1. Introduction
In recent years, certain political elites within advanced economies, and in particular, the United States, have grown increasingly disenchanted with the World Trade Organization (WTO). On 31 March 2017, President Trump signed an executive order directing US executive branch agencies to conduct an extensive investigation of the causes of lingering US trade deficits with its major trading partners. In that order, the President explicitly states, ‘For many years, the United States has not obtained the full scope of benefits anticipated from participating in a number of international trade agreements or from participating in the World Trade Organization.’Footnote 1
Foremost among these concerns is China. The Trump campaign castigated China for ‘raping’ the United States through its trade practices.Footnote 2 While the US may be the most outspoken, it is not the Americans alone who are dissatisfied. In 2016, the European Union's trade deficit with China hit a new record of €180 billion.Footnote 3 Both the American and European Chambers of Commerce in China have issued reports highlighting their membership's dissatisfaction with certain Chinese trade practices.Footnote 4
Why has the WTO proven to be less effective in allowing countries to manage their trade tensions with China? In prior work, I suggested that a major source of ongoing tensions arise out of the unique structure of the Chinese economy.Footnote 5 The combination of six characteristics renders this economic structure different from any other major economy. These include: (1) the state's role as a corporate holding company; (2) the state's control over financial institutions; (3) the state's control over planning and input; (4) distinct Chinese corporate groups and affiliated networks; (5) the Communist Party's involvement in economic affairs; and (6) the intertwined nature of private enterprises and the Party-state.Footnote 6 As shorthand, I and others have referred to this unique structure through the moniker of ‘China, Inc.’. Several major problems, I argue, arise from the inability of China's trading partners, at the time of China's WTO accession in 2001, to forecast the structural transformation of the Chinese economy of the late 1990s to that of the present.Footnote 7
Yet, interestingly, not all problems necessarily fall into such a category. As I have noted, negotiators did anticipate properly the rise of several trade problems and attempted to write clear rules to combat them.Footnote 8 One such area concerns China's export restrictions. In analyzing the aftermath of recent WTO cases related to such restrictions, this article seeks to advance an explanation for why, even for an issue area where the treaty text is clear and the WTO dispute settlement mechanism has operated as expected, there is nevertheless growing disenchantment with the WTO as an effective venue for China-related trade disputes.
This article argues that the problem lies with the WTO's remedy gap and the failure of WTO law to allow for retrospective remedies. Because Chinese industrial policymakers are able to exploit the WTO's ‘free pass’ for temporary breach to their advantage without major consequence, even the force of a past WTO ruling against Chinese export restrictions creates little incentives for authorities to constrain similar behavior in the future. This, in turn, fuels a cycle of further litigation against China and increased disillusionment with the WTO.
The prospect for correcting this shortcoming is limited. Reform of the WTO's dispute settlement mechanism remains highly unlikely for the foreseeable future. This article therefore highlights why China's trading partners may be correct in their strategy to resort to diplomatic and other extra-legal measures to address their trade concerns. It seeks to reinforce my prior argument that the existing state of WTO treaties has its limits when confronting the practices of ‘China, Inc.’. Because political forces within major advanced and developing economies make overhaul of treaty text extremely unlikely, one cannot rely entirely on the WTO to deal with trade tensions between China and her trading partners.
2. WTO law on export restrictions
A country maintains sovereignty over the minerals and natural resources found within its territorial land and waters. But in a world of interdependent global supply chains, producers in one country may come to rely upon access to resource inputs in another. Trade law has sought to maintain the delicate balance between the principles of resource sovereignty, on the one hand, and ensuring that resource restrictions do not unnecessarily impair the development of global trade.
The General Agreement on Tariffs and Trade (GATT) sought to prevent countries from enacting an outright ban or a quota on exports of goods. GATT Article XI:1 stipulates, ‘No prohibitions or restrictions other than duties, taxes or other charges, whether made effective through quotas … export licenses or other measures, shall be instituted or maintained by any contracting party … on the exportation or sale for export of any product destined for the territory of another contracting party.’
However, a number of exceptions apply. First, GATT Article XI:2(a) makes clear that the prohibition does not extend to a situation whereby ‘[e]xport prohibitions or restrictions [are] temporarily applied to prevent or relieve critical shortages of … products essential to the exporting contracting party’. Second, GATT Article XX provides for a number of general exceptions. This includes measures ‘necessary to protect human, animal or plant life or health’ and those ‘relating to the conservation of an exhaustible natural resource made effective in conjunction with restrictions on domestic production or consumption’. Finally, GATT Article XXI provides for a natural security exception.
Despite these treaty limitations, a WTO member nevertheless retains a number of policy instruments to influence the flow of a natural resource extracted from its soil or territorial waters. While a government cannot enact an outright ban or quota, it remains free to impose export duties, export taxes, and other charges. These fiscal measures raise the cost of exporting a product, thereby creating an incentive to keep it onshore.
While the above captures the general WTO law on export restrictions, China's trading partners demanded that China go one step further. As part of its price of admission to the WTO, China agreed unilaterally to largely disarm itself of the policy instruments that other WTO members retained regarding the flow of exports. In Paragraph 11.3 of its Protocol of Accession, China agreed to ‘eliminate all taxes and charges applied to exports’ unless it was specifically listed in an Annex or was a fee or charge limited to the cost of services rendered in conformity with GATT Article VIII.
The wording of the obligation was clear. But as the next Section will highlight, despite undertaking these treaty obligations, China has not always acted in a manner that is compliant with them. In reality, Chinese practices have fallen short of what was expected.
3. The trilogy of recent cases on China's export restrictions
Between 2009 and 2016, three sets of cases surfaced before the WTO concerning Chinese export restrictions. They follow a similar pattern. In each, one or more Chinese government agencies impose an export restriction on a set of raw materials – in the form of an outright ban, quota, or tax. A WTO Panel later finds the restriction to contravene China's WTO treaty obligation, which is then upheld by the WTO Appellate Body. Following the ruling, the Chinese government agency then removes the restriction, thereby complying with the judgment and avoiding any sanctions or penalties for its illegal act.
At first glance, WTO dispute settlement may appear effective. Using litigation, China's trading partners are able to eliminate an illegal Chinese trade practice. Except that other illegal export restrictions remain in place or are enacted soon thereafter. Yet another case is required, and the cycle starts afresh.
3.1 China–Raw Materials I
The first of this trilogy of cases arises out of a series of export restrictions imposed by Chinese authorities on nine raw materials. They included various forms of bauxite, coke, fluorspar, magnesium, manganese, silicon carbide, silicon metal, yellow phosphorous, and zinc. The restrictions at issue in the case included export quotas, export tariffs, export licensing, and minimum export prices. Also challenged was China's allocation and administration of the restrictive policies, including non-publication of certain measures.Footnote 9
State-owned enterprises (SOEs) play an important role in extractive mining industries in China. However, as I have pointed out elsewhere, simply because a Chinese industry is dominated by SOEs does not mean that market forces are necessarily absent.Footnote 10 SOE dominance just means that the Party-state has instruments available to intervene in corporate decision-making, should it so desire. But the Party-state may well choose to remain hands-off, leaving various SOEs to compete intensely against each other and possibly private players as well.
At the time that the restrictions were imposed, China's metals and minerals industries were still largely under state control. However, the market players were highly fragmented. The SOEs themselves were under the control of various levels of government – central, provincial, and local – and competed with one another.Footnote 11 They included a number of small producers. Given China's size, absolute centralized control proved difficult. Day-to-day decision-making rested within firms. However, with rising domestic demand downstream due to rapid economic growth, the Party-state began to display greater interest and influence over metal and mineral industries. Export restrictions therefore served as one of several policies put forward to assert greater control over the output flows of a fragmented set of SOEs.Footnote 12
Export restrictions negatively impact foreign firms downstream by limiting supply and raising prices. Between June and August 2009, the United States, European Union, and Mexico filed complaints alleging that China's restrictions violated several provisions of the GATT, including Articles X and XI, as well as elements of China's Protocol of Accession, including Paragraph 11.3.Footnote 13 Thirteen other WTO members asserted their third-party rights to the case.
In its Protocol of Accession, China designated a list of 84 tariff lines for which it reserved the right to impose export duties; all others had to be eliminated. Tellingly, only one of the nine raw materials challenged in the litigation was on the list.Footnote 14 In defense, China argued that although it had agreed to eliminate export duties for the raw materials in question in its accession protocol, it was still entitled to assert the exceptions found in GATT Article XX as a justification for any deviation from its obligations. China asserted that the export duties on four of the nine raw materials were temporary and could be justified by the exceptions found in GATT Article XX(b) and (g).Footnote 15
In July 2011, the Panel rejected this defense. It found China to have violated its WTO commitments for all five categories of export restrictions raised in the dispute – export duties, export quotas, export licensing requirements, minimum export price requirements, plus export quota administration and allocation.Footnote 16 Parts of the Panel ruling were reversed on appeal.Footnote 17 However, the Appellate Body did not reverse the overall finding of illegality.Footnote 18
Altogether, the litigation was widely viewed as a victory for the United States, European Union, and Mexico.Footnote 19 Through WTO dispute settlement, China was ordered to dismantle a series of illegal export restrictions designed to keep certain natural resources within China. China properly followed suit. At the meeting of the WTO Dispute Settlement Body on 28 January 2013, China informed the WTO membership that its Ministry of Commerce and General Administration of Customs of China had promulgated a new set of notices removing the problematic export restrictions on the set of raw materials at issue in the litigation. WTO litigation had been effective in allowing China's trading partners to ensure that China lived up to her promises. Or so it might seem.
3.2 China–Rare Earths
At the same time that the China–Raw Materials I litigation was ongoing, a collision between a Chinese fishing trawler and Japanese coast guard vehicles in disputed waters off the East China Sea triggered a major diplomatic crisis. The crisis led China to bar the loading of a crucial category of minerals known as rare earths onto ships destined for Japan.Footnote 20 This raw display of economic statecraft triggered pressure on Japanese high-tech firms reliant on rare earth inputs, forcing Japan to relent.Footnote 21
The incident drew attention to a series of export restrictions that China had enacted on rare earth minerals. The term ‘rare earth’ refers to a group of seventeen elements found in the periodic tables with special properties. Despite their name, these elements are not necessarily rare, but the process of separating the elements from their ore deposits is costly and results in the production of toxic pollutants and hazardous waste materials.Footnote 22 Consequently, many advanced economies have shut down production, leaving the world increasingly reliant upon China for its supply. The unwillingness of others to endure the negative production externalities associated with extracting and processing rare earths left China with a virtual monopoly over this input. According to the US Geological Survey, by 2011, China accounted for over 97% of the global production of rare earth elements, up from 27% in 1990.Footnote 23
As China's dominance over the global market for rare earth minerals and their importance in high-tech production grew, the Chinese government enacted a series of policies to assert greater control over rare earth output. Foreign companies are prohibited from mining rare earths in China. They can only export them through joint ventures established with Chinese counterparts. Each exporter must receive an export license; the number of licenses granted shrank during the course of the late 2000s.Footnote 24 In 2007, the Chinese government also began to levy export duties to control the variety and quantity of rare earth minerals shipped out of China. Both the level of the duty and the number of products subject to it increased over the course of the next four years.Footnote 25 Finally, the Chinese government also issued annual export quotas to domestic and joint-venture firms for particular rare earth minerals. As domestic demand for rare earth minerals increased, the quota levels decreased considerably.Footnote 26 Even so, not all of the export quotas have necessarily been filled in each year.
Although most of the larger Chinese rare earth mineral extraction industries were SOEs, again, the various industries were highly fragmented with multiple SOE players operating in different regions. Moreover, small local players also play a role. Thus, export restrictions were viewed as a necessary policy intervention to assert greater control over the output flows from a diverse array of SOEs.
Even though China's export restrictions on rare earth minerals were already in place in 2009, they were not challenged as part of the complaint filed by the US and EU that summer. Nevertheless, given the similarities between the export restrictions enacted, the hope was that a ruling against China in the China–Raw Materials I case might cause China to dismantle also its export curbs on rare earth minerals. This was not to be. Consequently, in March 2012, two months after the Appellate Body issued its China–Raw Materials I ruling, the US, EU, and Japan filed a WTO complaint against Chinese export restrictions for its rare earths, tungsten, and molybdenum.Footnote 27 Sixteen other WTO members asserted their third-party rights in these cases.
During the course of the argument, China acknowledged that the export duties at issue were not included in the relevant Annex to its Protocol of Accession but argued that they could be justified through resort to the exception provided for in GATT Article XX(b) allowing for measures necessary to protect human, animal, and plant life and health. Specifically, China asserted that the negative health externalities associated with the pollution and environmental harm from the mining and processing of rare earth minerals necessitated the duties.
In March 2014, the Panel ruled against China. Once more, a WTO Panel found China's export restrictions to be inconsistent with China's WTO legal obligations as stipulated in Paragraph 11.3 of China's Protocol of Accession, GATT Article XI, and several paragraphs of China's Working Party Report to its Protocol of Accession.Footnote 28 On appeal, the Appellate Body found that the Panel had erred in its evaluation of GATT Article XX(g).Footnote 29 However, the Appellate Body confirmed the Panel's conclusion that China had not presented a cogent reason for why GATT Article XX could be used to justify an export duty in breach of Paragraph 11.3 of China's Protocol of Accession. Consequently, despite the error, the Appellate Body upheld the Panel's overall conclusion that China's export restrictions, as applied toward rare earths, tungsten, and molybdenum were illegal under WTO law.Footnote 30
The outcome was widely hailed as a victory for the US, EU, and Japan.Footnote 31 Once more, WTO dispute settlement served to dismantle an illegal Chinese trade practice. At the Dispute Settlement Body (DSB) meeting in May 2015, China promptly informed the WTO that it had removed the challenged export duties, quotas, and restrictions on trading rights. On the surface, again, WTO litigation appeared to be effective in vindicating the rights of China's trading partners.
3.3 China–Raw Materials II
The saga, however, is far from over. Despite having been chastised twice by the WTO for its export restrictions, the Chinese practice continues. The policies that the government chose to dismantle were simply the export restrictions applicable to those minerals challenged in the litigation. The overall approach used to direct output from fragmented SOEs in the minerals and mining industry remains very much in place. This has led to yet a third complaint raised by the US and EU in July 2016 against a third set of export restrictions on raw materials.Footnote 32
At issue in the China–Raw Materials II case are Chinese export duties on nine minerals: various forms of antimony, cobalt, copper, graphite, lead, magnesia, talc, tantalum, and tin. Again, the complainants alleged that the duties contravene the obligations that China undertook in Paragraph 11.3 of its Protocol of Accession to eliminate all such duties except those stipulated on the designated list.Footnote 33 In addition to the export duties, the EU also challenged China's export quotas and their administration on five of the nine minerals as illegal.Footnote 34
As of this writing, litigation is still pending. After initial consultations between the parties failed to reach a satisfactory outcome, the DSB, at its meeting on 8 November 2016, established a Panel to hear the challenge raised by the United States. Fourteen WTO members reserved their third-party rights in that case. Similarly, on 23 November 2016, the DSB established a Panel to hear the challenge raised by the European Union. Seventeen WTO members reserved their third-party rights.
Because the WTO legal system does not formally subscribe to the principle of stare decisis, it remains to be seen whether the legal outcome in this third set of legal challenges against China's export restrictions will result in a different outcome. Nevertheless, what is clear is that the two prior sets of cases have failed to resolve the overall tensions between China and the US, EU, and others over China's persistence in maintaining duties and export restrictions, despite having agreed to curb their use when joining the WTO in 2001.
4. Repeat violation of WTO law on export restrictions: an explanation
Why has China repeatedly violated its WTO commitments to not enact export restrictions on its minerals and other natural resources? Timothy Webster has asserted that China, on the whole, is interested in engaging only in ‘paper compliance’ of WTO dispute settlement rulings.Footnote 35 According to Webster, China will do what is necessary to achieve compliance with the WTO judgment so as to avoid sanctions, but it will persist in engaging in a project of overall resistance to WTO norms.Footnote 36 This includes continued introduction of policies that run afoul of WTO legal tenets. This behavior stems from China's disdain at having been a rules-taker without a say in shaping the WTO norms to which it is now subject. In Webster's view, this behavior ‘also reflects China's “thin” domestic rule of law culture’.Footnote 37 Webster's theory is a reaction to constructivist international legal scholars who contend that WTO accession and participation in WTO dispute settlement has helped socialize China to conform to global legal norms. According to this theory, the persistence of the Chinese breach is emblematic of a general disdain for a legal system that it played little to no role in shaping but to which it is now obliged to follow.
Some have gone even further to contend that China is simply a ‘bad faith’ actor intent on enacting a mercantilist agenda. President Trump is not the first American politician to adopt such a narrative. In his 2012 Presidential campaign, former Massachusetts Governor Mitt Romney openly accused China of gaining benefits by ‘ignoring the rules followed by others’ and engaging in ‘systematic exploitation of other economies’ through coerced technology transfers, intellectual property theft, subsidies, currency manipulation, and cyber-espionage.Footnote 38 US Congressman David Camp, while chairing the House of Representative's Ways and Means Committee, openly chastised China for its ‘continued bad faith and aggressive pursuit of protectionist policies’, noting that these threatened to jeopardize China's economic relations with its trading partners.Footnote 39 Peter Navarro, a top trade policy advisor in the Trump Administration, openly accuses China of having adopted a ‘perverse brand of Communist-style “state capitalism”’ and ‘deployed a potent mix of mercantilist and protectionist weapons to pick off …. industries job by job and one by one’.Footnote 40 As Navarro warns in his provocative book, unless America adopts more pro-active, unilateral policies to counter this threat, the West risks ‘death by China’ from shoddy goods, mercantilist policies, and cyber-espionage.
This article offers an alternative explanation for the pattern of repeat violations as evinced by the trilogy of export restriction cases. China's behavior is not necessarily emblematic of a ‘thin’ regard for the global rule of law. Nor does it necessarily represent an overt determination to subvert the WTO system through continued ‘bad faith’ protectionist actions. Instead, the shortcoming rests with the failure of WTO law to offer retrospective remedies for breach. This design feature, or flaw (as some may contend), gives rise to incentives to implement WTO rulings narrowly, while perpetuating some of the problematic trade practices.
4.1 The WTO's remedy gap
Several scholars, including myself, have highlighted that the goal of the WTO dispute settlement system is to bring a WTO member's actions back in line with its WTO obligations rather than to provide recourse for damages to offset economic harm from a trading partner's breach of WTO rules.Footnote 41 This gives rise to the so-called ‘remedy gap’ in WTO law.
After a negative ruling has been issued a WTO member for violating its WTO treaty obligation and adopted by the DSB, the breaching party is accorded a ‘reasonable period of time’ to bring its actions back in line with WTO law. Provided it does so, as China did in both the China–Raw Materials I and China–Rare Earths cases, that is the end of the story, as far as WTO litigation is concerned. The WTO dispute settlement system has accomplished its goal of bringing a WTO member's actions back into conformity with its treaty obligations.
What about sanctions for breach? Only after the ‘reasonable period of time’ has expired is the complainant entitled to seek authorization to retaliate up to a fixed amount as determined by the DSB. Article 21 of the WTO's Dispute Settlement Understanding makes clear that ‘[c]ompensation and the suspension of concessions or other obligations are temporary measures available in the event that the recommendations and rulings are not implemented within a reasonable period of time’. Provided the respondent eliminates the breach within the ‘reasonable period of time’, however, then no remedies are available to those trading partners aggrieved by the breach. No compensation is required to offset the harm, nor can penalties be imposed for any damages. This gives rise to the ‘remedy gap’.
This design feature means that WTO members possess a ‘free pass’ for temporary breach. This free pass can last for several years. It stretches from the time of enactment through the entirety of the WTO litigation process itself until the end of the ‘reasonable period of time’ following the adoption of the ruling. As Rachel Brewster has highlighted, the time required for litigating a WTO dispute has grown over time.Footnote 42 Successive Appellate Body Chairs have warned that the problem is expected to worsen as the complexity of cases and the appeals rate increases.
In prior work, I have discussed how the WTO legal system provides for a number of other design features that can be deployed by the major trading powers to ensure that the ‘free pass’ for temporary breach is not abused by other WTO members. These include the prospect for further trade liberalization through preferential trade agreements authorized under GATT Article XXIV as well as Generalized System of Preference programs for developing countries.Footnote 43 However, the efficacy of such mechanisms is likely to be limited when it comes to a major trading power such as China.
The prevalence of Chinese export restrictions, I argue, is simply a reflection of the astute strategic calculation by Chinese policymakers of how they can best take advantage of the WTO's remedy gap to advance China's industrial policy objectives. In what follows, I explain how this works in greater detail.
4.2 Taking advantage of the ‘free pass’ to bolster industrial policy through export restrictions
How exactly does the lack of retrospective remedies in WTO dispute settlement entice China to enact multiple sets of export restrictions in contravention of its WTO obligations? China's export restrictions on natural resources ought to be understood as part of a larger national strategy to move China up the global value chain and transform it into a technology and innovation powerhouse.Footnote 44
On the one hand, the extraction and processing of rare earths and other raw materials has negative environmental and health externalities. Sewage sludge pollutes nearby water sources, while toxic run-offs can lead to birth defects, cancer, and other health problems for local communities.Footnote 45 Environmental concerns, for example, led to the shutdown of the last rare earth mine operating in the United States by Molycorp, Inc. in California in 2002.Footnote 46 A government might choose to enact a Pigouvian tax to offset these externalities. WTO law does not impair the ability of a government to enact such a tax per se.
Why might China choose to enact an export duty on such minerals rather than just an overall production tax? Despite the negative externalities, the processing of rare earths and other natural resources can generate also positive externalities for downstream domestic industries. However, the creation of such externalities relies upon keeping the processed raw materials within one's borders. This is especially the case with rare earth metals, but also for other minerals as well.
Rare earths are key inputs into global high-tech supply chains. For example, lanthanum is a key input for the production of rechargeable batteries for use in electric cars and other products.Footnote 47 Another rare earth element, erbium, is a key element required for optical fibers to carry data in the form of light pulses.Footnote 48 Neodymium is vital for the production of magnets necessary for use in any electronic devices that requires a motor, from hard drives to small technology gadgets.Footnote 49 Such magnets and motors also play a critical role in defense technologies.
Nor is it simply rare earth minerals that play such a key role in modern high-tech supply chains. For example, antimony, magnesium, and tin – three of the nine raw materials for which China has imposed an export restriction in the latest case – are viewed as key inputs for a new rechargeable battery platform that may revolutionize energy storage and spawn a multitude of commercially viable cell technologies.Footnote 50 In other words, Chinese industrial policymakers have targeted key mineral inputs for high-tech and other strategic industries that they are seeking to develop.
China, because of its willingness to endure the negative externalities associated with upstream production and processing, is left in control of a vital input for downstream industries with large future commercial potential. The question confronting Chinese officials is how best to exploit this position in order to reap potentially greater longer-term positive externalities, so as to justify the cost of the near-term negative externalities that China, but not other countries, are willing to bear.
Chinese policymakers have recognized correctly that without a production tax, if they simply allowed for these natural resources to be exported overseas, then China would wind up bearing the negative health and environmental externalities, while the positive production benefits associated with the downstream use of such minerals would be reaped by foreign producers overseas. However, if exports are restricted, then several benefits emerge for China. First, downstream foreign producers reliant on these mineral inputs would be enticed to move their production to China so as to secure ready access to these inputs. This embeds China within a greater portion of the higher value-added portions of global value chains. Second, the movement of production to China results in the transfer of foreign technology. This is especially the case if the export restrictions are coupled with investment restrictions that require foreign producers to partner with a domestic Chinese firm through a joint venture. Third, the concentration of production in China increases the possibility for a positive ‘cluster effect’ which may lead China to dominate manufacturing in these new emerging growth industries similar to its manufacturing dominance of existing consumer electronic industries.Footnote 51
Even if exports were not restricted through quotas but simply taxed through export duties, this too would raises the cost of keeping production overseas and increases incentives to shift production to China. As the WTO itself identified in China's 2010 Trade Policy Review, ‘export restraints tend to reduce export volumes of the targeted products and divert supplies to the domestic market, leading to a downward pressure on the domestic prices of these products’.Footnote 52 This, in turn, creates a price gap between domestic Chinese prices and foreign prices for the input which ‘constitutes implicit assistance to domestic downstream processors of the targeted products and thus provides them with a competitive advantage’, possibly ‘shift[ing] the terms of trade in China's favour’.Footnote 53
Therefore, export restrictions on natural resources serve as part of a larger strategy to ensure the development of promising new technology industries in China. Supply limitations and cheaper prices within China serve to entice foreign technology leaders to move their production to China.Footnote 54 This leads to an inflow of investment and technology necessary to move China up the global value chain. By requiring that foreign firms partner with Chinese firms through joint ventures, such policies, in turn, serve to raise Chinese domestic capabilities. A Congressional research report, citing Japanese media, reported that some Chinese officials explicitly laid out expectations to foreign businesses that they should move production to China and share technology in exchange for access to a stable supply of rare earths.Footnote 55
As part of its Twelfth and Thirteenth Five-Year Plans, China has identified a series of strategic emerging industries that are viewed as important for China's transformation toward a value-added, innovation-driven economy. Chinese policymakers, in turn, have mapped out which raw materials are vital for the development of such industries. Not surprisingly then, they have sought to restrict the exports of such raw materials in order to spur the development of such industries domestically.
But what of the fact that such export restrictions are illegal under WTO law? The ‘free pass’ generated by the system's lack of retrospective remedies dampens the impact of the legal rules. Even if its export restrictions violate WTO law, China will not have to bear any price so long as it is willing to remove the restrictions once the litigation has been completed. The actual course of litigation meanwhile requires at least three years, if not more, to complete.
Therefore, even if producers are aware that the Chinese export restrictions are illegal under WTO law and will eventually be dismantled by the Chinese government, foreign producers reliant on China's near-monopoly of upstream inputs nevertheless will be forced to respond. They cannot simply ignore the temporary effect of Chinese export restrictions. To do so would risk jeopardizing their supply chain inputs and harming their near-term economic interests.
After China tightened rare earth exports, several Japanese manufacturers responded by moving their production to China, exactly as Chinese policymakers hoped they would.Footnote 56 Moreover, corporate investments in many high-tech industries with large-scale production facilities are ‘sticky’. The company will have already sunk high fixed-costs in shifting production and technology to China. Even after the export restrictions are removed, it may choose not to shift production back to its home country.
China's industrial policymakers, like those elsewhere, are not necessarily omniscient. Attempts to use export restrictions and other policy instruments to nurture the development of emerging strategic industries can result in expensive mistakes. For example, following the restrictions on rare earth exports, a production glut developed, dampening prices and triggering steep losses for Chinese firms.Footnote 57 Nevertheless, because of the entwined nature of the Chinese Party-state and its economic structure, these are mistakes that China, with approximately $3 trillion in reserves, can afford.
More importantly, despite occasional mistakes, China's industrial policy also has had several demonstrated successes. China has already emerged as an industrial powerhouse in many renewable energy sectors.Footnote 58 It is also continuing to make strides to build its own high-tech industries.Footnote 59 China's plans to wean itself from an overdependence on foreign technology and obtain a larger share of the value-added portion of global value chains are working.
As I have previously warned, China's export restrictions cannot be viewed simply through the lens of WTO law, but must be understood in the context of China's industrial policy and its overall political economy.Footnote 60 China may well be willing to lose a series of WTO cases and even suffer a reputational hit for repeated breaches of its WTO commitments on export restrictions, if it can achieve its more important economic policy goals of building up strategic emerging technology industries. This is especially the case if WTO law is ill-equipped to sanction China for this behavior in light of the system's ‘free pass’.
Hence, the answer for why China engages in repeated breaches over a clear WTO legal obligation that has already been litigated is surprisingly simple. The rules of the system make it efficient for China to do so. As China limits the export restrictions to a temporary duration, China does not suffer any direct economic losses for its illegal export policies other than a reputational cost. The export-restrictive industrial policies may not always work. But so long as they do pay off with some periodic frequency, it makes rational sense for China to continue to employ such restrictions to guide its industrial policies, even when this practice has been found to be illegal in the past.
5. Is there a way out?
How might we hope to fix this problem? In theory, one might entertain any number of legal reforms that could serve to close the WTO's remedy gap. Consider three possibilities. First, the system could simply allow for the introduction of retrospective remedies under certain circumstances.Footnote 61 Second, WTO members might allow Panels to issue temporary injunctive relief, so as to shorten the length of the time period during which the ‘free pass’ is available.Footnote 62 Third, the system could go so far as to allow the DSB to sanction a WTO member for repeated temporary breach of a single provision if its behavior rises to the level of ‘bad faith’ compliance with a WTO obligation.Footnote 63
Unfortunately, the prospects for any reform of the sort identified above are dim. Several key obstacles stand in the way.
First, some of the reforms suggested would require a direct amendment of the WTO Dispute Settlement Understanding. Again, theoretically speaking, this is possible, as the DSU was envisioned to be a ‘living’ treaty whose rules might be amended over time. When launching the Doha Round in 2001, trade negotiators included an explicit mandate to negotiate ‘improvements and clarifications’ of the DSU.Footnote 64 However, in recent years, the Doha Round has run aground, with the future of the multilateral round and its agenda still left up in the air.Footnote 65 With multilateral negotiations deadlocked, the prospects for any further reforms of the DSU in the near- to medium-term are unlikely.
Second, even if WTO multilateral negotiations were to pick up, it is highly unlikely that the major trading powers would agree to any reforms of this sort. Although this article has focused on China's deftness in taking advantage of the WTO's remedy gap to trigger repeat cases over largely identical illegal behavior, China is far from the only WTO member to engage in this sort of practice. Arguably, China learned its strategy by observing the behavior of the United States in anti-dumping cases brought against the US for zeroing and other problematic practices. In those instances, after losing the litigation, the United States complied by simply removing the problematic practice for the particular good(s) challenged in the litigation. It did not necessarily eliminate the duties for the entire range of products subject to the illegal practice. Instead, the United States forced its trading partners to bring multiple cases against it.Footnote 66 China is behaving similarly, but with practices concerning export restrictions rather than anti-dumping duties. Any attempt to curb such behavior would implicate not just China, but also others, such as the US, that have utilized similar tactics. Unless these major powers could be persuaded to dispense with this practice, even if the negotiating function of the WTO were to pick up after its Eleventh Ministerial Meeting in December 2017, the prospects for further DSU reform to tackle this problem are slim.
Finally, in the absence of any further progress in multilateral negotiations, it is entirely unrealistic to expect the WTO judiciary to act on its own accord to address this problem. Again, the United States has been most adamant in speaking out against judicial activism by the WTO, going so far as to block the reappointment of Professor Seung Wha Chang in 2016.Footnote 67 Instead, the Appellate Body would continue to operate within the confines of its limited remedial powers. Therefore, the question is one left up to the WTO membership to resolve through negotiations.
Consequently, the world may well have to learn to live with the prospect that China will continue enacting export restrictions for natural resources that serve as vital inputs for key strategic industries downstream. As long as other WTO members continue to implement WTO decisions in a narrow manner, as applying only to the products at issue in the case, China will do the same. For China, the economic gains far outweigh any limited reputational harm – thanks to the lack of retrospective remedies in WTO dispute settlement.
6. Conclusion
In instances where short-term temporary breach can generate long-term benefits that persist long after the breach is corrected, WTO members may well be tempted to engage in the temporary breach and exploit the ‘free pass’ created by the WTO's remedy gap. The threat of litigation and the force of past rulings against similar, if not identical, actions will have only a limited deterrence effect. A WTO member engages in the breach, expecting that it will be challenged and lose a future WTO case, but knowing also that WTO dispute settlement cannot dislodge it of the economic benefits that it will reap from the temporary breach.
Such scenarios mark the limitations of the WTO legal system. China's repeated enactment of export restrictions for raw materials, minerals, and other natural resources highlights this problem. Even in the face of past WTO judgments ruling against such similar export restrictions, China is likely to continue to enact them against other products so long as they have a positive impact on downstream Chinese domestic producers and can serve to facilitate investment and technology transfer to upgrade the development of strategic emerging industries.
Can this problem be fixed through changes in the law? Theoretically, the answer is yes. But the reality is that given the contemporary political constraints faced by advanced economies in the wake of a rising populist backlash against trade agreements, it is highly unlikely that any legal reforms will be enacted to fix this problem. To do so would require that governments in advanced economies be willing to curb their own practice of taking advantage of the sovereign flexibility to implement WTO rulings narrowly, as applying to only the products challenged in the litigation dispute. This, in turn, would harm the domestic industries that Western governments are seeking to protect through trade remedies. Moreover, any efforts to advance negotiations to reform the DSU will likely require that advanced economies enact compromises on items still remaining on the Doha Development Agenda, including domestic support for agriculture. This too will generate a backlash from powerful domestic constituencies. Against this political backdrop, the law is likely to persist in its present state.
What this means is that when it comes to the trade tensions arising out of ‘China, Inc.’, WTO litigation cannot be expected to solve all the problems. To expect it to do so is foolish. As this article has highlighted, the legal system provides for only an incomplete set of remedies that fall far short of those provided in other systems of dispute settlement. This creates ample incentives and opportunities for powerful countries, such as China and the United States, to engage in breaches that require its trading partners to bring multiple sets of repeat cases, implicating similar actions but involving different sets of products.
If WTO law has its limits, then old-fashioned, direct diplomatic pressure will need to be brought to bear through bilateral negotiations to address export restrictions and other China-specific trade issues. Unfortunately, the reality is that as China undergoes its historical economic transformation, tensions will continue to flare between China and her trading partners over various forms of Chinese industrial policies. Recognizing the inherent limitations of WTO law will be vital if all sides are to manage these tensions effectively.
