On Friday, October 11, 2019, President Trump and Vice Premier Liu He of China announced a “phase one” deal, although the President indicated it could be three to five weeks (possibly more) before the deal was in writing and ready for Presidents Trump and Xi to sign. Topics reportedly covered in this first phase include agricultural market access (which President Trump expressed in terms of anticipated agricultural product purchases by China to be ramped up over the next two years to $40-50 billion/year), addressing some sanitary and phytosanitary issues of concern to the U.S. (including issues involving biotechnology) in China, greater access for U.S. financial service providers, apparently addressing some aspects of intellectual property concerns though others will be addressed in a “phase 2” and agreement around transparency in foreign exchange markets. See Remarks by President Trump and Vice Premier Liu He of the People’s Republic of China in a Meeting, October 11, 2109, https://www.whitehouse.gov/briefings-statements/remarks-presemt-trump-vice-premier-liu-peoples-republic-china-meeting/.
The President has put off increasing tariffs on $250 billion in imports from China from 25% to 30%, an increase that had been set for October 15. No decision has been made by the U.S. on the tariffs scheduled on most remaining imports from China which are scheduled for December 15, though Amb. Lighthizer made clear that there was sufficient time for phase one to be completed and signed ahead of that date. Tariffs already in place remain in place for the time being.
The U.S. had thought it was close to a deal with China in early May 2019 only to have the “papering” of the perceived agreement blow-up as China was perceived by the U.S. as backtracking on a host of issues where the U.S. had understood there was agreement. Back in late April, early May there was a reported 150 page draft of a comprehensive agreement. Not surprising, there are concerns in the media and in business that the “papering” of the phase one agreement may yet prove illusive.
But the announcement that the two countries are actively engaged in negotiations and are hopeful of completing a phase one shortly is obviously good news for many groups in the U.S., in China and around the world.
How Important Could a Phase One Agreement Be?
U.S. farmers and ranchers have been particularly hard hit by retaliation of trading partners whether for U.S. actions on national security grounds (Section 232 action on steel and aluminum) or in response to the Administration’s actions under Section 301 in an effort to address various perceived unfair trade practices of China (forced technology transfer, theft of IP, among other issues).
In the case of China, U.S. exports of agricultural products increased from $6.5 billion in 2007 to a high of $22.6 billion in 2013 and 2014 and were still at $18.7 billion in 2017 before retaliation by China commenced in 2018. U.S. agriculture exports declined $10.2 billion to just $8.5 billion in 2018. Some increased purchases of soybeans by China in midyear 2018 have resulted in an increase from the extraordinarily low 2018 exports through August of 2019 ($7.6 billion vs. $7.1 billion for first eight months of 2018).
For the period 2007-2017, US exports of soybeans accounted for more than half of all US agricultural exports to China (from 54.9% – 75.9%) and were 65.4% of total US agricultural exports in 2017 before retaliation by China on soybeans and other agricultural products resulted in soybeans dropping to just 36.5% of US exports in 2018. The U.S. exports of soybeans declined $9.1 billion in 2018 from 2017 levels and accounted for 89.2% of total US agricultural export declines to China ($10.2 billion) in 2018.
Not surprisingly, a great deal of focus on the agricultural market access has been to get China to increase imports, particularly of soybeans. US exports of soybeans to China declined from 31.7 million metric tons in 2017 to just 8.2 million metric tons in 2018 (and are 5.1 million metric tons higher for the first eight months of 2019). Remarks by President Trump and Vice Premier Liu He on Friday indicated that orders have been placed which either bring the total purchases of U.S. soybeans by China to 20 million metric tons or for an additional 20 million (not clear from the transcript). 2016 saw the largest U.S. exports to China of soybeans, 36.1 million metric tons.
For China to purchase $40-50 billion in agricultural goods will in fact require a significant broadening and deepening of market access by many other competitive U.S. agricultural products, including grains, corn, beef, pork, chicken to name just a few. Thus, the success of the agricultural market access agreement with China will depend both on the decisions of the Chinese import entities that control certain agricultural products and the elimination by China of tariffs and sanitary and phytosanitary obstacles that have limited U.S. market access to date.
B. Financial Services and Exchange Rates
The U.S. has a very competitive financial services sector. Increased liberalization by China would obviously be appreciated by U.S. companies and would benefit China as well. Press articles from earlier this year indicated that the Chinese were contemplating liberalization of the financial services sector for WTO members generally, thus the agreement between China and the U.S. may simply reflect movement in China’s overall position on financial services. How important the liberalization will be to US service providers will depend on (1) the text of the agreement reached, (2) how China implements the terms, and (3) what enforcement mechanisms are available should implementation suffer from some of the same types of problems US financial service providers have been dealing with for the last fifteen years.
While currency manipulation/misalignment has been a long term concern of the U.S. with China and with a number of other countries, it is unclear what actions are contemplated by the phase one agreement as outlined last Friday and whether misalignment will be addressable in a meaningful manner if problems arise or are viewed by the U.S. as continuing.
Addressing Market Distortions in Non-Agricultural Goods is Critical to Any Balanced Final Package (Phase 2 or later).
While restoring and improving access for US agricultural products is certainly a very important part of achieving better balance with China, the Section 301 investigation handled by USTR focused on intellectual property issues primarily involving non-agricultural goods. Other long simmering challenges have included the massive distortions created by China’s enormous subsidies, the continued dominant role played by state-owned and state-invested enterprises in China , and China’s continued state direction of large parts of the economy.
U.S. exports of nonagricultural goods to China have accounted for more than 80% of total U.S. exports to the country in nearly every year since 2007 and were above 92% in 2018 following initial retaliation by China. While the 2018 decline in total US exports to China were almost 100% in agricultural goods (at the aggregate level not individual HS categories), more than 100% of the decline in the first eight months of 2019 have been to nonagricultural goods, including heavy hits to U.S. exports of motor vehicles and parts and civil aircraft. Moreover, the US trade deficit with China is entirely in nonagricultural goods. In 2017, total trade deficit (domestic exports – imports for consumption) was $383.8 billion, with the deficit on nonagricultural goods running $395.5 billion.
While President Trump indicated that there was agreement in the phase one package on some intellectual property issues, the public won’t be able to evaluate the nature of any modifications in nonagricultural trade until the phase one agreement is finished and signed. Almost certainly the most difficult issues for nonagricultural goods (including state subsidies, China 2025 policies, etc.) are not presently part of the announced phase one package, meaning any addressing of more than 80% of our trade with China will likely not occur until 2020 or later.
Enforcement is Important; Can it Be Achieved?
USTR Lighthizer has been working hard throughout the process of negotiations with China to obtain an agreement that has meaningful and effective enforcement provisions. The U.S. experience with China since its accession to the WTO has too often been one of both a failure by China to implement certain commitments and the lack of meaningful and effective enforcement tools when such situations arise and need to be addressed. It is understood that what enforcement tools the U.S. sought back in April/May 2019 were viewed as problematic and/or unacceptable by China then. The remarks on Friday by President Trump and others make clear that enforcement issues continue to be worked on the seemingly simpler phase one issues but have not yet been resolved. This is certainly an area where problems may arise ahead of a phase one agreement and, as significantly, for any later phases.
The U.S.-China trade relationship is obviously important to each country and more generally to the world at large. The current strains on the global economy and on the two countries’ economies have been increasing periodically over the last year and a half with additional actions taken by each country to increase the challenges for the other while negotiations have been inconclusive. The facts that a partial deal may be achieved in the next month or so and that further escalation is put on hold should be good news for many businesses in the U.S. and China and elsewhere in the world.
Whether the U.S. and China will be able to conclude the phase one agreement promptly and move forward expeditiously with the remaining critical issues in a phase two agreement are open questions. Success would do a lot to move the world to a more sustainable and integrated world trading order. Failure will deepen an economic malaise taking hold in much of the world to the detriment of many including many of the world’s poorest.
Here’s hoping that success and not failure will mark the October/November 2019 time period.