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Building a Normative Order in the South China Sea

Evolving Disputes, Expanding Options

Edited by Truong T. Tran, John B. Welfield and Thuy T. Le

The South China Sea, where a number of great powers and regional players contend for influence, has emerged as one of the most potentially explosive regions in the world today. What can be done to reduce the possibility of conflict, solve the outstanding territorial problems, and harness the potential of the sea to promote regional development, environmental sustainability and security? This book, with contributions from leading authorities in China, the Philippines, Vietnam, Australia, Singapore and the United States, seeks to illuminate these questions.
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John B. Welfield and Le Thuy Trang

Interstate conflict, in the view of one-third of the global decision-makers and experts assembled to compile the World Economic Forum 2015 Global Risks Report, was the most probable serious danger facing the East Asia-Pacific region over the coming decade.1 A Pew Research Center global opinion poll conducted in the spring of 2014 found that people in eight of the 11 Asian countries surveyed expressed fears about possible military conflict over territorial disputes involving the People’s Republic of China and its neighbors. In China itself, more than six in every ten citizens expressed similar concerns. Two-thirds of Americans in 2014 also feared that intensifying territorial disputes between China and its neighbors could spark an armed conflict.2 Although the World Economic Forum 2017 Global Risks Report considered such conflict as a decreasing risk in terms of likelihood and impact,3 majorities in China, Japan and several other East Asian nations remained concerned about territorial tensions and the strategic drama being played out between the United States and China on land and at sea across the region had begun to fuel fears that the “Pacific century” might be shattered by a new Pacific war.4 For better or for worse, Southeast Asia, the region which has given birth to the most vigorous efforts to construct a regional security architecture designed to ensure long-term peace and stability in Asia and the wider Pacific Basin, is today confronted by a series of intractable problems that may well constitute the greatest tests it has faced since the end of the Cold War. Much has been said about the significance of the South China Sea for the security and development of the Indo-Pacific. This sea offers the shortest route from the Pacific Ocean to the Indian Ocean. About half of the world’s commerce, half of global liquefied natural gas and a third of global crude oil transit through this body of water each year.5 Two-fifths of the world’s tuna are born in the South China Sea, contributing to a multibillion-dollar fisheries industry.6 These statistics, oft-cited, are just a few indicators of the South China Sea’s importance to the region and the world at large. A durable regional security system that can deliver lasting stability and prosperity for the Indo-Pacific cannot be constructed in the absence of a smoothly functioning regional maritime order in this critical area. Yet this body of water, blessed with so many valuable resources and crisscrossed by a network of vital sea-lanes, has become the home to some of the most intractable territorial disputes in Asia and a stage for intensifying great power strategic competition. The longstanding territorial and maritime disputes simmering in the South China Sea and the machinations of great powers have been slowing down the momentum for regional cooperation and frustrating attempts to forge a robust and mutually beneficial security architecture. There is also another troubling dimension of very great significance. While the tempo of regional cooperation has slackened, the rate at which the South China Sea marine environment is deteriorating has accelerated. Forty percent of the South China Sea’s fish stocks have already been exhausted and, according to the United Nations Food and Agriculture Organization, most fish resources in the western part of the South China Sea have been exploited or overexploited.7 Meanwhile, 70 percent of the South China Sea’s coral reefs are reported to be in poor or only fair condition.8 Put simply, while the challenges to the South China Sea marine environment are growing, the capacity of regional mechanisms to effectively address those challenges has been undermined or severely constrained.

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Conclusions

An Institutional Critique

Frank H. Stephen

The final chapter of the book reviews conclusions to be drawn from the New Institutional Economics-driven analysis of the role of laws and the legal system in the process of development presented in the preceding chapters. It uses the criteria outlined in Chapter 1 to evaluate the model. It is concluded that the NIE-based model avoids the problems of modernization theory and is free from ethnocentrism. The NIE-based model also is suitable for evaluating the role of law and the legal system in the process of economic development. Finally, it has permitted an examination of law in action and not just the law on the books. The chapter concludes with a summary of the lessons for policymaking which the book provides.

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Frank H. Stephen

Chapter 6 develops and estimates an econometric model of the determinants of growth to illustrate the insights gained from using the NIE-based framework developed in Chapter 4. It demonstrates the influence of the legal environment on the size of the financial sector and the influence of culture on the legal environment including the effectiveness of the legal system. The benefits of information enhancing institutions in promoting financial sector development (FSD) are also demonstrated. The model is used to test the competing claims of legal origin and culture in explaining the content and effectiveness of a jurisdiction’s laws. The tests suggest a limited impact of legal origin beyond that of culture in these respects. They also provide support for the transplant effect. These results suggest that legal reform to support a market-based approach to development must take account of the cultural context in which it is taking place.

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Financial markets

An Institutional Critique

Frank H. Stephen

Chapter 5 outlines the role which the financial sector plays in market-based economic development and the role played by the legal system in financial sector development (FSD). After discussing the fundamental functions of any financial system and the different types of markets and institutions which constitute a financial system, the chapter turns to a discussion of how FSD might be measured. The evidence on the relationship between FSD and economic growth is assessed. Building on this empirical evidence, the factors which promote FSD are examined. The chapter draws not only on the finance literature but the institutional literature discussed in Chapters 2, 3 and 4. These tools are then utilized to examine the problems faced and potential opportunities open to FSD in developing countries. In this regard, particular attention is paid to the relative merits of credit markets and capital markets in promoting FSD in developing countries.

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How we got here

An Institutional Critique

Frank H. Stephen

Chapter 1 sets the scene for the book. It discusses the reasons for the interest in the relationship between the law and economic development beginning with an outline of theories of development. The theory of development currently favoured by multilateral development agencies such as the World Bank is one of market-led development which emphasizes the role of the financial sector. Drawing on an analysis of the reasons why the Law and Development Movement of the 1960s and 1970s failed, criteria by which theories of law and the legal system’s role in development should be evaluated are identified. It is argued that a theory based on New Institutional Economics can satisfy these criteria.

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Law and Development

An Institutional Critique

Frank H. Stephen

This book draws on the analytical framework of New Institutional Economics (NIE) to critically examine the role which law and the legal system play in economic development. Analytical concepts from NIE are used to assess policies which have been supported by multilateral development organisations including securing private property rights, reform of the legal system and financial development. The importance of culture in shaping the legal environment, which in turn influences financial sector development, is also assessed using Oliver Williamson’s ‘levels of social analysis’ framework.
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Frank H. Stephen

Chapter 3 considers legal reform in developing countries through an examination of Legal Origin Theory which argues that economies based on the Common Law have higher growth levels than those based on Civil Law. This theory is outlined and evaluated. A powerful critique of Legal Origin Theory (as a foundation of policy) is provided by the transplant effect. This considers the factors which influence the effectiveness of transplanting laws or parts of legal systems from one jurisdiction to another. Whether a transplant is successful or not is related to the motives behind the transplant. Is the recipient jurisdiction receptive to the transplant? Is there a demand for the transplant? When neither of these is the case, transplants will increase transaction costs and lower legal effectiveness. This chapter examines the evidence to support this approach and discusses its implications for legal reform as a route to development.

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New Institutional Economics

An Institutional Critique

Frank H. Stephen

In Chapter 2 the main concepts and ideas of New Institutional Economics are introduced. These are used with some additional adaptations in Chapter 4 to develop a theory of the role of the law and legal institutions in the process of development. According to a study by Ménard and Shirley in 2014, transaction costs is one of three core concepts in the development of NIE. The others are property rights and contracts. These three have played a crucial role in understanding the role of institutions in society and feature prominently throughout this book.