No More Second-Best Trade Solutions

Chad P. Bown
Chad P. Bown Former Brookings Expert

April 13, 2007

The United States recently announced two “second best” trade policy initiatives that had everything to do with China and nothing to do with real leadership and solutions for the global trade agenda.

The first “second best” initiative is the Korea-U.S. Free Trade Agreement (KORUS-FTA), which was recently negotiated by the administration and sent to Congress for approval. To the extent this free trade agreement is about trade at all — as opposed to Pacific regional security interests — it is certainly not about “free” trade. Rather, this agreement focuses on discriminatory trade, and a major target of the implicit discrimination is China.

This discrimination is apparent when you examine how the free trade agreement proposes to grant Korean automotive and parts manufactures (think Kia and Hyundai) preferred access to the U.S. market vis-a-vis U.S. imports from the imminently competitive Chinese auto industry. What’s the harm in this? Plenty.

While this type of preferred access could prove beneficial if Korean imports help reduce the number of inefficient producers who are only in business because of U.S. trade barriers, it is more likely that this preferential treatment for Korean firms would instead immobilize efficient Chinese competitors in the U.S. market, thereby forcing out strong and able producers in the name of favoritism. This is the type of market and trade interference that the United States complains about frequently to other countries when U.S. producers are locked out of markets, and it does the United States more harm than good to play the game in reverse.

The KORUS-FTA is also problematic because it will likely retard progress in the more economically important multilateral negotiations under the Doha Round of World Trade Organization (WTO) negotiations. For if beneficiaries, such as the Korean auto industry, lock in discriminatory access to the U.S. market, the same Korean firms that pushed for “free” trade in bilateral negotiations with the U.S. will be given an incentive to discourage additional multilateral liberalization under Doha, as this would reduce the value of their hard-earned discriminatory access to the U.S. market. This type of disincentive to negotiate broader multilateral trade deals hurts overall well-being of the U.S. and Korea in the long run.

The second “second best” initiative is the Commerce Department’s decision to reverse a 23-year policy against using the U.S. anti-subsidy law to restrict imports from China. The decision was announced following an investigation of allegedly subsidized “coated free sheet paper” (think glossy store catalogs), and resulted in a new U.S. tariff on Chinese imports ranging from 10.90 to 20.35 percent.

This decision rolled back more than 20 years of Commerce Department policy not to use the anti-subsidy law to restrict imports from non-market economies, such as China and the former Soviet Union. However, this policy did not indicate a lenient stance toward China because the anti-dumping law — a better known law — also provided for discriminatory import restrictions. In fact, data on the United States’ use of the anti-dumping law since the mid-1980s indicate that U.S. policy has discriminately targeted Chinese firms more than firms from any other country.

This policy is a second best way to confront concerns over the pace of China’s subsidy reform programs. Once U.S. companies learn of the new availability how to utilize the law to protect their industry from market competition, they request it again and again. This can fuel a vicious cycle of new trade barriers at home leading to retaliatory protectionism abroad. In fact, data from the WTO show that U.S. exporters are now the fourth largest target of foreign anti-dumping laws, showing that in trade, you often get what you give.

Beyond this tit-for-tat issue, U.S. import restrictions actually do the country more harm than good economically, as they shield inefficient domestic industries from foreign competition. Why does this matter? Restricting import competition can reduce the U.S.’s own industrial competitiveness over time. If other “downstream” U.S. producers have to face higher costs because of restrictions on imported inputs, this puts jobs and wages in these industries at risk.

And these two “second best” initiatives do not even begin to address two more WTO disputes in which the U.S. alleges insufficient Chinese enforcement of intellectual property over movies, books and music. (Pursuit of such a potentially precedent-setting case entails such an extensive set of trade-offs regarding political pitfalls and international ramifications so as to require its own op-ed.)

So what can be done to stop this “second best” trend and put a progressive trade agenda back in place?

First, the United States needs to take a stand by halting all of its remaining bilateral trade negotiations as a step towards a good-faith effort to rekindle the multilateral Doha negotiations. This action would signal leadership and commitment to successfully pursuing and completing the Doha round, which holds the greatest potential for substantial increases in well-being both at home and abroad.

Second, the United States needs to put the anti-subsidy law genie back in the bottle before it is too late. When presented with the opportunity in the final determination of this coated free sheet paper case this summer, the Commerce Department should reverse its preliminary decision.

Third, to the extent the United States feels political pressure to challenge China’s ongoing privatization programs and subsidy policies, it needs to articulate these concerns through the relatively effective, transparent and multilateral auspices of the WTO dispute settlement provisions rather than tackling them on a one-off policy basis at home. The United States Trade Representative has already indicated a step in this direction by formally initiating such a subsidy dispute in February, and this is the best way to continue.

Finally, history offers a guide and hope on restarting and concluding a successful Doha trade round. During a similarly stalled Uruguay Round of multilateral negotiations in the late 1980s and early 1990s, frustration with the WTO’s predecessor — the General Agreement on Tariffs and Trade (GATT) — led the U.S. to proceed with similar “aggressively unilateral” actions. Like the KORUS-FTA of today, the U.S. then negotiated a major discriminatory trade agreement with Canada, which was later expanded to include Mexico via the North American Free Trade Agreement (NAFTA). Like the unilateral initiative to use the anti-subsidy law against China today, the U.S. increasingly resorted to the internationally unpopular Section 301 policy that threatened tariff retaliation if foreign governments did not open their markets to U.S. export interests.

While these earlier (and current) U.S. actions can be viewed as bad behavior (at best) or counterproductive (at worst) to proponents of a rules-based, nondiscriminatory trading system, one interpretation of history is that these policies clarified to trading partners how the trade world might work where the multilateral talks failed. The argument is that once the major trading partners were confronted with how U.S. unilateralism would adversely affect them, they became more amenable to a multilateral deal.

While this type of unilateral “second best” strategy is definitely not preferred, one can hope for a similarly positive result for concluding today’s multilateral negotiations.