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United States and China Sign "Phase One" Trade Agreement; USTR Implements Tariff Reduction for "List 4A" Goods

On January 15, 2020, President Trump and Chinese Vice Premier Liu He signed "Phase One" of an Economic and Trade Agreement between the United States and China. The Phase One Agreement, which the two sides announced in December, includes commitments by China to increase purchases of goods and services from the United States and to adhere to disciplines covering a range of issues, including agriculture, currency, financial services, and some "structural" issues such as intellectual property rights protection and technology transfer. In addition, the Office of the US Trade Representative (USTR) issued a Federal Register notice today reducing the Section 301 tariff rate on "List 4A" Chinese goods to 7.5% beginning on February 14, consistent with the agency's December statement announcing the Phase One Agreement. The Phase One Agreement will leave the remaining Section 301 tariffs and Chinese retaliatory tariffs in place, but its signing is nonetheless an important development that appears likely to avert the near-term escalation of tariffs or other trade and investment restrictions. We provide here a brief overview of the Agreement and its implications.

Section 301 Tariffs and Chinese Retaliation

The Agreement makes no mention of the United States' Section 301 tariffs on products of China, or the retaliatory tariffs that China has imposed on imports from the United States. However, the Trump administration announced in December that, as a result of the Phase One agreement, the United States would: (1) cancel the imposition of a 15% additional duty on "List 4B" goods ($160 billion) that had been scheduled to take effect on December 15, 2019; and (2) reduce to 7.5% (from the current rate of 15%) the additional duty it has imposed on "List 4A" goods ($120 billion) since September 1, 2019. Though these commitments are not reflected in the Agreement, USTR already has suspended the imposition of the List 4B tariffs, and today USTR published a Federal Register notice reducing the List 4A tariff to 7.5% with respect to goods entered for consumption, or withdrawn from warehouse for consumption, on or after 12:01 am Eastern Standard Time on February 14, 2020. China suggested in December that it would implement a commensurate reduction of its retaliatory tariffs, but the Agreement is silent on whether (or when) this will occur.

Intellectual Property

The Intellectual Property Chapter includes disciplines related to trade secret protection, pharmaceuticals, patents, piracy, counterfeiting, geographical indications, trademarks, and enforcement measures. The commitments that China has undertaken under the Chapter – particularly those requiring it to provide for the protection of trade secrets through criminal enforcement and other means – appear extensive, are generally binding (rather than aspirational commitments), and in some cases resemble provisions of other US trade agreements such as the USMCA. Nevertheless, the Agreement does not expressly detail required changes to specific Chinese laws and regulations, which the United States reportedly demanded during prior stages of the negotiation. Rather, pursuant to Article 1.35 of the Agreement, the extent to which China intends to modify existing measures in order to implement the IP commitments will be set forth in an "Action Plan" to be published at a later date. This provision states that, within 30 working days after the Agreement enters into force, China will promulgate an Action Plan that specifies "measures that China will take to implement its obligations under [the Intellectual Property Chapter] and the date by which each measure will go into effect." Thus, the extent to which the Agreement will prompt changes to China's existing laws and regulations (and the effect of any such changes) remains to be seen.

Technology Transfer

The Technology Transfer Chapter includes commitments aimed at addressing three alleged Chinese government practices targeted by USTR in its Section 301 investigation: (1) the use of foreign ownership restrictions (e.g., joint venture requirements) to require or pressure technology transfer from US companies; (2) the use of regulations to force US companies to license technology to Chinese entities on non-market based terms; and (3) the facilitation of foreign investment in US companies to obtain technologies and intellectual property. The Chapter aims to curtail such practices through the following general obligations:

  • Persons of a Party "shall have effective access to and be able to operate openly and freely in the jurisdiction of the other Party without any force or pressure from the other Party to transfer their technology to persons of the other Party."
  • Any transfer or licensing of technology between persons of a Party and those of the other Party "must be based on market terms that are voluntary and reflect mutual agreement."
  • A Party is prohibited from supporting or directing "the outbound foreign direct investment activities of its persons aimed at acquiring foreign technology with respect to sectors and industries targeted by its industrial plans that create distortion."

The Chapter includes several additional disciplines aimed at prohibiting specific methods of forced technology transfer. For example, Article 2.2 provides that a Party may not "require or pressure persons of the other Party to transfer technology to its persons in relation to acquisitions, joint ventures, or other investment transactions." Article 2.3 prohibits a Party from adopting or maintaining "administrative and licensing requirements and processes" that require or pressure technology transfer from persons of the other Party to its persons. In addition, the Chapter prohibits a Party from requiring or pressuring, "formally or informally", that persons of the other Party transfer technology to its persons (or favor domestic technologies) as a condition for receiving market access, administrative or licensing approvals, or "any advantages conferred" by the Party. While there is some overlap between these requirements and the commitments that China already has assumed under Article 7.3 of its Protocol of Accession to the WTO, the Phase One Agreement's technology transfer terms are more detailed and expressly prohibit a wider range of government actions. On the other hand, China has long maintained that it does not impose technology transfer requirements, and the policing of informal requirements – a primary US business complaint – may prove difficult, especially at the sub-national level.

Agriculture

The Agriculture Chapter includes commitments related to biotechnology, domestic support, and tariff-rate quota administration. Notable provisions include a commitment by China to implement a "transparent, predictable, efficient, science- and risk-based regulatory process" for the evaluation and authorization of agricultural biotechnology, and to reduce the timeframe for review and authorization of products for feed or further processing to an average of 24 months. In addition, the Chapter contains extensive commitments related to sanitary and phytosanitary measures for specific products, including meats, poultry, seafood, dairy, and rice, among other items. However, other provisions of the Chapter merely reaffirm China's existing WTO obligations (e.g., to publish information regarding its domestic support measures and to administer tariff-rate quotas for wheat, rice, and corn in conformity with the WTO Panel Report in China—TRQs (DS517)).

Expanding Trade

One of the more novel elements of the Phase One Agreement is the Chapter on "Expanding Trade", in which China has committed to increase purchases of goods and services from the United States during the two-year period from January 1, 2020 through December 31, 2021. During this time, China "shall ensure" that purchases and imports into China from the United States of certain manufactured goods, agricultural goods, energy products, and services identified in Annex 6.1 to the Agreement "exceed the corresponding 2017 baseline amount by no less than $200 billion." The Agreement further establishes purchase targets by product category (for agricultural goods, for example, China must ensure that "no less than $12.5 billion above the corresponding 2017 baseline amount is purchased and imported into China from the United States in calendar year 2020, and no less than $19.5 billion above the corresponding 2017 baseline amount is purchased and imported into China from the United States in calendar year 2021[.]" China's compliance with these commitments will be determined based on "Official Chinese trade data and official U.S. trade data[.]"

Although China's purchase commitments could result in a significant financial windfall for US exporters, they also raise concerns. For example, Article 6.2.5 of the Agreement states that "purchases will be made at market prices based on commercial considerations", but some traders have reportedly questioned whether certain targets (e.g., oil & gas) are feasible given market conditions in China and the United States. Moreover, because the Agreement does not require China to complete the covered transactions in accordance with its WTO obligations,
other WTO Members, particularly those with exporters that compete directly with US exporters of the targeted goods, may question whether China's purchase commitments are consistent with WTO rules.

Financial Services

The Financial Services Chapter includes commitments related to banking, credit rating services, electronic payments, and insurance, among other issues. Key provisions of the Chapter include commitments by China to eliminate by April 1, 2020 its foreign equity caps for (1) securities companies, (2) suppliers of life, health, and pension insurance, (3) fund management services, and (4) futures services, and to refrain from imposing certain discriminatory measures in such sectors. Observers have noted that most of these commitments reiterate commitments that China has made (and allegedly violated) in other contexts.

Currency

The Chapter on Macroeconomic Policies and Exchange Rate Matters and Transparency includes a commitment by the Parties to "refrain from competitive devaluations and not target exchange rates for competitive purposes, including through large-scale, persistent, one-sided intervention in exchange markets." However, this commitment is largely the same as that agreed by the G-20 in 2016. Other provisions of the Chapter, moreover, are aspirational or merely reaffirm the Parties' commitments under the IMF Articles of Agreement to avoid manipulating exchange rates.

Bilateral Evaluation and Dispute Resolution

Chapter 7 of the Agreement sets forth a "dispute resolution" process that will apply where one Party believes the other Party has not acted in accordance with the Agreement. Unlike most modern trade agreements, the Chapter does not provide for the establishment of independent panels to adjudicate such disputes and authorize any countermeasures. Rather, the Agreement establishes a process of "consultations", whereby the Parties will attempt to resolve the issue through bilateral discussions among officials that will be designated by each Party. If the dispute cannot be resolved by the designated officials, the concerns may be raised to the designated Deputy United States Trade Representative and the designated Vice Minister of China. If the dispute is not resolved at the deputy or vice-ministerial level, the Complaining Party may present the issue to the United States Trade Representative and the designated Vice Premier of China. Once the dispute is raised to this level, the following procedures will apply:

  • If the issue is not resolved at the USTR-Vice Premier level, the Parties "shall engage in expedited consultations on the response to the damages or losses incurred by the Complaining Party." If the Parties reach consensus on a response, the response shall be implemented.
  • If the Parties do not reach consensus on a response, the Complaining Party "may resort to taking action based on facts provided during the consultations, including by suspending an obligation under this Agreement or by adopting a remedial measure in a proportionate way that it considers appropriate with the purpose of preventing the escalation of the situation and maintaining the normal bilateral trade relationship."
  • If the responding Party considers that the action by the complaining Party "was taken in good faith", the responding Party "may not adopt a counter-response, or otherwise challenge such action." If the responding Party considers that the action of the Complaining Party "was taken in bad faith, the remedy is to withdraw from this Agreement by providing written notice of withdrawal to the Complaining Party."

Thus, as expected, the Agreement provides that each Party may unilaterally determine (1) whether the other Party has violated the Agreement; and (2) what measures it will take in response, which include but are not limited to suspending concessions under the Agreement. For example, by authorizing a Party to take "a remedial measure…that it considers appropriate" in response to a perceived violation of the Agreement, the Chapter would appear to permit a Party to impose additional tariffs on products of the other Party, provided that this action is "proportionate" to the violation and the issue is not resolved through consultations. Any US retaliation under the dispute resolution provisions would likely entail such measures, rather than a suspension of US concessions under the Agreement, given that the United States' concessions under the Agreement are limited. In the event that China perceived such an action to be illegitimate, the only response expressly authorized would be withdrawal from the Agreement. However, given the limited nature of the United States' concessions under the Agreement, this structure raises questions as to whether the Agreement itself incentivizes China to comply fully with its commitments, especially over the long-term.

Entry Into Force and Termination

The Agreement will enter into force "within 30 days of signature by both Parties or as of the date on which the Parties have notified each other in writing of the completion of their respective applicable domestic procedures, whichever is sooner." Thus, the Agreement will enter into force by February 14, 2020, at the latest. Either Party may terminate the Agreement by providing written notice of termination to the other Party. The termination will take effect 60 days after the date of such a notice, or on another mutually agreed date.

Outlook

The signing of the Phase One Agreement is an important development that appears likely to prevent further, significant escalation of the US-China trade dispute, at least for the time being. However, it leaves unaddressed many key "structural issues" that the United States has prioritized, including China's provision of subsidies to its manufacturing sector and its involvement in the economy through state-owned enterprises (SOEs). Both sides have indicated that they are willing to continue negotiations for a "Phase Two" agreement, but it appears unlikely that a second agreement addressing more sensitive issues such as subsidies and SOEs can be concluded quickly, if at all. The Phase One Agreement contains no firm commitments in this regard (stating only that "[t]he Parties will agree upon the timing of further negotiations), and substantive discussions on Phase Two may be delayed while the Parties focus on the implementation of Phase One. It therefore appears likely that the vast majority of the United States' Section 301 tariffs and China's retaliatory tariffs will remain in place for the foreseeable future, as will the existing domestic procedures for tariff exclusions.

The United States also is likely to closely scrutinize China's implementation of the Phase One Agreement, which could lead to disputes and unilateral measures that could re-escalate tensions and potentially result in termination of the Agreement. The text of the Agreement also raises new questions about whether and to what extent China can and will comply with the Agreement over the longer term, as noted above. Thus, while the Phase One Agreement will likely avert further escalation of tariffs in the near future, significant trade restrictions, uncertainty, and the possibility for further escalation will persist over the longer term.

The text of the Phase One Agreement is available here.

 

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