Chapter 1 China’s accession to the wto: An overview of domestic and external implications

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Chapter 1

China’s accession to the WTO:

An overview of domestic and external implications

By Carlos A. Magariños and Francisco C. Sercovich

On December 11, 2001 China became the 143rd member of the World Trade Organization (WTO). This way, a 15 years-long quest came to a end, concluding the first chapter of an remarkably rich learning process for all parties concerned (Chapter 2 gives a first hand, authoritative account from the Chinese perspective).1

There can be little doubt that the implementation stage of the accession agreement, including both, China’s adaptation to WTO rules and WTO adaptation to its more universal membership base, although an unlikely subject for replication in the aggregate, will also be a rich source of lessons for the international community, particularly the developing countries.
WTO accession means for China a key step forward in its unprecedented strategy to catch up with the advanced industrial world by means of market socialism.2
This way China legitimizes internationally its vocation to regain its place at the world technological and productivity frontier within the span of a few decades.3 And it does so without adopting orthodox prescriptions, such as brisk capital account liberalization or privatization of its state-owned enterprises (SOEs).
The terms of China’s accession to the WTO may be viewed as a deal whereby, for the sake of significant medium- and long-term mutual gains, China accepts the risks involved in limiting the degree of heterodoxy of its peculiar brand of catching up and China’s trade partners take the risks entailed in trusting the ability of China’s leadership to deliver on its commitments.
This is a high-stakes game for all concerned. The major risk incurred by China is the potentially disruptive social implications of carrying out, within a decade or so, the wholesale adaptation of its economic, institutional and legal structure to a still untested brand of market-led competition. China’s trade partners risk significant shifts in relative competitive advantage.4
China has reasserted its rights to considerable elbow-room in policy design and implementation. This does not mean that China has extracted undue unilateral advantages: on the contrary, the magnitude of the commitments made by China’s leadership leaves it facing daunting challenges and risks. In addition, China is likely to pay a premium for choosing to catch up via market socialism rather than through market capitalism (see below).
The challenges ahead cannot be overstated. The terms of the agreement suggest China’s self-confidence in the ability to draw on its manufacturing prowess to a much larger extent that so far. This China will attempt to do by matching an enhanced innovative and technological capability with labor costs advantages that are unlikely to vanish any time soon.

Inward dimensions

China faces a wide variety of challenges in striving to promote national development and catch up with the industrial countries along an original track.

WTO accession has already demanded and will demand the deployment of enormous and highly qualified manpower resources. For instance, China must amend no less than 177 domestic laws and regulations regarding custom administration, foreign investment, intellectual property and services to ensure consistency with WTO obligations (see Chapter 2). These laws and regulations need to be properly revised and then passed by the National People’s Congress (NPC). Judges have to be trained, the legal institutions and procedures need to ensure that the laws are fairly and impartially upheld and the legal judgments must be enforceable throughout the country.5
Then there is the need to maintain the momentum of reform; address resource shortages, low productivity and quality deficiencies; reallocate a high percentage of the labor force; attend the needs of the social security, educational and science and technology (S&T) systems; correct regional unevenness and address deflationary pressures.6
Keeping up with continuous reform at the necessary speed, neither too fast nor to low, will be particularly demanded if, as intended, it is to be based on innovative home-grown transitional institutional and policy devices.
Most of the challenges involve taking entirely new approaches. Consider quality as a case in point: hitherto seen largely as a matter of enforcement, it will have to be viewed now as relating to exposure to competition and innovative performance.
The Chinese leadership has a remarkable record at matching domestic needs and the reaping of world market opportunities. This ability will continue to be tested. Ingrained traits such as uneven market power, discretionary procurement policies and intra-domestic trade barriers slow down efficiency gains. These traits must now be uprooted. Appropriate ways must be found to develop a framework of regulations and incentives capable of promoting efficiency with equity while discouraging rent seeking.
The Tenth Five-year plan (FYP) grants critical importance to productivity gains from reform and innovation. This will demand an extensive revision of economic incentives, institutions and legal as well as regulatory frameworks for the development of entrepreneurial skills, competition, financing, labor, social security and small- and medium-sized enterprise (SMEs) promotion.
Let us focus on some of the most important medium-term challenges associated with accession.
Challenge 1: Creating employment opportunities
China has a labor force of 700 million. If we add up the unemployed (estimated unofficially at about 10 per cent of the labor force), new entrants to the labor market and workers released by the agricultural sector, SOEs and Town and Village Enterprises (TVEs), it is clear that very large contingents will be seeking jobs within the next few years.7 In a conservative estimate, the Chinese economy will need to create about twice as many jobs it has been creating annually over the last few years - while it was growing at 8 per cent per year, not the 7 per cent envisaged by the Tenth FYP for 2001-2005. No fewer than 100 million jobs will have to be created during the current decade, mostly in urban areas (Dahlman and Aubert, 2001).
Heavy industries (chemicals, metal products and machinery), which account for more than 56 per cent of total manufacturing employment, are unlikely to create a great deal of the additional jobs required - though they will certainly undergo substantial reshuffling and labor reallocation. High technology and advanced manufacturing activities may increase employment by up to 20-30 million during the current decade. This means that much of the remainder will have to come from the expansion of the formal and informal service sectors and other labor-intensive activities.
Labor-intensive industries account for more than 30 per cent of manufacturing employment. This share will most likely go up, matching expectations of a substantial growth in China’s world market shares in these activities, particularly textiles and clothing (see below and Chapters 3; for a qualification vis-à-vis medium and high technology activities, see Chapter 4).
Overall, increases in the job creation potential will require the right mix of productivity growth, technological and quality upgrading and product/service diversification so as conciliate gains in competitiveness with an enlarged labor base. The development of a sound social, security and skill development infrastructure will also be required, particularly in view of the progressive aging of the working population as a result of the one-child policy.
Challenge 2: Keeping the pace of structural change and policy reform8
One of the keys to the successful structural transformation of the Chinese economy has been its ability to sustain a very high growth rate: an average of around 10 per cent per year from the late 1970s to the late 1990s. Most forecasts concur in that, during the next decade, China will have to manage with a lower rate of growth, probably in the 6-7 per cent range. Even if this could be exceeded if the world economy improves, it may not be enough to make the task easier.
Moreover, the pattern of structural change ahead will be qualitatively different - less extensive but more focused. So far it has consisted largely of dismantling the command economy and extending the scope of the market economy. Although there is still a long way to go along these lines, attention will have to shift towards building market-supporting institutions, improving patterns of corporate governance, upgrading technology, management and skills and developing innovative capabilities.
Three important gauges of structural change so far are:

  1. The increased share of foreign trade in gross national product (GNP) from 16 per cent in 1980 to 41 per cent in 1999.

  1. The fall in the primary sector’s share from more than 70 per cent in 1978 to 50 per cent in the late 1990s.

  1. The increase in industry’ share of employment from 17 per cent to 25 per cent during the same period.

The service sector has lagged remarkably behind in growth. Within the next few years it can be expected to become a key source of employment and, as important, a key provider of innovative and productivity enhancing inputs for industry.

China has experienced an extraordinary growth of high technology manufacturing activities. In the 1980s and early 1990s, labor intensive products such as toys, footwear and apparel (many relocated from Hong Kong SAR, China and Taiwan Province of China), were the most dynamic. From the early 1990s, though, dynamism began to be led by computer component manufacturing and an expanding range of high tech hardware products (motherboards, monitors, etc.). By mid-1990s China had already emerged as a significant supplier of finished computers. By 2000, two-fifths of all Taiwanese PCs were made in China, which was expected to replace Taiwan as the world’s third largest manufacturer of information technology (IT) hardware by 2001. The range of high technology products within China’s export mix will keep broadening, to include notebook computers and semi-conductor production (see Chapter 3 from the perspective of challenges posed to other developing Asia-Pacific (AP) countries).
Nevertheless, pockets of inefficiency still prevail in agriculture, industry (particularly the SOEs) and finance (burdened by non-performing loans).9 These sectors will carry the brunt of the forthcoming transformation, along with major institutional and legal reforms, helped by the pull from new, state-of-the-art, dynamic activities.10
So far China has resorted to a number homegrown transitional policies and institutions to match equity with structural transformation by minimizing losers. The best known among such policies and institutions are:

  1. The dual-track approach under which prices were liberalized only over and above plan prices and quotas. As the former grew at a much faster pace, the latter became an increasingly narrower part of the economy.

  1. The rural TVEs, which are neither private nor owned by the national government.

  1. A working fiscal federalism to provide economic incentives for provincial and local governments, which manage about 70 per cent of the national budget) (Qian, 2001).

By using such devices, China’s leadership has been able to sort out what ex-ante would have been perceived as insurmountable quandaries. This ability is now being put to test again before an attentive world audience. WTO entry can be expected to mean a substantially heightened codification of the standards of behavior of all economic agents, reducing the scope for discretional and unpredictable conduct and increasing transparency, accountability and equity.

Challenge 3: Reducing regional and social inequalities
The growing gaps between urban and rural areas and between the coastal, central and western provinces is a cause for concern.11 During 1987-98, the coastal provinces grew 3 percentage points more than the central regions and almost 4 percentage points more than the western regions. In addition, whereas in the eastern regions urban incomes are twice as high as rural incomes, in the western ones they are more than three times as high (Dahlman and Aubert, 2001). Although efforts were stepped up over the last few years and 80 million people were lifted out of poverty during 1996-2000 (over 200 million since the late 1970s), much remains to be done. Crucial to the effort of closing the gaps will be the decentralization of incentives and productive activities, and the development of agricultural and rural infrastructure.
Challenge 4 Revaluing natural capital
Over two million people die every year in China from air and water pollution. Shifting away from resource intensive development is a high priority. In particular, the lack of water resources imposes a serious constraint. Agriculture, fisheries and ecosystems have been damaged by degraded water supplies while forests and crops suffer from acid rain from burning fossil fuels. Joint air and water pollution damages have been estimated at US$ 54 billion a year or 8 per cent of China’s GDP in 1995 (Dahlman and Aubert, 2002).
The rapid growth of the economy has been accompanied by extensive deterioration of the environment. Indeed, if the economic impact of resource depletion is taken into account, the average annual percentage rate of growth in per capita wealth and in per capita GNP appears considerably lower than that reported through conventional national accounts (Dasgupta, 2001). Establishing a market-based pricing mechanism, adopting water conservation technologies and shifting away from resource intensive development are high on the agenda as is prevention and control of water pollution. (Chapter 5 examines the implications of WTO entry from the environmental perspective).
Challenge 5 Sustaining productivity growth
Because of resource constraints and competitive challenges, China is embarked upon the transition from a factor-based development to a productivity-driven one. It starts out far behind world leaders in technology and productivity in almost every area. Although cereal yields per hectare in China are not far from US yields, average labor productivity in agriculture is 75 per cent of India’s and 0.8 per cent of those in France and the US; average labor productivity in manufacturing is 92 per cent India’s and less than 5 per cent of those of Brazil, France, Japan and the US (Dahlman and Aubert, 2002).
Labor productivity growth appears to have accelerated during the early 1990s but then slowed down across the board – though it is worth noting that both, the level and the rate of growth of labor productivity in manufacturing remained far higher than in the other sectors.
China productivity and competitiveness problem does lot lie in having concentrated too much on manufacturing (all successful latecomers have). Rather, it lies in not having paid enough attention to such underpinnings of productivity growth and technical upgrading as exposure to competition and incentives to innovation and technical change (research and development (R&D), product and process improvements, efficiency gains), particularly at a time of rapid international diffusion of information and communications technologies (ICTs). The necessary development of services and intangible investment ought to be seen not as an alternative to the development of manufacturing but as a spur to its innovative drive.
Large productivity differentials within the Chinese industrial economy (labor productivity is twice as high in the high technology parks as in the larger industrial sector) suggest ample scope for improved average productivity performance through domestic technology diffusion (Ibid).
Locally administered firms, irrespective of ownership, exhibit better productivity performance than those administered more centrally. This, in turn, suggests an important scope for regulatory and institutional reforms to improve performance. Business efficiency appears to have been considerably enhanced by shifts of administrative and regulatory responsibility to local areas (McGuckin and Dougherty, 2002).
Because of domestic social pressures, at least in the short and medium terms, China is likely to rely strongly on static comparative advantages. However, it will eventually benefit more from gains in trading efficiency from further institutional reforms and endogenous (dynamic) comparative advantages acquired through specialization and trade networking (Sachs et al, 2000). Balancing the transition towards an upgraded pattern of comparative advantages will be one of the big challenges faced by the Chinese leadership, with important implications for developing trade partners. (See Chapter 4 on the changing composition of China’s exports by technology intensity and its domestic capability underpinnings).
The focus of attention, particularly in the energy, metallurgical, chemical, machinery, automobile, building materials, construction, textile and light industries, is already on: enhancing productivity, increasing product variety, improving product quality, saving on energy, reducing waste, preventing and controlling pollution. Mechanisms to support the technological renewal of key enterprises, speed up the diffusion of ICTs and domestic innovation, and foster capabilities for equipment manufacturing as well as for design and construction of complete state-of-the-art plants are also being put into place. Furthermore, large enterprises are being stimulated to strengthen their own intellectual property rights (IPRs) and competence in core products (see Chapter 7 for China’s approach to IPRs). Seriously inefficient, unsafe and polluting facilities will be closed down and the necessary procedures will be adopted for financially unviable enterprises to go bankrupt.
A good deal of China’s productivity gains, as well as its export growth, can be tracked down to foreign invested enterprises. Leading this field is non-Japanese Asian FDI, which is concentrated in labor-intensive operations: electric and electronic goods, apparel, footwear, toys, instruments and furniture (on prospects to shift this pattern towards higher technology- and skill-intensive foreign direct investment (FDI) see Chapter 4). Preliminary estimates on total factor productivity (TFP) performance across provinces suggest that FDI inflows are positively associated with such performance (Graham and Wada, 2001; see also Hirschberg and Lloyd, 2000). Although much new FDI is increasingly geared to the domestic market, the positive association between FDI and productivity growth can be expected to increase, provided that a competitive environment prevails, through the introduction of state-of-the-art managerial and technological practices. This through both direct and indirect efficiency gains - for instance, by stimulating SOEs’ own technological and managerial updating (see below).
As in the debate on East Asian industrialization, there are conflicting views on the role of productivity growth in China’s industrialization.12 According to an estimate, TFP gains accounted for more than 42 per cent of China’s growth during 1979-94 and, by the early 1990s exceeded 50 per cent, overtaking capital inputs as the most significant source of growth (Hu and Khan, 1997). Other estimates are considerably less sanguine (see, for instance Young, 2000). One point of agreement appears to be the key role played by factor reallocation relating to the introduction of profit incentives to TVEs, family farms, small private business and foreign investors and traders. As a result, the share of the state-owned sector in gross value of industrial production dramatically shrunk from 78 per cent in 1979 to 26 per cent in 1999.
As implied earlier on, for post-WTO entry China, the necessary shift away from resource intensive industrialization, constraints on the continuing expansion of labor-intensive activities, the need to upgrade the skill profile of the labor force and the technological and innovative performance of industry and doing away with large pockets of inefficiency, all imply a greater, not a smaller role, for productivity growth in the country’s future growth. In this context, the need to enforce incentives for knowledge creation is increasingly relevant for domestic technology-based firms and industry at large (see Chapter 7).
The external risks and costs of entry
China enters WTO in a dual role: first as a developing country; second, vis-à-vis some countries, notably the US, as a non-market economy. As a developing country, China has claimed certain rights, while it has voluntarily declined to exercise others (see, for instance, the case of TRIMs below). As a non-market economy, China is likely to have to endure and be involved in rough trade disputes. (China is already considered the main target for anti-dumping measures in the world).13
Exhibit 1.1 gives a flavor of the importance of the concessions granted by China as the price to join WTO.14 We now focus the discussion on four particular points. First, China commitments relating to the TRIMs agreement; second, China’s commitments regarding the Technical Barriers to Trade (TBT) agreement; third, China’s exposure to anti-dumping actions and product-specific safeguards that may be put forward by its major trade partners; and, fourth, exceptions requested by trade partners
[Exhibit 1.1 around here]
Complying with WTO TRIMs agreement has been very hard for developing countries, not least those from South East Asia. The reason is that adhering to the agreement entailed a complete reversal of old-style, import-substitution policies that used to play a major role in fostering industrial growth up to the very creation of the WTO (Sercovich, 1998). These include local content regulations whereby certain – often a very high percentage - of inputs and components required by foreign-controlled firms

had to be purchased locally, as well as a wide range of performance requirements regarding exports, foreign exchange balances, local R&D, technology transfer, employment, etc. Automobile assembly operations were the most conspicuous target of these measures, which were justified on grounds of promoting industrialization but also for macroeconomic and balance of payment-related reasons. Indeed, some of these difficulties were anticipated in the agreement, which contained some escape clauses (Ibid). As a matter of fact, relating to the vicissitudes of the world economy since the Asian crisis of 1997-98, many developing countries did resort to such clauses, thus postponing the original deadline (1 January 2000) for a few years.

Against this background, China has agreed to comply fully with the whole of the TRIMs agreement right upon accession - thus waving any grace period. This involves eliminating all foreign exchange and trade balancing, local content and export performance requirements imposed on foreign invested enterprises. The Chinese authorities pledged not to enforce the terms of contracts containing such requirements in the allocation, permission or granting of rights for importation and investment set by national or sub-national authorities. This applies to other conditions relating to R&D, provision of offsets or other forms of industrial compensation, the use of local inputs or the transfer of technology. Permission to invest or draw on import licenses, quotas and tariff rate quotas are to be granted without regard to the existence of competing Chinese domestic suppliers.
The industrial policy for the automotive sector will be amended correspondingly. All measures applicable to motor vehicle producers restricting the categories, types of models or vehicles permitted for production are to be completely removed two years after accession, except for the distinction between trucks and buses, light commercial vehicles and passenger cars. For motor vehicle engines the 50 per cent foreign equity limit for joint ventures was removed upon accession.15
These commitments set a very high bar indeed for new WTO entrants, such as Russia.
China has an important gap in the adoption of state-of-the-art quality and standards-related systems. This relates to a tradition of considering quality as an object of discretionary decisions rather than as a response to market demands. For this reason, the distinction between ‘standards,’ which are voluntary, and ‘technical regulations,’ which are mandatory, is often opaque. This is changing, but it will take considerable time and resources. Some WTO member countries expressed their concern that provisions for technical regulations and conformity assessment procedures do not adequately address obligations relating to transparency, non-discrimination, national treatment and avoidance of unnecessary barriers to trade. Against this backdrop, China has adopted important commitments in this field, relating to information, transparency, participation, management, adaptation and market-based mechanisms.
As from accession China has two enquiry points set up and is to publish notices of adopted and proposed technical regulations, standards and conformity assessment procedures. Private sector interests and authorities, regardless of origin, will be informed and consulted on an ongoing basis. Minimum timeframes for public comments on proposed technical regulations, standards and conformity assessment procedures will be issued. No later than four months after accession China will notify acceptance of the Code of Good Practice for the Preparation, Adoption and Application of Standards16 and will speed up the revision of current voluntary, national, local and sectoral standards so as to harmonize them with international standards (currently some 40 per cent of the technical regulations are based on international standards; this is expected to increase by 10 per cent in five years). China will also eliminate duplicative conformity assessment procedures and impose the same requirements for imported and domestic products. China also pledged to bring the Import-Export Commodity Inspection, its implementing regulations as well as the Safety License System for Import Commodities into full conformity with the TBT agreement by the date of accession and not to require additional conformity assessment procedures in China for products certified by bodies recognized in China, except for random sampling of such products.

Anti-dumping and product specific safeguards

Although the European Union (EU) and Australia no longer label China (nor Russia) as a non-market economy, the US still does and will continue doing so for the next 15 years - China's right to request review under the US law of specific sectors for qualification for market economy treatment notwithstanding. Being regarded as a ‘non-market economy’ basically means that the prices quoted by Chinese producers/exporters may not necessarily reflect the true cost of the relevant product. As a result, when investigating dumping allegations against Chinese products, whereas the Europeans will assess them on a case-by-case basis to determine whether market conditions are met or not, the US will have the prerogative to use subrogate countries in the respective cost calculation to decide whether to levy anti-dumping charges. For instance, India's prices have been used as a benchmark of reasonable market prices, not China's, and Beijing has been unable to cite domestic costs as a defense. There have been 420 anti-dumping cases involving China in the past 20 years - 68 of them brought by the US and seven brought by China. A surge of WTO cases involving China is likely.

Is China paying a price for maintaining the peculiarities of its economic system? The answer apparently is yes and the problem is that the price to be paid is still unknown. But the risks are not one-way. A surge of trade frictions may lead to disruptions that will benefit no party. So that the stage is set for continued trade friction, particularly if China proves unable to fully implement all of its WTO obligations within the agreed time schedules.17 Under this conditions, the US government has been advised to be ‘very judicious’ in applying the ‘highly protectionist features’ of the bilateral agreement with China (Lardy, op cit).

Besides anti-dumping, under the product-specific safeguard to counter market disruption from a possible surge of imports from China, unilateral restrictions may be imposed provided that prior-consultation procedures fail. This provision will apply for 12 years after China’s WTO entry. These measures have never before applied to any General Agreement on Tariff and Trade (GATT)/WTO applicants (Ibid) and might constrain China's ability to increase world export market shares.


A number of WTO member countries have left notice of prohibitions, quantitative restrictions and other measures against imports from China that they intend to apply in a manner inconsistent with the WTO agreement. These measures are to be phased out in accordance with mutually agreed terms and timetable. The countries concerned are Argentina, the European Communities, Hungary, Mexico and the Slovak Republic. Let us illustrate three of these cases.

Mexico, by far the most important case of this kind, will apply anti-dumping measures for six years, without progressive phasing out, against a wide range of products covering 1310 tariff lines.18 The key product clusters involved are: clothing (415 tariff lines), textiles (403), organic chemicals (258), electric machines, appliances and equipment (78), footwear (56), tools (48) and toys (21).

Argentine measures consist of specific duties on textiles and clothing, non-sporting footwear and toys for five years. Duties in excess of 35 per cent will be phased out progressively, after which a 35 per cent ad valorem duty will remain.

In the case of the European Communities the measures consist of quotas on footwear and porcelain and ceramic tableware and kitchenware to be progressively eliminated within five years.

Major challenges for developing Asia
Because of its low labor costs, growing availability of skilled manpower, very large market and attractive business climate, China is a magnet for foreign direct investment, including that consisting of reallocation of production capacity from other places in the region (particularly Taiwan Province and Hong Kong SAR). Much of the outsourcing to the South East Asian countries that took place during the 1980s and 1990s is now being shifted to China. This will accelerate as a result of WTO accession.19
Largely because of factor cost advantages, China’s world market shares are expected to go up by about 50 per cent in 2002 as compared with 1995, with the breakdown shown in Table 1.1.
[Table 1.1 around here]
Wages in China are 20 per cent lower than in the Philippines, one third of Malaysia’s and one quarter of Thailand’s. China’s labor costs may become the benchmark for labor costs across the region and beyond. At the same time, China turns out nearly 30 times as many engineering graduates every year as Thailand and almost 2.5 times as many as Japan (Supachai and Clifford, 2002, Chapter 4; see also Chapter 4 of this book).
Countries such as Vietnam and Pakistan are among the few that will remain competitive in labor-intensive activities. On the other end, countries such as the Republic of Korea, Taiwan Province of China and Japan will also hold their competitive position in high-quality products.
The trade creation derived from entry-related developments will favor the relatively more developed AP countries due to China’s need to substantially expand imports of medium and high technology goods (for a breakdown of trade impact by sub-region and vis-à-vis third markets, see Chapter 3). As China itself is becoming a sizable exporter of this kind of goods, two-way trade with those countries can also be expected to grow rapidly.20
AP countries in-between the most and the least advanced of the region, such as Malaysia, the Philippines, Thailand, will face most difficulties. Although fully aware of the dimension of the challenge ahead of them, these South East Asian countries are not necessarily ready to take bold steps. The weaknesses of their industrialization pattern, especially in terms of entrepreneurship and technological mastery, are being exposed. Some countries, for example Thailand, are already poised to prevent substantial losses in competitive standing by restructuring industry while others, such as Malaysia, expect to get into reciprocal FDI operations with China.21 However, domestic concerns have been getting in the way of the required acceleration in regional economic integration, particularly in automobiles. The South East Asian countries that rely heavily on labor-intensive exports such as textiles, clothing and electronics, but cannot match China’s labor costs (Philippines, Malaysia, Indonesia), may suffer market and employment losses unless offset by proactive responses.22
The relatively more advanced AP developing countries, although in a different predicament, also need to react swiftly.23 For them it is essential to take bold steps towards intensified intra-industry specialization and two-way trade with China as well as expanding cross FDI. Countries such as Taiwan and Singapore, which have been losing considerable market share to China in high technology goods and/or reallocating much of their capacity to China have, in addition, little choice but to go upstream in the value chain.
Over 60 per cent of China-bound FDI goes into manufacturing. Vast availabilities of increasingly skilled labor, in addition to a substantially improved infrastructure and freer trade, guarantee a substantial expansion of its ever more technology intensive manufacturing capabilities before the cost of manpower starts rising significantly. Assembly businesses are enticing their parts and component suppliers to set up shop in China, with cost savings of up to one third. Tariff cuts on inputs and low taxes (even after the lifting of preferences applied to the investment zones) as well as the relaxation of restrictions on trading and distribution rights help to reduce costs. Indeed, these cost cuts and increased competition are causing a considerable compression of profit margins. And falling prices, already observable not just in automobiles, but also in home appliances, are likely to affect margins in the whole region - and will entice further reallocation moves to China and exert pressure on exchange rates. It is conjectured that the combination of low wages and global trade deflation may cause the greatest reallocation of capital ever seen and make China the world’s dominant manufacturer within a decade. (EUI, 2002).
China is expected to start buying foreign companies and research labs to acquire foreign knowledge as did Japan, Republic of Korea and Taiwan Province in the past - one of the keys to their technological catching up. In the long run, as labor costs progressively rise in China, it will rely less and less on relatively low skill exports, and thus leave more room for those countries that come behind.
Spillovers from China entry
A number of externalities will derive from China’s accession to the WTO. Let us single out four of them.

  • The terms of admission will serve as a model for a number of other transition economies that are seeking WTO membership, notably Russia. The requisites for entry have been set considerably higher than so far.

  • WTO’s dispute settlement capacity may be overwhelmed by trade conflicts involving China. The largest trading partners will share the responsibility of seeking effective ways to prevent paralysis.

  • China’s entry at a time of a new round centered on development may catalyze adjustments in the informal governance structure of the WTO towards some strengthening of the role of developing countries in agenda setting (see Chapter 6 on the implications of China’s entry from the developing country’s standpoint).

  • China may displace some apparel exports from other countries, particularly to the US market, as a result of the liberalization of textile and apparel trade and Permanent Normal Trade Relations (PNTR) while, as an emerging high technology powerhouse, China will submit a growing challenge to other AP countries that also export high technology goods.

The genie is out of the bottle. There is no way back now. In the last resort, the outcome will depend on the commitment, good judgment and good will of all key parties concerned.

The book closes with a timely set of reflections by Supachai Panitchpakdi (Chapter 8), who provides an overview of new challenges for sustainable industrial development in a world of rapid technological change, globalization and an international trading system organized around the WTO agreements.
On market socialism
The concept of a ‘socialist market economic system’ is not easily grasped in the West. This is only to be expected, since the Chinese are building such system largely as they go, by dismantling the command economy and letting the terms of an increasing number of transactions in the commodity, labor and capital markets be determined by market forces (see Exhibit 1.2). Most prices already are determined by demand and supply, not by government decree, and more than 70 per cent of the industrial output value is produced by the non-state sector.
[Exhibit 1.2 around here]
However, in contrast with other transition economies, the Chinese do not view this process as one of introducing ‘best practice’ capitalist institutions. The idea, as put forward by Deng Xiaoping at the 14th National Congress of the Chinese Communist Party (CPC) held in 1992, is ‘building socialism with Chinese characteristics as the guiding policy in China’.
J. Stiglitz (1996) questioned market socialism as depicted by O. Lange and A.P. Lerner in the 1930s (Lange, 1938; Lerner, 1938) as seriously flawed because it is founded, as is neoclassical economics, on the first and second fundamental theorems of welfare economics, that is, on the assumption of general economic equilibrium with a complete set of perfectly competitive markets. Stiglitz holds that, in a world of imperfect information, convexities and externalities, a constraint Pareto optimum can never be reached. However, government intervention may potentially create Pareto improvements in the economy.
The Chinese approach would appear to be in line with these views, for instance, in thinking that subjecting firms to real competition is more important than changing ownership. The distinction between market capitalism and market socialism is largely about the appropriate balance between markets and government, rather than, as in old-fashion socialism, replacing one with the other. It is about having the visible hand of the State, rather then the invisible hand of the markets, as the ultimate judge, based on the potential efficiency-enhancing properties of the state on grounds, for instance, of the theorems of the new information-theoretic economics.
Furthermore, Stiglitz posits that there is no intellectual foundation for the separation of efficiency and equity concerns. Although this is no doubt built into the current Chinese approach, this approach does appear to prioritize efficiency over old-fashioned socialist equality: ‘an income distribution system based on distribution according to work will be established in which efficiency is given precedence and fairness in distribution is taken into account’ (italics added). See (
Still, the Chinese seem to adopt important elements of the Lange-Lerner-Taylor approach (Lange, op cit; Lerner, op cit and Taylor, 1929) that is, if SOE managers enjoy enough independence in business decisions, the efficiency of the free market can be reproduced without private property. Indeed, the Chinese authorities are taking bold steps to strengthen leadership groups in vital, backbone SOEs (Wei, 2001). Note, however, that the CPC has recently committed the country to a massive privatization program of all but the largest 300 or so SOEs (Ramanujan, 2001).

Exhibit 1.1 Summary of China’s key concessions

  • Reduction of the average import tariff from 24.6 to 9.4 per cent

  1. From 22 to 17.5 per cent for agricultural products; elimination of subsidies for exports of agricultural exports

  2. From 25 to 8.9 per cent for industrial products*

  • From 100 to 25 per cent for vehicles and 10 per cent for vehicle parts by 2006

  • From 12,5 to 3,4 per cent (2002) and zero (2005) for information technology products

    • Farm subsidies to be capped at 8.5 of production value

  • Elimination of import tariffs on computers, semiconductors and other high tech products by 2005

  • Elimination of import quotas by 2006

  • Substantial opening of service sectors, including banking, insurance, telecommunications and professional services

  1. Up to 49 per cent foreign ownership in telecommunications and insurance after three years

  2. Importers to have own distribution networks

  3. Full market access for foreign banks within five years (currency business with local enterprises after two years)

  • Broad reforms relating to transparency, notice, receptivity to feed back from interested parties, uniform application of laws, judicial reviews and enforcement

  • Enforcement of the stipulations of numerous WTO agreements, such as:

    1. Trade-Related Investment measures: immediate lifting of norms on local content (as of accession)

    2. Trade-Related Industrial Property Rights

    3. Technical Barriers to Trade

    4. Information Technology Agreement

  • The US and other WTO members can continue considering China as ‘non market economy’ for purposes of antidumping for 15 years

  • Idem relating to product-specific safeguard mechanisms for 12 years

  • A special textile safeguard allows the US to impose unilateral restrictions during 2005-08.

  • Firms from WTO member countries to enjoy the same rights to trade as Chinese enterprises

  • All enterprises will have the right to import and export goods and conduct trade within three years (save a few exceptions)

  • Practice of two-tier pricing as well as different treatment for domestically sold and export goods to be abolished

  • Remaining price controls will not aim to provide protection to domestic manufacturers and service providers

  • China will be subject to a very thorough yearly oversight to monitor implementation during the first 8 years, involving 21 different WTO subsidiary bodies


*: By early 2001 China’s average tariff for merchandise would have already been cut to 15.3 per cent, about half the level prevailing in India and roughly equivalent to tariffs in Brazil and Mexico (Lardy, 2001). Similarly, import quotas and licensing requirements, formerly pervasive, have been steadily reduced and by 2000 covered only 4 per cent of all import commodities. China’s average collection rate (customs revenue divided by the total value of imports) is reported to be around 3 per cent, compared with 29 per cent for India (Goswami, 2001).

Table 1.1. Projection of China’s share in global exports in selected sectors

(in percentages)


















Total (average)



Source: Booth (2002)

Exhibit 1.2 China’s socialist market economy: sequence of landmark decisions and expected achievements

  • 1978: The CPC’s 11th Central Committee shifts policy stress to socialist modernization and reform and opening to the outside world (remuneration is linked to output; integration of centralization and decentralization through a two layer management system is introduced; control on prices of most agricultural products is relaxed, the industrial structure in rural areas is adjusted through the creation of township enterprises)

  • 1984: The CPC’s 12th Central Committee adopts decides on the restructuring of the economic system to an urban centered stage

  • 1992: The CPC’s 14th National Congress establishes Deng Xiaoping’s theory of building socialism with Chinese characteristics as guiding policy and puts forward economic reform towards a socialist market economic system (macro-adjustment and control measures are adopted; public ownership continues being the main for of ownership, but various other types of ownership are developed; SOEs are to be further transformed to meet the requirements of the market economy; property rights and responsibilities of enterprises to be clearly defined, their functions to be separated from those of the government and scientifically managed; the national market system to be unified, integrating urban and rural markets; establishment of an income distribution system according to work where precedence is given to efficiency and fairness in distribution is taken into account; a multi-tier social security system to be set up

  • 1997: The CPC’s 15th National Congress regards the non-public ownership sector an important part of China’s socialist economy; key production factors, such as capital and technology, as entitled to participate in income distribution

  • 1999: Substantial progress made in areas such as the liberalization of the grain market and SOEs and banking system reform. New proposals are put forward to reform the housing and medical insurance systems and plans for the reform of the investment, banking, financial and taxation systems are formulated. The functions of the market in resources allocation are strengthened

  • 2001: Private entrepreneurs are allowed to join the CPC

  • 2010: Achievement of a sound socialist market economy

  • 2020: Achievement of a mature socialist market economy

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Chapter 2

Negotiating entry: key lessons learned
By Yongtu Long

China's accession to the World Trade Organization (WTO) has taken 15 years of arduous and protracted negotiations. Assessing this process is a worthy undertaking, albeit one that invites controversy.

Many thought that, as a major trading country, China was to join the WTO as a matter of course. Others thought that, because of its sheer size and importance, the WTO had to handle China’s accession with utmost care. Whichever the approach, 15 years of negotiations seem far too long to achieve such a goal, particularly in relation to the average time taken by others who have acceded to the WTO.
Oddly enough, as the chief negotiator, having had to endure so many difficulties and shoulder so many burdens along this long process, I now believe that it may prove to be a good thing for China to have undergone these difficult 15 years of negotiation.
It may seem illogical, but it is true. The key is how one views the accession process.
If you look at this process of negotiations only as one in which you have to make endless concessions to your partners and confront endless challenges at home for the sake of obtaining a WTO membership card, then you would find this process very painful and long indeed.
If, instead, you look at the process from a strategic point of view, in the framework of China’s long-term economic development as well as its relationships with rest of the world, you will find that many positive elements have been generated through this historic process.

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