Phase One China-U.S. Trade Deal

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WHAT IS IN THE DEAL?

On January 15, China and the U.S. signed the Phase One trade agreement in the White House in Washington, D.C. following more than two years of negotiations. The almost 100-page document attempts to address some longstanding bilateral trade and investment issues such as intellectual property protection, forced technology transfer, trade in food and agriculture products, financial services, currency and others. The Phase One deal commits China to boost purchases in manufactured goods, services, agriculture products and energy from 2017 levels by US$200 billion over the next two years.

Under the agreement, the Trump administration scrapped tariffs initially set to take effect in December 2019. The U.S. Administration also agreed to cut duties from 15% to 7% on $120 billion in Chinese products that were imposed on September 1, 2019. However, the U.S. has said it will leave tariffs on another $360 billion in Chinese products in place for now.

What’s more, to ensure the implementation of the Phase One deal, both countries are setting up two mechanisms for high-level talks: one, for implementation of the agreement led by USTR on the U.S. side and a Vice Premier on the China side. A second mechanism, led by the U.S. Treasury and a Chinese Vice Premier, will focus on overall economic issues. This latter group will likely replace the Comprehensive Economic Dialogue which was created early in the administration and was led by the U.S.  Treasury Department and the U.S. Department of Commerce.

OBSERVATIONS:

- A modest, de-escalation of trade tensions won’t eliminate confrontations between China and the U.S., but it does show the desire of both nations to stop a complete decoupling of their economies. That view was reinforced by comments from senior officials from both countries made shortly after the agreement was signed.

The signing of the Phase One deal represents a relatively modest de-escalation of the trade tensions between China and the U.S. However, few observers expect trade relations between the world’s two largest economies to return to pre-tension levels. A number of areas of potential conflict remain, particularly related to technology, but this agreement should create some positive momentum to help address some of the more challenging areas of tension.

After almost two years of tit-for-tat tariffs, both economies have suffered, and any relief is welcomed by the business communities of both countries. The new deal halves tariff rates on US$120 billion worth of goods, but  duties on another $360 billion of Chinese goods and more than $100 billion worth of U.S. exports remain in place. The deal leaves average tariff levels on both sides at around 20%, much higher than they were two years ago. This contrasts with the average tariff rate for other countries, which has declined to about 7% on average.

The truce brought by the Phase One deal doesn’t mark a major breakthrough, nor does it come anywhere close to resolving some of the more contentious trade issues between the two countries— for the U.S. specifically, Chinese government subsidies and a need for China’s continued structural reforms, among others.

- Uncertainties and business challenges remain for the market in the mid- to long term.

With some doubts centered on the level of commitment to actual implementation by the China side, the agreement leaves lots of uncertainties for real outcomes. Although both sides have agreed to create Bilateral Evaluation and Dispute Resolution Offices to receive and evaluate trade complaints and to conduct semiannual talks to push for economic reforms, following the process outlined in the agreement, actual solutions to tackle the complaints remain vague. This is only one reason why many observers believe the bilateral trade and investment prospects between the two countries will continue to be unpredictable.

While there are still many challenges, the deal does give U.S. companies some new leverage or “hooks” to pursue their business issues with the U.S. and the Chinese governments. Where applicable, companies can look for solutions to their issues in terms of the implementation of the Phase One agreement.  

The timeline for Phase Two negotiations is still unclear  with some observers believing that they may start soon but not finish until November of this year. In the meantime, high tariffs will remain in place as part of the “New Normal” for Chinese and U.S. business.

With the implementation of the Phase One trade deal, more thornier issues, including corporate subsidies by the Chinese government, state-owned enterprise reform, and some structural issues related to the Chinese economy, are expected to be taken up in future negotiation rounds. Adding to the uncertainty surrounding economic relations between these two countries are the non-tariff barriers that exist in various forms.

One thing worth noting is the reaction about the deal from the Chinese side. Very limited coverage was seen in the Chinese state media and the coverage that was generated was moderate in tone. For many commentators, this is a reflection of how the Chinese side views this most recent agreement.  

- A More Challenging Phase Two Negotiation is Expected.

Both sides have said that they are ready to start negotiating the next-phase trade agreement, but there are no assurances that an agreement will be reached before the November 2020 U.S. national election. That agreement is expected to include more tariff relief and address contentious structural issues as part of an effort to rebalance the bilateral trade and investment relationship.

One of the major sticking points in the Phase Two negotiations will be access to China’s market for U.S. exports. The U.S. has long complained that China’s requirements for foreign businesses to obtain a business license, subject themselves to a national security review, and receive specific approvals, are serving to block access to the Chinese market.

Reform of China’s state-owned enterprises and the need for Chinese government approvals for U.S. investments in China are also expected to be addressed in the Phase Two negotiations as are issues related to reducing sectors on the Negative List for foreign investment in China and elimination of government subsidies for Chinese firms. It is also expected that the next phase of negotiations will see a continuing focus on intellectual property rights and technology transfer.

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