China in the WTO

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I. Review of China’s WTO Compliance in 2004		1
A. Major Compliance Concerns		1
B. USTR’s 2004 Report on China’s WTO Compliance		3
C. Other Reports on China’s WTO Compliance		20
1. American Chamber of Commerce – PRC		20
2. U.S. Chamber of Commerce		22
3. US-China Business Council		26
II. China WTO Issues and U.S. Enforcement		27
A. The Use of China-Specific Safeguards in the United States		27
1. China Accession Provisions		27
a. Product-Specific Safeguards		28
b. Textile Safeguards		29
2. U.S. Application of China-Specific Safeguards		31
a. Product-Specific Safeguards		31
b. Textile Safeguards		37
3. Effectiveness and Possible Modifications to China-Specific Safeguards		47
a. Product-Specific Safeguards		47
b. Textile Safeguards		49
B. China’s Exchange Rate Policy and the Likelihood of a Successful WTO Challenge		50
1. China’s Exchange Rate Policy		50
2. Possible Grounds for a WTO Challenge to China’s Exchange Rate Policy		52
3. Likelihood of a Successful WTO Challenge to China’s Exchange Rate Policy		55
C. Non-Market Economy Status of China in U.S. Antidumping Proceedings and Prospects for Change		56
1. NME Country Definition		56
2. NME Methodology		58
3. U.S.-China Working Group on China’s NME Status		59
4. Prospects for Change in China’s NME Status		63
D. Status of U.S. Policy Regarding Application of Countervailing Duty Law to China and Other Non-Market Economy Countries		67
1. Definition of a Non-Market Economy Country		68
2. Background to Current Policy		68
3. Possible Ways to Address Chinese Subsidy Practices		71
a. Statutory amendment		71
b. Change in policy by Commerce		71
c. Action at the WTO		74
E. Intellectual Property Rights		76
1. Problems of Infringement and Enforcement		76
2. U.S. Efforts to Address IPR Problems		79
3. Potential Ways to Reduce Infringement and Improve Enforcement of IPR		83
F. Areas of China’s WTO Non-Compliance That Should Be Considered For Possible WTO Challenges		85
G. Cooperation and Competition Between the U.S. and Other Members Regarding China Issues		89
1. Areas Where the U.S. Can Work Jointly With Other WTO Members to Encourage China’s Compliance With its WTO Obligations		89
2. Areas Where the U.S. is Likely to Face Competition With Other WTO Members With Respect to Favorable Trade Terms With China		90
III. Transitional Review Mechanism		95
A. Review of the Third Transitional Review Mechanism (TRM)		95
1. Member Participation		96
2. Interaction Between China and Other Members on Procedural Issues		99
3. U.S. Concerns and China’s Responses		102
a. Agricultural TRQs		102
b. Auto Policy		103
c. Subsidies		105
d. Export Restrictions on Coke		107
e. Services		109
f. Intellectual Property Rights (IPR)		114
B. Assessment of the Effectiveness of the TRM Process		118

I. Review of China’s WTO Compliance in 2004

In many respects, China made significant progress in 2004 in meeting the obligations and commitments it assumed upon accession to the World Trade Organization (WTO). In a number of areas, however, China’s compliance has fallen short of its commitments. The following sections review WTO compliance issues identified in the reports issued by the U.S. Trade Representative and selected private sector groups.

A. Major Compliance Concerns

In 2004, the primary areas of compliance concerns noted by the U.S. and private sector interested parties were the following:

Intellectual property rights

o While China has undertaken major efforts to revise its laws and regulations regarding patents, trademarks, and copyrights to comply with the requirements of the TRIPS Agreement, enforcement of intellectual property rights, while improved, is far from adequate. All observers state that counterfeiting and piracy in China remained rampant in 2004. China’s failure to adequately enforce IPR is a major problem for many WTO members and has had enormous economic impact on U.S. businesses.

Trading and distribution rights

o While China implemented its commitment to full trading rights (right to import and export) ahead of schedule in 2004, concerns remain regarding distribution rights in China. China issued regulations providing for implementation of distribution rights but U.S. businesses are concerned that China has not issued rules clarifying how the application and approval process for acquiring distribution rights will work.

o Regarding sales away from a fixed location (direct selling), China failed to meet its commitment to open this market to foreign providers by December 11, 2004.

Services

o In many services sectors, China has met the letter of its liberalization commitments but has frustrated market openings with new burdensome licensing and operating requirements.

o Such regulatory burdens as the imposition of high capital requirements, prudential rule requirements that exceed international norms, branching restrictions, and threshold criteria that are more restrictive of the scope of activities permitted than existed before accession, have affected U.S. providers of insurance services, express delivery services, telecommunications services, and construction services, among others.

Agriculture

o While China has become a growing market for U.S. agricultural exports (2003 exports amounted to $5.4 billion), there were continuing problems with market access and transparency.

o In particular, some notable concerns were:

§ biotechnology regulations regarding risk assessment, labeling and field trials

§ transparency deficiencies in China’s tariff rate quota regime for bulk agricultural commodities (such as wheat, corn, cotton and vegetable oils)

§ sanitary and phytosanitary (SPS) regulations that are overly restrictive or not based on sound science

Industrial policies

o In a number of areas, China has employed policies that effectively limit market access, impose conditions on market access, or give preferential treatment.

o Examples include:

§ discriminatory VAT policies affecting semiconductors (issue was resolved bilaterally) and fertilizer

§ failure to provide national treatment with respect to price controls on medicines and drug reimbursement

§ preferential import duties and VAT treatment to certain products (particularly from Russia)

§ discriminatory application of SPS measures

§ disparate standards testing of foreign products compared to domestic products

§ inadequate transparency regarding proposed technical regulations and conformity assessment procedures

§ development of unique standards for products where international standards already exist (affecting such areas as autos, telecommunications equipment, wireless local area networks, radio frequency identification tag technology, audio video coding, whiskey and other distilled spirits, and fertilizer)

§ inconsistent application of the China Compulsory Certification (CCC) mark requirement and failure, so far, to accredit any foreign-invested conformity assessment enterprise capable of testing and certifying the CCC mark

§ investment laws and regulations that continue to “encourage” technology transfer

§ auto industrial policy that discourages imports of auto parts and encourages use of domestic technology

§ government procurement policy that mandates purchases of Chinese-produced software to the extent possible

B. USTR’s 2004 Report on China’s WTO Compliance

On December 11, 2004, the Office of the U.S. Trade Representative (USTR) issued its third annual review of China’s compliance with its WTO accession commitments and obligations. The USTR conducted its monitoring of China’s compliance efforts and published its report, 2004 Report to Congress on China’s WTO Compliance, pursuant to Congress’ statutory directive and mandate.[1] See U.S.-China Relations Act of 2000, P.L. 106-286, section 421; 22 U.S.C. § 6951. The USTR’s China Compliance Report examines nine broad categories of China’s WTO commitments. In its report, USTR notes both progress achieved since China’s accession as well as continuing shortcomings regarding China’s performance of its commitments. While USTR’s report is comprehensive, its main focus is on the trade concerns that have been raised by U.S. business interests (“stakeholders”), with particular emphasis upon continuing shortcomings regarding China’s performance of its commitments, rather than upon the many non-controversial areas where China has satisfactorily complied with WTO commitments. As identified and singled out in USTR’s report, the following tables highlight China’s compliance deficiencies (as well as some important successes) in the third year of its WTO membership (2004) that most affected U.S. stakeholders.

1. Trading Rights and Distribution Services[2]

Trading Rights

· “Trading rights” involves two elements: the right to import goods (into China) and the right to export goods (from China). “Trading rights” are critical to the ability of U.S. businesses to operate and expand in China and to be able to receive the value of other commitments made by China.

· China had committed to fully grant trading rights to all entities (both domestic and foreign) by the end of the third year after accession (i.e., by December 11, 2004).

· In the first two years of membership, however, China fell behind in granting phased-in trading rights to foreign-invested enterprises. Even up to mid-2004, China limited trading rights by retaining certain conditions on trading rights (e.g., minimum registered capital requirements, import levels, export levels, and prior experience) that China had committed to eliminate.

· In January 2004, China drafted a revised Foreign Trade Law that included provisions meeting its trading rights commitments. The final revised Foreign Trade Law was issued in April 2004. It provided for the automatic grant of trading rights through a registration process.

· At the JCCT meeting in April 2004, China agreed to implement its trading rights commitments six months ahead of schedule, that is, by July 1, 2004.

· In June 2004, China’s MOFCOM issued final implementing rules and the grant of full trading rights became effective on July 1, 2004.

· USTR reports that U.S. companies have reported few problems regarding the new trading rights registration process.

Distribution Services

· With limited exceptions, China committed to end national treatment and market access restrictions on foreign enterprises providing distribution services through a local presence within three years of China’s accession.

· In the first two years of membership, China fell behind in liberalizing distribution services. China did not begin to liberalize until mid-2004, when MOFCOM issued regulations that eliminated national treatment and market access restrictions on joint ventures providing wholesaling services, commission agents’ services, direct retailing services (other than sales away from a fixed location) and franchising services. China provided that these services would be allowed through an approval certificate process. The regulations also provided that liberalization would extend to wholly foreign-owned enterprises on December 11, 2004.

· USTR notes the following deficiencies:

§ MOFCOM has delayed issuing implementing regulations, with the result that the procedures for securing the necessary approval certificates are not clear and foreign enterprises have so far been prevented from providing wholesaling, commission agents’, and franchising services.

§ MOFCOM has delayed issuing regulations on sales away from a fixed location, or direct selling, with the result that foreign enterprises have been prevented from starting up direct selling activities.

Wholesaling Services and Commission Agents’ Services

· China committed to a gradual phase-in of wholesaling services and commission agents’ services by foreign-invested enterprises regarding goods made by other enterprises in China or imported goods, beginning December 2002, with full services allowed to wholly-foreign invested enterprises by December 11, 2004.

· China, however, did not comply with its timetable. In 2003 and into 2004, China continued to restrict theses services to joint ventures with minority foreign ownership and continued to impose restrictions such as stringent qualification requirements.

· In April 2004, MOFCOM issued regulations that eliminated market access and national treatment restrictions on wholly foreign-owned enterprises and reduced capital requirements as of the scheduled phase-in date of December 11, 2004. Under the regulations, enterprises must obtain central or provincial-level MOFCOM approval before providing these services.

· USTR notes the following deficiencies:

§ MOFCOM has not yet provided guidance or implementing rules as to how the central or provincial-level approval system will work.

Retailing Services

· China committed to a gradual phase-out of restrictions (such as geographic and quantitative limitations) on retailing services by foreign enterprises, with wholly-foreign invested enterprises permitted full retailing services by December 11, 2004.

· China, however, did not comply with its phase-in schedule. In 2003 and into 2004, China continued to restrict retailing services through burdensome conditions (such as minimum threshold requirements as to volume, imports/exports, assets, registered capital, and prior experience).

· USTR notes the following deficiencies:

§ As with wholesaling services, MOFCOM has not yet issued guiding rules as to how its approval system will operate.

Sales away from a fixed location

· China committed to end market access and national treatment restrictions for sales away from a fixed location (direct selling) by December 11, 2004.

· During 2004, MOFCOM drafted three regulations to implement the direct selling commitment, but China did not make these draft regulations available for public comment.

· Based on its knowledge of the draft regulations, USTR notes the following potential problems:

§ National treatment: the draft regulation permits direct selling of domestically-produced goods, but restricts selling of imported goods to a fixed location.

§ Other provisions have requirements that appear to make direct selling commercially unviable.

2. Import Regulation[3]

Tariffs

· In general, USTR found that China complied with its commitment to make the tariff reductions in both agricultural and industrial goods that were required as of January 1, 2004.

Customs and Trade Administration

Customs Valuation

· Upon accession, China assumed the obligations of the WTO Agreement on Customs Valuation and agreed to implement these without a transition period. In January 2002, China issued customs valuation regulations. In addition, by December 11, 2003, China had committed to value digital products (e.g., floppy disk, cd-rom) based on the value of the underlying carrier medium, rather than the imputed value of the content.

· USTR notes the following deficiencies:

§ China has not uniformly implemented its regulations with the result that U.S. exporters are still encountering valuation problems at Chinese ports. These problems include: (1) valuation based on reference pricing instead of transaction value; (2) addition of royalties and license fees to the dutiable value of imported software; (3) non-uniform valuation by ports of particular digital products; and (4) valuation of high-value electronic media to be used to produce multiple copies of products (e.g., DVDs) based on the estimated value of the future copies instead of the value of the carrier medium itself.

Rules of Origin

· Upon accession, China became subject to the WTO Agreement on Rules of Origin.

· USTR has not raised concerns about China’s implementation of its rules of origin obligations, except to note that China has not been adequately transparent in drafting and issuing its implementing regulations (e.g., China did not circulate draft regulations for comment).

Import Licensing

· Respecting China’s adherence to the WTO Import Licensing Agreement, USTR reports that it has raised various concerns regarding MOFCOM’s automatic and non-automatic licensing regulations in order to promote clarity and to ensure no trade-distorting effects.

Non-tariff Measures

· China agreed to eliminate numerous nontariff measures (NTMs), including import quotas, licenses and tendering requirements covering numerous products. For some products, the NTMs were ended upon accession. For other products, China agreed to a transitional phase out of NTMs (e.g., on autos and auto parts, crude oil, refined oil, and tires), with all NTMs ended by January 1, 2005.

· China agreed to provide detailed procedures for allocating import quotas during the phase-out period, but, during the transition period, China’s quota system had many problems. USTR notes that necessary regulations were issued late, quotas were allocated late, and lack of transparency prevented knowing if the quotas were allocated properly.

· As of January 1, 2005, China committed to have no import quotas in place.

Tariff-rate Quotas on Industrial Products

· China agreed to implement a transparent system of TRQs to give access for three industrial products, including fertilizer, a major U.S. export.

· USTR notes the following deficiencies:

§ China was slow to implement its TRQ system in 2002, and there was a lack of transparency.

§ In 2003, China issued the quota allocations on time but discouraged TRQ holders from freely using their quotas. U.S. fertilizer exports decreased by 47% in 2003 and by 18% in 2004 (Jan-Sept).

Other Import Regulation

Antidumping

· China agreed to conform its regulations and procedures to the WTO Antidumping Agreement.

· USTR notes the following deficiencies:

§ China’s AD practice has not been adequate with respect to transparency and fair procedures. For example, the Chinese authorities have not provided parties with sufficiently detailed information or provided adequate disclosure of the facts and calculations on which the AD determination is based.

Countervailing Duties

· China agreed to conform its regulations and procedures to the WTO Agreement on Subsidies and Countervailing Measures.

· USTR finds that China’s regulations and procedural rules generally accord with the Subsidies Agreement, but that certain provisions are not implemented.

· China has not yet initiated any subsidies proceeding.

Safeguards

· China agreed to conform its regulations and procedures to the WTO Safeguards Agreement.

· USTR finds that China’s regulations and procedural rules generally accord with the Safeguards Agreement, but that certain provisions have not been implemented.

· China has initiated one safeguards proceeding (steel products). The safeguard measure was terminated in December 2003.

3. Export Regulation[4]

· China agreed to maintain export restrictions in accordance with WTO rules, which generally prohibit (with exceptions) export restrictions (other than duties, taxes or other charges) (GATT Article XI).

· USTR notes the following deficiencies:

§ China has continued to impose export restrictions on certain products, most notably blast furnace coke and fluorspar.

§ In 2004, export restrictions on coke adversely affected U.S. integrated steel producers and their customers. China’s quota, and the illegal sale of export quota certificates, caused a significant increase in the export price of coke.

§ Although, in late July 2004, China increased the quota and the export price declined, USTR continues to urge China to end export quotas on coke.

§ Regarding fluorspar, China imposes quotas and license fees on fluorspar exports, but does not restrict domestic users of fluorspar.

4. Internal Policies Affecting Trade[5]

Non-discrimination

· China agreed to abide by the core GATT 1994 principles of Most-Favored Nation (MFN) (nondiscrimination) and national treatment, and to repeal or revise laws inconsistent with those principles.

· USTR notes the following deficiencies:

§ Although China revised many of its laws that conflicted with MFN and national treatment, China has not applied MFN and national treatment in all areas.

§ U.S. pharmaceutical manufacturers have noted national treatment problems regarding price controls on medicines and drug reimbursement.

§ China has applied preferential import duties and VAT treatment to certain products (particularly from Russia).

§ From accession, China has continued to discriminate in applying SPS measures.

Taxation

· China agreed that its tax laws would conform to MFN and national treatment principles.

VAT Policies

· USTR notes the following national treatment deficiencies in China’s VAT system:

§ In 2004, China applied discriminatory VAT rates to imports of semiconductors and fertilizer but not to domestically-produced semiconductors and fertilizer.

§ With respect to semiconductors, the U.S. initiated the dispute settlement process in March 2004. In July 2004, the issue was resolved when China agreed to eliminate the VAT on semiconductors.

§ With respect to fertilizer, China exempts all phosphate fertilizers except DAP (a fertilizer the U.S. exports to China) from a 13% VAT. So far, China has not changed this policy.

§ Generally, some U.S. industries complain that Chinese producers can avoid VAT payments (through poor collection procedures, special deals or even fraud), while importers must pay the VAT.

Consumption Taxes

· USTR notes the following national treatment deficiencies in China’s consumption taxes:

§ The effective consumption tax rate on imported products (e.g., spirits/alcoholic beverages, tobacco, cosmetics and skin/hair care preparations, jewelry, fireworks, rubber, motorcycles and automobiles) is substantially higher than the rate applied to domestic products because China uses different tax bases to compute consumption taxes for domestic and imported products.

Subsidies

· Upon accession, China assumed the obligations of the WTO Subsidies Agreement, including the elimination of prohibited subsidies (export subsidies and import substitution subsidies).

· USTR notes the following deficiencies:

§ Since accession, China has failed to submit to the WTO Subsidies Committee any notifications of its subsidy programs (an annual requirement). (However, in November 2004, in the Goods Council TRM, China committed to submit its subsidies notification within 2005.)

Price Controls

· An annex to China’s accession agreement listed products and services subject to price control or government guidance pricing. In 2004, China maintained its price controls and guidelines on the listed products and services (e.g., pharmaceuticals, natural gas, transportation (including freight transportation), tobacco, and other agricultural products).

Standards, Technical Regulations and Conformity Assessment Procedures

· China assumed the obligations of the Agreement on Technical Barriers to Trade which sets rules and procedures regarding the development, adoption and application of voluntary product standards, mandatory technical regulations, and testing/certification procedures. The TBT Agreement is directed to preventing the use of technical requirements as unnecessary barriers to trade.

Restructuring of Regulators

· China has made significant changes to its standards and technical regulations regime.

· USTR notes the following deficiencies:

§ Despite China’s changes to its standards testing regime, in some sectors, foreign products are tested in specially designated laboratories that are separate from those laboratories used to test domestic products. This disparate testing can lead to uneven treatment.

Transparency

· USTR notes the following deficiencies:

§ China’s notifications of proposed technical regulations and conformity assessment procedures have been submitted by two agencies (AQSIQ or SAC). TBT measures from other Chinese agencies have not been notified.

§ When TBT measures have been notified, in some cases, the comment periods have been unacceptably short, or the comments disregarded.

Standards and Technical Regulations

· China has made progress in conforming its technical regulations to international standards.

· USTR notes the following deficiencies:

§ In some sectors, China has been developing unique requirements even where there are well-established international standards (e.g., autos, telecommunications equipment, wireless local area networks, radio frequency identification tag technology, audio video coding, whiskey and other distilled spirits, and fertilizer).

§ These unique standards will create significant barriers to market entry and make the cost of compliance high for foreign companies.

§ One example was China’s issuance in May 2003 of two mandatory standards for encryption over Wireless Local Area Networks (WLANs) (which incorporated the WLAN Authentication and Privacy Infrastructure (WAPI) encryption technique), applicable to domestic and imported equipment containing WLAN (also known as Wi-Fi) technologies. In April 2004, the US and China resolved the WAPI issue when China said it would suspend indefinitely its proposed implementation of WAPI as a mandatory standard.

§ Another example is continuing pressure from within the Chinese government to select China’s 3G telecommunications standard.

Conformity Assessment Procedures

· China has established one safety mark (“China Compulsory Certification” or “CCC” mark), issued to both Chinese and foreign products.

· USTR notes the following deficiencies:

§ In 2004, U.S. companies continued to complain that the CCC mark regulations lack clarity.

§ China is applying the CCC mark requirements inconsistently, i.e., many domestic products that require the CCC mark are still being sold without the mark.

§ In addition, in some sectors, U.S. companies complained in 2004 about duplication in certification requirements (particularly for telecommunications products).

§ Despite national treatment commitments, to date, China has accredited 68 Chinese enterprises to test for and certify the CCC mark, but has not accredited any foreign-invested conformity assessment bodies.

Other Internal Policies

State-Owned and State-Invested Enterprises

· China agreed that purchases of goods and services by state-owned and state-invested enterprises for commercial non-governmental purposes would be subject to WTO rules, in particular that they would be based on commercial considerations.

· USTR notes that U.S. companies have not complained regarding WTO compliance in this area.

State Trading Enterprises

· China agreed that state trading enterprises would provide full information on their pricing mechanisms and ensure transparent and WTO-consistent import purchasing procedures.

· USTR notes the following deficiencies:

§ So far, in response to requests for information regarding the pricing and purchasing practices of state trading enterprises, China has only provided general information, not sufficient to meaningfully assess China’s compliance efforts.

Government Procurement

· China is not a member of the WTO Agreement on Government Procurement (GPA) but committed to initiate negotiations to accede to the GPA. In the interim, China agreed that central and local governments would conduct procurement in a transparent manner.

· USTR notes that U.S. companies have expressed concern regarding implementing rules on government software procurement that are being drafted by MOF. The draft reportedly mandated that central and local governments should purchase domestic software to the extent possible. The concern is focused on China’s apparent restrictive definition of “domestic products.”

5. Investment[6]

· China committed to eliminate export performance, local content and foreign exchange balancing requirements from its laws, regulations and other measures. China agreed that importation or investment approvals would not be conditioned on these requirements or other requirements such as technology transfer and offsets.

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