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2003 Report to Congress On China’s WTO Compliance

This is the second annual report to Congress on compliance by China with commitments made in connection with its accession to the World Trade Organization. 

December 11, 2003
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EXECUTIVE SUMMARY
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Much has changed in the U.S.-China economic and trade relationship since China began negotiations to join the predecessor to the WTO, the General Agreement on Tariffs and Trade (GATT), 17 years ago. In 1986, total U.S.-China trade was only $7.9 billion, and imports from China outpaced U.S. exports to China by $1.7 billion. In contrast, in 2003, total U.S.-China trade is projected to top $170 billion, with imports from China exceeding U.S. exports to China by more than $125 billion.
 
Two years after acceding to the WTO, China has become the United States’ third largest trading partner and the sixth largest market for U.S. exports. Indeed, over the last three years, while U.S. exports to the rest of the world have decreased by 10 percent, U.S. exports to China have increased by 66 percent. China has become a major consumer of U.S. manufactured exports, such as electrical machinery and numerous types of components and equipment, among other goods. Growth in U.S. exports to China of agricultural products has also been robust, and the market share of U.S. service providers in China has been increasing rapidly in many sectors. One witness at the October 3, 2003, USTR-chaired public hearing on China’s implementation of its WTO commitments, testifying on behalf of an association representing many U.S. businesses operating in China, emphasized this aspect of U.S.-China trade:
 
Business is good.  And, if you ask many American companies, if not most  American companies, even the ones who are most exercised about apparent WTO lapses on the part of the Chinese whether 2003 is going to be better than 2002, most will say “yes.”  They [also] expect 2004 to be better than 2003.
 
The focus of this Report is on China’s progress in implementing its WTO commitments. In that sense, U.S. business success in China is not necessarily a demonstration of WTO implementation progress, nor does it necessarily signal that expectations are being fully met. Rather, China’s WTO implementation progress must be measured by the degree to which China has begun to institutionalize market mechanisms and to make its trade regime more predictable and transparent. By that score, the shortcomings in China’s WTO implementation are noteworthy. Unlike last year, China’s uneven and incomplete WTO compliance record can no longer be attributed to start-up problems.
 
China acceded to the WTO on December 11, 2001, after 15 years of negotiations with the United States and other WTO members. Under the terms of its accession, China committed to implement a set of sweeping reforms designed to implement the WTO’s market access, national treatment and transparency standards, to protect intellectual property rights (IPR), to limit the use of trade-distorting domestic subsidies and to make other changes to bring its legal and regulatory system in line with those of other WTO members. For China’s leadership, these commitments were primarily intended to consolidate and accelerate the market-oriented reforms responsible for lifting 300 million Chinese citizens out of poverty over the past 25 years. China also viewed joining the WTO as a means to ensure its continued access to export markets. In turn, other WTO members envisioned that faithful WTO implementation by China would reduce the ability of non-market forces, including government policies and officials, to intervene in the market to direct or restrain trade flows.
 
In its WTO accession agreement, China also agreed to two separate safeguard mechanisms designed to allow WTO members to cope with market disruptions caused by increasing economic integration with China. The first mechanism permits a China-specific safeguard and can be applied to any product being imported from China. The second mechanism applies specifically to textiles and apparel products. At the end of 2003, the Administration took action under the textile safeguard mechanism for three categories of products being imported from China.
 
Meanwhile, as China continued to pursue the implementation of its WTO commitments in  2003, China’s second year of WTO membership, a number of positive developments occurred. China began to take steps to correct systemic problems in its administration of the tariff-rate quota (TRQ) system for bulk agricultural commodities, largely in response to high-level engagement by the Administration. It relaxed certain barriers to soybean trade that allowed U.S. exporters to achieve record sales. It reduced capitalization requirements in certain financial services sectors. It opened up the motor vehicle financing sector. It solved outstanding concerns that had prevented China’s membership in the WTO’s Committee of Participants in the Expansion of Trade in Information Technology Products.
 
Despite these gains, 2003 also proved to be a year in which China’s WTO implementation efforts lost a significant amount of momentum. In a number of different sectors, including some key sectors of economic importance to the United States, China fell far short of implementing its WTO commitments, offsetting many of the gains made in other areas. Indeed, institutionalization of market mechanisms still remains incomplete, and intervention by Chinese government officials in the market is common. In many instances, China has sought to deflect attention from its inadequate implementation of required systemic changes by managing trade in such a way as to temporarily increase affected imports from vocal trading partners, such as the United States.
 
China’s WTO implementation efforts, it should be noted, have taken place against a challenging political and social backdrop. In 2003, China underwent a major leadership change, passed through a harrowing national SARS epidemic, undertook a sizeable restructuring of the government’s economic and trade functions, and confronted a host of dislocations inherent in its transition from a planned economy to a more market-oriented economy. These factors may have presented substantial challenges, but China still needs to fulfill its WTO commitments.
 
As highlighted in the 2002 Report, which covered China’s first year of WTO membership, China’s efforts were most problematic in the areas of agriculture, services, enforcement of intellectual property rights and transparency. Although we have seen progress in some of these areas in 2003 as a result of high-level engagement, they still remain areas of serious concern. 
 
At the same time, other areas of concern have developed, such as China’s questionable use of certain tax policies to favor domestic production. This year has also seen an increasing use of industrial policies to encourage domestic industries at the expense of imports from abroad or foreign businesses operating in China. This latter phenomenon is particularly apparent in the automotive sector, where a proposed industrial policy threatens to undercut many U.S. industry gains in China’s market. In addition, there are a number of important commitments that will face implementation deadlines in 2004, with those involving trading rights and distribution services being the most critical. It will require vigilance by the United States and other WTO members to ensure China fulfills these commitments.
 
As the slowdown in China’s WTO implementation efforts became evident in 2003, the Administration stepped up its efforts to engage senior Chinese leaders. Over the course of the past year, President Bush emphasized the importance of China’s WTO obligations in meetings with his counterpart, Hu Jintao, and with China’s Premier, Wen Jiabao. United States Trade Representative Zoellick made two separate visits to China for talks on WTO implementation matters with Premier Wen and with Vice Premier Wu Yi. He also raised U.S. concerns throughout the year with his Ministry of Commerce (MOFCOM) counterpart, including most recently at the October 2003 APEC meetings in Thailand. The Secretaries of Commerce and Treasury made their own trips to China, again carrying the message that China’s WTO implementation was a matter of the highest priority.  Sub-cabinet officials from various U.S. economic and trade agencies also met with their Chinese counterparts in China, Washington and Geneva to work through areas of concern, including WTO implementation issues, on numerous other occasions.
 
In 2003, the Administration also utilized the newly established sub-cabinet dialogue on WTO compliance and other trade matters (the Trade Dialogue), which brings together U.S. economic and trade agencies and various Chinese ministries and agencies with a role in China’s WTO implementation. Trade Dialogue meetings were convened twice in 2003, once in February, led by then Deputy United States Trade Representative Huntsman, and later in November, led by Deputy United States Trade Representative Shiner. The Trade Dialogue meetings have proven to be effective in communicating specific trade concerns and in serving as an early warning mechanism for emerging trade disputes.
 
This year’s report details China’s WTO compliance efforts regarding the entire range of accession commitments made by China.  A summary of the areas of the most concern to the United States follows.
 
Agriculture
 
China’s potential as a market for U.S. agricultural exports was a key factor in U.S. support for China’s WTO accession and the grant of permanent normal trade relations status to China. While China’s attempts to restrict certain agricultural imports have been an ongoing theme of the first two years of China’s WTO membership, high-level interventions by Administration officials have been able to contain much of the commercial impact of these barriers, particularly in 2003.  Indeed, from January through September 2003, U.S. exports of soybeans climbed above $1.2 billion – a record – and cotton exports, at $337 million, were 478 percent greater than during the same period in 2002. Many other agricultural products also fared well, as U.S. exports to China totaled $2.9 billion from January through September 2003, representing a 102 percent increase over the same period in 2002.
 
Again, however, increased sales alone are not indicative of full WTO implementation. China committed to make systemic changes designed to create fairness, predictability and transparency in agricultural trade.
 
In 2003, China’s actual and threatened use of unreasonable rules on biotechnology, most notably in the case of soybeans, and questionable sanitary and phytosanitary (SPS) measures have continued to frustrate efforts of U.S. agricultural traders to develop a consistent market for their exports to China. While many affected U.S. exports increased this year, in part because of high- level interventions by Administration officials, systemic problems with the biotechnology rules and China’s SPS administration continue to cloud market access. These and other emerging concerns, such as China’s apparent use of subsidies to promote certain agricultural exports, will require continued engagement by the Administration in order to prevent trade disruptions and ensure that China plays by the rules.
 
China’s administration of TRQs for bulk agricultural commodities is another area that has caused serious concern. Since China’s WTO accession, the setting of sub-quotas, use of Catch-22  import licensing procedures, allocation of TRQs in commercially unviable quantities and lack of transparency in TRQ allocation and management have combined to limit what should be an expanding market for U.S. exporters, particularly in the case of cotton. In June 2003, however, China agreed to address the United States’ most pressing systemic concerns with China’s TRQ system. Although the results of this settlement will not be clear until shipments begin to flow in early 2004, China has since taken steps to eliminate separate allocations for general trade and processing trade, eliminate certain unnecessary licensing requirements, and create a new mechanism for identifying allocation recipients.  Due to these developments, the United States decided not to initiate WTO dispute resolution on this issue in 2003.
 
Intellectual Property Rights
 
In the year leading up to its WTO accession, China did make significant improvements to its framework of laws and regulations covering intellectual property rights.  However, the lack of effective IPR enforcement in China is a major obstacle toward a meaningful system of IPR protection.  IPR problems are pervasive, covering the widespread production, distribution and end-use of counterfeit and pirated products, brands and technologies.  Violations include the rampant piracy of film, music, publishing and software products, infringement of pharmaceutical, chemical, information technology and other patents, and counterfeiting of consumer goods, electrical equipment, automotive parts and industrial products.  IPR infringements not only have an economic toll, but also present a direct challenge to China’s ability to regulate products that could have health and safety implications for China’s population and international consumers. While a domestic Chinese business constituency is increasingly active in promoting IPR enforcement, piracy and counterfeiting remain pervasive. If significant improvements are to be achieved on this front, China will have to close legal and enforcement loopholes and devote considerable resources, political will and high-level attention to this problem.
 
The United States has had an ongoing dialogue with China on IPR matters for a number of years. In the Administration’s view, keys to achieving effective IPR enforcement will be for China to lower thresholds for criminal prosecution, increase criminal penalties for IPR violators to deterrent levels, demonstrate a willingness to increase prosecution and punishment of IPR offenders, increase resources and devote more training for enforcement throughout China, and establish more effective communication procedures among relevant officials of China’s courts and investigative units, the Supreme People’s Procuratorate and China’s lawmaking bodies.
 
In recent months, the Chinese leadership has signaled a new resolve to address IPR enforcement issues.  In October 2003, Vice Premier Wu was appointed to head a Leading Group on IPR issues, which should help to reduce bureaucratic resistance and confusion on IPR enforcement among the numerous Chinese government entities with responsibilities in this area.  In remarks following her appointment, she acknowledged China’s IPR enforcement problem and explained that China was paying increasing attention to IPR enforcement, not just to implement its WTO commitments but also to attract more foreign investment as it opened up its market and to accelerate China’s economic and social progress.    She pledged that China would intensify its IPR enforcement efforts and penalize those who commit IPR infringement.
 
Services
 
Concerns continued to arise in many service sectors, principally due to transparency problems and China’s use of capitalization and other requirements that exceed international norms. The United States and China have cooperated to resolve some of these concerns, but progress has been slow and uneven. Following bilateral discussions, China did begin to take steps to substantially reduce capitalization requirements in the insurance sector. In some cases, such as express delivery services, much progress was made toward resolving regulatory concerns in 2002, but problematic measures have re-surfaced in 2003 and remain under consideration. In other cases, such as China’s implementation of its commitments on branching by insurance companies, the United States and China remain at odds despite a longstanding cooperative and otherwise productive dialogue with China’s regulators.
 
Value-Added Tax Policies
 
China uses value-added tax (VAT) policies to encourage domestic production in a number of industrial and agricultural sectors.  In the case of semiconductors, China’s policy of providing VAT rebates to domestic semiconductor producers disadvantages U.S. exports and raises serious WTO concerns. In the case of fertilizer, China exempts from the VAT fertilizer that is primarily produced domestically and that competes directly with the principal U.S. fertilizer export, another practice that raises serious WTO concerns. The Administration will continue to press China on these issues and will take further appropriate actions seeking elimination of China’s differential tax treatment, including dispute resolution at the WTO, if necessary.
 
Transparency
 
An area of cross-cutting concern continues to be transparency. While some Chinese ministries and agencies have taken steps to improve opportunities for public comment on draft laws and regulations, and to provide appropriate WTO enquiry points, China’s overall effort is plagued by uncertainty and a lack of uniformity. Some of China’s ministries and agencies seek selective comment on proposed regulations and implementing rules from domestic Chinese interests, while excluding participation from foreign businesses active in the China market. The Administration is committed to seeking improvements in this area.
 
Trading Rights and Distribution Services
 
Ensuring the unrestricted rights of all Chinese and foreign businesses to engage in importing and exporting was a key WTO accession commitment obtained by the United States and other WTO members, as was China’s commitment to fully liberalize the distribution services sector. To date, however, China has fallen behind in its implementation of these commitments, which are required to be phased in over the first three years of China’s WTO membership. Foreign businesses, in particular, continue to be beset by a variety of restrictions, which are undercutting market access for the entire range of U.S. businesses active in the China market. With full liberalization in these important areas required by December 11, 2004, Administration officials  are actively engaged with their Chinese counterparts in an effort to obtain China’s full compliance.
 
Conclusion
 
As this year’s Report reveals, while the U.S.-China economic and trade relationship is growing rapidly, there are a number of systemic concerns that remain, making further improvements in that relationship problematic. The Administration remains committed to resolving the United States’ concerns through all available means. The Administration’s preference is to resolve those concerns through bilateral consultations in a timely and effective manner. If bilateral efforts are not successful, however, the Administration is fully prepared to enforce U.S. rights through other means, including dispute resolution at the WTO.
 
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