In a different time, a free trade pact accounting for around 5% of the United States’ total foreign trade would hardly have caused a ripple of comment in diplomatic and business circles. But the U.S.’s new interest in the Trans-Pacific Partnership (TPP) — a fledgling agreement between it and eight other countries — is being hailed in some countries, and frowned upon in others.

One country that’s arguably the most wary of the TPP is China, the U.S.’s big strategic and trade rival in the region. While talks have been under way with various countries to join the TPP bloc since last year, China has been conspicuously absent from them for a number of reasons. Although China is downplaying suggestions of a new cold war between the two countries, it is pursuing a different strategy than the U.S. — one focused on territorial and resource claims, and also in the name of national security and prosperity.

Viewed in isolation, the TPP may be a small footnote in the history of global trade. But at the moment, say trade and economic observers, it’s a potential flashpoint as the global center of gravity shifts from the Atlantic to the Pacific, and the U.S. strives to regain its status as the dominant trading power in Asia-Pacific and have greater sway over the 10 countries forming theAssociation of Southeast Asian Nations (Asean).

The U.S. Agenda

American diplomats insist their country’s focus on the Pacific Rim isn’t in response to China’s growing presence there; others think differently. “The U.S. government is very concerned about China’s influence in Asia, so they are coming back to Asia,” says Koichi Ishikawa, a professor at Asia University in Tokyo and an Asean specialist. “It is not just to increase exports, but also to regain dominance in Asia.”

But China is in the ascendance. Today, China is Asean’s biggest trading partner. A free trade agreement (FTA) between China and Asean took effect in 2010, helping bilateral trade to surge nearly 26% in the first 10 months of 2011 from the same period the year before, to US$296 billion. The agreement cut average Chinese tariffs on goods from Asean to 0.1% from 9.8%. Meanwhile, the six original Asean members — Brunei, Indonesia, Malaysia, the Philippines, Singapore and Thailand — reduced their tariffs to 0.6% from 12.8%, and by 2015, 90% of Chinese goods will have zero tariffs among Asean’s four newest members — Cambodia, Laos, Myanmar and Vietnam.

In contrast, the U.S. is Asean’s fourth-largest trading partner (behind Japan and the European Union), having slipped from the number one position in 2004. So far, the only Asean member with whom the U.S. has a bilateral FTA is Singapore.

According to Bernard Gordon,professor emeritus of political science at University of New Hampshire, the acceleration of China’s trade with Asean — imports of raw materials and components and exports of finished products — has made U.S. businesses “now strongly aware that they have begun to lose out to China in Asia.”

A Tale of Two Agreements

This is where the TPP comes in. Launched by four small economies – Brunei, Singapore, New Zealand and Chile in 2005 — the TPP got its first big boost recently when a number of other countries — Australia, Peru, Malaysia, Vietnam as well as the U.S. — began negotiations to join. With other countries — notably Japan, Canada and Mexico — expressing interest in the club, more good news came for the TPP in November last year, at the Asia-PacificEconomic Cooperation (APEC) summit in Hawaii where President Obama outlined a TPP framework implementation program for 2012.

Fresh from that announcement, Washington is talking about a vision for the TPP to become a “21st century” trade liberalization initiative, which goes beyond the traditional parameters of FTAs. While specifics of the agreement will be hammered out over the next 12 months, it’s believed that members will have to not only reduce tariffs and other trade barriers, but also ensure businesses meet stringent standards for protection of intellectual property and workers’ rights and safety.

”The TPP would reduce tariff and non-tariff barriers and provide investment guarantees, which should help increase U.S. economic involvement in the region,” says Murray Hiebert, deputydirector and senior fellow at the Center for Strategic and International Studies(CSIS) in Washington, D.C.

When asked at November’s APEC summit if China would join the TPP, the country’s commerce minister, Chen Deming, replied curtly that Beijing hadn’t been invited. U.S. Trade Representative Ron Kirk, however, retorted that any country would be welcome to join if they met the TPP’s requirements.

University of New Hampshire’s Gordon also points out that the onus is on the countries wanting to join to initiate the membership process. “No country is invited to the TPP,” he says. “China has not been ‘disinvited’ to the TPP. The door is open to anybody who wants to join,” echoing Kirk. But Gordon, who has been a consultant to the National Security Council and the Secretary of Defense, suspects China is not ready to commit to a number of TPP requirements, including the framework’s calls for strict protection of intellectual property rights. “China is not interested in making changes to be able to come on board the TPP,” he states.

Indeed, there’s more to China’s reticence than the strategic stakes of joining a U.S.-led initiative, observes Peter A. Petri, a finance professor at Brandeis University’s International Business School in Massachusetts. “The TPP might be strict on rules for what [China’s] state-owned enterprises [SOEs] can or cannot do. The Chinese would not want to agree to that,” he says “They do not want U.S. lawyers studying [any] SOE to see if it is subsidizing products and trying to sue them in international courts.”

Yet China is not the only developing country potentially at odds with a number of TPP requirements. “The TPP sets high standards, but now there is already some discussion about not being able to complete the talks,” says Asia University’s Ishikawa. “They may have to come up with a realistic compromise; otherwise, countries like Vietnam and Malaysia will not be able to join.”

China has something else in mind. Even though their strategic motives may be similar, the U.S. and China have different perceptions about trade and investment, according to Zheng Yongnian, director of the East Asia Institute at the National University of Singapore (NUS). “Politically, China is very sensitive and concerned because America is coming back to Asia, and China wonders what the Americans intend to do,” he says.

To hang on to its regional influence in the meantime, China is favoring different free trade groupings — either Asean plus Three (which includes China, Japan and South Korea) or, preferably, Asean plus Six (which also includes India, Australia and New Zealand).

Not Mutually Exclusive?

It’s widely agreed that either of the Asean Plus frameworks will involve less rigorous commitment than the TPP. “China prefers a gradual and incremental approach to trade liberalization,” states Zheng. In contrast, with the U.S. model, “there is no free lunch. To join the TPP, you have to absorb costs or [face] negative consequences.”

As Ernest Z. Bower, director of the Southeast Asia Program at the CSIS, noted in a recent report, “The U.S.-led model is deep and requires massive political commitment by governments to legally bind themselves and reform current regulations and practice. The China-led model is relatively shallow and easier for governments to join,” comprising nonbinding agreements on tariffs but little else. China’s reasoning is that allowances must be made for countries’ different social and economic development levels.

But while the TPP and Asean Plus seem at odds with each other today, they do not have to be mutually exclusive, experts argue. Negotiations for the TPP and Asean plus Six “are going to overlap, and both trade regimes could co-exist,” says Ishikawa. That suits many countries, which see greater benefits in keeping on side with both superpowers. Seven of the countries participating in the TPP talks already have bilateral FTAs with China, and Australia is has been negotiating its own agreement with China since 2005.

For now, it may require walking a diplomatic tightrope, at home and abroad. The government in Japan, for example, faces fierce opposition to the TPP at home from the country’s farm lobby, which would dismantle tariffs of up to 800% protecting rice farmers. However, Japan’s big business associations, such as Keidanren, Nikkeiren and Jetro, favor the TPP as a way of breaking into new markets. So although Japan doesn’t want to alienate China, which is a crucial offshore location for its manufacturers and its biggest export destination, it is more likely to put membership to an Asean bloc on hold, according to Gordon. “Tokyo will maintain good relations with China, but the momentum for the coming year is with the TPP,” he predicts.

Banking on Goodwill

Yet that’s unlikely to slow China’s growth machine. “China trade and investment into Asean will continue to rise, because China now has a huge capital surplus,” says Zheng. “Chinese capital needs an outlet.”

Asean is indeed an ideal outlet. At US$2.7 billion in 2010, China was only the sixth-largest foreign investor in the region, compared with US$17 billion from the EU, US$8.6 billion from the U.S. and US$8.4 billion from Japan. But Beijing has deep pockets. Premier Wen Jiabao told Asean in November that China would offer the region loans and lines of credit worth US$10 billion, in addition to a similar pledge of $15 billion made two years ago. It also has a US$473 million plan to expand maritime cooperation by promoting environmental protection and navigational safety and combating transnational crimes.

Meanwhile, China is investing in energy and natural resources across the region. It is building dams and ports in Myanmar and power plants in Laos. Its manufacturers are jumping into labor-intensive textile and apparel manufacturing in Vietnam, Thailand and Cambodia, as they themselves offshore work to escape rising costs at home.

In another bid aimed at raising its stature in the region, China is considering setting up a smaller version of the Asian Development Bank, the Japanese- and U.S.-led multilateral lender. “We don’t yet know much about its scale or form,” notes Petri. Although there has yet to be an official announcement, the speculation is that Beijing wants to raise goodwill in the region by providing low interest loans to infrastructural projects, inviting Asean members, Japan and South Korea to take a stake in the new bank.

But it’s far from straightforward. As discussions of free trade continue, the diplomatic frictions between many Asean members and Beijing can’t be ignored. A case in point: China’s claim to a large swathe of the South China Sea, which straddles key shipping lanes and is potentially rich in energy resources, is a ongoing source of tension. Vietnam, the Philippines, Taiwan, Malaysia and Brunei have conflicting claims to parts of the sea, and along with the U.S. and Japan, are pressuring Beijing to resolve the issue, which flared up in 2011 with tense maritime standoffs.

Herding the Elephants

And while the region has benefited greatly from China’s growing affluence and involvement in it, “many Asean countries are concerned about China’s recent increasing aggressive behavior in the South China Sea, and this has prompted countries like Vietnam or the Philippines to explore ways to improve their relations with the U.S.,” says Hiebert.

Yet Asean is keen to retain control over future regional integration, including any FTAs. “This is hard to do with all the elephants roaming the neighborhood, but Asean is skilled and probably too complicated for anyone to dominate,” states Petri of Brandeis.

The ultimate aim for all these frameworks is for them to meld into one large bloc. If some combination of a 21-economy Free Trade Area of the Asia Pacific, or FTAAP, is achieved, countries would reap benefits of anywhere between US$680 billion and US$970 billionby 2025, estimates Petri. That compares with US$104 billion from the TPP and US$215 billion from Asean plus Threein 2015.

Having recently traveled to China to discuss the TPP with Chinese officials and scholars, Petri predicts that eventually Beijing will be more open to the TPP as part of an evolution toward the FTAAP, “because that’s where the largest potential economic gains lie,” he says. The TPP and the Asean Plus can move forward in parallel until they merge into the larger trading bloc, he says. “Because so much cooperation depends on China and the U.S., it is inevitable that eventually they will have to find a solution.”