Dealing with Trade Negotiations

By Gao Zhanjun

In an impassioned speech in October, International Monetary Fund Managing Director Christine Lagarde called for a de-escalation of trade tensions and reform of the global trade system. In her speech entitled "New Economic Landscape,New Multilateralism" she told the annual meeting of the IMF and the World Bank that trade cooperation has driven unprecedented growth and prosperity over the last 70-plus years, but today it faces a backlash. She estimated that an escalation of current trade tensions could reduce global GDP by almost one percent over the next two years. Reform of the global trade system should be aimed at making it even better, fairer, and stronger for all nations and all people. "That means fixing the system, together, not tearing it apart," she concluded.

At the same meeting, the IMF released its latest World Economic Outlook report which projects that global growth will be 3.7% in 2018 and 2019, 0.2 percentage point lower than the April forecast for both years. Mechanisms for multilateral global policy cooperation, notably trade, are under strain and in need of strengthening. Amid the trade uncertainties,financial conditions are tightening. Rising trade tensions and policy uncertainties are leading to heightened concerns about global economic prospects. These factors could convince firms to postpone or forgo capital spending. That in turn could slow the expansion of investment and demand and weaken growth in trade and industrial output.Escalating trade tensions and a potential shift away from a multilateral, rules-based trading system are key threats to the global outlook. This could "dent business and financial market sentiment, trigger financial market volatility, and slow investment and trade," the IMF said. An increase in trade barriers would also disrupt global supply chains. Recent data from the IMF have shown signs of slowing global trade,manufacturing and investment.

Rules-based global governance structures are facing unprecedented challenges. It is not an exaggeration to say that the global trading system is in danger of entering a "Warring States" era. In order to maintain and expand the benefits of trade integration over the next few decades, countries must cooperate to resolve differences as much as possible without increasing distortionary trade barriers. Otherwise, the bitter fruit of declining global productivity and welfare will be tasted by all.

Fixing the Multilateral Trade System

In 2013, Craig VanGrasstek, an adjunct lecturer in public policy at Harvard University and an experienced trade consultant, wrote a book entitled "The History and Future of the World Trade Organization". It's a very popular work that is considered to be the official "biography" of the WTO. In the last chapter of the book, he raises an imaginative question about the organization that has been in operation since 1948: What about the WTO in 2048? There are many challenges, including how to conclude the Doha negotiations, how to deal with the relationship between the multilateral trading system and Regional Trade Agreements, or RTAs, whether sovereignty issues can be better balanced, and how to reform the WTO to make it play a more effective role. However, he is very optimistic that the WTO has so far proven adaptable,flexible and capable of absorbing the diverse perspectives and ideas of its members. Therefore,there are good reasons to believe that the WTO will still exist in 2048 and beyond.

But what might have surprised Dr. VanGrasstek is that after only five years of making the above predictions, the WTO has experienced a crisis of survival. The main manifestations are as follows:First, the above-mentioned problems existing in the WTO itself have not been effectively resolved, and the organization's authority has been significantly weakened. Second, trade frictions have intensified.Some important members have ignored WTO rules,imposed unilateral tariffs and even threatened to withdraw from the organization itself. That has endangered the organization and threatened loss of control over world trade. Bilateral, multilateral and regional trade negotiations have become a center of attention, and the WTO has become increasingly marginalized.

The underlying cause is Washington's significant dissatisfaction with the WTO. One of its complaints is that the WTO does not do enough in terms of disclosure and punishment because of distorted trade behavior caused by government subsidies and insufficient intellectual property protection. Another is the inequality of the rules, giving developing countries too much flexibility and placing too many constraints on developed countries. The U.S. also contends that its sovereignty has been weakened, accusing the WTO Appellate Body of overstepping judicial borders. It insists this has bound its hands and feet in protecting its own companies, and this limits its ability to deal with unfair foreign competition. Moreover, it insists the organization's response to new challenges such as e-commerce has been sluggish.

Reforming the WTO has gradually become a focus

Under these pressures, reforming the WTO has gradually become a focus. In late June this year, the European Commission proposed a WTO modernization in an effort to strengthen the global body's negotiating function and promote an updating of its rules. The discussion of the plight of the Appellate Body occupied one-third of the report, much to the chagrin of the United States. In July, Canada issued a proposal to strengthen and reform the WTO, including in the areas of e-commerce, investment protection and boosting trade with developing countries. On September 25, the United States, Japan and the EU's tripartite trade ministers' meeting issued a joint statement, arguing that in the WTO reform,the definition of developing countries should be examined and their more advanced members should be required to assume full obligations. Digital trade and e-commerce were also a focus of attention. On September 30, the International Monetary Fund, the World Bank and the WTO issued a joint report on trade issues, recommending that the WTO change the manner in which negotiations are conducted, speed up the negotiation process, and reduce the use of"single undertaking"- or the principle of treating every item as part of a whole package and not something to be agreed on separately. At the same time, we attach importance to limited multilateral negotiations. On October 24-25, Canada invited 12 WTO members to study the reforms.

The history of multilateral trade negotiations has had its twists and turns. (see Table 1) At times the process has been frustratingly slow. As 2018 draws to a close, the Doha Round, officially launched at the WTO's Fourth Ministerial Conference in November 2001, has an uncertain future. My view is that the WTO Doha negotiations are effectively dead, thanks to the impossible hurdles of the principle of consensus and the rule of single undertaking. The changed situation of developing countries and developed ones as compared to the start of the Doha round in 2001 also needs to be addressed.

Table 1: Key events in the evolution of the multilateral trading system

But the first priority is to ensure that the WTO's dispute settlement mechanism can play its intended role, otherwise the WTO will be paralyzed. Normally,the number of members of the Appellate Body is seven. As of the end of September 2018, there were only three people - the minimum number to hear an appeal. The Trump administration has been obstructing the appointment of new candidates.On December 10, 2019, the terms of two of those members expire, and the WTO dispute settlement mechanism will be suspended. As Alan Wolff, the deputy director-general of the WTO, has said, without the WTO Appeals Tribunal, every dispute could evolve into a trade war. Therefore, the appointment process for new members must be restored as soon as possible.

In addition, other critical problems include the responsibilities of advanced developing members, stateowned enterprises, industrial subsidies, market access,technology transfers, intellectual property protection,and competition policies. These will be the key to future WTO reforms and negotiations.

The WTO can only survive after being reformed.However, there is little time left. Active planning and participation in WTO reforms while strengthening the negotiation process for RTAs is more important than ever.

Strengthening RTA Negotiations

The most fundamental of the founding principles of GATT/WTO is the "most favored nation" principle,which states that all members should be treated equally. This non-discrimination principle is at the core of the WTO. Members have committed, in general,not to favor one trading partner over another. If one member reduces its tariffs on goods coming from another member, it must do the same for those goods coming from any other member. Such tariff reductions are called multilateral.

Regional trade agreements (RTAs) are often an exception to this rule, as a group of members may decide to completely eliminate all tariffs among them, without eliminating tariffs on goods coming from the rest of the world. These deals, by their very nature, are discriminatory as only their signatories enjoy more favorable market-access conditions, since the members involved are treated differently from those outside the group. WTO members recognize the legitimate role of RTAs which aim at facilitating trade within these special groupings but do not raise trade barriers vis-à-vis third-parties.

A country's global trade status seems more dependent on the signing of RTAs

But such agreements are permitted under Article XXIV of the GATT, provided that "the duties [with outside parties] shall not on the whole be higher or more restrictive than the general incidence of the duties ... prior to the formation." RTAs must cover substantially all trade - unless they are under the Enabling Clause - a legal basis for exceptions- which allows and helps trade flow more freely among the countries in the RTA without raising barriers to trade with the outside world.

Numerous studies have been conducted on whether countries inside an RTA are generally better or worse off. So far there is no definitive answer. (Feenstra,R. (2016). Advanced international trade : Theory and evidence (Second ed.). Princeton: Princeton University Press.) But with the multilateral option apparently on hold, it is quite natural that WTO members look to alternative ways to negotiate, and a country's global trade status seems more dependent on the signing of RTAs.

According to the WTO, RTAs are taken to mean any reciprocal trade agreement between two or more partners, not necessarily belonging to the same region. As of June 2016, all WTO members had an RTA in force. Over the years, RTAs have not only increased in number but also in depth and complexity (see Figure 1).

In the first book to provide a fully comprehensive overview of the complicated issues facing multinational companies and their global sourcing strategies, Pol Antràs, a professor at Harvard University, wrote that the majority of international trade transactions today are dominated by sales of individual components and intermediary services,only few of them are based on the exchange of finished goods. Many firms now organize production on a global scale and offshore parts, components,and services to producers in distant countries, and in response to the perceived contractual insecurity, the spend a substantial amount of time and resources figuring out the best possible way to organize global production. ( Antràs, P. (2016). Global production :Firms, contracts, and trade structure (CREI lectures in macroeconomics). Princeton ; Oxford: Princeton University Press.) Because 70% of international trade now is for production in global value chains (GVCs),a report by OECD suggests that trade agreements should cover as many dimensions of GVCs as possible.(OECD, "Trade policy implications of global value chains", December 2018. See http://www.oecd.org/tad/trade-policy-implications-global-value-chains.pdf)

China's Role

China should be actively engaged in planning and enacting WTO reforms. It should also strengthen the negotiation process for the RTAs, an aspect of foreign trade that is becoming increasingly important.

As of October 2018, China had signed 16 free trade zone agreements with 24 countries and regions. It had also established a preferential trade arrangement (the Asia-Pacific Trade Agreement) and negotiations were under way on 13 free trade accords. It is necessary to speed up negotiations on the Regional Comprehensive Economic Partnership Agreement (RCEP) and start trade negotiations with the EU and the UK in due course.

Should China actively engage and even join the Comprehensive and Progressive Trans-Pacific Partnership Agreement (CPTPP) when it is ready? This appears to be in China's best interest, though there are still several very tough issues that need to be considered.

C. Fred Bergsten, senior fellow and director emeritus of the Peterson Institute for International Economics, pointed out that "China should indicate interest in joining the CPTPP. This would probably induce the United States to rejoin so both could then use the negotiation to reduce barriers and write new regional rules in some of these areas." He also said,though on somewhat less certain ground, that"the U.S.has been hostile toward the CPTPP, but most of the other members would welcome Chinese participation and the United States would find it very difficult to stay out if China entered." (C. Fred Bergsten, October 2018, "China and the United States: Trade Conflict and Systemic Competition,"see https://piie.com/system/files/documents/pb18-21.pdf)

Pascal Lamy, director-general of the WTO from 2005-2013, said in a November speech at Harvard University that free trade agreements and the multilateral system are complementary so there is no systemic contradiction. Eventually these bilateral and regional agreements will be part of the multilateral system. He also said that it could be good for the multilateral system if China joined the CPTPP.

A Path to Resolution

At the end of a high-stakes meeting in Argentina on December 1, 2018 the U.S. and China called a truce in their trade battle. They agreed to further negotiations on contentious issues, including forced technology transfers, intellectual-property protection, non-tariff barriers, subsidies, cyber security problems, services and agriculture, with the U.S. postponing plans to increase tariffs on $200 billion in Chinese goods and China pledging to purchase more American goods, open its market,and add all forms of the deadly drug fentanyl to its controlled substances list.

Designed to ease tensions after months of escalating trade conflict, the truce held out the prospect that the world's two largest economies could find a reconciliation that would set their trading relationship on a different path. Removing all U.S.punitive tariffs and Chinese retaliatory tariffs is one aim of the talks.

小波域信号重构在信号分析中的主要优点在于它在时间域和频率域都有良好的局部化特性。对不同信号采用相应的时间域或空域采样步长，能够聚集到信号的任意微小细节。提高分辨率的同时还具有很好的保真度。

After the meeting, China unveiled details of punishments for IP theft in a positive sign for the ongoing trade talks. China also has signaled other measures as well, including lowering tariffs from 40%to 15% on auto imports.

One survey of U.S. adults conducted April 25-May 1, 2018 showed that positive views of free trade agreements had rebounded to pre-2016 levels, from 45%in 2016 to 56% in total. This seems an atmosphere which might be in favor of China-U.S. trade negotiations.

But in a development that has threatened to complicate the discussions, a senior executive of Chinese telecommunications powerhouse Huawei was arrested while in transit in Canada. The arrest was made at the behest of authorities in the U.S. where the executive, the daughter of the company's founder, is wanted for alleged violation of sanctions against Iran.China has condemned the move that has targeted one of its leading technology companies and called for the executive's release.

What might be the most constructive path toward a resolution of the trade dispute? "One way to get there would be for the United States and China to work out their own differences first, through a new bilateral arrangement or even a free trade agreement,and then transmit their agreements to the broader regional and global contexts," said C. Fred Bergsten in October. "Whatever the chosen strategy, the goal would be to link the immediate conflicts and longterm systemic considerations (in addition to agreeing on more immediate deliverables to help overcome the current confrontation)."

Key Technical Issues

Most of the technical issues are related to the future WTO reform, the RTAs negotiations, and also the U.S.-China trade talks. Among them are four crucial areas - special and differential treatment, intellectual property protection, forced technology transfers, and subsidies and competitive neutrality.

Special and differential treatment. The WTO agreements contain provisions which give developing countries special rights and give developed countries the possibility of treating developing countries more favorably than other WTO members. These provisions are called "special and differential treatment." In the Uruguay Round Agreement on Agriculture, for example, developing countries are given longer periods to phase in export subsidy and tariffreductions than the developed countries, and the least developed countries are exempt from any reduction commitments.

There are no WTO definitions of "developed"and "developing" countries. Members announce for themselves whether they are "developed" or"developing" countries. South Korea, Mexico, and Turkey are members of the rich-country club - the OECD (Organization for Economic Co-operation and Development). But when it comes to WTO matters,they sometimes claim to be developing nations.For example, South Korea is a developed country in industry, but a developing country for agriculture.Israel is another OECD member that has also taken advantage of developing-country benefits. China is surely still a developing country whose GDP per capita figure is quite low, and should be treated more favorably than developed members.

In the long run, there might be a mix of these two systems, or a borrowing of a "graduation system" in the WTO from the World Bank, the IMF or the United Nations as Mr. Lamy suggested. He said countries might move from one list to another when they meet certain standards, and pass from developing to developed.

Intellectual property protection. WTO rules apply in this area. If one believes that another country is breaching the rules on this, the country that is suspected of breaching the rules can be taken to the dispute settlement system. Lawyers don't think the dispute settlement system is unfair to the U.S.,according to Mr. Lamy. The U.S. actually won 80%of its offensive cases and lost 80% of its defensive cases. This is the sort of overall norm for China,the EU, South Africa, India and others. Improving the system is relatively easy. Interpreting the rules- especially for safeguard measures, or emergency tariff and quota measures - could help. That might be one of the directions of future WTO reform.

So-called forced technology transfer. This is not governed by the WTO. It occurs when firms need an authorization to produce something in another country. This authorization might be conditioned on technology transfer - a breach of the spirit of open trade. But the key question is whether an agreement between a foreign company and a domestic company on technology transfer is a voluntary market-based transaction or unwarranted government intervention. When more and more foreign companies have the option of investing into a fully owned subsidiary, this issue will recede gradually.

Subsidies and competitive neutrality. The WTO agreement disciplines the use of subsidies, and it regulates the actions countries can take to counter the effects of subsidies. That is to say that a member country "can use the WTO's disputesettlement procedure to seek the withdrawal of the subsidy or the removal of its adverse effects.Or the country can launch its own investigation and ultimately charge extra duty ('countervailing duties')on subsidized imports that are found to be hurting domestic producers." (see https://www.wto.org/english/tratop_e/scm_e/scm_e.htm)

Figure 1: RTAs among the 10 largest WTO members - 2013 and 2018

Note: Don't know response not shown.Source: Survey of US adults conducted April 25-May 1, 2018.

The escalation of current trade tensions between China and the U.S. are driven in part by perceptions of its unfair support for state-owned enterprises(SOEs). Yi Gang, the governor of the People's Bank of China, told a meeting of the Group of 30 in October that China is considering adopting the principle of competitive neutrality to create a level playing field between SOEs and private companies. This "will help China in its negotiations with trading partners that accuse it of unfair state support,"he said. ( Zhang Chunlin, October 16, 2018: " 'Competitive Neutrality'for SOEs Can Help China At Home and Abroad", see https://www.caixinglobal.com)

With respect to China, some people might think that China cheats with subsidies, but according to former WTO director-general Pascal Lamy, that is not the case. In Mr. Lamy's view, the problem is that the WTO rules that discipline subsidies are too weak.

The solution is to strengthen those weak rules.The reason why the WTO rules on subsidies have not been strengthened sufficiently is very simple: most countries, including the EU, Japan, and the U.S., all offer subsidies. They fear that if the WTO narrows the"stitches of the net" - a vivid analogy by Mr. Lamy -they too will be caught. The situation is quite different now. Some trade partners are tabling a proposal to discipline not the authorization of subsidies but the notification of subsidies. The notification is very important because, as Mr. Lamy said in his November speech, if "you want to catch fish with your net, you'd better know where the fish is, otherwise fishing can take a long time and be extremely expensive."

In an article published in April this year, Mr. Lamy said "the EU would fully agree with the U.S. that existing disciplines do not adequately constrain Chinese practices and that China should open its public procurement market. The EU would also agree with China that U.S. agricultural subsidies distort trade and need to be revised and that intellectual property protection for medicines should be time-limited at a reasonable level." In many ways, "there is ample scope for negotiation to improve the WTO rulebook,"he said. (see Pascal Lamy, "How this trade war ends," The Washington Post, April 10, 2018.) Mr. Lamy might not be right in all these cases, but it's obvious that something needs to be done， and one of the priorities might be to start to improve the notification system.

Marc Melitz, a professor of economics at Harvard University, published a classic article "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity" in Econometrica. It shows the exposure to trade will induce only the more productive firms to enter the export market and will simultaneously force the least productive firms to exit.Further increases in the industry's exposure to trade lead to additional inter-firm reallocations towards more productive firms, thus the aggregate industry productivity growth generated by the reallocations contributes to a welfare gain.

Though trade policy can change the long-run economic growth in the presence of dynamic economies of scale, the theory of trade policy is also amazingly full of paradoxes: a tariff or import quota may reduce the output of the protected industry, an import subsidy may improve the terms of trade, an export subsidy may raise the subsidized firms' profits by more than the subsidy itself,protection can raise the foreign as well as domestic firms' profits, and a tariff can reduce internal prices.(Grossman, G., & Helpman, E. (1988). Comparative Advantage And Long-Run Growth. Mimeo.) So engaging in strategic trade policy might be important, but reaching trade agreements among countries that restrict such interventions is crucial.China should be actively engaged in planning and enacting WTO reforms, strengthening the negotiation process for the RTAs, and addressing the thorny issues with its trading partners, especially the United States. The WTO successfully resisted protectionist temptations during the 2008 crisis.Let's hope it can continue to serve as an insurance policy against protectionism in the future.

The author is a visiting scholar at Harvard University and a former managing dirctor at CITIC securities