Commentary

President Obama’s Chance to Fix Deteriorating Economic Relations with China

Last month, the U.S. Court of Appeals for the Federal Circuit ruled that it is illegal for the executive branch to apply the U.S. countervailing duty law to imports from countries considered to be “non-market economies” under U.S. antidumping law. That may sound legalistic and technical, but how policymakers in Washington respond over the next couple of weeks will weigh heavily on the tenor and direction of the U.S.-China economic relationship for years to come.

The ball is currently in President Obama’s court and, nominally, he has some alternatives. First, he can accept the CAFC’s decision, which would require his rescinding 24 U.S. CVD measures already in effect, terminating five pending CVD investigations, not acting upon two recent case filings, and forbidding his agencies from initiating any new CVD investigations on NMEs henceforth. (That would be my preferred option.) Second, he can appeal the decision to the U.S. Supreme Court or request an en banc judicial ruling from the CAFC, hoping for a reversal from either body. The likelihood of either the CAFC granting en banc consideration or the Supreme Court granting a writ of certiorari is considered by legal experts to be small. Or third, he can seek changes in the law to make it expressly Congress’s intent that it apply to non-market economies. (That would likely spark harsh reprisals from Beijing in the form retaliatory tariffs and other market restrictions, as the U.S. measures are perceived as a direct affront to Chinese exporters. Yes, Vietnam is the other remaining NME of economic significance, but the firestorm over the CAFC decision is all about China.)

The arrival of election season and, with it, incessant peddling by politicians of the vacuous “Us-versus-Them” narrative about U.S.-China trade stacks the deck in favor of this third alternative, which is the one most likely to cause already-strained relations to deteriorate further. Indeed, last week, Commerce Secretary John Bryson and U.S. Trade Representative Ron Kirk sent a letter to the chairmen and ranking members of the congressional trade committees, seeking a quick legislative fix to the “problem” created by the CAFC decision. The real problem though is that domestic unions, the steel industry, and their trade lawyers in Washington insist on having their cake and eating it too. They want to subject imports from China to the U.S. countervailing duty law, as well as to the most punitive calculation methodologies available under the U.S. antidumping law. Their narrow interests should not be the cause of most Americans, who have much to lose in this growing trans-Pacific acrimony.

The president is aware of the stakes, the calculus, and the scope for compromise. Should he be inclined to focus his gaze beyond short-term political calculations and do what’s right for the country, there is a fourth alternative available. That course does not require legislative action, would permit Commerce to simultaneously apply the CVD and antidumping laws to imports from China, and would be considered a gesture of goodwill by the Chinese government, thereby defusing tensions and opening the door to greater cooperation resolving legitimate market access concerns confronting American companies in China.

That fourth alternative is for the president to designate China a “market economy” for purposes of the antidumping law — something that the United States is obligated to do under international treaty by no later than December 11, 2016, anyway. Yes, there will be opposition from the interests cited above — labor unions, certain import-competing industries, like steel, and trade lawyers who make their living arguing for measures that would restrict the ability of Americans to trade. But the president should do what he can to avoid a potentially serious fallout with Beijing over trade.

To appreciate the magnitude of the CAFC decision and how it leaves the president with the four alternatives, some background is necessary. (Links to other analyses might be substituted for potentially oppressive details to make this post tolerable reading without compromising expression of the crucial points.)

My former colleague, occasional co-author, and trade lawyer Scott Lincicome already crafted an excellent primer on the issue that was before the CAFC, and that court’s justification for its more expansive ruling. So I will only revisit a few details of his analysis.

The question before the CAFC was whether simultaneous application of countervailing duties (i.e., anti-subsidy duties) and antidumping duties to the same imports from countries deemed non-market economies results in a double-counting of the value of the subsidy, thus constituting an illegal double taxation on imports. The answer would have been an emphatic “Yes,” had the CAFC actually ruled on that narrow question. At least, that was the determination of the Appellate Body of the World Trade Organization when the question arose in a different case involving imports of Chinese coated paper. And that should be the conclusion of anyone susceptible to logic, fairness, and the laws of arithmetic. Here’s why.

First, the U.S. Antidumping law provides “relief” in the form of import taxes to U.S. industries that can demonstrate that they are injured by imports priced at “less-than-fair-value.” The U.S. Countervailing Duty law provides the same kind of “relief” to U.S. industries deemed injured by imports found to be unfairly subsidized by a foreign government. Under both laws, the administering authorities only consider the well-being of the petitioning industry, and are precluded statutorily from considering the financial and economic burdens those taxes might impose on downstream industries, consumers, or the broader economy. (But that is rather beside the main point of this post, so look here and here for more on that problem.)

Under its normal “market-economy” methodology, the U.S. Commerce Department calculates dumping as the amount by which the foreign producer’s price in his home market exceeds his price in the U.S. market. The lower the U.S. price or the higher the foreign price, the larger the “margin” or amount of dumping and the larger the duty imposed on imports. (Look here for the nuts and bolts of AD calculation methodology.)

Under the non-market economy methodology, however, Commerce doesn’t consider the foreign producers’ home market prices at all. Transaction prices in the NMEs are considered by the Commerce Department to be unreliable reflections of true supply and demand conditions and influenced by de facto or de jure control of resources by the central, provincial, and local governments. Instead of using actual prices, then, Commerce assumes its own omniscience and “determines” what the home market price would be if the home market country were, in fact, a market economy. Commerce does this by endeavoring to consider all of the factors of production necessary to make the product (the various materials, labor, electricity, water, and other overhead) and valuing those inputs by reference to their prices in another country. As if that weren’t fiction enough, Commerce then estimates all of the expenses it assumes are necessary to sell the product, by reference to the selling expenses incurred by chosen firms in a similar industry in the other country. Then, Commerce prescribes a proper amount of profit that firms selling the subject product in the non-market economy should be earning, if they were operating in a market economy, again by reference to the profit experience of chosen firms in a similar industry in the other country. Finally, those estimated cost components are combined with the estimated selling expenses and topped off with the estimated profit to produce the home market price that would obtain if the country were a market economy. And THAT concoction is the benchmark — the “Normal Value” — to which the exporters’ U.S. prices are compared to determine the existence and measure the extent of dumping. (Look here for details on NME methodology.)

As ridiculous as it would be to expect the result of that constructed normal value calculation to accurately (even remotely) estimate the real market price in the non-market economy, the Commerce Department’s rationale for its often arbitrary and capricious decisions concerning the estimates to include or exclude in that calculation is always earnestly couched in terms of the agency’s fealty to precision. Precision! What a hoot. Nonetheless, the benchmark that is produced is officially the Commerce Department’s best estimate of a non-subsidized, market price — the “fair,” undumped, unsubsidized price.

Accordingly, the amount by which the foreign exporter’s U.S. price is lower than that “fair” benchmark represents the amount of dumping AND the value of the benefit of the subsidy. In other words, the margin of dumping in a NME case-where Commerce constructs these normal value benchmarks-also capture the benefit of any subsidies accruing to the exporter. Thus, applying CVD duties and antidumping duties against imports from NME countries double counts the amount of the subsidy and results in a double tax on imports.

So, there is a fundamental incompatiblity to applying simultanously CVD duties and antidumping duties generated from the NME methodology. To the extent that unions and domestic industries want to continue to use the CVD law against imports from China and not violate U.S. WTO obligations, granting China a market economy designation solves the impasse. The Chinese government wants its exporters to be treated like other countries’ exporters and the United States is obliged to grant that status by 2016. Why not do it now? Chinese exporters would be subject legally to both the antidumping and countervailing duty laws and they’d actually be happy enough about the change that the crucial bilateral relationship gets a much-needed boost.

Can and will President Obama do the right thing?

Daniel Ikenson is associate director of the Herbert A. Stiefel Center for Trade Policy Studies at the Cato Institute in Washington, DC.