Briefing Paper : Most Favored Nation: What It Means for the Chinese

The News:

President Bush has recommended extension of China’s most-favored-nation (MFN) low-tariff trade status with the United States. But Congress could impose a cutoff or insist on conditional renewal.

Bush’s announcement last week came just days before today’s second anniversary of the Chinese government’s violent crackdown on pro-democracy demonstrators in Beijing, and it is certain to face opposition. Five bills have already been introduced in Congress that would make extension conditional on China’s showing greater respect for human rights.

The Background:

Almost all U.S. trading partners enjoy MFN status, which simply means a country’s products, when exported to America, are entitled to U.S. tariffs as low as any other nation’s.

China was first awarded MFN in 1979, during the Jimmy Carter Administration. Two-way trade between the two countries more than doubled in a year, to $4.9 billion in 1980 from $2.4 billion the year before.

By last year, China enjoyed a $10.4-billion annual surplus in its trade with the United States, with exports totaling $15.2 billion and imports of U.S. goods worth $4.8 billion. U.S. officials have predicted that China’s surplus will be even larger this year. Chinese officials have said that over the long term, they seek balanced trade. But meanwhile, this surplus places China in a stronger position to service foreign loans and to finance future imports.

Loss of MFN would be a serious blow, and could mean that China would face the virtual exclusion of its goods from the American market. The top 25 categories of U.S. imports from China are currently taxed at an average rate of 8.35%. If the same goods were imported under non-MFN status, the average tariff would jump to 47.48%. That would make the prices of many Chinese products uncompetitive. Loss of U.S. markets also would ultimately cut China’s ability to import goods such as factory equipment and other items that contribute to the country’s modernization drive.

The southern coastal provinces are especially dependent on exports, with the United States a key market. In Guangdong province, which has led the way in China’s market-oriented economic reforms, goods made for export to the United States accounted for at least 17.5% of total output in 1990, according to recent congressional testimony by John Kamm, former president of the American Chamber of Commerce in Hong Kong. Kamm predicted that if MFN is canceled, nearly half the total damage to China will be inflicted in Guangdong, which is the most liberal and outward-looking part of the country.

Hong Kong, which is due to revert to Chinese sovereignty in 1997, would also suffer economic losses as an indirect result of reduced Sino-U.S. trade.

The Political Stake:

Cancellation of MFN status would be widely understood in China as a slap by the United States at the hard-line leaders, including Premier Li Peng and senior leader Deng Xiaoping, responsible for the bloody 1989 crackdown on the Tian An Men Square pro-democracy demonstrations. It is not clear, however, if this would weaken their power base.

Some observers say that damaged trade ties with the United States would actually strengthen the position of hard-liners by enabling them to blame future economic difficulties on this U.S. action.

Withdrawal of MFN would abrogate the 1980 U.S.-China Trade Agreement, a key element in the framework of Sino-U.S. relations, and lead to greater tension between the two countries for as long as current Chinese leaders remain in power.

Foreigners living in Beijing rarely encounter any Chinese who favor an end to MFN status. Even people who are privately critical of the government usually view closer trade ties with the United States as a factor for progress in China.

In the United States, criticism of China for its continuing suppression of civil liberties has been fueled further by evidence that goods made in Chinese prisons are sometimes exported, that China fails to protect copyrighted computer software, and that Beijing is exporting missiles and other arms to various Third World nations. The U.S. trade deficit with China has added to congressional dissatisfaction. And with the Soviet Union no longer perceived as such a dangerous threat, many members of Congress no longer see any great strategic need to preserve good relations with China.

The Goods:

Items in the top 25 U.S. customs categories of goods exported by China to the United States last year were worth $5.2 billion, or about one-third of total Chinese exports to the United States. Tariffs for the goods on this list totaled $437 million. If they had been imported from a country without MFN status, tariff payments would have been $2.5 billion.

Six categories of clothing and textiles on the list accounted for $1.19 billion worth of Chinese sales, with tariffs ranging from 6% to 34.2%. If MFN is withdrawn, tariffs on these items would range from 50% to 90%.

Five categories of toys on the list accounted for $1.07 billion in sales, with tariffs ranging from 6.8% to 12%. Without MFN, tariffs would be 70%.

Three categories of footwear were worth $943 million in sales, with tariffs at 6% to 10%. Without MFN, tariffs would be 20% to 35%.

The Outlook:

Few observers expect China’s MFN status to be canceled this year. But many believe that Congress may attach conditions to MFN renewal. One likely approach for a conditional renewal would be to set a date at which China would lose its trade status unless Beijing makes improvements in its human rights record and limits its exports of missiles and other advanced weapons technology. Another possibility is to simply require the President, as a condition of renewal next year, to make a report to Congress about whether there has been progress in these areas.

Supporters of such action believe it could help promote beneficial changes in Beijing’s policies. Critics dispute this, arguing that China’s leaders are prepared to lose MFN rather than yield to foreign pressure in ways that threaten their own grasp on power.

Meanwhile, with European nations and Japan having already ended economic and political sanctions imposed two years ago, a cutoff of MFN status by the United States would prompt Beijing to exert greater efforts to expand economic ties with these nations.

Buying China in 1990 Major Imports to the United States from China and tariffs with and without most favored nation trading status.

In Millions of U. S. Dollars

Item Actual Non-MFN value duties Equivalent duties Clothing and textiles: 1190 162 804 toys 1070 84 753 footwear 943 70 276 oil (petroleum) 635 3 7 handbags 246 38 100 telephone sets 232 19.7 81 plastic articles 154 8 123 electric fans 143 6.7 50 radio-tape players 140 5 49 hair dryers 138 5 48 game machines 127 5 44 artificial flowers etc. 120 11 86 travel and sports goods 102 20 66

Sources: U.S. Department of Commerce, U.S.-China business council