Abstract

This paper focuses on the recent changes in China’s foreign trade policy. First, it briefly analyzes china trade policy changes in the last 100 years which indicates china’s increases to openess. It then discusses trade policy practices and adjustments, especially the Chinese government’s efforts to liberalize trade and fulfill its WTO commitments. also, it explores the significance of the post-WTO changes in China’s trade policy. Issues such as trade imbalance and exchange rates are addressed throughout, as present thinking and policy practices will significantly influence the future path of China’s foreign economic policy.

 

Introduction

Prior to 1978, China's trade was conducted under a strict system of state trading where approximately a dozen foreign trade corporations monopolized all foreign trade. Under the central planning regime, imports were minimized and exports authorized only to the extent needed to pay for imports. Over the last twenty years, the system has changed dramatically and China's trade has expanded enormously. Its share of world trade has risen from 1% to 3% over the last quarter century and the World Bank projects that it will triple again by 2020, making it the world's second largest trader.

However, China's trade regime retains many of its of its pre-reform trade structures, despite the massive changes that have occurred. A number of the original foreign trade corporations continue to operate, and some of them retain state trading monopoly rights on particular products. Another group of products is subject to non-tariff barriers, which include licenses, quotas and tendering arrangements. Licenses and quotas are largely overlapping, with licenses used to administer the allocation of quotas. Both of these measures are concentrated in agricultural and food products, and in machinery and electronics. Import tendering is used for some machinery and electronic products, and involves the use of competitive bidding to allocate import rights.

 

On one hand, china has come a long way economically. One the another hand, even after China enters the WTO, much will remain to be done to develop its foreign trade. So let us take a close look at what has been done and what needs to be improved.

 

China trade policy review

1910-1949: Foreign powers operate in treaty ports located throughout much of coastal and Eastern China. These ports are open to foreign commerce and are foreign-administered by the Chinese Maritime Customs office. The United States, England, France, Germany, and Japan are China's main trading partners. More treaty ports open in the early 20th century, facilitating the growth and spread of trade.

1950-1976: China has a largely closed economy with little trade. U.S.-led trade sanctions, imposed on China for its support of North Korea in the 1950-53 Korean War, push Beijing towards Moscow.

1977: Within the scope of broad economic reforms under Deng Xiaoping, an open-door trade and investment policy is introduced. Special Economic Zones along the coast are set up for foreign investment.

1978-1985: Foreign trade operations are decentralized. By 1985 trade represents 20 percent of China's gross national product. Textiles are the nation's leading export, with petroleum and food also strong. Leading imports are machinery, transportation equipment, manufactured goods, and chemicals. Japan is China's dominant trading partner, followed by Hong Kong and the U.S.

1986-1989: Trade becomes increasingly decentralized as China strives to integrate itself into the world trade system.

1990-1998: Foreign investment grows tenfold between 1990 and 1995. Despite unwieldy contractual and legal framework, China's billion-plus customers lure many investors, especially from ethnic Chinese in areas near Hong Kong and Taiwan.

1999: China's global trade totals $353 billion; its trade surplus is $36 billion. China's primary trading partners are Japan, Taiwan, the United States, South Korea, Hong Kong, Germany, Singapore, Russia, and the Netherlands. In November, the United States and China arrive at a bilateral market-access agreement that paves the way for China's accession to the World Trade Organization.

2000: China reaches a bilateral WTO agreement with the European Union and other trade partners and begins work on a multilateral WTO accession package. To increase exports, China encourages the formation of factories that assemble imported components into consumer goods for export. The U.S. approves permanent trade relations with China, and President Clinton signs the China Trade Relations Act of 2000.

2001-2003: In 2001 China serves as the Asia Pacific Economic Group's (APEC) chair; Shanghai hosts the annual APEC leaders meeting. After the 2001 World Trade Organization summit in Qatar, China becomes a full member of the WTO. Many tariffs and regulations are streamlined or ended, but foreign investors still face procedural obstacles. Trading partners complain that the Chinese currency is undervalued.

 

Main issues/findings

China’s trade promotion policy            

 

Since the early 1980s China has adopted export-oriented strategy of development. The aim is to

gradually integrate the Chinese economy with the global economy on the basis of comparative

advantages. As a result, both China’s export/GDP ratio and import/GDP ratio have increased

dramatically. China’s trade/GDP ratio has rose from a negligible small figure in the early 1980s to

as high as 60.4% in 2003.

For many years in the past, there were two major considerations that shaped China’s trade

promotion policy: the need to maintain the balance of trade account and the need to maintain a

relatively independent economy vis-à-vis a colony-like specialized economy. As a result, in

combination with industrial policy, China used variety of policies such as multi-tier exchange rates, subsidies, tariffs and various none tariff barriers (NTBs), to encourage exports, protect domestic markets, and maintain foreign exchanges balance. However, following the deepening of China’s reform and trade liberalization, all policies that are inconsistent with the WTO rules have been abandoned or in the process of being abandoned. Some of the policies were already abandoned long before China’s entry into the WTO.

 

It is worth mentioning that the public opinion on tariff and other protectionist measures has

changed significantly. For example, in the early 1980s, a major Chinese state-owned carmaker in

Shanghai established joint venture with Volkerswagon. The calculation was that, with foreign

direct investment, the Chinese producers can learn advanced technology, then with local content

requirement, local parts would replace imports gradually, and finally with high tariff, domestic

markets are guaranteed for the cars thus domestically produced. It was expected that an advanced

national automobile industry eventually would emerge. However, due to the government overprotection against competitions, especially in the form of high tariff, and enterprises’ over-reliance on multinationals in technology transfers, the carmaker has lost interests in and ability of conducting R and D.1 Volkerswagon and its Chinese partner have gained huge profits at the expense of Chinese consumers. A twenty to thirty year old model was kept churning out from

assembly lines for more than two decades. Only the tariff cuts and the dismantling of the barriers

to new entries by other carmakers have succeeded in forcing the joint venture to bring out some

new models with much lower prices.

 

One of the most important trade promotion policies, which is still relevant, is the policy of the tax

rebate for export products. Tax rebate was adopted in 1985 in China. Since 1996 the rebate rate

was 3% on the value of the purchased input of export products. After the Asian financial crisis the

average rebate rate was raised from 6% before the crisis to 17%. Although the VAT tax rebate per

se is not a trade promotion policy and perfect legal in the WTO. The policy of tax rebate has

significant stimulating effect on exports. However, the VAT tax rebate, which means that while

VAT on exports is zero- rated, the government has to reimburse exporters VAT tax included in the

prices of the inputs they purchased, soon became a heavy burden for the government budget.

Following the trade expansion, the cumulated arrear of rebate increased rapidly and reached to

300 billion RMB by the end of 2003, which accounted for 12% of total government expenditures

in 2003. To reduce the pressure on the government budget as well as on the appreciation of RMB,

the government decided to reduce the average rebate rate by 3% as of January of 20042.

Some foreign commentators accuse China of practicing mercantilism. One cannot entirely deny

the fact that there is the fear of trade deficit in China. But the most fundamental reason for China’s

trade surplus is Chinese households’ high saving propensity vis-à-vis Chinese firms’ inability of

finding investment opportunities. China’s excess saving has to be resulted in the trade surplus.

China’s goal is to integrate fully with the rest of the world economy and to deepen its participation

in the international division of labor, according to comparative advantages. Some times it runs

trade surplus and some times deficit. The sun rises and falls. There should be no fear of China’s

trade surplus in the rest of the world, just as there should be no fear of trade deficit in China.

 

 

China’s commitment to trade liberalization

 

China’s main obligations as a WTO member consist of tariff reduction, the removal of quotas,

dismantling NTB, opening up telecommunication and financial service and other sectors.

Compared with other developing countries, China’s tariff rate has been low. According to JP

Morgan, in 1999 China’s effective tariff rate was 4.5%. According to Chinese scholars, before the

entry, China’s real overage tariff rate was 11% (taking smuggling into consideration). China’s

committed tariff cut is very deep and fast after the WTO entry. From 2001 to the end of transition

period (in 10 years) the average tariff rate will fall from 23.7 percent to 5.7%. The cuts are

especially deep for those previously heavily protected products (agricultural products, motor

vehicle and parts, clothing and textile). Although the transition period is 10 years, the bulk of the

tariff reduction will be completed within the first five years. Many of China’s tariff cuts are

implemented ahead of the schedule. As of January First, 2004, China’s average tariff has dropped

from 11% to 10.4%. The average tariff on agricultural goods was lowered from 16.8% to 15.6%

and that of industrial products from 10.3% to 9.5%. This is the third round of tariff cut since

China’s entry into the WTO in December of 2001. In this round, tariffs on 2414 items of imports

were reduced.3

 

China is committed to remove most quotas and other quantitative restrictions on agricultural as

well as industrial products before 2006. So far quota for automobiles has been increased by 15%.

“Tariff-rate quotas” for many imports, especially agricultural imports, were increased. Tariffs on

the part of some imports that are above “tariff-rate quota” were reduced. Imports that fall into these categories include wheat, corn, rice, cotton, sugar, soybean oil, palm oil, and vegetable oil.

Quotas on 39 tariff codes in 4 categories of products including oil products, rubber products,

automobiles and cranes and parts, motorcycles and parts were eliminated. Special requirements for

44 tariff codes in 7 categories of products including electricity generators, bulldozers, transformers, offset printing machines, mechanical device, TV receivers and ships were abolished. China

already started to open up its service sectors and this process will also be completed before 2006.

 

China’s commitment for removing other non-tariff barriers (NTB) includes phasing out restrictions in a broad range of services, removing subsidies on loss-making

state-owned-enterprises (SOEs), stopping interfere in trade flows by favouring a particular

suppliers and restricting quantities imported or exported, no subsidizing exports or fixing prices.

China has almost removed all the above-mentioned NTBs. China has already begun to open up its

service sectors that include telecommunication, insurance, banking services, professional services

including law firms, consultancy, accountancy and so on..China has eliminated all restrictions on FDI. There are no longer requirements for technology transfers, foreign exchange balance and local contents for FDI.

 

No one, even the most picky American trade officials, can accuse China of not being serious about

its commitments. However, in contrast, some of China’s trade partners are abusing the Safeguard

measures and anti-dumping rules against China’s exports. Different from general safeguard

measures, the safeguard measures specially designed for China are stronger than America’s article

201, the most sever measure of all. The condition for initiating the measures is “material injury”,

instead of “serious injury”. The specific safeguard measures will be in place for 12 years after

China’s joining the WTO. China has also accepted the anti-dumping rules that were based on

denying China’s status as a market economy for the purpose of trade protection. After the WTO

entry, China will be treated as a non-market economy for 15 years. This in fact gives the American government (and other like-minded governments) the arbitrary power in deciding whether a given Chinese product is priced below the cost. Chinese exports are entirely at the mercy of American government and interest groups. Recently, an American enterprise that almost nobody knows suit Chinese TV exporters for injury, and the Chinese duly lost the case with losses worth hundred million US dollars. Funny thing is that America virtually stopped producing TV long time ago, and the enterprise that suit Chinese TV exporters does not produce TV at all. The EU perhaps is worse in practicing protectionism.

 

So far Chinese enterprises have been implicated in more than 600 cases of anti-dumping suits,

which accounted for 15% of world total. China has lost 70% of its cases. The key for China’s lose

in regal battles is China’s non-market economy status. This is an uttermost unfair characterization

of the Chinese economy. However, there is no body but Chinese themselves should be blamed. It

is the Chinese delegation raring to go that accepted the characterization in the first place in.

Despite the fact that Chinese public are sick and tired of the disputes, China will stick to its WTO

commitments, no matter how resentful the Chinese public opinions are for the concessions made

by the Chinese delegation during the negotiation for the WTO entry. However, on the other hand,

China will contest any unjustified charges of injury and dumping vigorously. The Chinese

government officials are calling for Chinese enterprises to accept the challenges by foreign

enterprises. In retaliation, Chinese enterprises are encouraged to use all means available within the

WTO to suit foreign exporters who are deemed to be involved in dumping and causing Chinese

enterprises serious injury. It is possible that there will be more tit for tat trade disputes in the future, and the trade war is going to be nastier. On the other hand, faced with inevitability of more serious trade frictions, China should have second thought about its export drive and important adjustment should be made.

China’s policy towards Doha round

 

Doha round is supposed to aim to boost the global economy by cutting tariffs, subsidies and

other barriers to international trade. The changes would affect farm goods as well as

manufactured goods and services such as telecommunications and banking. From developing

countries’ point of view, Doha round is about agriculture and development. Development concerns are supposed to be at the heart of the Doha program. Developing countries emphasize the principle that Doha mandate is explicit on less than full reciprocity and there is no mandate for

harmonization of tariffs. With regard to agriculture issue, developing countries complain that

distortions are permitted to continue, since there are no commitments for developed countries to

reduce the overall support. Developing countries demand developed countries to cut the high

Northern subsidies. On the other hand, they do not want to be subjected to further tariff reduction

in food products and reductions for all agriculture products in which developed countries are

providing domestic or export subsidies.

 

The problems facing China are not entirely the same as those facing other developing countries

and China wishes that agreements can be reached in an amicable atmosphere in Doha round so

that the momentum of trade liberalization can be maintained. However, China is sympathetic with

the demand of developing countries. China’s position is that in the past the distortion in

agricultural trade has been serious, which is reflected mainly in the high tariffs and high subsidies

by some developed countries. The high tariffs block the entry of agricultural products from

developing countries into the market of developed countries. The high subsidies enable

agricultural products from developed countries to flood the market of developing countries. The

protection of the interests of farmers in developed countries who constitute only a very small

proportion of the population of developed countries with measures that distort market at the

expense of livelihood of hundreds of million farmers in the developing countries is entirely

unacceptable. China appeals the US, Japan and European countries to take more positive attitude

to lower agricultural tariff and cut agricultural subsidy substantially and eventually eliminate the

market distortion in agricultural trade. As regard with Singapore issues, China’s position is that the issue of trade facilitation may be relatively easy to solve. But to reach agreements on issues of

investment and competitive policy is difficult and most developing countries are not ready yet. To

set a high standard on competition policy also needs time. There is a related development: the

Chinese government has adopted much severe methods to deal with property rights infringement.

There is still long way to go, but significant progress has been made.

 

 

 

 

China’s policy towards regional trade liberalization

 

China will actively participate and even take lead in promoting regional economic cooperation in

the form of FTAs. The creation of FTA is inconsistent with the principle of a multilateral trading

system. The popularity of creating new regional trading blocs is a natural response to the failure of

the multilateral approach towards trade liberalization.

 

Over the past two decades, East Asia has created the Asian Miracle. In addition to domestic factors and social and economic policies adopted by the governments of East Asian economies,4 regional economic cooperation based on the regional division of labor characterized by the so-called “flying geese formation” was also an indispensable contributing factor to the miracle. Despite the changes in the global situation, certain foundation is still there in East Asia for a closer

cooperation among countries and economic entities.

 

It is hypercritical to deny the fact that the impact of China’s export drive on its neighbors is

multi-dimensional. In labor-intensive products, Chinese exports’ displacement dominates with

regard to the ASEAN countries, but the complementary effect dominates with regard to the NIEs.

In capital/technology intensive products, Chinese competitive pressure on the ASEAN countries

and the NIEs is increasing. With regard to Japan, China’s exports are largely complementary, and

to a large extent are results of Japanese companies’ design of overseas production and export

plans.

 

After the Asian financial crisis, East Asian countries suddenly realized that they needed to redefine their identity and reshape their economic alliances. China has initiated the process of China +ASEAN 10 FTA. China will redouble its efforts in negotiating with its neighboring countries (economic entities) and the countries that are more sympathetic with China’s positions to form various regional groupings to achieve trade liberalization. Many Chinese economists hope that, as an ultimate goal, a strong East Asian Economic Union can be established,

shoulder-to-shoulder with the EU and NAFTA.

 

The key for an East Asian FTA is the relationship between China and Japan. The importance of

Sino-Japanese relationship to East Asian FTA is as important as that of German-Franco

relationship to the EU. China and Japan are economically highly complementary. Unfortunately,

historical problems have become a stumbling block for a closer relationship. Politicians in both

countries should look ahead and redouble their efforts in guiding two peoples to have a better

understanding with each other to pave the way for the establishment of An East Asian FTA.

 

 

Trade imbalance needs to be addressed

 

China is worried about the sustainability of current global trade patterns. Global trade patterns can

be partitioned into tree spheres: China, the rest of East Asia, and the rest of the world (with the

OECD countries at the core). Currently, both of China and the rest of East Asia are running

substantial trade surpluses vis-à-vis the rest of the world. To maintain the circulation of global

trade flows, China has to suffer corresponding trade deficits against the rest of East Asia. And this

is happening. According to some economists (Roland-Holst), in 2020, China will sustain and even

increase its structural trade surplus with OECD, while at the same time developing a structural

deficit of about equal magnitude with the rest of East Asia (and some resource rich developed and

developing countries in other part of the world). The more China’s neighboring countries are

gaining from exports to China, the more China will bear the blunt of the bashing of trade

protectionism from the EU and the US. What China can do? I think, the three parties must sit and

figure out a joint solution. Otherwise, China must rethink its strategy of development.

FDI and processing trade

 

China’s attraction of FDI is as successful as its trade expansion. China’s success in attracting FDI

can be attributed to the following factors: abundant supply of low-cost skilled labor, highly

developed Infrastructures, preferential policy towards FDI, huge potential domestic market, stable

macroeconomic environment. The following are a few comments on the above-mentioned Chinese

virtues. Low cost labor undoubtedly is the most important attraction for multinationals. This

comparative advantage will not go away for long time to come. As for infrastructures, in some

areas, zero prices for land use for twenty years are in offer by zealous local governments that are

competing with each other for FDI. Where could you find more favorable terms for FDI?

Preferential policy? Chinese entrepreneurs are crying for national treatment not for foreign

investors but for themselves.

 

FDI’s contribution to China’s trade expansion is most significant. China’s trade is dominant by

processing trade. This is why the Chairman of American chamber of commence deplored the

stupidity of American congresspersons that are plotting trade wars against imports made in China.

Yes, those products are made in China. But it is the American multinationals that, as owners of

capital, are pocketing the profits.

 

China's trade growth rate during the reform period has been about 4.5 times the world average,

and foreign-funded enterprises have played a key role in this achievement. Their share in exports

has risen from 1 percent in 1985 to between 45 and 50 percent recently. In 1991, foreign funded

enterprises’ export was USD 12 billion, accounted for 16.75 percent of China’s total export. In

2002, foreign-financed enterprises export was USD 275 billion, accounted for about half of

China's total export.

 

Owing to China’s policy in favor of processing trade, China’s export is dominated by processing

trade. In 1980, China’s total value of processing trade was USD 1.66 billion. By 2001, it rose to

USD 241.4 billion, a 145-fold increase. The share of processing trade in China’s total trade

increased from 4.4 percent in 1980 to 47.4 percent in 2001. In the 1990s, China’s foreign trade

expansion relied mainly on processing trade. Since the second half of the 1990s, processing trade

has already accounted for more than half of China’s export.

 

The close relationship between processing trade and FDI inflows is evident when looking at the

changes in China’s trade structure. Fastest growth of exports came from machinery and electrical

machinery, other transportation equipment and instruments, which are sectors dominated by

foreign funded enterprises. Correspondingly, imports of capital goods, semi-finished goods and

materials for processing exports are also growing very fast. The fact that China runs trade surplus

primarily with the United States and deficits with the East and South East Asian Economies

suggests that East Asian investors are using China as an export platform for the Western markets.

China became one of the most important participants of the international production network. The

domination of processing activities in foreign trade activities shows that for multinationals that are

increasingly rely on outsourcing, China’s attractiveness as a production base for exports is strong.

As a result, more and more foreign enterprises from advanced countries are boosting investment in

China and importing cheap Chinese goods back home as a way to cut costs and boost profits.

In the near future, China’s comparative advantage in processing trade will not disappear. However, China will not satisfied with being the “manufacturer of world”, the share of processing trade in

China’s trade probably could fall. Chinese government may phase out the policy in favor of

processing trade. More incentives may be given to the products “made by China” rather “made in

China”.

 

China’s exchange rate policy

 

In 1980s, China’s exchange rate regime was characterized by multi-tier exchange rates based on

the real cost of exports. In 1994, after the realization of the fusion of official and swap exchange

markets, China adopted the exchange rate regime of managed floating. In 1995 and 1996 the

Chinese currency, RMB, appreciated by 1-2% respectively. The 1997 Asian financial crisis forced

the Chinese government to adopt the policy of no devaluation aimed at financial stability. After the crisis, the policy become de facto peg to the US dollar.

 

Owing to the fact that China has run current account surplus and capital account surplus for more

than a decade, it is argued that the RMB is under-valued. In 2002, the then minister of finance of

Japan started to accuse China of exporting deflation by keeping RMB under-valued. Later on the

Americans joined the chorus calling for the revaluation of RMB.

 

The Chinese government resists the pressure for RMB revaluation. The Chinese government fears

that the revaluation will create negative impacts on net export and on employment via the impact

on net export. The government also fears that a small change in RMB exchange rate will

strengthen appreciation expectations and short-term capital inflows aimed at exchange rate

arbitraging will increase and in turn will put more appreciation pressure on RMB. At time another

important argument against revaluation is that an appreciation will worsen China’s deflation. Now

pressure on RMB appreciation has been abating. It is worth mentioning that some American

politician argued that the intervention into FX market means that the Chinese economy is not a

market economy. This argument is ridicules. According to this logic, before 1973 there was no

market economy in the world, because under Breton Wood system all exchange rates were fixed.

Furthermore, according to the same logic, Hong Kong should not be regarded a market economy,

because the Hong Kong Monetary Authorities have maintained currency the board system, the

most inflexible exchange rate regime. Following the change of economic situation, China may

allow market to play a more important role in determining the exchange rate. China is faced with

variety choices. Among them, the most likely choice is soft peg. For foreign competitors, to

concentrate attention on RMB exchange rate is misguided. Exchange rate is just one of many

factors that will influence a country’s trade performance. Even if RMB appreciates by 15%, would

it have any impact on Sino-American trade balance? The answer must be no, if taking into

consideration the fact that the wage level of Chinese workers’ is just a fortieth of that of American

workers’. For the sake of a more balanced development and that of macroeconomic stability, I

think that RMB exchange rate can be more flexible. The most likely timing for the RMB

adjustment is when nobody is paying attention to the adjustment. It seems that the possibility for a

more flexible RMB regime is looming.

 

Conclusions

 

In summary, the key message that I wish to convey: over the past two decades, foreign trade and

FDI have played significant positive roles in China’s economic development. In the short run, the

success of China’s trade and FDI policy is beyond doubt. However, compared with Japan, Korea

and Chinese Taiwan’s experience, China perhaps may have paid a cost too high, and the long-term

impact of China’s current success has yet to be seen. Now, it seems time for China to make

necessary adjustments to gear to a more balanced and sustainable strategy of development.

 

In the next 20 years, China could surpass Japan as the world's second largest trading nation, and between 2020 and 2030 the People's Republic of China could emerge as the world's biggest economy. For china’s further global integration, however, China must continue to liberalize its economy, establish a modern financial system with a sound currency, and conform to international norms for protecting property rights.

 

References

1 Lu Feng: On the Policy Alternatives for the Development of China’s Automobile Industry with Indigenous Property Rights, 2004. (Internal Document).

2 Blue book of China’s economy (Spring), 2004, p190.

3 Blue book of China’s economy (Spring), 2004, pp192-193.

4 World Bank, The Asian Miracle, 1993.

5 Deng xiaoping was leader in the Communist Party of China (CPC). Deng never held office as the head of state or the head of government, but served as the de facto ruler of the People's Republic of China from the late 1970s to the early 1990s.

6 Doha round ,The round of multilateral trade negotiations begun January 2002 as a result of agreement at the Doha Ministerial. Also called the Doha Development Round.

7 David Roland-Holst: Regionalism and globalism: East and Southeast Asian trade relations in wake of China＊s WTO accession, ADB Institute Research Paper Series No. XX, January 2003, P.16

8 ASEAN countries include Thailand, Malaysia, Singapore, Indonesia, Cambodia, the Philippines, Vietnam, Laos, Brunei and Burma/Myanmar

9 John Pierpont Morgan I (April 17, 1837 – March 31, 1913) was an American financier and banker, who at the turn of the century (1901), was one of the wealthiest men in America

10 OECD Organization of Economic Cooperation and Development