Trans-Pacific View | Economy | Southeast Asia

Trade Holds the Key to the Renewal of US-Cambodia Ties

Longstanding differences aside, the U.S. and Cambodia both have good reasons to strengthen their trade relationship.

Trade Holds the Key to the Renewal of US-Cambodia Ties

A close up shows the work done during the production of children’s shoes in a local footwear manufacturing plant in Cambodia.

Credit: Marcel Crozet/ILO

In December, the United States’ Generalized System of Preferences (GSP) expired for Cambodia and a decision on the extension is pending. The expiration means that Cambodia’s exports to the U.S. are now subject to “most favored nation” status tariffs, which reportedly range from 12 to 33 percent. Under the GSP, in comparison, Cambodia enjoyed duty-free on travel goods such as luggage, backpacks, handbags, and wallets – items that previously faced import duties of up to 20 percent – as well as preferential import taxes on other goods.

GSP renewal is conditioned on a range of criteria, including labor standards, human rights, and the rule of law, as highlighted by the recent call by U.S. senators Ted Cruz and Chris Coon for Congress to review Cambodia’s GSP eligibility. However, the program is also motivated by a desire to foster economic growth in developing countries, as well as to enhance overseas American business competitiveness through reduced import tariffs.

Although the ongoing delay of GSP authorization to Cambodia has coincided with the perceived deterioration of the country’s human rights situation, the fact that the suspension has also affected 119 other countries indicates that factors causing the delay involves something more than just the state of Cambodia’s democracy.

There’s a political temptation to say that the U.S., as a leading advocate of democracy and human rights, should do something about the situation in Cambodia. On this front, GSP is therefore a potential trump card in its negotiations with Prime Minister Hun Sen’s government. It will therefore not come as a complete surprise if the U.S. makes the tough call of removing GSP from Cambodia.

The ruling Cambodian People’s Party (CPP) has ruled Cambodia since 1979. Since coming unexpected close to losing power at the country’s 2013 election, the party has since made political survival its top priority, as seen through its dissolution of the main opposition party and its growing crackdowns on civil society and the independent press.

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The CPP government thus faces a fork in the road. On the one hand, if it returns the country to its status quo ante – a competitive multiparty system – in order to preserve preferential trade deals (such as GSP or the European Union’s Everything But Arms scheme), it runs the risk of losing its grip on power. On the other hand, if the party continues moving toward open authoritarianism, it could face economic sanctions or the loss of trade preferences from Western powers like the U.S. and EU, pushing it into a heavier reliance on its main foreign patron: China.

China almost certainly stands to advance wherever the U.S. or EU retreats; therefore, if Cambodia loses its GSP status, the CPP will most likely choose the second option: embracing China, while increasingly defying American and Western pressure.

For Washington, this means that removing Cambodia’s GSP eligibility would be unlikely to result in political concessions from the Cambodian government, such as the reinstatement of the opposition party or dropping the charges against its leader Kem Sokha. More broadly, the removal would also narrow the U.S.’s leverage over Cambodia, while damaging U.S.-Cambodia relations, jeopardizing the recent efforts of the current U.S. ambassador.

In terms of the social and economic consequences, the GSP benefits Cambodia’s garment industry, which prior to the COVID-19 pandemic employed around 800,000 mostly female workers. A withdrawal of GSP privileges would surely hurt Cambodia’s economy to a great extent, most of which would be borne directly by those who work in factories producing travel goods for export, of which it is estimated there are more than 100.

These socioeconomic consequences were justified by the United Kingdom in its recent granting renewal of its trade preferences for Cambodia, which entitles the latter to quota- and duty-free access on all goods, except arms, to the U.K.

There would be costs for the U.S., too. The GSP provides the import of a diverse range of products that are needed by U.S. consumers. Were Cambodia to lose duty-free access to the U.S. market, American consumers would pay extra for products imported from the country, currently the U.S.’s tenth-largest supplier of apparel goods. More broadly, the delay of a GSP extension for Cambodia and other beneficiary developing countries (BDCs) might jeopardize Washington’s strategic efforts to diversify supply chains away from China.

GSP beneficiaries are natural alternative suppliers to China. By eliminating tariffs on China’s competitors, GSP makes those other countries a more viable alternative to low-cost Chinese producers. Without the GSP in place, even if the U.S. hikes tariffs against China’s exports to the U.S., some of China’s products will remain more competitive.

In 2020, the average cost of a duty-free backpack manufactured in Cambodia was $7.86, compared to $4.78 for the average backpack made in China (including tariffs). American companies have also used GSP to shift sourcing away from China in recent years. The longer the GSP scheme remains in abeyance, the more likely it is that trade will shift back to China. The above consequence, therefore, makes an indiscriminate sanction like the removal of Cambodia’s GSP status less effective than more targeted measures.

Available data shows that Cambodia’s exports to the EU totaled 5.4 billion euros in 2018, 5.2 billion of which benefited from the EBA scheme. In comparison, a much smaller proportion of Cambodia’s exports to the U.S. benefit from GSP: in 2018, this came to approximately $720 million out of a total of 3.8 billion in exports to the U.S, suggesting that the trade benefits Cambodia receives from Washington’s GSP aren’t as extensive as those it receives from Brussels. However, the impact COVID-19 and the partial withdrawal of EU’s EBA privileges last year has increased the importance for Cambodia of maintaining its trade preferences under GSP.

While Cambodia’s exports to the EU declined from 4.6 billion euros to 3.7 billion euros from 2019 to 2020, whether as a result of the partial EBA withdrawal or COVID-19 (or a combination of the two), total exports to the U.S. increased from around $5.4 billion to nearly $6.6 billion over the same period, helping to offset the drop-off in exports to Europe.

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According to the World Bank, Cambodian exports of travel goods to the U.S. have significantly increased thanks to GSP’s duty-free and quota access, reaching $1.2 billion in 2019. Prior to receiving the GSP privilege in 2016, Cambodia’s export of travel goods to the U.S. totaled just $50 million.

Established in 1976, the GSP offers duty-free market access to approximately 3,500 products from BDCs, with an additional 1,500 or so products for least developed countries. Cambodia, which falls in the latter category, is entitled to additional tariff preferences on imports of 4,800 articles. So far, only Cambodian travel goods have been granted duty-free access, implying unexploited market opportunities for Cambodia’s exports to the U.S.

This suggests a few ways in which the U.S. can better compete with China in Cambodia in terms of trade: focus on value not volume; present itself as a better alternative; and sneak into areas where China cannot. The nature of Cambodia’s exports suggests that China cannot replace the U.S.: While the U.S. is a consumer of Cambodian products, Cambodia is China’s consumer. This makes America a better trade partner over the long run.

While the recently signed China-Cambodia free trade agreement might foster greater Chinese consumption of Cambodian goods, especially agricultural products, Cambodia’s rising agricultural exports to China offer modest value. Moreover, despite the absence of traditional tariffs, Cambodia’s agricultural commodities still face a range of Chinese non-tariff measures, which will take a long time for the two nations to address.

To be sure, there is considerable mistrust between Cambodia and the Western nations at present. The EU revoked a portion of Cambodia’s EBA privileges due to the country’s poor human rights record, but the fact that it did so while signing a free trade agreement with one-party communist Vietnam was viewed in Phnom Penh as evidence of a double standard, reinforcing the government’s perceptions that the West views Cambodia as strategically marginal. Whether China is a reliable partner over the long-term, the Cambodian government has concluded that Beijing at least values Cambodia, and demands proper if not equal treatment from the West.

In this light, the U.S. should present the GSP as an opportunity rather than a threat and use it as the foundation for a renewal of the American presence in Cambodia. After all, the U.S. was Cambodia’s largest export destination last year, importing around $6.58 billion worth of goods, compared to the $1.08 billion worth of goods that Cambodia exported to China. For travel goods alone, the U.S. accounted for 80 percent of Cambodia’s exports, while the U.S. is also Cambodia’s the largest importer of Cambodian-manufactured apparel, the country’s primary growth pillar and domestic job creator.

This makes sense for Cambodia, too. Cambodia’s ability to balance its foreign alignments has been a foundation of growth for its economic growth over the past two decades. But these alignments have become increasingly imbalanced as Cambodia has tilted outright towards China. Although China’s support for Cambodia appears inexhaustible, ultimately the key to CPP’s domestic legitimacy and stability is sustained economic growth. And to this end, the EU and U.S. will be vital partners.

As a result, Cambodia should avoid putting everything in one basket. Cambodia can’t simply ignore or defy China in pursuit of better ties with other countries. But that doesn’t mean some degree of improvement with other countries is impossible.

Ideally, Cambodia should strive to diversify its export structure and base, yet such a transition remains  difficult as long as the country remains stuck on the lower rungs of the global apparel industry. In the short term, then, Cambodia should seize trade opportunities that fit its comparative advantages and areas of specialization. That means taking steps to maintain and extend the GSP, which in the future might help Cambodia diversify its exports, especially if GSP’s duty-free status is extended to Cambodia’s garment and footwear products.

Perhaps the most important question for Cambodia is whether its political leadership wants to diversify the country’s external relationships. If not, all the strategizing in the world will not make a difference.  But if so, there is probably a way forward.