The US – China agreement on steel overcapacity: impacts on trade & international affairs?

Asia-Pacific Insights: Antoine Martin comments on the Agreement reached by the United States and China on China’s steel overcapacity, and says that little change is to be expected.


 

[ By Antoine Martin]

Early June 2016, an agreement on steel overcapacity was reached as part of the 8th U.S – China annual Strategic and Economic Dialogue. Simply put, China reiterated its commitment to find a solution to the excess capacity issue in the steel industry, but little change is likely to happen in a close future for various reasons, all linked to the fact that reforms would clearly have an impact on the country’s economic model as a whole.

If the US-China steel agreement is will have no real impact on international affairs, it might however have an influence on trade negotiations at the international and bilateral level, particularly as far as the ongoing US-China investment treaty is concerned. Not to forget, of course, current negotiations related to China’s market economy vs non-market economy status.

The US-China steel background

The recently reached China – U.S steel agreement is the result of various tensions resulting from China’s policy towards steel production and exports. Simply put, the U.S government together with many other leaders – particularly in Europe – have long pushed Beijing to reduce the impact of a development model based on overproduction, i.e. on massive production at a low cost to flood the world with affordable – not to say cheap – goods.

The problem is not simply about China producing and exporting steel, however, as the country is merely one amongst the major steel producers with countries such as Canada, Brazil or Russia.

The problem is rather about the price of Chinese steel. In the range of 20 to 50 percent lower than the price of competitors, prices can be explained by Beijing’s general development policy over the last decades, i.e. a model based on extensive and subsidized production aimed at facilitating cheap exports. The Chinese economic development strategy, as a result, is increasingly questioned for permitting domestic development at the expense of the other countries while threatening jobs in many industrialized countries. And steel is one easy example amongst others.

The US and EU approach on Chinese steel dumping policies

Unsurprisingly, China’s steel policies have led major international actors such as the US or the EU imposing important tariff fees on Chinese products to limit negative impacts on their domestic or regional markets. There are however major dissimilarities in treatment from one region to another.

On the US side, anti-dumping and anti-subsidy duties in the range of 265,79 per cent have been imposed on cold-rolled steel products used mainly in the automobile and shipping containers manufacturing industries and imported from seven countries including China in March 2016 (The Wall Street Journal, 01/03/2016), but this tax was eventually raised to 522 per cent later on (BBC, 18/05/2016). From the EU side, in contrast, the diplomatic approach to the Chinese steel issue largely differs. In fact, anti-dumping policies have been far more difficult to set up, with countries agreeing to disagree on the position to be held. Thus, if the EU originally considered imposing a 9,2 to 13 percent duty on Chinese cold-rolled steel products (FT, 29/01/2016), the actual number was eventually raised between 13,4 and 16 percent in March.

Such a difference in treatment can be explained by diverging political positions on both sides of the Atlantic Ocean: duties in the US are designed as deterrent tools aimed at preserving domestic industries from foreign giants strong enough to influence market prices, while duties in the EU are rather considered as a means to mitigate dumping policies.

In line with the so-called ‘lesser duty rule’ implemented at the level of the World Trade Organization (WTO), the EU indeed imposes duties at a level lower than the Chinese dumping margin, that is at a level deemed ‘adequate to remove injury’. Within the EU, in other words, anti-dumping policies merely aim at limiting the negative effects of the Chinese subsidized steel policies but opinions diverge, with some Members demanding more drastic duties whilst others – including the UK – seem opposed to the idea of breaching the rule by fear that markets would be further disrupted with the impact being ultimately supported by the consumers.

If the lesser duty rule was set aside, as some commentators note, the duties imposed by the EU to compensate for Chinese subsidies might rather be in the range of 53 to 59 percent (Euractiv, 25/03/2016), with a higher price being ultimately paid by the end-user indeed. Still, duty levels would considerably diverge from those practiced on the US side. All in all, if the EU seems to be mitigating and willing to play by the international trade rules, US policies are about deterrence and retaliation. An eye for an eye.

From policies to the politics of defiance

Obviously, these policy talks have an impact on international affairs and turned into worldwide politics.

On the one hand, the US Treasury Secretary Jacob Lew claims that Beijing’s overproduction strategy had – and still has – distorting effects on global trade and the US steel industry complains about job losses in the range of 12.000 as a result of subsidized Chinese steel productions while the EU, even though it seems incapable to act, is forced to admit a disruption in market prices.

On the other hand, the Chinese public authorities have regularly insisted on the efforts made to reduce the steel trend but nonetheless refused to sacrifice the domestic industry and workers. To this extent, a 46 per cent tax was even imposed on steel products imported from Europe (as well as South Korea and Japan) because of their ‘substantial damage to its domestic steel industry’ and China announced that it would overall maintain a low tax policy on steel exports in order to help the sector face the country’s economic slowdown. Voicing its ‘strong dissatisfaction’ with the US’ decision to impose punitive duties on steel, the Chinese government furthermore denied dumping prices – rather promoting the efficiency and competitiveness of domestic producers – and added that ‘the United States adopted many unfair methods during the anti-dumping and anti-subsidy investigation into Chinese products, including the refusal to grant Chinese state-owned firms a differentiated tax rate’ (The Guardian 01/04/2016 and 18/05/2016).

The Agreement

Earlier this year China nonetheless committed to reducing the size of its steel industry while President Xi Jinping vowed to undertake structural reform as well as measures to curb steel excessive production. Early June, furthermore, an agreement between U.S and Chinese officials made the headlines following the 8th U.S – China annual Strategic and Economic Dialogue, where the parties reiterated their commitment to limit steel excesses along with a commitment to deal with the issue of state-owned corporations, to refrain from monetary devaluations and … to enforce sanctions against North Korea. A broad programme it seems.

U.S – China annual Strategic and Economic DialogueU.S – China annual Strategic and Economic Dialogue

Of course, the press has mentioned some concrete outcomes. China would grant some investment quotas to US businesses and would further open access to its financial sector to US companies whilst refraining from manipulating its currency. More important, perhaps, would be the US and Chinese negotiators’ willingness to welcome on bilateral investments in one another’s territory in line with the ongoing negotiation of a bilateral investment and trade treaty between the two countries. On this matter, China committed to provide without delays a ‘negative list’ – understand, a list of reservations and exclusions to the liberalization commitments undertaken as part of the treaty. See below.

But in real life … fundamental issues remain, starting with China’s development model

Despite being described as ‘the most productive in years’ by officials, however, these reiterated commitments do not say much, particularly as far China’s practices on subsidized trade – steel included – are concerned.

Beyond the expectations, efforts and outcomes of this agreement, major issues would first have to be solved before things have a chance to move on. Problematically, these issues are deeply related to China’s fundamental economic development strategy over the last years, so that any move by China to overcome the current situations would require a deep rethinking of strategic goals and means, together with important sacrifices to be paid by Chinese workers and the Chinese taxpayer.

Take the example of the steel industry. For years, China’s economic development has been based upon the idea that massive state-supported production of steel products for export purposes was key, and the country has produced enormous quantities of cheap steel and flooded international markets with offer beyond demand. The country produces between half and two-thirds of the world’s production of steel (between 1.5 and 1.7 billion tons depending on the source). Thus, although China’s development model is certainly matching a demand, about 300 million tons nonetheless remain unused thus building up stock and further contributing to lowering prices on international markets.

In other words, while China has committed itself to reduce steel production, the reality is that the country has long relied on massive export-oriented production supported by favorable public policies to develop its GDP and therefore cannot reverse its development strategy overnight without fundamentally rethinking its strategy and harming its own economy in the process. Thus, only time will tell to what extent the trend can be reversed.

Also, the issues of SOEs, job losses and bad loans matter.

Part of the difficulty to set up and implement fundamental reforms also lies with the issue of state-owned enterprises (SOEs) and with the various problems related to them.

Simply put, the overproduction of steel surely is about the quantity and price of steel produced by Chinese manufacturers, but it is also about the structure of the steel production market in China. As for many industries, many steelmakers in China are owned – at least in part – by the government, which therefore is a warrant of the companies’ financial strength and is responsible for maintaining the workers’ jobs. While so far the Chinese public authorities have prevented SOEs from going bankrupt and continuously subsidize production as a means to keep business as usual, reducing overcapacity is however about allowing SOEs’ closure and about terminating employment by the end of the decade for between half a million (Fitch) and two millions of workers according to the Chinese Minister of Human Resources and Social Security Yin Weimin (SCMP, 10/04/2016 and 07/06/2016). Beijing, as a result, is in a difficult situation because if committing to reduce steel production implies making cuts in the steel ecosystem then the warrant could become the executioner.

Considering the very high debt-to-asset ratio characteristic of the natural resource industry around the world, finally, allowing SOEs to go bankrupt would most likely give reasons to the lending banks to seek compensation to the government, or give the government major incentives to support a banking sector in managing such bad loans at the expense of the taxpayer. So far, commentators suggest that regional governments exercise pressure on lenders to further support companies facing difficulties, but the situation might not last and similar situations, in fact, would also occur in other sectors such as the coal, aluminum, glass or solar industries.

For the time being, therefore, Beijing is essentially left with the option to denounce the US and EU anti-dumping taxes as unproductive and remind the world that ‘China is not a planned economy anymore’ so that the steel market is not only made of state-owned manufacturers but also includes many private companies on which no market-distorting rules can be imposed.

Incentives to move on: concluding the ongoing US-CHINA investment and trade treaty

While this suggests that the recent US-China agreement on steel products will not bring any easy and immediate solution to current trade issues between China and the rest of the world, it remains that China has significant incentives to make efforts towards solving the issue at stake.

A major incentive, as mentioned previously, is the possibility of making progress towards the signature of a bilateral agreement on investment and trade with the US, in which case efforts in relation to the steel situations could facilitate ongoing negotiations.

So far, indeed, official discussions regarding the treaty have been going on (and on), with commentators announcing regularly over the years the near conclusion of negotiations which started eight years ago. Some ‘substantive BIT negotiations’ (note: BIT stands for Bilateral Investment Treaty) were commenced in December 2013 after nine rounds of negotiations, within particular the aim of increasing trade secret protection and to implementing a ‘more proactive opening up strategy for foreign investment’. The US committed to ‘give fair treatment to China during its export control reform process’ while China committed to establishing a policy review mechanism aimed at ensuring that its policies would remain consistent with its multilateral or bilateral commitments. Both the US and China, also, eventually committed to ‘administer anti-dumping and countervailing duty investigations in a fair, objective and transparent manner’.

At the moment, however, Chinese policies towards foreign investors remain difficult to read through, particularly as the regime is toughening up its relations with the world. June’s agreement on steel capacity reduction, therefore, could be read as a softening effort towards facilitating bilateral relations with the US.

 

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Let’s not forget the ‘non-Market Economy Status’ issue

Last but not least, Beijing’s commitments towards reducing steel overcapacity can most certainly be explained by current negotiations on whether China should now be considered as a Market Economy.

As already discussed in the Asia-Pacific Circle’s Insights, the issue of China’s market economy or non-market economy status has been hanging like the sword of Damocles on top of China’s head over the last months. As a reminder, the country joined the WTO fifteen years ago and would, according to its accession protocol, now be allowed to be recognized as a market economy by its commercial partners. China’s current ‘non-market economy’ status, however, has a strategic dimension because it allows the country’s trading partners to impose special tariffs on imported goods so as to preserve their domestic markets from dumping and subsidy-based distortions.

The situation is therefore as follows. On the one hand, Beijing is clearly seeking recognition as a market economy as this would give its industries a simplified access to foreign markets without facing duty discrimination. Its’ trading partners, on the other hand, have no interest in recognizing China as a market economy until the country effectively plays by the rules as provided under the WTO, whether in terms of subsidies, in terms of market access to foreign companies or in terms of market intervention by the public authorities.

In other words, China’s current export policies based on interventionism and subsidized steel production would clearly constitute a no-go argument for many countries for which the Chinese steel policies are distorting international steel markets and the US-China agreement on steel production is most likely to be interpreted as a sign that China is making efforts in line with its international trade obligations.

So…

So, all in all, the US-China Agreement on steel is unlikely to have any immediate impact on international business and affairs. A political gesture more than a good news to the world’s business community, these commitments essentially aim at demonstrating Beijing’s intent to solve the overcapacity problem in the medium to long-term and, as such, are expected to have an impact on China’s trade negotiations, whether in the context of the US-China investment and trade treaty, or in the context of the ongoing market economy status. Businesses, however, will have to wait.

 

 


Dr Antoine Martin | Co-Founder & Head of Insights

Personal Profile Antoine Martin Founder The Asia-Pacific CircleDr Antoine Martin is the Head of Insights of The Asia-Pacific Circle, which he co-founded in Hong Kong in 2016. Antoine follows analyzes and comments on developments in international trade, investment, and finance, with a particular focus on Asia-Pacific relations. He is also a scholar at The Chinese University of Hong Kong, Faculty of Law, a leading academic institution in Asia.

– Read more contributions by Antoine Martin –

 

Disclaimer: The views expressed in the insights are those of their author(s) only and should not be considered as reflecting those of The Asia-Pacific Circle or of its editors.


 

 

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