Mark Groombridge forcefully argues that fears of the harmful effects of China’s entry to the WTO are unwarranted. China’s entry will only bring prosperity for both sides. For the US, China’s entry will mean cheaper goods and increased access to Chinese markets. For China, entry will further the pace of economic reform, lifting more Chinese out of the mires of poverty.

Mark Groombridge is a Research Fellow at the  Center for Trade Policy Studies, The Cato Institute

Introduction

For over thirteen years, the People's Republic of China has been seeking entry into the World Trade Organization, the multilateral institution governing international trade in goods and services. With the successful completion of most of the bilateral Accession Protocols necessary for membership, China is now poised to enter the WTO. For many, China's entry into the WTO is a source of consternation, sparking fear of job losses in domestic home markets. Others worry that such a large, yet still highly regulated economy will disrupt the WTO, an institution committed to the principles of free trade.

While such fears are understandable, particularly in the short-term, the argument of this paper is that consumers and the world trading community at large will benefit from China's accession to the WTO. To be sure, due to the inherent redistributive nature of changes in trading patterns, short-term economic losses will be incurred in certain sectors in some countries. However, the dynamic benefits of China's WTO accession will outweigh these economic dislocation costs, particularly over the long-term. None will benefit more, however, than the citizens of China, who will gain from the pressure the WTO will assert on China's leadership to stay the course of reforming China's economy in a market-oriented direction.

While the exact terms under which China will accede to the WTO are yet unknown, the broad outlines of the U.S.-China agreement have been made public.¹ Most analysts agree that the reforms China has agreed to implement are quite sweeping. At the time of the writing of this article, however, there are still two barriers to China's accession to the WTO. The first is that China has yet to conclude bilateral negotiations with the European Union (EU) and several other countries. While the EU-PRC negotiations are expected to be somewhat arduous, the bilateral agreements with Brazil and India are expected to be concluded with relative ease. It is widely acknowledged that the primary hurdle to China's accession to the WTO was the lack of an Accession Protocol between the United States and China, an obstacle that was removed in November 1999. It is also generally recognized that China will have little difficulty securing the necessary two-thirds support among WTO members required for entry.

The second barrier to China's accession is the United States Congress, which must cast a vote to reconcile U.S. domestic law with the rules of the WTO. Specifically, Congress must revoke or somehow amend Title IV of the Trade Act of 1974, popularly known as the Jackson-Vanik Amendment. This law reaffirmed the 1951 ban on granting unconditional Most Favored Nation (MFN) status to all countries characterized as "non-market economies" (with the exception of Poland and Yugoslavia). Currently, the U.S. Congress can vote annually on whether or not to grant conditional MFN trading status (or Normal Trade Relations [NTR] as it is now called) to a ‘non-market economy’ based on certain criteria.² This law, however, violates the unconditional MFN clause, which is located in Article I, Section I of the GATT treaty to reflect its importance to the WTO.

Costs of China's Accession to the WTO

The Costs to the United States

Protectionist trade policies are inherently redistributive. When governments impose tariffs or other trade barriers to protect a particular sector, they raise costs to consumers of that product and redistribute the wealth generated from such tariffs in order to benefit a particular sector. By definition then, the removal of a protectionist trade barrier will cause some sectors to 'lose-out', at least in the short-run. Long-term dynamic effects, however, are likely to be positive. It is well known, for example, that the removal of automobile protections in the 1980s forced U.S. automakers to improve the quality of their products. Consequently, the U.S. auto industry is now among the most competitive in the world.

In terms of China's accession to the WTO, few sensitive sectors will be affected. The reason for this is straightforward: the U.S. market is already quite open to China's imports. No changes are required for U.S. tariff levels in the agreement. Nevertheless, some sectors will face increased competition, particularly over the long-term. Specifically, the U.S. International Trade Commission (ITC) concluded that: "sectors that are to be negatively affected are footwear, wearing apparel, wood products, and other light manufactures."³ And, overall, the ITC did predict "an increase in the U.S. trade deficit with China."⁴

The case of textiles and apparel is highly illustrative. Currently, trade in textiles and clothing is subject to the WTO Agreement on Textiles and Clothing (ATC). Under the ATC, all countries are required to eliminate quotas in this industry by the year 2005. The United States, however, negotiated into the bilateral Accession Protocol a provision which would enable the United States to invoke additional protection against import surges in this sector. This would be implemented through the use of a textile safeguard provision that expires at the end of 2008. Despite this additional protection, however, the ITC is likely correct in its prediction that "although much of this increase in China's exports of textiles and apparel comes at the expense of other suppliers to the U.S. market, the U.S. textile and apparel industries could also be affected, with U.S. apparel producers and workers experiencing the more adverse effects."⁵

The Costs to China

As China has agreed to a number of sweeping market access concessions, it should come as little surprise that many sectors in China will feel the bite. To quote one top Chinese official: "The blow will not be light…[and] pain is unavoidable."⁶ The Chinese government has acknowledged that China's accession to the WTO will cost more than 10 million jobs, with over 9 million farmers being forced out of work.

Other sectors likely to take big hits include the automobile, machinery, and banking sectors.⁷ In the automobile industry, for example, it is widely recognized that there will a sharp consolidation of China's 120 auto producers. Indeed, Chinese markets were quick to perceive the threat of WTO membership to this sector, automotive listings having plummeted on the Shanghai and Shenzhen stock exchanges the day after the signing of the U.S.-China bilateral agreement.⁸ Top executives in China's state-owned banking system (of which 4 banks dominate) are also considering ownership changes to help brace the industry for increased competition from foreign banks. This competition will be especially fierce two years after accession, when all banks will be permitted to do business with Chinese companies in the local currency.⁹

Quite clearly, the 'costs' to China are much greater than those to the United States. Despite 20 years of reform, China still has a far way to go in order to redress the problems stemming from decades of inefficient socialist policies. It should also be noted that the social instability in China stemming from unemployment poses serious risks to a regime still dominated by the Chinese Communist Party. It is widely cited, and acknowledged by Chinese government officials, that some 35% of China's 140 million workers in state and collective enterprises are superfluous and that urban areas will need to absorb some 150 million workers who will migrate off of the land to seek work in urban areas.¹⁰ Undoubtedly, this will create potential sources for social, and perhaps even political instability.

Benefits of China's Accession to the WTO for the United States

Benefits to the U.S. Economy

China is the United States' 13th largest market abroad for U.S. goods, and since 1990, U.S. exports to China have increased by 167%. In 1998, U.S. merchandise exports to China totaled over U.S.D. 14 billion (up 10.9% from 1997), and another U.S.D. 5.3 billion worth of U.S. goods sold to Hong Kong were re-exported to China.¹¹ These exports support high quality jobs in sectors of the American economy that are key components of the engine driving the growth the United States has experienced in recent years. Notable among these sectors are aircraft, power-generating equipment, telecommunications equipment, computers, fertilizers, medical equipment, and organic chemicals.

Both consumers and the economy of the United States have benefited from the expanding trade relationship with China over the past 20 years. In 1978, when the People's Republic of China launched its 'Open Door' policy and abandoned its largely autarkic past, trade between the United States and China stood at an inconsequential U.S.D. 2 billion. Today, China is the United States' fourth-largest trading partner, trading goods worth some U.S.D. 85 billion. The following table documents this growing relationship during the past decade.

Trade Between the United States and China¹³

(Unit of Analysis: Billions of U.S. Dollars)

There is strong reason to believe that this beneficial trading relationship will expand once China is a member of the WTO. While the United States would incur short-term losses in some sectors such as footwear and textiles, other sectors would benefit greatly. As noted above, in order to satisfy WTO rules and obligations, China has agreed to undertake a number of liberalizing reforms to its moribund state economy. U.S. firms will subsequently enjoy unprecedented access to China's burgeoning market economy. Opportunities in important sectors such as agriculture would expand remarkably. For instance, tariffs on beef products would be lowered to 12 percent by 2004, in comparison to the 45% rate currently imposed.

It is difficult, of course, to quantify gains to U.S. firms, but estimates suggest that these gains would be significant. One study by the Institute for International Economics estimates that "the induced increase in world exports of goods and services to China can be estimated at U.S.D. 21.3 billion. The immediate increase in U.S. exports of goods and services to China can be estimated at U.S.D. 3.1 billion." Others, taking into account the potential dynamic gains of increased competition, estimate even higher benefits. Fred Hu of Goldman Sachs, for example, estimates that China's accession to the WTO would lead to an additional $13 billion in U.S. exports by 2005.¹⁴

Even the ITC, which acknowledged losses in the textile and apparel industries, concluded that China's participation in the Agreement on Textiles and Clothing would ultimately benefit the U.S. economy, due to the agreement's elimination of quota restrictions. In the first place, China would primarily be displacing other producers. More importantly, however, as the report concludes:

More broadly, it is important to consider the benefits to U.S. consumers who will have access to inexpensive imports. Put differently, imports are good, and China's entry into the WTO will help U.S. consumers. If China is a member of the WTO and enjoys unconditional or permanent normal trade relations, the tariffs imposed on goods are far lower than would otherwise apply. If the two countries revoked NTR status with each other, the economic implications would be significant. Average tariff rates on Chinese goods would rise from 4 percent to 40 percent, a number comparable to the highly protectionist and deleterious Smoot-Hawley tariffs of 1930. Tariff rates for some items would increase more than 100%. Who would be hit hardest by these increased tariff rates? The answer is apparent: It will be U.S. consumers, who enjoy low prices on top imports from China such as toys, sporting goods, footwear, clothes, plastic goods, suitcases, and furniture.¹⁶

A number of honorable critics of China's entry into the WTO point out that these benefits to U.S. consumers and firms will occur only if China abides by the agreement. Moreover, they point out the possibility of severe disruptions to the WTO process should China become a member and not abide by the rules. Even if China's leaders are intent on implementing the agreement, the world trading community is well aware that local bureaucrats may be resistant to change. Moreover, there is a lack of transparency in the rule making process in China, a problem that hinders foreign access to China's markets.

To be sure, these are legitimate concerns. Two mitigating factors, however, should be raised. First, China is at least aware of this problem. Top trade and foreign investment officials forthrightly acknowledge that: "laws that were made during the 1970s or 1980s did not take into consideration international regulations. There are even conflicts between them and some recently-made laws, such as the Contract Law and the Corporate Law."¹⁷ Trade officials have also been more forceful in pushing through laws and regulations "to conform to the requirement of WTO rules" and acknowledging that "the government's project-review and decision-making processes should be more transparent."¹⁸

The second factor mitigating concerns that China will not abide by the WTO agreement is the strength of the WTO dispute settlement process. Should China not live up to its WTO obligations, the United States and others would have a better forum in which to air their grievances. China would be forced to blame the entire world trading community and the WTO should it lose a case--something China would find difficult to do if it is intent on becoming a respected global leader in its own right.

Currently, in the sometimes poisonous bilateral relationship, anti-reform elements in China invoke the argument that trade disputes with the United States stem from the desire either to protect failing U.S. industries or from a fear of China's emergence as a regional hegemon. China's accession to the WTO would blunt this argument. In so doing, it would allow U.S. policy-makers to more effectively address non-trade related aspects of the Sino-U.S. relationship.

Dispelling the Trade Deficit Myth

Fears of an increase in the U.S. bilateral trade deficit with China are also unwarranted. First, it is important to clarify that trade deficits reflect the flow of capital across international borders, not merely the value of merchandise goods. Given the health of the U.S. economy at this time, the United States provides an excellent destination for investment which current levels of savings by U.S. citizens cannot satisfy. Second, critics of the U.S. bilateral merchandise trade deficit with China mistakenly look at the trading relationship in isolation of trade with other countries. While the U.S. trade deficit with China has increased, the U.S. trade deficit with other countries has decreased. The reason is straightforward: investors in a number of countries, especially within East and Southeast Asia, have relocated production facilities to the People’s Republic of China.

Consequently, the growth in the bilateral trade deficit with China is not nearly as dramatic as some think, since job opportunities taken away by China were transferred to other countries one or two decades ago.¹⁹ For this reason, as Nicholas Lardy concludes: "U.S. data on bilateral trade with China are seriously flawed," and "the argument that the growing deficit with China has caused a large loss of manufacturing jobs in the United States is wrong."²⁰

Dispelling the Trade as a Weapon Myth

As noted above, some fear that China's entry in the WTO would be tantamount to rewarding a ‘rogue’ nation for bad behavior. Critics of China's entry into the WTO point to a whole panoply of non-trade behaviors by the Chinese government that offend core American values and run counter to U.S. national interests. A short list of issues include human rights abuses, technology transfers, nuclear espionage, missile proliferation, Asian security, campaign finance scandals, and China's handling of demonstrations in the aftermath of the accidental U.S. bombing of the Chinese embassy in Belgrade. At the outset, it is important not to paint the descriptions of these critics with one brushstroke, as they span the entire political spectrum.

Regardless of ideological stripes, these critics raise important concerns that should inform the bilateral relationship between the United States and China. However, there are several reasons why blocking China's entry into the WTO (which the U.S. Congress could effectively do by not amending Jackson-Vanik and keeping NTR status for China conditional) is not the proper mechanism by which to resolve these outstanding issues.

First, conditional NTR is an ‘empty cannon.’ It is true that before the annual debates on the extension of NTR in the past, China would engage in a widespread publicity campaign and sometimes even release a high profile dissident. These short-term gains, however, did little to change government attitudes or promote long-term changes. Indeed, to some extent, it might have actually weakened U.S. credibility. While speaking about the debates on MFN in the mid-1990s, former U.S. Ambassador to China James Lilley's words remain true today: "The fundamental issue for China policy makers is that if the United States is to brandish MFN (NTR) as a weapon, we must be prepared to use it or our opponents will treat us with contempt. If we are not ready to revoke MFN for China, and clearly we are not, the president should…deemphasize the issue."²¹ In 1999, with Sino-U.S. relations at their lowest ebb in years, it is reasonable to ask what the point of annual debates on the floor of the House are when Senator Trent Lott, the majority leader in the Senate, announced that the Senate would not even take up the issue. Moreover, the House of Representatives garnered only a meager 170 votes in favor of revoking NTR status with China in 1999, a year when the Sino-U.S. relationship was arguably at its lowest.

The second reason China's NTR status is not an appropriate weapon to brandish in order to influence China's behavior is that the unilateral nature of such an action would fail. It is true that the United States is the sole superpower in the world today, but this does not mean that we live in a uni-polar world in which the United States can simply impose its will. If one looks at the history of using trade as a weapon in the form of economic sanctions (which not extending PNTR would be amount to), there is a clear and consistent trend: multilateral sanctions sometimes work; unilateral sanctions almost never do.²² The reason is straightforward: other countries will ‘free ride’ on U.S. actions and continue to trade with China. Those opposed to China's entry in the WTO for fear of high-tech exports going to China would also find their efforts stymied, as other countries are quite explicit about the fact that they will continue to give China their most advanced technology. For example, in 1998, Christian Pierret, the French junior industrial minister, publicly declared in Beijing that: "We (the French government) are playing to the fullest the game of technology transfers."²³

Benefits of China's Accession to the WTO for China

China's Transition to a Market-Oriented Economy

In the past two decades, China has made impressive strides to move to a more market-oriented economy. To be sure, this process is by no means complete. Elements of centralized state planning continue to play a prominent role in some parts of the economy, and there is a pervasive statism to many elements of the reform program.²⁴ As such, China is still best characterized as a 'hybrid' economy, where both the market and the state regulate various aspects of the economy.²⁵ Nevertheless, as the last 20 years of reform history unequivocally demonstrate, China's overall trend of moving towards a market-based economy, while not irreversible, is quite clear.

Today, the most vibrant and dynamic sector in China is the burgeoning non-state sector, consisting of a growing number of private sector firms and joint-ventures between foreign and Chinese firms. State-owned enterprises (SOEs) now account for about 25% of gross-value industrial output (GVIO) in China, down from some 80% in 1978. This contrasts with the trend we observe in the private sector, which in 1978 accounted for a near-zero share of GVIO but now accounts for 18%.²⁶ A report by the Chinese Academy of Social Sciences (CASS) notes that today some 70 percent of labor allocation, 62 percent of product pricing and distribution, 51 percent of enterprise management, 23 percent of land transfers, and 17 percent of capital distribution are market-regulated--up from nearly zero percent in the late 1970s.²⁷ In light of these reforms, China has experienced impressive economic growth rates throughout the reform period. China's gross domestic product (GDP) has nearly quadrupled since 1978 and now stands close to 8 trillion yuan (U.S.D. 960 billion).

China has also integrated itself more deeply into the world economy. In 1978, trade accounted for roughly 10 percent of the country’s GDP; in the late-1990s trade accounted for closer to 36 percent of GDP.²⁸ Government officials in Beijing routinely note that export growth is responsible for about 20 percent of China’s GDP growth in the 1990s.²⁹ Of particular relevance here is the fact that the non-state sector has generated about three quarters of total export growth since 1978.³⁰

The Impact of Reform and Expanded Trade on the Life of the Average Chinese Citizen

It is difficult to overstate how the reforms since 1978 have improved the life of the average citizen in China. According to China's Office on Poverty Alleviation and Development, well over 100 million individuals have risen out of destitution and now live above the official poverty line (set at annual per capita income below 640 yuan [U.S.D. 77]).³¹ Much work, of course, remains to be done in this regard. Yu Shuning, Minister-Counselor of the Embassy of the People's Republic of China, so conceded when he reported in mid-1999 that: "at present, 42 million Chinese still live below the poverty line."³² In addition to helping alleviate poverty, the economic reforms in China have brought overall gains as well, as the gains per capita income for both urban and rural residents suggest. While there is some question on the veracity of data (given the questionable accuracy of macroeconomic data as related to China's gross domestic product, particularly in the early reform period), as the following table suggests, the trend is clear.

Table #1: Per Capita Income in the People's Republic of China³³

(Unit of Analysis: Yuan in 1990 Value [$1 U.S. = 8.3 Yuan])

The overall quality of life for the average citizen in China has improved dramatically as well. Citizens now have access to better services in crucial areas such as health care and education. Millions more now have electricity (and consequently, refrigeration) and telephone service as well. The better lives that citizens in China now lead is a direct result of the decision by China's leadership in 1978 to pursue the path of economic reform in a more market-oriented direction. Undoubtedly, the internal rationalization of China's economy accounts for most of these gains. As such, astute observers wisely caution that although "trade is important to China . . . what goes on in the rest of its huge economy remains the critical factor."³⁴

The Impact of WTO Accession

Despite the overall importance of the domestic economy in determining China's economic future, there still are two reasons why China's accession to the WTO will help its citizens lead better lives. First, as China's largest export market after Hong Kong, the United States plays a primary role in enriching Chinese companies, primarily non-state-owned entities. As noted above, government officials in China report that roughly 20% of the increase in GDP during the 1990s is attributable to growth in exports. It is true that China already largely enjoys full market access to the United States, such that the expansion of exports from China will be limited.

Still, exports in some key sectors such as textiles and other labor-intensive sectors would expand. Overall, in light of long-term dynamic effects, the Chinese government predicts that China's accession to the WTO would increase its GDP by 95.5 billion yuan (U.S.D. 23.64 billion), or 1.5 percent by 2005.³⁵ And while acknowledging that some 10 million jobs will be lost in agriculture, auto and machinery sectors, Chinese economists predict that WTO membership will create 12 million jobs in other sectors such as textiles, toys, and footwear.³⁶ Chinese firms will also face a more stable export environment, one less subject to anti-dumping and special safeguard provisions (despite their WTO legality). As Yang Donghui, secretary-general of the China National Federation of textile Industries, points out, one of the primary benefits of WTO membership, "especially in the long-run…is that the country will be able to enjoy stable multilateral preferential trade polices in a rules-based market."³⁷

The second and more important reason that China's accession to the WTO will help China's citizenry is that it will strengthen the hand of pro-reform elements in the government. As noted above, China's transition to a market-oriented economy is not complete and elements of centralized planning remain. And it is quite clear that despite the impressive gains China has made economically over the past 20 years, many intractable problems remain, such as the restructuring of state-owned enterprises (SOEs), half of which are losing money.³⁸ China's industrial landscape is littered with 'empty-shell enterprises' (kongqio qiye) and state officials routinely argue that some 30% of the workforce in SOEs is superfluous. China's banking system is in precarious position as well, given declining capital adequacy and the continued reliance of the state-banking system on policy-based lending as opposed to examination of market criteria.³⁹

To a large extent these economic problems reflect the inherent difficulty of trying to recover from 30 years of horribly misguided economic policies during Mao's reign. The recent Asian financial crisis has undoubtedly exacerbated these problems as well. The best way out of this economic quagmire, however, is for China to continue to strengthen its reform effort, not to retreat. This will require China's leaders to exercise not only savvy economic policy-making, but political fortitude as well. It is clear that a primary reason that China has not moved more quickly down the reform path is the divisive political battles currently fracturing the government. Different factions exist in China with markedly different attitudes toward the economic reforms.⁴⁰ Leaders such as Premier Zhu Rongji are widely credited for pushing China to further its reform effort and to integrate more with the global trading community. Others, however, such as Li Peng, the former premier and now head of the National People's Congress, are fearful of the inherent instability that reforms entail and are a powerful force preventing China from reforming more quickly.

While no panacea to its economic problems, China's membership in the WTO would give pro-reformers political cover who could say that their hands were tied by international commitments. This would help legitimize the undoubtedly painful transitions that China will have to undertake if it is not only to live up to its WTO obligations, but also to help continue lifting China's remaining 42 million citizens out of poverty. It is well-known that there were heated debates at the top levels about China's accession to the WTO after Clinton (foolishly) rejected Zhu's WTO offer in April 1999, and following the accidental bombing of the Chinese embassy in Belgrade during the Kosovo crisis. There were also concerns about Zhu Rongji's influence. As Zhu is far and away the most pro-reform leader of the top three, the United States and the world trading community should do all that they can to help strengthen his position.

Already, there is some evidence to support the notion that China's accession to the WTO will help strengthen pro-reformers in Beijing. In preparation for increased competition after WTO entry, China's central bank governor, Dai Xianglong, announced a series of banking reforms, including gradual interest rate liberalization and expanding the band within which the bank allows its lending and deposit rates to fluctuate.⁴¹ And while proving direct causality is, of course, impossible, it is noteworthy that after China signed the bilateral Accession Protocol with the United States, it took the unprecedented step of elevating the importance of the private sector economy. State Development Planning Commission Chairman, Zeng Peiyan, acknowledged that China's multibillion-dollar effort to resuscitate its moribund state-run sector had failed. Specifically, he announced that the government would "actively guide and encourage private investment" and would "eliminate all restrictive and discriminatory regulations that are not friendly toward private investment and private economic development in taxes, land use, business start-up and import and export."⁴² Just as important, Zeng announced that more private firms would have access to China's fledgling stock markets in Shanghai and Shenzhen, which are currently restricted almost exclusively to state-owned enterprises.⁴³

Conclusions

The most important beneficiaries of China's accession to the WTO will be the citizens of China itself. Keeping China out of the WTO will only hurt China's poorest communities, while strengthening the hand of pro-reform elements in Beijing by allowing China to accede to the WTO will only help China's leadership in its quest to lift it's citizenry out of abject poverty.

The world trading community, which has a strong interest in seeing China continue to reform its economy in a more market-oriented direction, will benefit as well in terms of unprecedented market access. China's commitments to open up its market is unprecedented since the country launched its ‘Open Door’ policy in 1978. It is true that China will have difficulty living up to the agreement, but it is only a few narrow interest groups that have a stake in not seeing China integrated into the world's most important trading club. Most of these groups are interested in delaying the inevitable as they try to protect jobs in which they are longer competitive.

Societies will have to decide how to deal with the inevitable short-term dislocation costs that will stem from China's accession to the WTO. This applies not only to the United States, but also to Southeast Asian nations who are China's primary competitors in labor-intensive manufacturing. Against the real concern that China will have difficulty abiding by WTO rules, it is important to bear in mind that as a member of the WTO, China will be subject to the WTO's multilateral dispute settlement process, a far more effective tool than unilateral sanctions stemming from bilateral trade disputes. And, against the short-term dislocation costs, the world trading community should weigh the long-term benefits as countries rationalize their economies to more accurately reflect their respective comparative advantages. The historical record strongly suggests that this is the road to economic prosperity.

NOTES