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WTO’s Recent Ruling Against China over Export Controls of Certain Raw Materials: A Critical Juncture for the WTO and a Chance for Chinese Leadership?

February 6th, 2012 Leave a comment Go to comments

Last week, the WTO handed China a setback in its ruling over its appeal over export controls  (herein the Ruling) covering “[c]rtain forms of bauxite, coke, fluorspar, magnesium, manganese, silicon carbide, silicon metal, yellow phosphorous, and zinc.”

The Global Times has a strong response:

Time to reassess unfair WTO entry terms

Global Times | February 01, 2012 00:48

A WTO appeals panel has upheld a ruling against China restricting exports of nine types of raw materials. The ruling, completely unreasonable to Chinese, will threaten China’s resource preservation and environmental protection efforts.

China has generally been following WTO regulations and rulings. But it should find the best balance between applying WTO rules and protecting its national interests. Getting approval from the West is not our top concern.

Admittedly, joining the WTO has boosted China’s rise. However, entry was granted at the cost of China accepting some unfair terms, from which the aftereffects have gradually emerged, including this ruling. They may become a hidden problem for China’s economy.

The latest WTO ruling has highlighted the urgency of amending some of the unfair terms of The Protocol of China’s Entry into the WTO. It is also necessary to express China’s dissatisfaction and garner public support for the revision.

WTO regulations are the result of compromise reached through rounds of negotiations, dominated by the West’s interests. The high-tech export embargo by the US against China has never been questioned. Trade barriers and abuse of WTO regulations are prevalent in Western countries.

Due to unfamiliarity with the WTO system, and worries of Western media censure, China has often opted to follow WTO rules. Investigations into other countries’ trade activities have been rare.

But this ruling means a lot to China, which already faces huge pressure in its environmental protection efforts. The price for being the world’s factory is high energy consumption and heavy pollution. Cheap exports of its resources such as rare earths will eventually undermine the domestic industry that relies on them. China has been alerted to the unsustainable practice, and export restrictions are inevitable.

The WTO body seems to have forgotten the basic principle that mutual benefit is the basis of trade, which cannot take place if it is not present. China can consider putting up market barriers in response to the ruling.

The intention is certainly not to disrupt the WTO system, but at the same time, there is no need for China to be a model member. Conflict and compromise are part and parcel of the global trade mechanism. Every country seeks to maximize its benefits, and self-imposed sacrifices will not bring any gratitude.

China has benefited from globalization, but China’s rise is first of all the result of Chinese hard work, not taking advantage of the trade system. Squeezing China through WTO loopholes will be futile.

China Daily also had a strong response (so does the People’s Daily) highlighting the hypocrisy of accusing China of export control for humanitarian and environmental purposes while EU and U.S. enact them for geopolitical purposes.

Before I go on, it should be noted that while some would like to make this a case against China’s policies on rare earth, policies which China still stands ready to defend, the WTO explicitly  held that the Ruling does not apply to materials not explicitly listed in the complaint – e.g. rare earth (see, e.g., Section IV of the Ruling).

It’s been a little over 10 years since China joined the WTO. And while China has no doubt benefited joining the WTO, it also cannot be denied joining has also exacerbated high costs from the Chinese people – as evidenced from protests from strikes against Honda to strikes against Foxconn (maker of iphone,  ipad, Kindle, among others). China’s many environmental problems (see also  this) is another symptom.

The recent controversy over China’s strangle-hold on “rare earth” mining brings home poignantly this point (even though again this case does not involve rare earth per se). In the hoopla over China’s cornering of the market, it may be lost on the minds of many that  “rare earth” is actually not rare at all.

rare-earth-map-kaiser    rare-earth-map-usgs

Source: left: Kaiser Research right: USGS

As the Washington Post noted, “At different points in the 20th century, countries such as Brazil, India, the United States and South Africa all held the top spot for rare-earth mining.”

rare-earth-chart-usgs

Source: Washington Post

China became a leader recently in the dangerous and poisonous business of extracting rare earth only because it did not fully appreciate the environmental costs to properly regulate the industry – not because it had won some geological lottery cornering the world supply of “rare earth.” A revamping and redistribution of world production of “rare earth” is in everyone’s interest.

China has recently been embarking on bold plans (see also this) to clean itself up. Yet – just as China begins to be a better steward of its environment, the WTO appears to slam it down.

The Ruling touches on many areas of technical complexity, such as the scope of its decision – i.e. whether the WTO can rule against restrictions (e.g. 2009 vs. 2010 restrictions) over which the complainant did not present evidence (see Section V.of the Ruling on “series of measures”) – and what is the meaning of “temporarily applied” under Article XI:2(a) of the GATT 1994 (Section VII of the Ruling). But the crux of the case involves the human welfare and the environment.

The lower panel had held that China failed its WTO obligations. Paragraph 5 of the Introduction section of the Ruling provides a good summary:

China contended that the export duties on certain forms of coke, fluorspar, magnesium, manganese, and zinc were justified under Article XX(b) and (g) of the GATT 1994 because these raw materials were exhaustible natural resources, or because the duties were applied in order to reduce pollution and to protect human health.15 However, the Panel found that China could not invoke exceptions under Article XX to justify measures found to be inconsistent with Paragraph 11.3 of China’s Accession Protocol, because these exceptions apply only to violations of the GATT 1994, unless specifically incorporated into a non-GATT provision or instrument. The Panel found that Paragraph 11.3 of China’s Accession Protocol does not contain any language or reference that would allow recourse to Article XX of the GATT 1994 for justifying China’s export duties found to be inconsistent with Paragraph 11.3.16 Even assuming, arguendo, that the exceptions under Article XX(b) and (g) were available to China under Paragraph 11.3 of its Accession Protocol, the Panel found that China had failed to satisfy the requirements of those provisions for the raw materials at issue.17

Let’s dig into this a little more. The relevant parts of Article XX of GATT 1994 read:

Article XX: General Exceptions

Subject to the requirement that such measures are not applied in a manner which would constitute a means of arbitrary or unjustifiable discrimination between countries where the same conditions prevail, or a disguised restriction on international trade, nothing in this Agreement shall be construed to prevent the adoption or enforcement by any contracting party of measures:

(b)     necessary to protect human, animal or plant life or health;

(g)     relating to the conservation of exhaustible natural resources if such measures are made effective in conjunction with restrictions on domestic production or consumption;

The relevant parts of China’s WTO accession reads:

11. Taxes and Charges Levied on Imports and Exports

1. China shall ensure that customs fees or charges applied or administered by national or subnational authorities, shall be in conformity with the GATT 1994.
2. China shall ensure that internal taxes and charges, including value-added taxes, applied or administered by national or sub-national authorities shall be in conformity with the GATT 1994.
3. China shall eliminate all taxes and charges applied to exports unless specifically provided for in Annex 6 of this Protocol or applied in conformity with the provisions of Article VIII of the GATT 1994.
4. Foreign individuals and enterprises and foreign-funded enterprises shall, upon accession, be accorded treatment no less favourable than that accorded to other individuals and enterprises in respect of the provision of border tax adjustments.

So the lower Panel’s decision says effectively that China must submit to formalized trade rules even if those rules are found to cause substantial harm to the Chinese people and their environement ((i.e. 1/5 the world population and their environment). And the Appellate Body affirmed! According to the WTO, because China’s accession did not include an explicit reference to GATT Article XX, China is foreclosed from invoking GATT Article XX (Section VI.C of the Ruling).

THIS IS SHOCKING!

Besides the moral stupor this decision stands for – that technical trade rules trump genuine human and environmental needs, GATT was a predecessor of the WTO, and GATT 1994 was a carefully negotiated document that applies to all members and was understood to represent  “an integral part of the World Trade Organization.”

To the credit of the Appellate Body, it did reverse the lower Panel’s decision that the phrase ‘made effective in conjunction with’ in Article XX(g) of the GATT 1994 required “a separate showing that the purpose of the challenged measure must be to make effective restrictions on domestic production or consumption.” It upheld instead China’s interpretation that the term “made effective in conjunction with” in Article XX(g) – if it is available – means that restrictions on domestic production or consumption should “be applied jointly with the challenged export restrictions”, and that “the purpose of those export restrictions must be to ensure the effectiveness of those domestic restrictions.”  (see Section VIII of the Ruling)

While this last point may be moot (as the WTO held XX to be unavilable to China), it may still be important, as the reasoning given may give China more policy levers to pursue its interest while still conforming with existing WTO rules in the future. More importantly, it serves to underlie the centrality of Article XX here. If humanitarian and environmental needs can be taken into account, China wins the case, if not, China loses.

What’s next?

In the short-term, I expect China to conform with the requirements of the WTO ruling (what exactly compliance entails may still need to be brought to the WTO in a future case).  But I believe China should have enough policy levers at its disposal to allows itself  to advance its interests without running afoul of WTO rules.

In the longer term, I believe this case highlights a real, long-term problem. It is no secret that the WTO in its current form serves the interest of the developed world much better than that of the developing world.  Global trade between the rich and ppor could be a powerful force for human liberation, but that potential – except for the special case of China – has in general not yet been realized. Human welfare around the world continue to suffer under the shadows of rich.  The WTO must evolve and reform or risk becoming an impediment to human development and a fossil from another age.

While China acceded to the WTO on rather unfair terms, China has long been a “learner” rather than a “leader” when it comes to defining the global trade regime. With this case, and “with many countries now looking to China for direction and to play a greater leadership role in helping to break the existing deadlocks [in the reform of the global trade regime]”, perhaps this case should serve as a wake-up call.

Many in the Western press may like to characterize this decision as one of the WTO slapping down China’s Unfair trade practices, but if one looks at the decision, one actually cannot find the word “fair” or “unfair” anywhere. The WTO dispute settlement mechanism is not about the making of normative judgement.  It is more a mechanism to facilitate negotiation and settlements.  In the rare case when final decisions are handed out, sovereign nations still have a right to not comply – in which case the WTO would merely “authorize” complainants to take retaliatory measures – i.e. the imposition of some other tariffs. Of course, this may result in never-ending cycles of tit for tat.

While it is in general in everyone’s interest to avoid trade wars, it also does not mean that trading partners must put blinders on what is, fair, equitable and right.  Some may be concerned that China may be looking to environment only as a pretext for competitive trade advantages. If that is the case, surely the WTO can address those issues head-on, rather than categorically take away a set of basic humanitarian norms from China.

With the rise of the rest of the world, the main challenge facing international institution like WTO is simple: will they adapt with the times to facilitate a more equitable world or fossilize to become inflexible, anachronistic tools devoid of reality and humanity?

  1. February 6th, 2012 at 17:37 | #1

    This is actually the result of China weaker understanding of the game of world trade. The biggest issue is that the export tax is not applied on domestic companies hence giving them an unfair advantage. This is not allowed under WTO.

    China can easily abide by the rule if it apply the tax to all companies, or like the EU and US come up with some sort of national security or environmental pretext. Nevertheless, the delay has given China enough time to formulate better strategies to deal with degradation of the environment caused by rare earth mining.

  2. February 7th, 2012 at 06:17 | #2
  3. pug_ster
    February 7th, 2012 at 06:57 | #3

    China should just slap an environmental tax on rare earths.

  4. February 8th, 2012 at 01:57 | #4

    Just noticed and read the post over a China law blg about WTO case, published 2/6/2012 by Steve Dickinson.

    In the post, Steve wrote:

    This decision has important implications. As most observers have noted, the real issue is export quotas and the real target is China’s export quota system for rare earths. Under the terms of this decision, China’s rare earths quota system is in clear violation of the WTO. The U.S. and others expect China to now act on its own and terminate the rare earths quota system. If this is not done voluntarily, the U.S. and the European Union have threatened to bring a follow-up action in the WTO, targeting rare earths. After this victory in the metals case, such an action against China would almost certainly succeed.

    I suggest Steve re-read the decision again – or at least peruse through all the various news reports. The case is explicitly not about rare earth. Even reporters get that part right. Few people really understand how this case will impact a case on rare earths – which involve different set of facts. This is sloppy legal judgement to an extreme. There is a reason why rare earth was not brought explicitly in this case…

  5. February 8th, 2012 at 09:13 | #5

    An astute reader of the Ruling linked in the post may ask, why none of the third party participants that Art XX of GATT 1994 should be available to China (actually not all argued explicitly against China in Art XX; many actually argued with China on other more technical issues).

    A closer inspection may reveal a reason.

    The third party participants are Brazil, Canada, Colombia, Japan, Korea, Saudi Arabia, and Turkey.

    Of those nations, all are members of GATT before 1994 except Saudia Arabia. Thus all members already enjoy Art XX of GATT 1994. For them to argue that only they reserve the rights stated there but not China seems to be a distributive game in its core (we already have certain rights that we don’t want others to have).

    As for Saudi Arabia, it did remain silent with respect to Art XX but did argue with China on many technical issues, including the conclusion that China’s licensing was not “discretionary” – i.e. not discriminatory.

  6. silentchinese
    February 8th, 2012 at 11:41 | #6

    A Question:

    how does arms embargo and technology export control regime like the ITAR fit into GATT/WTO?

    can china claim that since alot of these materials went into production of various weapon systems, some of them even delievery systems for WMDs, some of which are aimed at china, that china has a national security interest to carefully monitor and control the export of these materials???

  7. pug_ster
    March 13th, 2012 at 12:02 | #7

    Looks like I was right. China is going to slap a tax on Rare Earths.

    http://usa.chinadaily.com.cn/business/2012-03/13/content_14824369.htm

    …and Mr Obama is not exactly happy with this.

    http://www.huffingtonpost.com/2012/03/13/obama-china-trade-wto-rare-earths_n_1341567.html

  8. March 20th, 2012 at 23:02 | #8

    Pollution the big barrier to freer trade in rare earths
    http://www.reuters.com/article/2012/03/19/us-china-rareearth-idUSBRE82I08I20120319

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