MacroScan (Printable Version) - China and the WTO: Who Pays for Entry?

What seemed inevitable for almost two decades, finally seems imminent. The mid-November Sino-US agreement over the terms on which the US would support China's entry into the 135-member WTO, paves the way for the quick accession of that country into the world trading arrangement. Needless to say, the Chinese government would have to win the support of many other members as well. Under the rules governing the WTO, where voting rights are distributed on the one-nation, one-vote principle and which follows the convention of taking decisions by consensus, the general council or a ministerial conference has to approve a membership treaty drafted after agreement with all members on the terms of accession. This requires, in principle, bilateral deals with all member countries. While quite a few countries had virtually unconditionally backed China's request for membership, 12 formal bilateral deals have been inked so far and negotiations are still open with another 28 countries, including the European Union. However, for political reasons, agreement with the US was considered a major stumbling block. With that block having been cleared, full agreement is widely expected to follow soon, even if not in time for the Seattle ministerial meet at the end of November.

To most China watchers, this outcome seemed inevitable, once it was clear that the Chinese economic reform which began in 1978 would remain in place. This view was buttressed by the fact that, despite China's exclusion from the formal world trading arrangement during the 1980s and 1990s, exports constituted a major plank of its growth strategy under reform. The share of merchandise trade in China's aggregate product rose from 9.2 per cent in 1978 to 16.8 per cent in 1984 and more than 20 per cent in the mid-1990s.

This dependence on trade implied a growing engagement of world markets. China's share of world merchandise exports which stood at between 0.7 and 0.8 per cent during the 1970s, rose to 1.4 per cent in 1983 and stood at 2.9 per cent in 1996. In that year, China's share was higher than that of other leading developing country exporters like South Korea (2.5 per cent), Singapore (2.4 per cent), Taiwan (2.2 per cent) and Mexico (1.8 per cent). With exports constituting the goal of an important segment of domestic economic activity and China's presence in international markets increasing, it no more appeared sensible for China to be vulnerable to unilateral trade policy responses and tenuous bilateral arrangements. The dangers were epitomised by the debates which surrounded the annual exercise since 1974 in which the US Congress had to ratify continuing a normal trading relationship with China.

Not surprisingly, China declared in 1986 that it would like to be part of the multilateral framework governing world trade. The fact that China's accession is finally in sight only 13 years later is not primarily due to its own recalcitrance. There have been occasions when China has on many trade-related issues been willing to go further in the direction of liberalisation than developing countries participating in the multilateral trading arrangement. In fact, in the dispute over patent regimes during the later stages of the negotiations that led up to the Uruguay Round agreement, China's willingness to compromise at a bilateral level was quoted to smother developing-country opposition and buttress developed-country positions. What held back the final agreement were complex political and economic compulsions in the developed countries, especially the US.

That such compulsions played a role is clear from the fact that as recently as April, President Clinton turned down terms offered by China in return for US support for her entry, which were no different from those underlying the mid-November agreement. Those terms were by no means limited.

To start with, it involves a substantial degree of liberalisation of trade. China's average import tariffs are to be reduced by almost 5 percentage points or 23 per cent from 22.1 per cent to 17 per cent. Tariffs on some farm products exported by the US are to be reduced sharply to 15 per cent. And tariffs on automobiles, currently ranging up to 100 per cent are to be subject to a "front-loaded" reduction to 25 per cent over a six-year period.

Secondly, the package offers a number of new concessions for foreign firms and investors. For example, international automobile manufacturers and banks would be allowed to offer consumer loans for car purchases, which is a crucial concession given the high price of automobiles in China relative to incomes. Foreign manufacturers will also be allowed to distribute their own products imported from abroad and not be forced to rely on domestic distributors. Above all, foreign firms are to be provided an important role in the emerging and rapidly growing telecommunications sector (including internet). The agreement provides for foreign firms to hold 49 per cent of the equity in local ventures for a period of two years and 50 per cent subsequently.

The third area in which major concessions have been offered is the financial sector. Thus far foreign banks were allowed to offer their services to foreign companies operating in China. But under the terms of the agreement they would be allowed to offer their services to Chinese firms two years after their entry, providing loans, undertaking currency transactions and servicing their other banking requirements. Limits on the insurance business undertaken by foreign insurance companies are also to be gradually dismantled and they are to be allowed to increase the number and expand the size of their branches as well as enter new areas such as property. Market access is to be eased and enlarged for foreign legal and accounting firms as well. Finally foreign brokerage houses and mutual funds are to be allowed to form joint ventures with Chinese companies, holding 33 per cent initially and a possible 49 per cent subsequently.

In return for these substantial concessions, the US has agreed to support China's claim to WTO membership. But it has not offered very much else. In the contentious area of textiles, which is a major item in the Chinese export basket, quotas are to be phased out only by 2005. The US has also reserved for itself the right to respond in protectionist fashion to what it sees as import surges in the US market for a period of ten years, and to similarly respond to "dumping" for a period of 15 years. The experience under the Uruguay Round so far points to the ease with which such clauses can be converted into protectionist devices by developed countries.

The willingness of China, an important developing country exporter which has been struggling to join the formal multilateral trade framework, to make these compromises is to an extent understandable. What is less clear is why the US which, for political reasons, was earlier unwilling to accept even these terms, has suddenly come round to accepting an agreement which, according to some reports is not as good as the terms which were on offer and were rejected in April. Moreover, given the impending Presidential elections and the strong opposition to Chinese entry among the trade unions, the timing of the agreement is indeed surprising. The AFL-CIO has vowed to fight the deal, both because it threatens American jobs as well as goes against America's "democratic principles and most cherished values". And some local business interests, including the textile lobby have also sharply attacked the agreement.

If yet the Clinton administration has chosen to go through with it, it is possibly because of a strategic concern. It is indeed pointless not integrating an emerging economic power like China into current and future negotiations on the world trading system. But, more importantly, the willingness of China to make crucial concessions in areas like foreign investment and the financial sector could be an important source of pressure on recalcitrant developing countries unwilling to agree to start negotiations on investment and services, as part of a new Round. That could possibly explain the willingness to conclude an agreement on terms rejected only recently, in time for the ministerial meet at Seattle. As in the case of patents at the time of the Uruguay Round, China is implicitly being held up as a model of a developing country with a reasonable negotiating position.

Matters of course are far more complex. Given the political and legal structure in China, and autonomy of local governments especially after the reform, accepting an agreement is a far cry from implementing its provisions. Despite China's early acceptance of strong patent rights regulations earlier than many developing countries, not only is reverse engineering the rule among Chinese firms, but international firms detecting patent or copyright violations are rarely in a position to challenge them and get the government to initiate action.

In fact, this time around, the consequences of implementing the provisions of the agreement relating to trade liberalisation can be extremely damaging, especially for the state owned enterprises primarily created during the pre-reform years. There were 118,000 such firms in China in 1998. Though the contribution of these state-owned enterprises (SOEs) to China's industrial output had fallen from over 75 per cent in 1978 (when economic reform began) to less than 35 per cent in 1995, this was not so much due to the shrinkage of this sector as to the expansion in the rest of the industrial sector consisting of the collective enterprises, the individually owned enterprises, wholly foreign owned firms, and foreign joint ventures.

What is significant is that even now the SOEs dominate or even monopolise their chosen areas of operation, which are the capital-intensive, heavy and basic goods industries characterised by lumpy investments and long gestation lags. The significance of the state-owned enterprises comes through in other ways as well. For example, they still constitute the principal source of employment in urban China. In 1995, seven out of ten urban workers were employed in state firms. Such employment does not ensure just a wage, but a range of welfare benefits such as housing, medical care and retirement benefits. Further, state-owned enterprises constitute the primary source of tax revenue for government. In 1995, SOEs produced only 35 per cent of China's industrial output, but contributed 71 per cent of government revenues. Thus, it is not only directly that the SOEs contribute to the government's governance and welfare responsibilities, but indirectly, by providing the latter with the wherewithal to finance its own expenditures.

Trade liberalisation, which would subject these units to competition, and financial sector reform, which would make it extremely difficult for them to access the credit so crucial to their survival, mainly threatens these firms. Thus, the terms of WTO entry, if implemented, could spell unemployment and erode standards of living. According to the official Xinhua News Agency, China's Labour Minister Zhang Zuoji stated in a report to the financial and economic committee of the National People's Congress earlier this year, that more than three million workers in China's state-owned enterprises are expected to lose their jobs this year. They would join the six to seven million people who, having been retrenched from state firms, were yet to find new jobs. Zhang noted that, while China would need 24.5 billion yuan ($2.95 billion) this year to provide basic living expenses to laid-off workers, the amount currently available was only 19.5 billion yuan. This problem of inadequate support is bound to intensify if China resorts to massive trade and financial sector liberalisation involving partial retrenchment or closure of public sector units, since there were an estimated 113 million urban workers employed by state owned firms in 1995.

It is for this reason that it is hard to believe that China would go ahead with the kind of liberalisation it has promised on a range of fronts. In fact, there are many China watchers who are sceptical. For example the Financial Times quotes Gordon Chang, a lawyer in a Beijing firm, who argues that: "If it (China) really follows through on the agreement, the changes are going to be little short of revolutionary. This leads me to believe that the agreement is not going to be implemented as announced."

In the circumstances the view that all developing countries should give in to a more liberal and unequal global order just as China has done may be completely misplaced. China's giving in may be more rhetorical than real. And the competitive threat to developing countries from China, which has been intense in the past, is unlikely to increase after China's entry into the WTO.

Unfortunately misplaced views about the implications of China's entry are being aired in India as well, in defence of the position that India should 'learn from China' and not insist on a review of the Uruguay Round and raise too many objections to a new Millenium Round with a far-reaching agenda. But as in the case of developed-country spokespersons, this is just one more ruse to push through their own agenda.



Themes > Current Issues	19.11.1999


China and the WTO: Who Pays for Entry?

C.P. Chandrasekhar

What seemed inevitable for almost two decades, finally seems imminent. The mid-November Sino-US agreement over the terms on which the US would support China's entry into the 135-member WTO, paves the way for the quick accession of that country into the world trading arrangement. Needless to say, the Chinese government would have to win the support of many other members as well. Under the rules governing the WTO, where voting rights are distributed on the one-nation, one-vote principle and which follows the convention of taking decisions by consensus, the general council or a ministerial conference has to approve a membership treaty drafted after agreement with all members on the terms of accession. This requires, in principle, bilateral deals with all member countries. While quite a few countries had virtually unconditionally backed China's request for membership, 12 formal bilateral deals have been inked so far and negotiations are still open with another 28 countries, including the European Union. However, for political reasons, agreement with the US was considered a major stumbling block. With that block having been cleared, full agreement is widely expected to follow soon, even if not in time for the Seattle ministerial meet at the end of November. To most China watchers, this outcome seemed inevitable, once it was clear that the Chinese economic reform which began in 1978 would remain in place. This view was buttressed by the fact that, despite China's exclusion from the formal world trading arrangement during the 1980s and 1990s, exports constituted a major plank of its growth strategy under reform. The share of merchandise trade in China's aggregate product rose from 9.2 per cent in 1978 to 16.8 per cent in 1984 and more than 20 per cent in the mid-1990s. This dependence on trade implied a growing engagement of world markets. China's share of world merchandise exports which stood at between 0.7 and 0.8 per cent during the 1970s, rose to 1.4 per cent in 1983 and stood at 2.9 per cent in 1996. In that year, China's share was higher than that of other leading developing country exporters like South Korea (2.5 per cent), Singapore (2.4 per cent), Taiwan (2.2 per cent) and Mexico (1.8 per cent). With exports constituting the goal of an important segment of domestic economic activity and China's presence in international markets increasing, it no more appeared sensible for China to be vulnerable to unilateral trade policy responses and tenuous bilateral arrangements. The dangers were epitomised by the debates which surrounded the annual exercise since 1974 in which the US Congress had to ratify continuing a normal trading relationship with China. Not surprisingly, China declared in 1986 that it would like to be part of the multilateral framework governing world trade. The fact that China's accession is finally in sight only 13 years later is not primarily due to its own recalcitrance. There have been occasions when China has on many trade-related issues been willing to go further in the direction of liberalisation than developing countries participating in the multilateral trading arrangement. In fact, in the dispute over patent regimes during the later stages of the negotiations that led up to the Uruguay Round agreement, China's willingness to compromise at a bilateral level was quoted to smother developing-country opposition and buttress developed-country positions. What held back the final agreement were complex political and economic compulsions in the developed countries, especially the US. That such compulsions played a role is clear from the fact that as recently as April, President Clinton turned down terms offered by China in return for US support for her entry, which were no different from those underlying the mid-November agreement. Those terms were by no means limited. To start with, it involves a substantial degree of liberalisation of trade. China's average import tariffs are to be reduced by almost 5 percentage points or 23 per cent from 22.1 per cent to 17 per cent. Tariffs on some farm products exported by the US are to be reduced sharply to 15 per cent. And tariffs on automobiles, currently ranging up to 100 per cent are to be subject to a "front-loaded" reduction to 25 per cent over a six-year period. Secondly, the package offers a number of new concessions for foreign firms and investors. For example, international automobile manufacturers and banks would be allowed to offer consumer loans for car purchases, which is a crucial concession given the high price of automobiles in China relative to incomes. Foreign manufacturers will also be allowed to distribute their own products imported from abroad and not be forced to rely on domestic distributors. Above all, foreign firms are to be provided an important role in the emerging and rapidly growing telecommunications sector (including internet). The agreement provides for foreign firms to hold 49 per cent of the equity in local ventures for a period of two years and 50 per cent subsequently. The third area in which major concessions have been offered is the financial sector. Thus far foreign banks were allowed to offer their services to foreign companies operating in China. But under the terms of the agreement they would be allowed to offer their services to Chinese firms two years after their entry, providing loans, undertaking currency transactions and servicing their other banking requirements. Limits on the insurance business undertaken by foreign insurance companies are also to be gradually dismantled and they are to be allowed to increase the number and expand the size of their branches as well as enter new areas such as property. Market access is to be eased and enlarged for foreign legal and accounting firms as well. Finally foreign brokerage houses and mutual funds are to be allowed to form joint ventures with Chinese companies, holding 33 per cent initially and a possible 49 per cent subsequently. In return for these substantial concessions, the US has agreed to support China's claim to WTO membership. But it has not offered very much else. In the contentious area of textiles, which is a major item in the Chinese export basket, quotas are to be phased out only by 2005. The US has also reserved for itself the right to respond in protectionist fashion to what it sees as import surges in the US market for a period of ten years, and to similarly respond to "dumping" for a period of 15 years. The experience under the Uruguay Round so far points to the ease with which such clauses can be converted into protectionist devices by developed countries. The willingness of China, an important developing country exporter which has been struggling to join the formal multilateral trade framework, to make these compromises is to an extent understandable. What is less clear is why the US which, for political reasons, was earlier unwilling to accept even these terms, has suddenly come round to accepting an agreement which, according to some reports is not as good as the terms which were on offer and were rejected in April. Moreover, given the impending Presidential elections and the strong opposition to Chinese entry among the trade unions, the timing of the agreement is indeed surprising. The AFL-CIO has vowed to fight the deal, both because it threatens American jobs as well as goes against America's "democratic principles and most cherished values". And some local business interests, including the textile lobby have also sharply attacked the agreement. If yet the Clinton administration has chosen to go through with it, it is possibly because of a strategic concern. It is indeed pointless not integrating an emerging economic power like China into current and future negotiations on the world trading system. But, more importantly, the willingness of China to make crucial concessions in areas like foreign investment and the financial sector could be an important source of pressure on recalcitrant developing countries unwilling to agree to start negotiations on investment and services, as part of a new Round. That could possibly explain the willingness to conclude an agreement on terms rejected only recently, in time for the ministerial meet at Seattle. As in the case of patents at the time of the Uruguay Round, China is implicitly being held up as a model of a developing country with a reasonable negotiating position. Matters of course are far more complex. Given the political and legal structure in China, and autonomy of local governments especially after the reform, accepting an agreement is a far cry from implementing its provisions. Despite China's early acceptance of strong patent rights regulations earlier than many developing countries, not only is reverse engineering the rule among Chinese firms, but international firms detecting patent or copyright violations are rarely in a position to challenge them and get the government to initiate action. In fact, this time around, the consequences of implementing the provisions of the agreement relating to trade liberalisation can be extremely damaging, especially for the state owned enterprises primarily created during the pre-reform years. There were 118,000 such firms in China in 1998. Though the contribution of these state-owned enterprises (SOEs) to China's industrial output had fallen from over 75 per cent in 1978 (when economic reform began) to less than 35 per cent in 1995, this was not so much due to the shrinkage of this sector as to the expansion in the rest of the industrial sector consisting of the collective enterprises, the individually owned enterprises, wholly foreign owned firms, and foreign joint ventures. What is significant is that even now the SOEs dominate or even monopolise their chosen areas of operation, which are the capital-intensive, heavy and basic goods industries characterised by lumpy investments and long gestation lags. The significance of the state-owned enterprises comes through in other ways as well. For example, they still constitute the principal source of employment in urban China. In 1995, seven out of ten urban workers were employed in state firms. Such employment does not ensure just a wage, but a range of welfare benefits such as housing, medical care and retirement benefits. Further, state-owned enterprises constitute the primary source of tax revenue for government. In 1995, SOEs produced only 35 per cent of China's industrial output, but contributed 71 per cent of government revenues. Thus, it is not only directly that the SOEs contribute to the government's governance and welfare responsibilities, but indirectly, by providing the latter with the wherewithal to finance its own expenditures. Trade liberalisation, which would subject these units to competition, and financial sector reform, which would make it extremely difficult for them to access the credit so crucial to their survival, mainly threatens these firms. Thus, the terms of WTO entry, if implemented, could spell unemployment and erode standards of living. According to the official Xinhua News Agency, China's Labour Minister Zhang Zuoji stated in a report to the financial and economic committee of the National People's Congress earlier this year, that more than three million workers in China's state-owned enterprises are expected to lose their jobs this year. They would join the six to seven million people who, having been retrenched from state firms, were yet to find new jobs. Zhang noted that, while China would need 24.5 billion yuan ($2.95 billion) this year to provide basic living expenses to laid-off workers, the amount currently available was only 19.5 billion yuan. This problem of inadequate support is bound to intensify if China resorts to massive trade and financial sector liberalisation involving partial retrenchment or closure of public sector units, since there were an estimated 113 million urban workers employed by state owned firms in 1995. It is for this reason that it is hard to believe that China would go ahead with the kind of liberalisation it has promised on a range of fronts. In fact, there are many China watchers who are sceptical. For example the Financial Times quotes Gordon Chang, a lawyer in a Beijing firm, who argues that: "If it (China) really follows through on the agreement, the changes are going to be little short of revolutionary. This leads me to believe that the agreement is not going to be implemented as announced." In the circumstances the view that all developing countries should give in to a more liberal and unequal global order just as China has done may be completely misplaced. China's giving in may be more rhetorical than real. And the competitive threat to developing countries from China, which has been intense in the past, is unlikely to increase after China's entry into the WTO. Unfortunately misplaced views about the implications of China's entry are being aired in India as well, in defence of the position that India should 'learn from China' and not insist on a review of the Uruguay Round and raise too many objections to a new Millenium Round with a far-reaching agenda. But as in the case of developed-country spokespersons, this is just one more ruse to push through their own agenda.



© MACROSCAN 1999