Yes to MES! Five economic reasons for granting Market Economy Status to China

Postat den 2nd March, 2016, 09:18 av Rolf Langhammer, Kiel

Accepting its trading partner China as a market economy does not need to be a bad deal for the EU. The costs of Chinese dumping to the European economy are often overestimated. And levelling the playing field may even incentivise Chinese companies to be more transparent in calculating costs and prices.

“Doin’ What Comes Natur’lly”: this song from Irving Berlin’s 1946 Broadway musical “Annie Get Your Gun“ comes to my mind when EU institutions discuss whether or not to grant Market Economy Status (MES) to China. This debate is gaining urgency as some key provisions in China’s accession protocol to the World Trade Organisation of December 2001 are bound to expire this December.

Over the 15-year transition period, these provisions have locked China into the status of a non-market economy, which is crucial when it comes to anti-dumping investigations. They allow the EU to protect itself from dumping from China by comparing Chinese export prices to prices or production costs in an “analogue” market economy. The resulting anti-dumping duties are higher than those that would be imposed on dumped exports from another market economy.

Accepting China’s state-capitalist system as a market economy would weaken this trade defence measure at a time when state support to certain industries may still result in hidden export subsidies and unfair trading conditions.

So should the EU grant MES to China, a country that is an imperfect market economy at best? Or should it simply disregard the 15-year rule and deny China the coveted status, thereby risking a dispute settlement case in the WTO with all possible costs of losing the case? Or should it tie the granting of MES to concessions from the Chinese side as other countries do it and as Mikko Huotari, Jan Gaspers and Olaf Böhnke recommend in their latest MERICS Policy Brief¹⁾?

¹⁾ Link to MERICS Policy Brief

I will leave it up to the legal experts to debate whether or not the expiry of said provisions means that China will automatically gain Market Economy Status (MES) this December. But whether this deadline is binding or not, it forces the EU to decide how it views China as a trading partner. Apart from political considerations it is helpful to weigh the economic arguments for and against granting MES to China. Five of them lead me to a clear Yes to MES.

Dumping can be a (net) gift to the EU economy

First, dumping can be an economic gift of the exporting country to the importing country. The terms of trade of the latter improve while the former foregoes income. Yet, the gift is a gross figure. To calculate the net value or loss for the importing country in an anti-dumping investigation, the losses for local competitors have to be balanced with the gains for consumers or processors of the product. While EU steel industry lobbyists will deplore unfair trade and job losses (as they already do in a situation of large excess capacities in the world) in the case that the EU should grant MES to China, processors of steel like the European car industry, shipbuilders, or manufacturers of consumer appliances would enjoy lower material costs. And if those lower costs are passed on consumers, this could lead to higher demand and job gains in other sectors of the economy. The EU Commission should view itself as representing the interests of all affected parties, not just those of the direct local competitors of Chinese imports.

Second, China has become a much more expensive location of production than it used to be. This has helped European competitors to defend market shares. It is estimated that the yuan has appreciated by 12 per cent in real terms between 2012 and 2015, reducing its former undervaluation by half. Relative wages continue to rise since the government wants to fuel domestic consumption. Should suffering export companies receive government support, these export subsidies could be much more easily identified than in the past. The EU could respond using its entire toolbox of existing trade defense measures: anti-dumping duties (based on identification procedures for market economies), anti-subsidy measures and safeguards. Disputes with China could also be resolved using the alternative method of price undertaking, which means that an exporter accused of dumping would raise the export prices to avoid being hit by anti-dumping duties.

Third, the decision on MES comes at a time of high excess capacities in China’s construction industry and base metal sector as well as sluggish demand in the world economy. It does not surprise that a strongly cyclical industry like the steel industry sees the MES decision as a true threat to jobs in the current “rainy season”. But it is helpful to remember that the expansion of capacities during the “sunny season” (2000-2007) brought this industry into the famous “pork price cycle” with delayed adjustment to changes in demand. The current situation is a result of this cycle and has nothing to do with the decision on the Chinese MES.

Chinese companies may be willing to cooperate

Fourth, it would help transparency and market openness if the EU Commission calculated eventual dumping margins based on Chinese prices and costs. It is safe to assume that many Chinese companies would be eager to avoid opening their books to the Commission and would therefore try to be on their best behaviour. In March 2015, when the EU Commission imposed anti-dumping duties on some steel products from China (and Taiwan, alas, a market economy!), some Chinese companies were exempted from anti-dumping duties as they cooperated with the Commission. Such conduct would very likely be strengthened under MES status regardless of whether or not the company is state-owned. What matters is not ownership but market conduct.

Fifth, in the past, China has reciprocated to anti-dumping cases against its companies by becoming itself a plaintiff against other countries. Such retaliatory escalation would probably be mitigated if China were granted MES.

To sum up, granting MES to China would certainly commit the EU to a more thorough investigation of the pricing and cost practices of Chinese companies than in the past. Dumping allegations would be harder to prove, and the resulting duties would be lower if China were treated as a market economy. But if the EU can prove that Chinese state subsidies distort prices and costs, it can resort to anti-subsidy investigations²⁾ rather than anti-dumping procedures to protect European producers against unfair competition – even after granting MES.

²⁾ Link to the Parliament Magazine – Denying China market economy status would be ‘bad politics’

Yet at the same time, taking this step will neither trigger immense job losses in European industries competing with imports from China, nor will it empty or weaken the toolbox of the EU’s defence measures against unfair trading. Both sides had sufficient time to get acquainted with each other over the 15-year transition period. Now it is time to level the playing field.

^*This article was originally published by MERICS on February 26. We thank MERICS for allowing to re-print the article.