The China Market Status Dilemma

The vexing question of how to deal with a rising China in the midst of an uncertain economic transformation is one with which the European Union, Japan, and the United States are struggling to come to terms. One action-forcing issue that remains off the radar screen — one of great consequence that’s likely to trigger a major transatlantic policy schism — is the question of whether or not to grant “market status” to China.

What’s forcing the issue? The December 2016 expiration of a provision in China’s accession to the World Trade Organization 15 years ago that declares it a non-market economy. That designation provides the legal basis for many of China’s trading partners — most notably, the EU, Japan, and the United States — to impose anti-dumping duties on Chinese goods like steel and cement. The consequences of giving China market status could, by some estimates, cost Europe and the United States several million jobs and one percent of GDP.

The EU has 52 anti-dumping measures against China in force, in major industries like ceramics, chemicals, and steel. The United States has a host of anti-dumping cases as well, ranging from the steel and aluminum industries to solar panels. This is also not to mention that likely Republican presidential nominee Donald Trump has called for 45 percent tariffs on Chinese goods. If China attains market status, the legal tool of anti-dumping measures, imposed on its exports will, at best, need to be redefined, and may evaporate.

A number of countries have accepted that China now has a market economy. But most major economies — Canada, the EU, India, Japan, and Mexico — do not. Some countries, like Australia, are negotiating the issue with Beijing. China argues that it should automatically be granted market status for its economy with the expiration of the non-market provision. But the legal language is ambiguous at best: It is silent on whether automaticity of market status follows.

The language of the WTO provision puts the burden of proof on China and/or Chinese firms to demonstrate that they operate based on market prices. While China has a vibrant, fast-growing, and productive private sector, major heavy industries — the majority of which are state-owned — operate with a host of direct and indirect subsidies, from government-directed cheap loans to land grants and price subsidies for inputs.

Cecilia Malstrom, the EU’s trade chief, has said that she sees no automaticity on the expiration date, and told the Wall Street Journal, “you cannot say today that they [China] fulfill all the criteria.”

China has to establish market status under the national law of the importing WTO member. For the EU, that means China must meet several criteria, including: a low amount of government influence in the allocation of resources and in decisions of enterprises, absence of distortion in the operation of the privatized economy, an effective legal framework for the conduct of business, and the existence of a genuine financial sector. The United States would insist on similar criteria.

China’s economy has clearly evolved in a market direction over the past 15 years — today, most of its growth comes from the private sector. But the dead weight of what are called “zombie industries,” fed by state support, persists. China’s financial system has also evolved substantively. But it is a bit of a stretch to argue that China meets the objective criteria for market status — certainly not enough to persuade the EU Parliament and European national governments to change their laws to reflect that status.

Already, European and U.S. industry groups are mobilizing opposition. AEGIS Europe, an alliance of 30 manufacturing industry associations, said in a statement this month, “Europe cannot grant Market Economy Status (MES) to a country that does not merit it.” With EU growth tepid already, some think tank estimates project that granting China MES status would cost well over one million jobs and 1-2 percent decline in annual growth.

Similarly, U.S. aluminum, steel, and textile industries are stepping up pressure on the Obama administration to oppose MES for China, arguing it would costs tens of thousands of jobs. The U.S. Commerce Department has responsibility for making a determination on the issue and recommending action to the president.

Transatlantic Disconnect

While private industries impacted by Chinese exports on both sides of the Atlantic share similar concerns, the EU and the United States share precious little dialogue on China policy, with each other, with Japan, or with other major Asian governments.

There is a potentially dangerous dearth of transatlantic dialogue on China at the most senior levels of policymaking, and even less transatlantic discussion with Japan and other major Asian economies.

European countries tend to hold one-dimensional views on China policy — singularly focused on business opportunities and exports. This is a source of irritation to many American officials and analysts. In his March interview with the Atlantic‘s Jeffrey Goldberg, Obama complained about “free riders” in Europe.

This charge is frequently leveled against Europeans who often seem to view larger political and security issues in Asia as something for which the Americans are responsible — a de facto division of labor. At working levels, China gets serious discussion among European and U.S. officials. But when pressed, EU officials concede that at the summit level, Asia often gets crowded out of the agenda by other priorities: climate change, Russia, Syria, Ukraine, and the rest.

When the EU issued a statement in support of freedom of navigation in the South China Sea last year, it was viewed as a rare, major sign of transatlantic solidarity. Some in the United States fear that Europeans, perhaps fearing Chinese “punishment,” may go soft on Beijing on the MES question.

What lies ahead? Absent the EU and United States granting MES to China, Beijing will almost certainly take its case to the WTO for dispute resolution. Nasty legal battles are likely to ensue. Compromise formulas could emerge, phasing in MES on an industry-by-industry basis as Chinese market reforms gradually move forward.

Japanese Prime Minister Shinzo Abe has hinted at putting Asian issues on the already crowded G-7 agenda. In light of the MES and South China Sea issues, this would be wise. The G-7 could be a useful forum for the EU, Japan, and the United States to think through a coordinated response to trade and investment with China. The prospect of a Bilateral Investment Treaty (BIT) with China looms for all three. To the extent that all three can agree on minimal requirements for both MES and BITs with Beijing, the global economy and reform in China will both benefit hugely.

An earlier version of this article appeared in Nikkei Asian Review.

Photo credit: ChinaFotoPress/Getty Images