital, know-how, or skilled labour.

D. Lost labour and welfare benefits

Stagnating bilateral trade and investment undermine the productivity and competitiveness of firms in the EU and Japan, and result in lost opportunities to capture labour and welfare benefits for both their citizens. 7.2% of EU employment depends directly or indirectly on exports. When all trade effects are taken into account (exports, imports, productivity and efficiency gains, income effects, etc), around 18% of EU labour force (36 million jobs) is dependent on our trade performance. Trade also generates a wage premium estimated at 7%. This figure results from a CGE model simulation aimed at quantifying the wage premium arising from the current EU trade patterns, which estimated that the average wage in Europe would be 7% lower if the EU did not trade internationally: see Commission staff working document "Trade as a driver of prosperity".The existing trade barriers depress wages for both lower-skilled and higher-skilled workers in the EU and Japan, and reduce output and growth. Opportunities to create new jobs are lost, and existing employment may also be threatened.

The underlying causes behind trade and investment flows between the EU and Japan being well below their potential are analysed more in detail in 2.3. The charts on the following pages relate the problems identified to the underlying causes, grouped thematically; and to the actual or potential consequences for both the EU and Japan, in the form of a 'Problem Tree'.

2.3. The problem drivers

There are a number of underlying drivers and factors contributing to the trade and investment landscape between EU and Japan. They can be grouped in two main categories: those that might be addressed by trade policy or domestic reforms, and those that are less likely to be affected by such measures.

In the former group are factors that cause trade to fall below its potential. In the latter group there are factors such as geographical distance, language/communication problems, consumer attitudes and preferences, and cultural differences, which contribute to determining the extent of the potential for trade.

The group of drivers susceptible to change through trade policy and/or domestic reform (which, in turn, may be prompted or facilitated by trade policy and trade agreements) is comprised of tariffs, non-tariff measures and, more generally, discriminatory or excessively burdensome features of the regulatory environment, which affect trade in both goods and services as well as investment and public procurement. Differences in regulatory approaches, particularly when the same regulatory objective and similar levels of protection of the public interests at stake are sought, is also an issue as these differences raise both the cost of compliance for business and the cost of enforcing regulations for public authorities at large to an unnecessary extent.

a) Tariffs

In general, both the EU and Japan have low tariffs on goods, with simple average MFN tariff rates of 3.8% for both partners. The trade-weighted tariff protection in Japan for EU exports is 1.7%, while the trade-weighted tariff rate for Japan’s exports to the EU is 3.4%.

Nevertheless, Japan's tariffs remain very high in the agricultural and processed food sectors and for beverages, in which the EU is a major global exporter. Japan's trade-weighted tariff on European food and beverage exports is on average 34.7%, with several tariff peaks above 500%; while the EU's trade-weighted tariff for Japan's exports in the sector is on average 12.4%. However, apart from the processed food sector, average tariffs applied to other principal EU exports are generally very low.

In contrast, EU tariffs applied to the main Japanese export sectors are higher, with the 8.66% average tariff for motor vehicles as the most visible example. In fact, the bulk of Japanese exports to the EU is concentrated in a small number of manufacturing sectors, mainly motor vehicles, electronics and machinery). It is not surprising therefore that Japan's offensive interests tend to focus on the elimination of tariffs. This issue has become a pressing matter for a number of Japanese exporters ever since the signing of the EU-Korea FTA, given the similarity in trade patterns towards Europe and the competitive relationship between Japanese and Korean exporters.

It thus becomes clear that EU tariffs drive the main problem for Japan, whereas Japanese tariffs do not drive the main problem for the EU as a whole, except in some product areas where the problem is more acute. However, the elimination of tariffs in Japan would allow EU companies to better integrate into the Japanese market and exploit regional integration, by avoiding barriers in the overall sourcing and supply chains in the region. As Japan continues to outsource production within the region this aspect may become more important also for EU companies active on the Japanese market.

b) Non Tariff Measures (NTMs) [18]

b.1) In Japan

Japanese non-tariff measures constitute a leit motif in the factors identified as most impeding trade between the EU and Japan, whether in studies, surveys or by way of anecdotal evidence. NTMs exist across the board.

Several sectors of the Japanese market are almost totally closed to EU exports. This is the case for some agricultural products (e.g. beef) but also for certain types of transport equipment and aeronautic products. The motivations and instruments differ from one case to another, but with protection of domestic economic interests appearing to be paramount, accompanied in a number of cases by distrust of foreign practices and privileged relations with certain third countries, notably (for political reasons) the US.

EU exporters to Japan are confronted by distorted market prices in the agricultural sector due to Japanese price support, which is twice the level of the OECD average. In addition, state-trading activities regulate the import and distribution of leaf tobacco, rice, wheat, barley, and milk products; and prices for these goods tend to be higher than world prices. Opiates are also subject to state-trading.

Divergent standards and technical requirements – as well as other regulatory and administrative issues, both at the border and beyond – also limit current trade flows. They significantly increase the cost of compliance, and therefore of doing business. Respondents to the public consultation further report that unpredictable interpretation of the relevant regulations by authorities creates additional uncertainty for foreign companies.

A recent study examined 194 individual NTM issues in various sectors[19]. The most costly barriers stem from the dissimilarity of the regulatory structures in the EU and Japan, and include:

· Divergent technical standards and regulations, and a lack of harmonization with international standards,

· Complex, cumbersome and lengthy procedures (especially for conformity assessment), and problems with mutual recognition,

· A regulatory environment in Japan in services sectors and for FDI which results in relatively weak competition and a dominant position for incumbents.

The public consultations and the expert studies also highlight the lack of transparency in public procurement, and particular problems relating to IPR, as two other important sets of non-tariff barriers that make the Japanese market effectively inaccessible for EU companies.

Seven business sectors that cover the bulk of EU exports to Japan are those most affected by existing NTMs: chemicals (including pharmaceuticals), automotive, medical devices, processed foods, transport equipment, telecommunication and financial services.

In particular, as far as the goods sector is concerned: (i) EU pharmaceutical exports are severely impeded by a complex and costly regulatory environment, as a result, exports to Japan have grown much more slowly than those to other markets; (ii) the automotive sector suffers from divergent technical standards and regulations, as well as from differences in conformity assessment procedures; (iii) medical devices from the EU are restrained by costly and cumbersome procedures that affect the process of launching new products on the Japanese market; (iv) processed foods suffer from high costs for EU exporters, because of the combination of differences between EU and Japanese standards and technical requirements, as well as cumbersome border procedures.

There are substantial barriers in the services sectors as well. The results of the public consultation highlight the fact that providing services in Japan is – as a general rule – fraught with restrictions, delays, and inefficiencies. Local governments often impose their own procedures and/or their own interpretation of regulations, giving rise to discriminatory rules vis-à-vis foreigners or visibly preferential treatment for local service providers. Attractive sectors in Japan, such as financial services (in particular insurance and banking) and telecoms, remain relatively closed to EU investors because of the anti-competitive behaviour of dominant players and an insufficiently robust competition policy.

Other specific grievances raised by EU exporters include the non-transposition by Japan of most UN-ECE agreed standards as well as the absence of recognition of international accreditation systems more generally, thus depriving EU exporters of the possibility of simpler recognition procedures where the EU relies on such standards and avails itself of such systems of accreditation.. EU exporters also complain about slow and complex product approval systems and insufficient use of regulatory impact assessment. And Japan’s "public comment procedure" may not provide sufficient time for international consultation on regulatory proposals that will have an impact on trade.

NTMs may also create a formidable barrier to FDI, and service sectors are prominent among those most affected. Examples include: (i) in general, the entry of foreign workers is severely restricted; (ii) there is a requirement for prior approval of FDI in sectors where there is (a risk of) a significant adverse effect on smooth management of the national economy, and in other sectors on grounds of public order, public safety, and national security; (iii) there are a number of regulatory barriers to entry in network industries (including gas, electricity, rail, airlines, and post); (iv) the effectiveness of Japan’s “triangular merger” scheme[20] is undermined by rules governing the deferral of capital gains tax.

There are also significant barriers resulting from Japanese NTMs in the area of public procurement which can be grouped into four categories: limited coverage under the WTO Government Procurement Agreement (GPA), leading to restricted access in some strategic sectors; obstacles due to restrictive interpretations by Japan of its GPA commitments, such as the operational safety clause in the railway sector; difficult access to notices on calls for tender, due to the absence of a single point of access; and procurement practices that confer advantages for domestic suppliers.: see also Chapter 2.2 A.

b.2) In the EU

Japanese firms also face non-tariff barriers in Europe as a result of our regulatory environment and technical standards. In relation to the regulatory environment, Japanese companies point to differences between the EU and Japanese regulatory systems (e.g., for drug labelling, registration systems for medical devices, or systems for certification of industrial products). They also complain of insufficient bilateral consultation with the Japanese authorities when the EU introduces or changes these systems. They argue that there is insufficient regulatory cooperation between European and Japanese authorities (for example on recognition of professional qualifications, on validity of practice permits, on bilateral patent cooperation), as well as insufficient cooperation between competition authorities for investigation matters.

In relation to technical standards, Japanese authorities refer to a lack of mutually accepted standards (e.g. concerning automobile parts, electric vehicles, lithium-ion cells, chemicals, or the nutritional constituents of food with health-promoting benefits). And once again, they complain of the absence of bilateral consultation with Japanese authorities when the EU introduces or changes its standards.

The Japanese authorities complain about a number of non-tariff barriers in the EU’s public procurement market, including payment delays in procurement procedures, de facto and de jure barriers such as “one package” procurement, divergent standards on technical specifications and administrative procedures, and a lack of transparency as well as de facto barriers in the railway sector.

More details on the identification of the NTMs and their trade cost is provided in Annex 3.

2.4. The need for EU policy intervention

The main objective of policy intervention would be to create more favourable conditions for trade and investment between the EU and Japan. Such objectives can theoretically be attained by both ad hoc policy intervention or by the use of comprehensive trade instruments such as deep and comprehensive FTAs.

EU policy, confirmed by political statements such as that at the European Council on 25 March 2011[21], favours deep and comprehensive FTAs, if the right conditions can be met. As referred to in Chapter 1, at the 28 May 2011 Japan-EU summit, Summit leaders then agreed to start the process for parallel negotiations for such and FTA between the EU and Japan together with a binding agreement covering political global and other sectoral cooperation in a comprehensive manner.Trade policy and the negotiation of international trade agreements are areas of exclusive EU competence pursuant to Article 207 of the Treaty on the Functioning of the European Union, which states that the European Parliament and the Council, acting by means of regulations in accordance with the ordinary legislative procedure, shall adopt the measures defining the framework for implementing the common commercial policy.

Thus, the principle of subsidiarity does not apply in this case. The proposal complies with the principle of proportionality, because even the most far reaching options do not extend beyond fulfilment of the stated policy objectives. These matters are more fully covered in the assessment of policy options.

3. OBJECTIVES

3.1. General objectives

In line with the Treaties, the overall objective of EU policy as regards economic and trade relations is to

· enhance and further develop bilateral trade,

· progressively abolish existing restrictions on trade and foreign investment, and

· to lower customs and other barriers.

The general objectives of European trade policy therefore include:

· promoting smart, sustainable and inclusive growth through the expansion of trade[22].

· the creation of job and labour opportunities and welfare gains[23].

· lower consumer prices and other consumer benefits.

· improving Europe’s competitiveness in global markets.

3.2. Specific objectives

In respect of future EU-Japan economic and trade relations, the EU’s general policy objectives set out above would translate into:

· Increasing the volume of bilateral trade in goods by reducing barriers

· Increasing the volume of bilateral trade in services by reducing barriers

· Increasing investment flows between the EU and Japan by reducing barriers

· Achieving balanced access to the government procurement markets of both parties[24].

3.3. The EU's operational objectives

Based on the expert studies and the public consultations, a number of more specific operational objectives that flow from these aims are identified and described below. Understandably, they reflect primarily the European perspective; however, this section concludes with a brief outline of perceived Japanese objectives. The operational objectives indicate the specific areas in which negotiations are likely to be concentrated, the results of which negotiations will then provide the basis for the improvements calculated by the study in terms of aggregated tariff costs.

(a) As regards trade in goods, we should aim to eliminate tariffs to begin with.[25] This would be particularly significant for those sectors (i.e., processed foods, agricultural products, motor vehicles) where tariffs still constitute a substantial barrier to trade. More importantly in this particular case, we should aim to eliminate non-tariff barriers, in particular those that discriminate against EU exports and those that are associated with excessively cumbersome regulation.

To the extent that non-tariff barriers stem from legitimate, non-discriminatory and proportionate regulatory measures, and from unavoidable differences in the regulatory environment, we should aim to eliminate or reduce as many of the existing differences as possible in order to limit the trade costs associated with them, making potential use of a number of methods, which are not mutually exclusive. These include the convergence of Japanese standards with international standards, the harmonization of standards and technical regulations between Japan and the EU and/or mutual recognition and equivalence of standards and technical regulations.

(b) With regard to trade in services, we should aim at:

· Effective opening of key services sectors to European providers, including through addressing all kinds of non-tariff barriers, as described above for trade in goods;

· Ensuring more open competition and establishing a level playing field for EU industry in the services sector, especially with regard to existing regulatory barriers;

· Ensuring effective national treatment and non-discrimination;

(c) In general, concerning both trade in goods and services, another important objective is to encourage Japan to improve the transparency of its regulatory system, as well as to implement simpler, more flexible administrative procedures and to provide a mechanism that prevents the emergence of new non-tariff barriers.

(d) The operational objectives as regards investment are similar to that for trade in services and entail inducing Japan to address regulatory measures which create de jure or de facto barriers for EU investors. In particualr, we should aim to:

· Provide better market access and effective non-discrimination both before and after establishment;

· Eliminate all quantitative limitations on EU investment, eliminate investment controls based on unclear and excessively wide definition of the national interest, and ensure as transparent as possible an application of controls such as those based on national security considerations;

· Persuade Japan to implement regulatory reforms designed to facilitate cross-border mergers and acquisitions;

· Persuade Japan to fully implement the Five Recommendations toward the Drastic Expansion of FDI in Japan promulgated by the Japanese Expert Committee on FDI promotion[26].

(e) Furthermore, in order to facilitate cross-border flows of services and investment, another aim should be to persuade Japan to carry out a process of reforming and strengthening its competition law. In this context the EU should aim to:

· Persuade Japan to strengthen its antitrust rules and their enforcement;

· Encourage more co-operation and co-ordination in competition matters between EU and Japanese authorities.

(f) Linked to this topic is the issue of corporate governance in Japan. In this regard, the EU should aim to persuade the Japanese authorities of the need to:

· Encourage transparency about Japanese companies' practices for blocking hostile takeovers;

· Introduce the possibility for a company's shareholders to reverse decisions taken by its board on takeover bids;

· Require shareholder consent for other decisions concerning company ownership.

(g) Finally, in respect of public procurement we should aim to improve EU firms' access to public procurement opportunities in Japan inter alia by:

· Persuading Japan to progressively eliminate trade barriers to cross-border procurement, particularly as regards tendering, by using international standards and best practice;

· Persuading Japan to put in place unified challenge procedures;

· Ensuring that Japan grants access to procurement information relating to all Japanese procuring entities via a central portal;

· Eliminating market access restrictions in the railways sector related to excessive use of the Operational Safety Clause;

· Ensuring compatibility between the EU's and Japan's e-procurement systems.

3.4. Japanese operational objectives

Keeping in mind that the bulk of Japanese exports to the EU is concentrated in a small number of manufacturing sectors, mainly motor vehicles, electronics and machinery, it is clear that there are substantial gains to be had for Japan from a removal of tariffs in these sectors.

Japan's offensive interests therefore tend to focus on the elimination of tariffs, particularly in the car, components and electronic sectors, because such tariff elimination would constitute a major part of the gain from an FTA[27] .

As regards Japan's other objectives, a substantial number of issues can be identified from ongoing bilateral dialogues and exchanges of documents. The list of major items requested by Japan for the enhancement of bilateral trade and economic relations includes inter alia the following points:

· To further liberalise trade in services beyond the commitments in GATS;

· To introduce rules of origin better suited to current industrial conditions and practice;

· To establish a committee through which Japan could participate in the EU's process for setting standards, norms, and systems in a variety of fields[28];

· To establish mutually acceptable standards in the automobile sector, through prior bilateral consultations;

· To realize further simplification and acceleration of EU customs procedures;

· To aim for systematic harmonization of various regulations and systems regarding the distribution of pharmaceuticals within the EU, especially as regards labelling, while providing the Japanese authorities with consultation opportunities;

· To aim for unification of registration systems for medical devices within the EU, while providing the Japanese authorities with consultation opportunities;

· To ensure that Japanese nationals employed in the EU (including intra-corporate transferees, as well as their family members) enjoy a status equivalent to that of EFTA nationals employed in the EU and their family members;

· To introduce mutual recognition of professional qualifications, in particular for accountants, tax consultants and patent agents, and a unified practice permit valid in all EU Member States;

· To promote a more flexible implementation of regulations pertaining to chemicals, while ensuring clarity, fairness and international harmonization;

· To establish EU patent and an EU patent court, and to promote bilateral patent cooperation, as well as to expand the EU’s grace period;

· To improve certain aspects of cooperation between the EU and Japanese competition authorities on investigation matters;

· To deepen bilateral cooperation in the field of environment and energy, in particular as regards standards and norms, and more specifically to collaborate on standards pertaining to electric vehicles and lithium-ion battery cells;

· To unify systems for the certification of industrial products.

In addition, Japan's particular objectives concerning government procurement can be summarized as follows:

· Implementation of legislation to combat the practice of late payments in government and commercial transactions;

· Lifting of specific de facto and de jure barriers to non-EU companies' participation in the bidding process (such as “one package” procurement, or strict requirements for bidders to be locally incorporated companies);

· Acknowledgement of the equivalence of EU and Japanese standards for government procurement purposes (for example, in connection with requirements for the use/supply of specific equipment manufactured in the EU, and in relation to quality assurance).

· Simplification of administrative procedures related to the government procurement bidding process (for example reducing the amount of documents required to participate in the bidding process).

3.5. Consistency of the EU's operational objectives with other EU policies

The EU’s operational objectives described above are fully consistent with, and indeed stem from the principle that the European Union should "encourage the integration of all countries into the world economy, including through the progressive abolition of restrictions on international trade"[29].

The EU's operational objectives are also in line with the Europe 2020 Communication which announced that the European Commission would draw up a trade strategy in 2010 including "proposals for high-level strategic dialogues with key partners, to discuss strategic issues ranging from market access, regulatory framework, global imbalances, energy and climate change, access to raw materials, to global poverty, education and development" and referred to deepening the Union's relationship with Asia and, in particular Japan.

Accordingly, the Communication on Trade, Growth, and World Affairs highlights the priority of "finalizing all the ongoing negotiations (…) and making significant further progress in our relations with strategic partners." [30] Japan is considered as one of the EU's top strategic economic partners, with which deepening bilateral economic, trade and investment links is stressed by the Communication as being of major importance.

The Communication, while placing the multilateral process of negotiation, and particularly the successful conclusion of the WTO Doha Development Round, as the EU's primary policy, also recognizes the importance of deep and comprehensive FTAs. In addition, the latter can also usefully reinforce the benefits to be derived from the multilateral process, in particular by providing improvements in trading conditions, not just for the bilateral partners to an agreement but also by providing benefits via most favoured nation treatment to other WTO members, where this results from the agreement in question..

The EU's operational objectives within the negotiations for an FTA also allow for appropriate coverage of the trade related parts concerning the environment and sustainable development. They will thus also comply with the principle stipulating that the Union's policies and actions should "help develop international measures to preserve and improve the quality of the environment and the sustainable management of global natural resources, in order to ensure sustainable development"[31] in the manner set out in section 5.2.

4. POLICY OPTIONS

With a view to attaining the objectives set out in Chapter 3, this chapter outlines different scenarios: (a) a baseline scenario envisaging modest progress under a framework similar to the current one; (b) an ambitious scenario involving negotiations for a comprehensive EU-Japan FTA, which consists in fact of four scenarios – two 'conservative' and two 'ambitious' – that vary on the extent to which the cost of Non Tariff Measures (NTMs) can be removed; the chapter also briefly analyses an alternative option (the possible enhancement of the relationship through sectoral agreements) that was originally considered, but which has been shown by now as not being practicable .

In fact, a comprehensive EU-Japan FTA was indicated as the option of choice of the EU and Japan by the decision taken at the 28 May 2011 summit to begin the process towards FTA negotiations, provided that the right conditions for this could be created.

The impact assessment carried out in section 5 of the report will assess the opportunity and feasibility of these various options with a view to providing clear indications on what should be the best direction for enhancing the EU- Japan trade and economic relationship.

It is foreseen that in the coming years both the EU and Japan will probably conclude a number of FTAs with third countries. In particular, the agreements that the EU is currently negotiating with other trade partners (Canada, India, Mercosur and ASEAN countries) or has recently finalised (e.g. the EU-Korea FTA came into provisional application on 1st of July 2011) have been taken into account. The different scenarios are analyzed under the assumption that the Doha Development Agenda will be successfully concluded. However, wherever relevant, available data on bilateral trade liberalization starting from the current situation (that is without the impact of a future DDA deal) have been included and considered.

4.1. Policy Option A: No policy change (baseline scenario)

The first option would be to continue to operate under a framework similar to that found in the current 2001 Action Plan. This would entail maintaining the on-going bilateral economic dialogues and business cooperation programmes, such as the Regulatory Reform Dialogue, and the High Level Trade Dialogue and other sectoral bilateral dialogues (e.g.: Industrial Policy Dialogue, Financial Services Dialogue, IP Bilateral Dialogue), with possible incremental improvement of their functioning and effectiveness.

Under this scenario, the EU would also pursue cooperation in the sectors where the parties have already signed agreements. In this respect, the most important bilateral agreements include: the 2001 Mutual Recognition Agreement, the 2003 Agreement on Cooperation on Anti-competitive Activities, the 2008 Customs Cooperation agreement, and the 2011 Science and Technology Agreement. The coming years would possibly bring further improvements in the implementation of these agreements.

However, given the very limited results achieved so far under the Regulatory Reform Dialogue and other bilateral dialogues it is reasonable to assume, that – in relation to reducing NTM trade costs – any effects achieved under this option would be marginal and would not translate into substantial growth of bilateral trade and investment volumes. Thus, no significant GDP gains could be expected in either the EU or Japan. While there might eventually be some progress with regard to the elimination of trade barriers, any such progress is likely to be slow and limited.

Thus the analysis of this baseline scenario is essentially based on the developments in the bilateral economic relationship that are likely to be generated by the evolution of the EU and Japan's economies as well as by the global economic situation.

4.2. Analysis of a possible enhancement through sectoral agreements

Within the process of an impact assessment of future EU-Japan economic and trade negotiations, the possibility of enhancing current relations purely through sectoral agreements was also considered.

Such an enhancement would have revised the current bilateral framework in order to set up more action-oriented objectives and to focus on actively pursuing the elimination of non-tariff measures that have the biggest impact on trade and investment (in particular, divergent standards, technical regulations and conformity assessment procedures).

In principle, a new EU-Japan framework along such lines could be adopted. This could take the form of a legally binding or a non-binding document, covering political and trade issues. This would entail maintaining the on-going bilateral economic dialogues, as described in the previous option, but at the same time would mean redesigning and refocusing them substantially in order to improve their effectiveness. Additional sectoral or "thematic" agreements of the kind mentioned under Part 4.1 could then be negotiated within this framework. This scenario was examined, in particular, by the Joint High Level Group set up by the 2010 EU-Japan summit.

However, this potential scenario was effectively discounted by the parties by their decision at the EU-Japan summit on 28 May to begin procedures for possible negotiation of two parallel agreements, comprising an FTA and a framework agreement, with no other alternatives in mind. As regards trade and investment relations, Japan had indicated in advance of the summit (including in the Joint High Level Group) that it was only prepared to negotiate an FTA, presumably because other alternatives would have focused largely on EU priorities with no possibility of lower tariffs in key sectors.

Given that the operational objectives of both parties can only be achieved by mutual cooperation and collaborative decision-making, any scenario discounted by Japan because it does not address key Japanese operational objectives cannot be considered a realistic policy option.

4.3. Policy Option B: EU-Japan Free Trade Agreement

Under this option, the EU and Japan would enter into negotiations for an EU-Japan Free Trade Agreement (FTA). In keeping with established policies both in the EU and Japan, such an agreement would be of a deep and comprehensive nature, and would involve, inter alia, a major effort to eliminate all tariffs, as well as liberalization of trade in services under the conditions of Article V GATS and liberalization and facilitation of investment flows in both services and non-services sectors. A key component of such an FTA would have to be to address a critical mass of identified actionable NTMs, and achieve their elimination or at least a substantial reduction of their cost for traders and investors. Under this option, the analysis looks at four different possible scenarios proposing different degrees of trade liberalization: two “conservative” and two “ambitious” scenarios, with a “symmetric” and an “asymmetric” scenario in each case.

This selection of conservative and ambitious scenarios concerning cost reductions relating to NTMs is intended to provide a range of results in possible negotiations. The selection of 20% and 50% cost reductions was made to provide, at the lower level of 20% NTM cost reductions, a minimum substantially below the results in fact achieved in the negotiation of the EU/Korea FTA, while, at the upper level of 50% cost reductions, assessing the potential of what would amount to a very ambitious outcome concerning NTMs. Since results within this range are consistently positive, varying only in the degree of overall gain, the report provides an assessment of a range of potential outcomes within which it can be seen that a positive result will be achieved[32].

The selection of symmetric and asymmetric scenarios has been chosen to provide a more complete view of the ambitions and objectives of both parties. The symmetric scenarios provide a theoretical view of complete parity. The asymmetric scenarios recognize that while the reduction of the burden caused by NTMs is one of the EU's main priorities, Japan's main priority is undoubtedly EU tariffs in a number of key sectors for Japan. The EU would be bound to place much greater emphasis on reduction of NTM costs, and a degree of asymmetry may well be required to achieve an acceptable balance of the eventual negotiated outcome. In the asymmetric scenarios examined here, only one third of the amount of reduction in the cost of NTMs on goods that would take place on the Japanese side is assumed to take place on the EU side.

Thus the asymmetric scenarios are designed to approach more closely the actual negotiating priorities of both sides, where EU priorities on the one hand, notably the reduction in the negative trade effects of Japan's NTMs, will be negotiated against Japanese priorities on the other, notably EU tariffs. Although the symmetric scenarios show a greater overall increase in welfare, only a portion derives directly from changes to the bilateral relationship; a substantial portion results from the spill-over effects. The symmetric scenarios provide a clear picture but do not fully reflect the parties' priorities, e.g. by implying that the EU would effect 20% and 50% cost reductions in EU regulations affecting trade, in circumstances when Japan's priorities lie mainly elsewhere. In reality, it seems unlikely that the FTA negotiations will provide the platform for the extensive discussion which would be needed for major changes to EU regulatory policies.

The first two scenarios envisage a "conservative" FTA with a reduction of the cost of NTMs of 20%. The first of these scenarios calls for an asymmetric reduction of the cost of NTMs in the EU and Japan, while the second analyses the effects of a symmetric reduction. The conservative scenarios are based on more modest achievements in reducing the costs of NTMs, and would correspond in some respects to older EU FTAs and also tend more to the somewhat lower levels of ambition shown in Japanese FTAs to date.

The remaining two scenarios call for a full-scale FTA with a reduction of NTMs of 50%with the first of these scenarios involving an asymmetric reduction of NTMs, and the second a symmetric reduction. The upper band of 50% is in recognition that not all the cost of NTMs can or will be removed by way of trade negotiations and provides a working hypothesis for an ambitious scenario[33].

This second pair of scenarios envisages that the parties would negotiate an agreement in line with the new generation of trade agreements that the EU is currently negotiating with trade partners such as Canada. While not fundamentally different from the FTAs that Japan has concluded in recent years, EU trade agreement nevertheless differ from them in terms of scope and level of ambition. A comprehensive EU-Japan FTA would thus have to cover a higher number of market access issues of interest to both parties, including tariffs, non-tariff measures affecting trade in goods (including TBT and SPS aspects) and trade in services, further market access for services, investment and public procurement as well as specific chapters on investment protection, competition and intellectual property rights. Under these two scenarios, it could be assumed that around half of the costs related to actionable NTMs would be eliminated.

Current EU policy for deep and comprehensive FTAs aims at complete tariff coverage for all products as the starting point of negotiations. Asymmetry involving only a proportion of tariffs therefore would be inconsistent with this goal. Moreover, Article XXIV GATT requires FTAs between WTO members to cover substantially all trade. While what constitutes substantially all trade is not legally defined, the exclusion of products carries a risk of legal argument within the WTO. The manner in which tariffs will be eliminated, however, permits of a greater degree of flexibility in a WTO context and thus phase-out periods, with or without conditionality as to progress in areas other than tariffs, are potential tools available to the negotiator. However, since these are essentially mechanisms designed to achieve agreed end results, rather than results in themselves, the report does not attempt to assess the effect on the timing or delivery of results that this might entail.

Box 1: Overview of the modelled scenarios

Policy Option B (the EU-Japan Free Trade Agreement) contains conservative and ambitious scenarios, which are detailed below. All scenarios apply full elimination of tariffs.

The parameters advanced in the different scenarios generally serve as an indication of order of magnitude rather than precise point estimates, and are based on the nature of the ex-ante analysis of a future FTA. Results are nevertheless robust as long as simulation parameters remain in a reasonable range. The ambitious versus conservative scenarios and the sub options (B1 through B4) confer an additional robustness test.

Conservative – reduction of no more than a quarter of NTM trade costs, including

- B1: a first sub-scenario envisaging an a-symmetric reduction of NTMs. The scenario aims at eliminating all tariffs and the following reductions in the cost of NTMs:

- 20% overall reduction in Japan,

- 6.6% reduction in the EU for goods,

- 20% reduction in the EU for services

- B2: a second sub-scenario aiming at a symmetric reduction of NTMs. The scenario aims at eliminating all tariffs and the following reductions in the costs of NTMs:

- 20% overall reduction both in Japan and in the EU

Ambitious – around half of the costs related to actionable NTMs would have to be tackled, including

- B3: a first sub-scenario envisaging an a-symmetric reduction in the costs of NTMs. The scenario aims at eliminating all tariffs and the following reductions in the costs of NTMs:

- 50% overall reduction in Japan,

- 16.5% reduction in the EU for goods,

- 50% reduction in the EU for services

- B4: a second sub-scenario aiming at a symmetric reduction of in the costs of NTMs. The scenario aims at eliminating all tariffs and the following reduction in the costs of NTMs:

- 50% overall reduction both in Japan and in the EU

5. IMPACT ANALYSIS

This section will analyze the impact of the different policy options outlined above on a number of different levels. It will begin by summarizing the modelling strategy and setup. It then looks at the overall economic impact resulting from the different policy options in the FTA. It also includes a sectoral analysis of economic impacts in the EU and Japan based on particularly important sectors, and covers environmental and social impacts. The impacts on administrative costs and simplification effects are briefly analyzed.

5.1. Model and assumptions

The Copenhagen Economics 2011 study[34] estimated the impact of changes in the barriers to trade between the EU and Japan by using a computable general equilibrium (CGE) model. The CGE model is a widely used tool in the analysis of policy options when different scenarios are to be simulated and compared to a baseline scenario. Concurrently, a wide network of users contribute to the systematic checking of the appropriateness of the underlying data and parameters (including dozens of agencies and institutions around the world), providing a reasonable degree of confidence in the robustness of CGE results.

Model's characteristics

The currently employed model is a multi-region global CGE model with the following important features: it covers global world trade and production, it allows for scale economies and imperfect competition, it includes intermediate linkages between sectors, and it allows for trade to impact on capital stocks through investment effects.

The model gives short-run and long-run results. The long-run assessment provides information about the impact of reductions of barriers to trade induced policy changes on the capital stock, thereby capturing the induced expansion (or contraction) of the economy over a longer time horizon following trade barrier reductions. In contrast, in the short-run the impact of investment on installed capital stocks is not included[35].

To analyse the impact of an FTA, two types of trade policy shocks were simulated by the model: the full elimination of all tariffs on goods, and the partial reduction of trade costs generated by non-tariff measures (NTMs). As indicated in chapter 4, the removal off the costs of NTMs considered were of 20% (conservative FTA) and 50% (ambitious FTA).

NTMs and MFN spillover effects

The impact of the various scenarios is analysed below. However, as a general comment, it is worth noting that tariff liberalization alone is not going to bring substantive benefits to either the EU or Japan. Ambitious reductions in the costs of NTMs on top of reductions in tariffs are the pre-condition for a significantly positive impact of the FTA, for both the EU and Japan, in all the scenarios considered.

It is also worth noting that preferential bilateral tariff and NTM cost reductions account for only about 10% of the overall macro-economic impacts observed, and as much as 90% of the overall economic impact is attributable to NTM “spill-over” effects. Many of the NTMs relate to differences in regulations, as well as procedures, which mostly cannot be altered on a purely bilateral basis. Once addressed, they will improve market access for third countries as well. Therefore, to a large extent, NTM cost reductions operate on an MFN basis.

Based on an examination of barriers identified (in the Copenhagen Economics 2009 study), the Copenhagen Economics 2011 study has assumed that 65% of NTM cost reduction also yields benefits for third countries, while 35% of any reduction delivers a strictly bilateral benefit.

The strong economic leverage effect of NTM spill-over effects can then be explained by the relative importance of bilateral trade between the EU and Japan: since less than 2% of EU imports come from Japan, reducing NTM trade costs for the EU’s imports from Japan implies that the remaining 98% of EU imports also benefit at least partially from these reductions. Similarly, imports from the EU represent about 10% of Japan's total imports. Reductions in the cost of NTMs on imports from the EU will spill-over to the other 90% of Japan's imports.[36]

The analysis that follows highlights the effects of the policy scenarios in Copenhagen Economics 2011 model, presented in terms of net changes from the values estimated in the baseline scenario (which includes Doha). For simplicity, the narrative will on occasion focus on the asymmetric scenarios. These are considered more likely to materialize, and serve as a conservative measure of the results, given that the symmetric scenarios produce higher gains.

5.1.1. The baseline scenario

The baseline scenario assumes no changes in trade policy: tariffs and NTMs remain as they are at present, subject to the conclusions of trade negotiations currently underway, as explained below. It projects the world economy to 2020, using the October 2010 IMF World Economic Outlook[37] macro-economic projection up to 2015. The 2014-2015 average growth rate is used for projections up to 2020[38].

The baseline scenario is based on all EU trade agreements in force at the time the relevant studies were completed and also on the assumption that EU bilateral FTA negotiations with a number of important partners – India, ASEAN, Korea and Canada – will be concluded and implemented by 2020. In fact the EU-Korea FTA has been in force since 1 July 2011.

The baseline scenario also assumes that the Doha multilateral negotiations will have been concluded and implemented by 2020, based on the tariff proposals that were on the table in 2008. While this is the basic working assumption, the tables in Annex 5, which set out in detail the effects of the various options, include an alternative scenario in respect of tariffs, based on the status quo: i.e. based on tariff reduction that take place from current applicable levels (which are, for both the EU and Japan in this context their respective WTO-consolidate tariffs)[39].

In fact, there is little practical difference, given that both the DDA and an EU/Japan FTA would overlap in terms of the implementation period for tariff reduction, and that the aim of an ambitious, WTO-compatible FTA is the elimination of tariffs on substantially all trade, whatever the starting point is. Thus, the tariff elimination scenario envisaged here is that of tariff reduction to zero, in any event, by 2020 with the possibility that some of that tariff liberalization would result from the DDA and some from the FTA (the 'with Doha' figures), or that all the liberalization results from the FTA (the 'without Doha' figures)[40].

In respect of procurement, the forthcoming initiative on third country access to the EU's public procurement market would seek to improve access to public procurement markets by imposing a symmetrical approach: by allowing for restrictions to access to the EU's procurement market (80% of which is currently open to bidders from outside the EU), for companies from third countries that fail to grant reciprocal access to EU companies in respect of their own public procurement markets. This instrument is not normally foreseen for use in cases where FTA negotiations are under way. However, once the instrument is adopted, its existence is likely to provide an additional incentive on the part of Japan to consider the question of procurement in the FTA negotiations. Furthermore, in an FTA negotiation, agreement on procurement would form part of an agreed bundle of objectives, providing a broader negotiating platform

5.2. Overall economic impact from the Free Trade Agreement

5.2.1. Expected impact from a conservative FTA

Scenarios B1 and B2 make conservative assumptions about the extent of NTM cost reductions in the EU and Japan (see Box 1).

Under these conservative scenarios, the Copenhagen Economics 2011 model predicts GDP increases for the EU of 0.34% by 2020 in the case of asymmetric NTM cost reductions (or 0.75% assuming symmetric NTM cost reductions). For Japan, the magnitude of the increase is about 0.27% in either case. The estimated gains for the EU amount to 42 billion Euros in the case of asymmetric NTM cost reductions or as much as 92.8 billion Euros in the case of symmetric NTM cost reductions; for Japan, the comparable amounts round to 5.1 billion Euros. Most of the gains for NTM cost reduction stem from the spill-over effect of overall – as opposed to purely bilateral – liberalisation, hence the higher gains for the EU in the symmetric scenario, whereas for Japan the difference is very small.

Under these conservative scenarios (and in the asymmetric case), EU exports to Japan would increase by 22.6%, while Japan’s export to the EU would increase by 17.1%. Overall, the value of the EU's global exports would rise by 1.2%, with EU's global imports rising by 1.2%. Japan's global exports show an increase of about 3.8%, while Japan's imports increase by about 4.5%.

Table 1: Economic impact of the asymmetric scenarios (Mln €, percentage change)

5.2.2. Expected impact from an ambitious FTA

Scenarios B3 and B4 are more ambitious as to the extent of NTM cost reductions achieved by both sides (Box 1).

Under the ambitious scenarios, the model predicts GDP increases for the EU of 0.8% in the case of asymmetric NTM cost reductions (or 1.9% assuming symmetric NTM cost reductions). For Japan, GDP increases amount to 0.7%. For the EU, these estimated gains amount to 99.8 billion Euros for asymmetric NTM cost reductions or as much as 319.3 billion Euros in the case of symmetric NTM cost reductions; for Japan, the comparable amounts are €13.2 billion for asymmetric NTM cost reductions and €18.3 billion Euros for symmetric NTM cost reductions[41].

Under this ambitious scenario, with asymmetric cost reductions from NTMs, EU exports to Japan would increase by 32.7%, while Japan export to the EU would increase by 23.5%. Overall the value of the EU's global exports would rise by 2.8% under asymmetric NTM cost reductions or 6.7% under symmetric NTM cost reductions; EU global imports would also rise by about 2.9% assuming asymmetric NTM cost reductions. Japan's global exports increase by about 7.3%, while its imports increase by about 8.6% in the case of asymmetric NTM cost reductions (no estimate for imports assuming symmetric NTM cost reductions is available).

5.3. Impact on sectoral competitiveness

The macro-economic analysis above has shown that trade liberalisation between the EU and Japan improves welfare overall for both partners. In reducing trade barriers it increases competitive pressures in industries that to some extent have been sheltered from global competition by these barriers. However, the impact of trade opening may differ by sector and by firm within each sector.

According to the European respondents to the public consultation, increased export prospects linked to NTMs cost reduction would be particularly important for the chemical and pharmaceuticals sectors in the EU. Reducing the cost of NTMs would also increase competitiveness and enhance market access for European businesses in the information technology, consumer electronics and telecommunications sectors, which would boost or support employment in those sectors. A similarly favourable effect is expected for the EU's textile sector. By contrast, the EU automotive sector does not expect to gain from an elimination of tariffs and NTMs costs, which will put it at a competitive disadvantage relative to the Japanese sector.

According to the Japanese respondents to the public consultation, the Japanese automobile, IT and electronics sectors in particular expect to benefit from an elimination of tariffs and reduction of NTM costs in Europe.

Note that the simulation model used in this analysis does not forecast innovations in technology, productivity and/or the quality of outputs produced by sectors. Forecasts are based on current technology and competitiveness in the world market. In reality, many firms will respond by improving their technologies and products in the wake of increased competition. The sectoral analyses presented below should therefore be considered as "bottom line" scenarios that leave considerable margin for improvements in the competitiveness of sectors.

Table 2: Sectoral impact of the asymmetric scenarios* (percentage change)

5.3.1. Expected sectoral impact of a conservative FTA

In case of a conservative FTA, the Copenhagen Economics 2011 model forecasts significant rises in EU global exports for the processed food, electrical machinery and business services sectors. The motor vehicle industry would see a rise in both exports and imports.

The EU's global imports would rise substantially for the processed foods, finance, business services, and air transport sectors. Imports in the electrical machinery sector would on the other hand fall.

For Japan, a conservative FTA with the EU would mean significant increases in global exports in the electrical machinery, motor vehicles, other transport equipment and other machinery sectors. Japan's imports would rise substantially in the processed foods, chemicals, motor vehicles, other transport equipment, and business services sectors.

In terms of bilateral trade, the biggest sectoral effect is expected to take place in processed foods – a sector representing almost 7% of total EU exports to Japan – with an increase of over 180% of EU exports to Japan and an improvement of €9.5 billion in the trade balance. EU exports to Japan of chemicals and other transport equipments are also expected to increase by more than 20%.

The sector where we expect to see the largest increase in output, i.e. overall production, in the EU is in electrical machinery; other sectors would see more limited increases (e.g. processed foods, or modest decreases (chemicals, metals). This apparent contradiction in the chemicals sector, whereby the EU increases its bilateral exports while suffering from a decline in output, can be explained as an MFN effect: EU exports to Japan benefit from the reduction in NTM costs, but at the same time exports from third countries also get better access to the European market (via the NTM cost reduction in the EU). For Japan, the largest sectoral output increases are expected in: other machinery, motor vehicles and electrical machinery. The largest output decreases are expected in processed foods and chemicals.

The changes in sectoral output are expected to be bigger for Japan than for the EU as the EU is a more important trading partner for Japan than Japan is for the EU. It also reflects that in general sectors that are currently most protected by tariffs and non-tariff measures and thus the least competitive on global markets are likely to experience the largest decrease in output and the highest increase in imports. Less protected sectors are generally more competitive, and will experience only a small increase in competitive pressures as a result of further trade opening.

NTM cost reductions operate to a large extent on an MFN basis, which will enable other trading partners to free-ride on these reductions in trade costs. Where the change in Japanese imports is clearly linked to tariff reductions, for example large reductions in tariffs on processed foods, other trading partners will not benefit from a 'free-rider' effect.

5.3.2. Expected sectoral impact of an ambitious FTA

The patterns of change between the conservative and the ambitious FTA scenarios are driven by variations in the level of NTM cost reductions and the impact will depend on the importance of the cost reductions of NTMs.

In an ambitious FTA, the sectors most affected in the EU would largely be the same, but the expected increase in exports, or imports, would double or triple. The model forecasts significant rises in EU global exports for the processed food, electrical machinery and business services sectors. The EU's global imports would rise substantially for the processed foods, air transport, finance, and business services sectors. Imports in the electrical machinery sector would instead fall. The motor vehicle industry would see a rise in both exports and imports. In terms of bilateral trade, EU processed foods exports are expected to increase by 200%, and chemicals and other transport equipment exports by around 50%.

For Japan, the ambitious FTA scenario leads to increased exports especially in the electrical machinery, motor vehicles, other machinery, other transport equipment, and other manufactures sectors. Japan would experience a substantial rise in imports in the processed foods, chemicals, other transport equipment, motor vehicles and business services sectors.

With an ambitious scenario (and in case of asymmetrical NTM cost reductions), we can expect an increase in output in the EU electrical machinery sector of 9%, whereas in Japan we would expect an increase in output of 11% in the other machinery sector, and a decrease of 11% in the chemicals sector.

5.3.3. Sector specific analyses of the financial services, business services, and motor vehicles sectors

Given their importance for bilateral trade, as shown above, and on the basis of available information from respondents and studies, the following sectors of major potential trade value have been examined in greater detail.

5.3.3.1. Financial services sector

The total exports of financial services from EU to Japan was about €1.2 billion in 2004, which made the EU the largest exporter of these services to Japan. Despite Japan being EU’s second largest export market (in 2004), the business survey conducted in Copenhagen Economics 2009 highlighted that major barriers affect cross-border financial services trade (see chapter 2: a complex regulatory environment and excessive administrative burdens). The study estimated their trade cost equivalent (TCE) between 12% and 15%.

The Ecorys 2009 study suggested that 49% of the costs of barriers resulting from NTMs in the financial services sector could be reduced through trade policy negotiations. An FTA could thereby contribute to significantly reducing costs for EU financial firms that export to Japan.

The Copenhagen Economics 2011 model estimates a conservative FTA (in its asymmetric, more conservative, option) could increase EU finance sector exports to Japan by 0.9%, an ambitious FTA by 1.3%, whereas the insurance sector would increase exports by 2.3% and 4.7% respectively[42]. Japan finance sector exports to the EU would increase by 2.6%(conservative) / 7.7%(ambitious) and insurance sector exports by 1.8%/5.7%, respectively.

Overall, the EU finance sector output would be expected to increase by 0.1%/0.1% and insurance sector output by 0.2%/0.4%; the Japan finance sector output by 0.1%/0.3% and insurance sector output by 0.01%/0.1%.

The barriers affecting trade of financial services between the EU and Japan being mainly regulatory, the reduction in the costs of NTMs (and its spill-over) is the primary driver in the estimated effects of the FTA on the financial sector.

The EU financial sector would therefore clearly benefit from an ambitious FTA.

5.3.3.2. Business services sector

The business services sector accounts for 30% of global trade in services. However, Japan's import penetration is particularly low in this sector: just 2.6% compared to 8% in the case of the EU.[43]

Many of the trade barriers encountered by the business services sector result from specific features of the way of doing business in Japan, such as differences in culture or language. These barriers cannot easily be addressed by trade policy, especially in the short or medium term.

However, other issues that hamper FDI in the business services sector – for example, the complexity of administrative procedures, high labour costs and high taxes – could be addressed by the Japanese government and trade negotiations could provide the incentive to do so. Overall, the Ecorys 2009 study suggests that about 51% of non-tariff barriers affecting the business services sector in Japan can be addressed by trade policy negotiations for an FTA.

The Copenhagen Economics 2011 model estimates that a conservative FTA could increase EU business services exports to Japan by 9%, and an ambitious FTA increase it by 22% while Japan business services exports to the EU would increase by between 4% and 11%.

Overall, the EU business services output would be expected to increase by between 0.2% and 0.3% in the asymmetric (more conservative) options, and the Japan business services output decrease by between 0.1% and 0.4%.

As in the case of the financial services sector, the barriers affecting trade in business services between the EU and Japan are mainly regulatory; thus, the reduction of NTMs costs (and its spill-over) is the primary driver in the estimated effects of the FTA on business services. Accordingly, supposing the current status quo in respect of tariffs (i.e. the Doha multilateral negotiations are not concluded and implemented), the impact of an FTA on the financial sector would be as set out above.

5.3.3.3. Motor vehicle sector

The results of the models at sectoral level show that the motor vehicles sector – where fears of a negative impact from an EU-Japan FTA are often strongest – would experience a mainly negative impact from the elimination of tariffs alone; but when tariff reductions are combined with reductions of NTMs costs, the impact for the EU is broadly neutral. This indicates that Japan's increased presence in the EU motor vehicle market would be tempered by increased exports of EU motor vehicles to Japan.

With 25% of global production, the EU is the largest motor vehicle producer in the world. Out of 78 million motor vehicles produced in 2010, 19.6 million were produced in the EU, compared to 9.6 million in Japan.[44] Import penetration in the motor vehicle market in Japan is extremely low: in the passenger car market for example, only 7%, compared to 28% in the EU. Nevertheless, the vast majority of cars exported to Japan come from Europe (almost 95%), and most are in the top price segment.

The barriers encountered by the EU motor vehicle producers in Japan are mainly technical barriers to trade related to emission, safety and noise standards. These barriers cause extra conformity assessment, development and production costs for EU exporters and distort consumption of motor vehicles toward the domestic Japanese manufacturers who do not carry these costs. According to European motor vehicle exporters, NTMs in Japan result in an additional cost of 10% of the exported value of European motor vehicles sold in Japan. Expert studies estimate that the trade cost associated with these NTMs is equivalent to a tariff of 12.5%.

On the other hand, while Japan has no tariffs applicable on imports of these products, the EU motor vehicles sector is protected by tariffs on imports from Japan around 8% (even though these top rates could be cut in half by a successful Doha round). Most of the studies referred to in this impact analysis estimated that the tariff component of an FTA with Japan would have a negative effect on the output of the European automotive industries, with an increase in that of their Japanese counterparts.

The Copenhagen Economics 2011 study estimated that the output of the motor vehicles is expected to expand by 2.5% in Japan in case of a conservative FTA and 3,4% in case of an ambitious FTA. But it also highlighted that in case of an ambitious FTA, where around half of the costs related to actionable NTMs would have been tackled, the EU motor vehicle global exports would increase by 2% (7% in case of symmetrical reduction of NTMs costs), while bilateral exports would increase by 18% to 25%) and output would increase in the EU by up to 1%. In case of a conservative FTA, output of the EU motor vehicle industry would only slightly decrease (by 0.30%) or even remain stable (in case of symmetrical reduction of NTMs costs). If one were to consider, for reference purposes, a baseline scenario with the current status quo in respect of tariffs (i.e. where the Doha multilateral negotiations would not be concluded and implemented), an FTA (either conservative or ambitious) would, in comparison to that baseline, only lead to a moderate decrease in motor vehicle output (-0.9% to -0.6%).

The impact on employment in the EU motor vehicle sector of an FTA would also be very limited, (between -0.40% for a conservative, asymmetric FTA and -0,10% for an ambitious asymmetric FTA).

5.4. Impact on small and medium enterprises (SMEs)

SMEs should gain from an EU-Japan FTA on a number of levels. Japan is a key (the 4th) target market for European internationalised SMEs which also consider Japan as a strong launch pad and testing ground for the Asian market[45]. The public consultation clearly expressed the particular need of SMEs for greater advice and assistance on how to break into export markets, and into Japan in particular. An FTA between the EU and Japan would be an opportunity to strengthen existing cooperation and support programmes and create new programmes that focus on helping SMEs to increase their exports.

The fixed costs of complying with regulations weigh against the SMEs more than against the larger firms. Therefore NTM cost reduction, increased regulatory cooperation between the EU and Japan as well as further convergence towards international standards would especially benefit SMEs, both in the EU and Japan.

A study contracted by the European Commission on Opportunities for the Internationalisation of SMEs (see footnote above) highlighted significant opportunities in Japan for EU SMEs in several sectors (chemical products, advanced engineering, luxury products, etc).

Finally, SMEs are prominent in the sectors most benefiting from an EU-Japan FTA: SMEs make up more than 50% of the food industry enterprises and are prominent in the electrical machinery sector.

5.5. Analysis of environmental impacts on the EU, Japan, and the world

5.5.1. Introduction

International trade and economic development can have various impacts on the environment. This section examines the following three effects of trade opening on the environment:

The “scale effect”, that is the expansion of the economic activity through trade.

The “composition effect” that arises from changes in production and consumption patterns triggered by tariff dismantling and reductions in the trade cost of NTMs.

The “technique effect” that traces improvements in the emission efficiency of production induced by changes in the composition of inputs in the production process.

It is the combination of these effects that determines the overall impact of trade on the environment. The empirical results of studies that have examined the relationship between trade and the environment in the last few years are mixed.[46] Perhaps the most interesting finding is that the income gains associated with increased trade are in principle sufficiently large to pay for the necessary costs for pollution abatement (i.e. the costs of additional measures and activities to negate any repercussions on the environment) and still leave an economic surplus. In other words, by combining trade with environmental reforms one can find ways to raise consumption without compromising the natural environment.[47]

It is also important to recognise that Japan accounted for only 3.3% of the EU’s exports and 4.7% of its imports in 2009. In consequence, any negative environmental effects resulting from even an ambitious FTA with Japan would be associated with what is in reality only a small part of the EU’s overall trade flows.

The current EU and Japanese commitments to increase the share of renewable energy and to decrease overall energy consumption are ambitious. Increased economic cooperation between Japan and the EU should facilitate greater cooperation on climate protection as well as on other environmental issues including biodiversity, natural resources and waste.

A quantitative analysis of the effects of an FTA on climate and climate change through an analysis of CO2 emissions is conducted in 5.2.2. Assessments of the environmental impacts of an FTA on biodiversity, natural resources, waste, as well as on firms and consumers, are included in section 5.2.3.

5.5.2. Analysis of the impact of the policy options on the climate and climate change resulting from CO2 emissions

This section analyses the possible impact of a reduction in trade barriers between the EU and Japan on climate change, measured here as changes in global CO2 emissions[48] For the baseline projection of CO2 emissions, the model was calibrated to the medium-term projections from the IEA "World Energy Outlook" (2010), which is based on existing and operational climate change policy measures – including the emission ceilings under the Kyoto Protocol, the EU emissions trading system (EU ETS) and other policy measures in the EU and in Japan – without assuming any further climate policy changes up to 2020. Both the EU and Japan have signed up to the Kyoto Protocol under the UNFCCC, pursuant to which both parties have ceilings on their CO2 emissions up to 2012 when the first commitment period of the Protocol expires. The EU has binding domestic legal ceilings to 2020[49], while Japan has yet to adopt binding limits beyond 2012. The emissions modelling assumes that both parties will in fact continue to implement commitments beyond 2012.

Additional production in these economies will therefore need to take place within the existing emission ceilings commitments, through a combination of increased emissions efficiency (energy-saving investments) and re-allocation of production from more to less emission-intensive sectors. It may also lead to