Monday February 20, 2017

The Outlook for China’s Market Economy Status

June 6, 2016

6359995671779456917188703

Credit: Baidu.com

Criticism rocketed in Washington and Brussel for China’s unchained capability to dump in the international market long before December 11, 2016, when China’s accession agreement to the WTO was supposed to automatically grant it the Market Economy Status (MES) as written in under Section 15. Since China’s accession to the WTO in 2001, trade partners have been able to calculate the price of Chinese exports using Non-Market Economy (NME) methodologies, which factor in Chinese government’s subsidies, instead of referring to domestic prices. The NME in general leads to higher anti-dumping and anti-subsidy tariffs on Chinese products and is normatively applied as a way to prevent disastrous impacts the controlled influx of subsidized cheap Chinese product might cause across domestic industries.

The Worst Possible Timing

There has been no shortage of stories on U.S.-China trade frictions recently. Just in the past May, the USTR filed a request for consultation with China at the WTO with regards to China’s duties imposed on U.S. poultry exports, another round of the seesaw accusations the two sides have initiated since 2011. Meanwhile, China’s overseas sales in the first four months were already 7.6 percent higher at the same time in 2015, when the country exported a record 112 million tons. On May 27, 2016, the U.S. Department of Commerce increased import duties on Chinese steel products by imposing a 210 percent anti-dumping duty in addition to anti-subsidy duties as high as 241 percent. The U.S.-trade relation, along with China’s other controversial market restrictions and the military development on the South China Sea, easily makes 2016 the worst year in U.S.-China relation under President Obama.

However, worries are not solely on the U.S. side. If Mr. Zhu Rongji, the Chinese Premier back to then who negotiated a NME sunset date at the end of 2016, could foresee the political reality today he would think again. Indeed, the debt on whether to grant China Market Economy Status came in the least opportune political time window. At the moment, EU lawmakers have expressively uttered its intention to continue to treat China as a non-market economy as there has been no short of trade frictions between the two. At the end of 2015, the EU parliament extended its anti-subsidy and anti-dumping tariffs on Chinese Solar PV imports. In the first quarter of 2016, the massive influx of Chinese steels concerned world leaders. In the U.S., while both political parties’ leading candidates now are lashing the U.S.-China trade relation, the security relation between the world’s two largest economies was dropping to an ice point, even if the topic might not be officially brought up to U.S. Senate Calendar until after the election. There is no guarantee that President Obama would like to crown China as a “market economy”, even in name only.

There are three options on U.S. policymakers table:

1.  Granting China MES as written in the WTO Accession Agreement

After the EU Parliament and USTR’s multiple statements made recently rejecting China’s MES status, the hope for a MES status without string attached is now abysmal. Treating China like other market economies will not only likely crash domestic economy as cheaper Chinese goods and production cost further shift jobs oversea, but also brings short-sighted inertia to China’s domestic effort to shake its reliance on export—a step back from the ongoing economic reform.

2.  A Complete Denial on China’s MES

As the USTR and other leaders from a wide array of positions repeatedly said, the U.S. and the EU do not see China as a market economy. Although, such arguments are substantively grounded, inflaming China with a complete denial on the legally binding promises inserted in the World’s largest trade organization defied not only the WTO and but also the entire FTA-based global trade system. Most importantly, there is severe repercussion associated with a complete denial as China is also the largest export destination for many of U.S. products. A total war of trade between the two largest exporters eventually means more financial burdens and job losses on both sides.

3.  Granting China MES will concurrently install alternative policy tools to safeguard vulnerable sectors

There are two and a half assumptions that are almost indisputable, associated with this option:

First, a large portion of Chinese economy still runs under state control. The globally-problematic overcapacity in the steel and mining sectors are largely the State’s make and examples of the non-market nature of the Chinese economy. Despite the recent effort to cut capacity and reorient the economy to a consumption-led model, the Chinese government, either through direct ownership, equity control, or industry subsidies, or bank loans, continues to support various Chinese industry on a degree that influences international commodity prices.

Second, a growing portion of the Chinese economy is now operated with market principles. With the booming technology and manufacturing sector in the past two decades, state control did leave many parts of the private economy untapped and are now actively to downsize SOEs and unnecessary subsidies.

An additional half point, in light of the Thirteenth Five-Year Plan (十三五), China is continuing and will continue to take measures to liberalize its market as it is in the long-term interest of the Chinese economy, as well as the legitimacy of the CCP. This assumption could be susceptible to Chinese domestic factors and the short-term economic performances of China. With a less-than-satisfactory private sector investment growth and mounting SOE and local debts in the first quarter, the future and political wills on China’s economic reform remains opaque—directly introducing uncertainty on whether China might reverse to the old model with more reliance on unfair trade advantages.

On top of the two and half assumptions, the U.S. government could arrive at a middle-of-the-road approach that aims at avoiding the dishonoring of the WTO system while holding China accountable through ending the MNE price calculation mechanism and imposing the other policy measures on Chinese imports on the most vulnerable sectors.

The “alternative tool” model is one that also looks appealing to the EU lawmakers when igniting a trade war will eventually hurt the consumers globally and discredit the world trade system.

Fortunately, the U.S. and its trade partners have sufficient technical capability to craft those policy measures described to protect domestic consumers and businesses while staying in line with international trade agreements. What lacks now is political will.

Drafted and edited by Zhengyuan Bo.