Is a Trade War with China Looming?

Trade war is probably too strong, but there is no question that the heat is rising on China to show it can provide a fair competitive environment for both foreign and domestic firms. So far, it earns a failing grade.

In the past I have been skeptical of complaints by foreign firms, since those firms have generally been quite profitable in China despite the regulatory obstacles they face. But the U.S. Chamber of Commerce study powerfully documents legitimate grievances. First, it shows that the merger reviews conducted by the Ministry of Commerce (Mofcom) have overwhelmingly focused on deals involving foreign firms. Of the 793 merger deals notified to Mofcom over the last six years 733, or 92%, involved at least one foreign firm. Only 60 were purely domestic deals, even though there were more than 15,000 domestic M&A deals in the last five months of 2013 alone, of which hundreds if not thousands almost certainly met Mofcom's notification requirements. All cases in which Mofcom blocked the deal or imposed conditions involved at least one foreign firm; there is no case yet of a purely domestic merger being blocked on competition grounds. So Mofcom is making virtually no effort to police anti-competitive concentrations of market power by Chinese firms, even as it subjects foreign firms to ever-greater scrutiny. Second, the National Development and Reform Commission's investigations of anti-competitive pricing behavior have been conducted in a non-transparent and bullying way, and seem designed less to punish true bad behavior than to extort technology transfer.

This record sits poorly with the pledge made at last year's Third Plenum to increase the role of market forces in the economy  and reduce the use of administrative fiat. The way this promise has played out so far is that the environment for domestic private enterprises is indeed being improved. But foreign firms so far are being deprived of the benefits of reform. In March, the government abolished registered-capital requirements and other regulatory hurdles for new businesses, and the result has been a dramatic explosion in new private company registrations. At the central government's behest, most provinces have now released plans to introduce private shareholders into locally-owned SOEs. Most likely, this "mixed-ownership" will evolve into outright privatization of many of these enterprises. Although domestic private companies still face many forms of discrimination, there is no doubt that their prospects have been enhanced by recent regulatory changes.

Not so for foreign firms. Not only have they been subjected to heightened and discriminatory anti-monopoly enforcement, they have seen no improvement in market access. Unlike the substantive efforts to open up space for domestic private enterprise, the Shanghai Free Trade Zone, touted as a channel for improved market access for foreign service firms, has so far proved a dead letter. What foreign governments can do about this state of affairs is unclear: the U.S. Chamber has threatened to file a WTO action against Beijing's antitrust enforcement, but this is an empty threat given that China's commitments on competition policy in its WTO accession agreement were minimal. Most likely what we will see is not a full-blown trade war but an escalating barrage of rhetoric.

I pretty much agree with Arthur. There definitely seems to be a change in the air, although I also think that a trade war is unlikely. (What would a “trade war” even look like, anyway?) The U.S. government’s role in these matters is probably determined largely by whether U.S. businesses are complaining, and they seem to be doing a lot more complaining now.

The U.S. Chamber of Commerce report is a strong document. It’s well researched and well reasoned. One of its major points is to show that the actions of China’s competition authorities are outliers in the world of competition policy. Not only are they not practiced among competition authorities in advanced economies, they are not even practiced among inexperienced competition authorities in developing countries that have just adopted competition law regimes. Moreover, China’s regulators have not joined the International Competition Network, the international club of antimonopoly regulators, even though it has joined similar bodies in the areas of banking, insurance, and securities.

The protestations of the National Development and Reform Commission that it is just enforcing the law—move along, folks, nothing to see here—ring a bit hollow, given that it refuses to provide written rulings setting forth its methodology and reasons and has been known to warn targets not to consult with their lawyers.

As for the forum in which the United States could respond, negotiations backed by the prospect of retaliatory measures are probably the only realistic option, given that the complaints against China are not really covered by WTO disciplines. The best the USCC report can do is to claim that China is in breach of a commitment supposedly made in the Report of the Working Party on China’s WTO Accession: “The representative of China noted that the Government of China encouraged fair competition and was against unfair competition of all kinds.” Not only is that language much too weak and general to support a concrete commitment—it’s not even phrased as a commitment—but the Working Party Report is not a basis for any of China’s commitments unless a specific section was incorporated by reference into China’s Protocol of Accession, and the language in question (paragraph 65) was not.