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China Economic Journal

ISSN: 1753-8963 (Print) 1753-8971 (Online) Journal homepage: https://www.tandfonline.com/loi/rcej20

The China-OECD trade divide: building bridges

Daniel Trefler

To cite this article: Daniel Trefler (2019): The China-OECD trade divide: building bridges, ChinaEconomic Journal, DOI: 10.1080/17538963.2019.1603644

To link to this article: https://doi.org/10.1080/17538963.2019.1603644

Published online: 27 Apr 2019.

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The China-OECD trade divide: building bridgesDaniel Treflera,b,c

aRotman School of Management and Department of Economics, University of Toronto; bCanadian Institutefor Advanced Research (CIFAR); cNational Bureau of Economic Research (NBER)

ABSTRACTToday’s largest trade frictions stem from differences between Chinaand the OECD regarding the appropriate role of government. Thereare two types of differences. The first are legitimate attitudinaldifferences towards industrial policy (the use of subsidies), competi-tion policy (the use of forced industry consolidation), and innova-tion policy (weak protections of intellectual property). China and theOECD will have to reach an accommodation on these differences ifthe end game is a rules-based trading system. Accommodation ispossible, but unfortunately, both the US and China are adoptingbullying tactics that diminish the effectiveness of the WTO andthreaten the current rules-based system. The second class of differ-ences is political and reflects China’s intentional lack of policytransparency and its generosity towards favoured firms. These dif-ferences will never be WTO compliant and China must either reformor give up its access to OECD markets.

JEL CLASSIFICATIONF13

Over the last four decades, China has experienced a massive expansion of economiccapabilities that has lifted a billion citizens out of poverty. This is partly due togovernance changes initiated by the Communist Party and partly due to the willingnessof OECD countries to transfer technology and open their borders to Chinese manu-facturers. As fellow travellers on Planet Earth, all of us, whether named Julie or Zhu Li,should celebrate an episode that has ended the crushing poverty of so many.

Yet in recent years pundits and politicians in both China and the OECD have tendedto neglect this accomplishment in favour of a narrative that emphasizes a zero-sumglobal redistribution of economic prosperity. This is partly understandable. From anOECD perspective, there has been a small group of workers who have been big losersfrom the rise of China and this fact has become effectively politicised as the fault ofChina, rather than the fault of holes in domestic social safety nets. From a Chineseperspective, the OECD demands for market-based reforms have been treated by theCommunist Party as an attempt to suppress Chinese growth rather than as a responseto legitimate concerns about OECD jobs and growth.

China will continue to grow. Any attempt to limit China’s growth or erect a wallseparating China from the OECD is doomed to failure. Instead, leaders and theselectorate in both regions must get better at understanding the benefits of cooperationand the art of accommodation. In this paper, I outline what accommodation might look

CONTACT Daniel Trefler Dtrefler@Rotman.Utoronto.Ca

CHINA ECONOMIC JOURNALhttps://doi.org/10.1080/17538963.2019.1603644

© 2019 Informa UK Limited, trading as Taylor & Francis Group

like and how to get there. The paper is divided into three sections. In the first, I outlinethe structural reasons for the current trade tensions. In the second I list the mainU.S. and Chinese demands in their current negotiations. In the third, I offer stepstowards improving cooperation and accommodation.

This paper is ultimately a search for constructive solutions to current trade frictionsbetween China and the OECD. Much of the current debate has been carried out bypoliticians and demagogues who carry strong opinions about whether the political-social-economic system of China is better or worse than its ‘Western’ counterpart. I ama big proponent of the values of a liberal democracy, by which I mean a system ofgovernment and a set of societal mores that serve the needs of the majority whileprotecting the rights of minorities. However, in this article, I limit myself to discussingthe key economic tensions that are impeding a more constructive resolution of currenteconomic conflicts between China and the OECD. I do not touch on human rights orother aspects of a progressive trade agenda. Instead, all of my arguments are premisedon the assumption that nations in these regions have sovereign rights over economicpolicy – they should not be dictated to by foreigners – and these rights should only becircumscribed when they lead to asymmetric economic advantage in another’s market.

1. Structural sources of trade tensions between China and the OECD

1.1. Macroeconomic rebalancing and structural adjustment

Figure 1 displays U.S. and Chinese current account balances as a percentage of GDP.The dashed line is the U.S. bilateral trade deficit with China and shows that for the last

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2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

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Figure 1. Current account surplus (+) or deficit (-) as a share of GDP.Source: Author’s calculations based on data from the World Bank and the U.S. Bureau of Economic Analysis.

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decade the United States has been running a trade deficit with China that amounts to2% of U.S. GDP. The solid red line shows that China has been running large tradesurpluses (this is China’s total surplus, not its bilateral surplus). China ran especiallylarge surpluses in the mid-2000s when China was becoming the world’s manufacturingworkshop. At that time, U.S. manufacturing employment took a large hit that wasregionally concentrated in the U.S. ‘Rust Bucket’ and that ultimately contributed to theelection of President Trump.

During the Canada-Mexico-US renegotiation of NAFTA, several aspects of PresidentTrump’s economic thinking came into focus. Trump is guided by four claims which hefirmly believes. (1) Bilateral trade surpluses are a key indicator of economic success. (2)Unilateral tariffs are the best instrument for negotiating trade deals that are better forthe United States. (3) International organizations such as the WTO have not worked inthe interests of the United States. (4) Transfer of U.S. technology to China has under-mined U.S. competitiveness. In thinking about solutions to China-U.S. trade conflicts itis important to keep in mind these parameters of President Trump’s thinking.1

President Trump interprets the data in Figure 1 as evidence of unfair Chinese tradepractices. His interpretation is not born out either by the data or by economic theory.First, while the United States has been running a 2% bilateral deficit with China, it hasbeen running an additional 1% deficit with the rest of the world. This suggests thatstructural factors other than unfair Chinese trade practices are at play. Theory providesa smoking gun, namely, the vast U.S. federal budget deficits that appeared in most yearssince the 2001 Bush tax cuts and that have been augmented by the Trump tax cuts.Current account deficits are the result of a gap between savings and investment, andU.S. federal budget deficits have increased this gap by reducing public savings. Furtherevidence that U.S. policies have contributed to its trade deficit include the facts that othercountries such as Germany, Japan and Korea run large trade surpluses with China.

There is another aspect of Figure 1 which illustrates the fallacy of President Trump’slogic connecting Chinese trade surpluses to unfair Chinese trade practices. There is nosense in which China’s trade practices have become dramatically more or less fair since2015, yet China’s trade surplus has been shrinking rapidly since 2015 and is expected tobecome a trade deficit in 2019. While President Trump may want to take credit for this, hewould have to explain why the trend began in 2016 even though he became President onlyin 2017 and imposed his tariffs only in 2018. There is a simpler explanation for the declinein China’s trade surplus: China has been steadily transforming its economy away frommanufacturing and exporting and towards domestic consumption and imports. That isChina has been reducing its savings relative to its investments.

There are two takeaways from this discussion. First, Trump is fixated on trade imbal-ances and tariffs. Second, the trade data of the last decade does not provide any evidenceeither of unfair Chinese trade practices or of the effectiveness of Trump’s policies.

1.2. Market-based reforms

China insists that it has a working alternative to a market economy in which the state,and the Chinese Communist Party (CCP) play a central role in the allocation ofresources. There is a long-standing debate about how effective this model is, but whatis important here is that China’s leadership is showing no signs of moving towards

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a more market-based approach. Thus, we cannot expect China and the OECD toconverge in their thinking about the role of the state in the economy. As a result, thekey question is not about how to remake China in the image of the OECD, but ratherabout how to manage the different views of appropriate state involvement.

At an operational level, the most challenging differences relate to two features ofState-Owned Enterprises (SOEs), namely, subsidies and competition policy. We turn firstto subsidies. As has become increasingly prevalent and well-documented, Chinesegovernment policy provides SOEs with access to low-cost capital. This by itself is notsurprising and indeed all OECD governments subsidize their domestic firms. What isdifferent is the size of the subsidies and the responses to those subsidies.

Looking at the largest OECD subsidies, among the standouts are the approximately$10 billion USD received by both Boeing and Airbus. While this is a large number, it isdwarfed by the subsidies given out to Chinese firms. For example, a minor AI playerlike the city of Tianjin has pledged $16 billion USD to subsidize its AI firms.

OECD subsidies are heavily constrained. The transparency of government financesmeans that politicians can expect a negative reaction to ‘corporate welfare’ from thevoting public and a subsidized firm can expect legal challenges from its competitors.Chinese governments and the firms they subsidize do not face these constraints. Indeed,the absence of financial transparency both by Chinese governments and Chinese firmsmakes it difficult to put hard numbers on the extent of Chinese industrial subsidies. Thefact that Chinese income distribution has rapidly moved from one of the most equal toone of the most unequal in the world suggests that ‘corporate welfare’ has been huge.

Second, China aids its SOEs using policies which are illegal in most OECD countriesbecause they violate national competition and anti-trust laws. Specifically, Chinaencourages domestic competitors either to merge into a single large firm in order totake advantage of economies of scale or to cooperate in order to avoid competition. Forexample, in 2013 the Chinese government encouraged the merger of the top two traingiants (CSR and CNR). The new firm (CRRC) controls almost 100% of the Chinesemarket for railway locomotives, bullet trains, passenger trains and metro vehicles (Yang2015). Such a merger would be per se illegal in the United States and would meet evenstiffer resistance in Europe. A proposed merger between European train makersSeimens and Alstom has been criticized both by the European Commission and bycompetitors (Spero 2019).2

China’s subsidies combined with lax competition policies provide its firms witha competitive advantage. For example, these subsidies created huge excess capacityand the government sometimes responds by forcing the largest firms to merge, e.g., rail,steel, solar panels and shipbuilding. Further, the remaining excess capacity is then usedto produce goods for export. In a careful article on the Chinese shipbuilding industry,which between 2002 and 2010 increased its world market share from 20% to 60%,Kalouptsidi (2018) estimates a subsidy of as much as $4.5 billion USD. Apparentlydissatisfied with this success, the Chinese government is now forcing its two largestshipbuilders to consolidate into the world’s largest shipbuilding company.

There is a fundamental asymmetry between China and the OECD in the appropriaterole for government. In the OECD, industrial subsidies are limited by public outrageand industrial consolidation is typically illegal. In contrast, subsidization and consoli-dation of SOEs is a common Chinese government policy. This leads to a fundamental

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asymmetry: Chinese industrial policy and competition policy convey a cost advantageto its firms which is unavailable to OECD firms.

If China did not export the products of these subsidized conglomerates, the OECDwould be hard-pressed to argue its right to impose OECD domestic policy choices onChina. The fact that China does export these products, and that these exports have beenmassively disruptive to OECD employment, means that some accommodation will beneeded. There are three possible responses to the fundamental asymmetry. (1) TheOECD will impose quotas on China. This ‘managed trade’ scenario is a threat to theworld trading system. Further, it is likely to backfire on the OECD just as similarU.S. policies against Japan in the 1980s backfired. (2) OECD countries will unilaterallydefine what constitutes an SOE and will impose sanctions on them. Chapter 22 of theUSMCA provides a lengthy set of criteria for what constitutes an SOE and providesremedies against them. (3) Both China and the OECD will find rules-based compro-mises within the umbrella of the WTO. Clearly, the third option is the best one.

1.3. Improved market access

Countries and more specifically special interests within countries are forever complain-ing that they are wrongfully denied access to foreign markets. It is telling that some ofChina’s most successful firms have limited presence in the United States and likewise,some of America’s most successful companies have no presence in China. Table 1 liststhe 12 largest companies worldwide. What is striking is how many of these companieshave a presence either in China or the United States, but not in both. In asking why thismight be one cannot help but notice the role of new technologies associated withartificial intelligence (AI), data analytics, and cloud computing. Alphabet (Google),Facebook and Amazon have no visible presence in China. Cloud computing giantsMicrosoft and Amazon have no significant presence (They have a discrete presence inback-office applications where there is no comparable Chinese technology. By law, theymust be partnered with a Chinese firm and must not advertise their brand name.)Financial giants Berkshire Hathaway, JPMorgan Chase, and Wells Fargo also havelimited presence due to Chinese restrictions on foreign entry into banking. Turning

Table 1. World’s largest public companies and AI exposure.Company Market Value AI Exposure

1. Apple $754 High2. Alphabet $579 High3. Microsoft $509 High4. Amazon $423 High5. Berkshire Hathaway $411 Rising6. Facebook $411 High7. ExxonMobil $340 Low8. Johnson & Johnson $338 Rising9. JPMorgan Chase $314 Rising10. Wells Fargo $279 Rising11. Tencent Holdings $272 High12. Alibaba $269 High

Notes: Market capitalization of the largest public companies as of 31 March 2017, from PWC (2017).‘AI Exposure’ is a subjective assessment of the role of AI in company performance (Goldfarb andTrefler forthcominga).

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to the incredibly successful and innovative Chinese entries, neither Tencent (WeChat)nor Alibaba (Taobao and Alipay) have penetrated US markets.

The difficult question raised by Table 1 is whether the failure of these large firms topenetrate foreign markets reflects market forces or is caused by WTO-noncompliantrestrictions on access to foreign markets. In the case of financial firms, it is clearlyChinese restrictions.3 More generally, we do not have a clear answer to this question, inpart because the access issues such as privacy and cybersecurity are complex (I return tothese below) and in part because the economic and technological issues are so new thatthey have not been effectively covered by the WTO. Nevertheless, there is good reasonto believe that WTO-noncompliant restrictions are a large part of the regional balk-anization of trade. To understand this, one must understand how both the UnitedStates and China are ignoring their commitments to the WTO and, more importantly,actively dismantling the WTO architecture for dispute resolution.

Two pillars of the Trump Administration’s approach to trade are unilateralism andthe use of tariffs. Both are violations of U.S. WTO obligations. The TrumpAdministration grievances against its trading partners – China, Canada, Mexico andthe EU – should have been handled by existing dispute resolution mechanisms (DRMs)provided by the WTO and NAFTA. Instead, the Trump Administration has attackedthese DRMs as being biased against U.S. interests. This is not factually correct: UnderNAFTA the United States has won all 11 investor-state disputes brought against it whileCanada has lost half of the 17 cases brought against it. Yet President Trump is soconvinced that the United States has gotten a raw deal on NAFTA and the WTO that itactively worked to dismantle both. First, NAFTA was renegotiated under the threat thatthe United States would withdraw from it. Second, the WTO’s appellate court fordispute resolution is under attack by the United States. Specifically, appellate courtjudges serve for limited terms and the United States is blocking new appointments sothat there will soon be too few judges to handle all of the disputes before the court.

The second pillar of President Trump’s approach is the unilateral use of tariffs toextract concessions from its trading partners. A key feature of the WTO and NAFTA isthat its signatories place ‘bindings’ or ceilings on their tariffs. The Trump administra-tion is ignoring these bindings. Further, the WTO and NAFTA have rules for when thebindings may be ignored and countervailing duties imposed. The TrumpAdministration has repeatedly side-stepped these rules and chosen instead to imposetariffs on national security grounds (‘section 232’) as in the case of steel and aluminium,on safeguards grounds (‘section 201’) as in the case of solar panels and washingmachines, and on the recommendation of the USTR (‘section 301’) as in the case oftariffs on $200 billion worth of Chinese exports to the United States.

President Trump’s sidestepping of multilateral approaches for dispute resolution andhis unilateral imposition of new tariffs represents a dangerous precedent and threatensto destroy 70 years of international institution building.

The integration of China into the international system also poses challenges andthreats. These may be divided into three categories: (1) unanticipated threats, (2) fall-out from ‘crony capitalism’, and (3) international spillovers of China’s industrialsubsidies and competition policy.

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1.1.1. Unanticipated threatsChina’s accession document to the WTO included a transition period during whichChina would move towards a market economy. This was intended to Deal with a simpleproblem. When an OECD country investigates a complaint that its imports from Chinahave been subsidized by the government, the OECD investigators use subsidy formulasthat rely on market prices. In the absence of market prices, these formulas must beamended. The transition period allowed OECD investigators to make these amend-ments. China argues that its market prices should now be used. Most though not allOECD countries disagree. For example, the U.S. Commerce Department concludes thatChina is still a non-market economy because ‘the state’s role in the economy and itsrelationship with markets and the private sector results in fundamental distortions inthe Chinese economy.’ (Wils-Owens 2017). This U.S. criticism must be treated withcaution both because Commerce determinations are notoriously suspect in the inter-national community and because the criticism does not offer guidance on what Chinamight do to meet U.S. objections.

Another unanticipated threat is the dramatic rise of the digital economy. While theWTO, USMCA, and CPTPP cover some aspects of the digital economy, the treatment isfar from comprehensive. Again, we return to this point below.

1.1.2. Crony capitalismWu (2016) argues that language such as market vs. non-market systems is not usefuland instead refers to the Chinese system as ‘China Inc’ because it is so mixed. QuotingWu (2016, p. 265),

[I]n an economy with a complicated web of relationships between the state, the Party, andfirms with links to one or both actors, how do we determine what entities count as anextension of the state? What if the links run through only the Communist Party, but notthe state? What if the links are only informal, and no direct control mechanisms exist?Should WTO law treat Chinese firms of this type no differently than a Western companywhose executives or board members maintain informal relationships with members of thegoverning political party? Or does the nature of such relationships in China somehowdiffer such that the law should differentiate between Chinese and Western firms, even ifthey look relatively similar on paper? If so, what is the basis for doing so?

What makes these issues even more complex is that they are layered on top of theCommunist Party’s concerns about massive Chinese corruption. OECD firms enteringChina have a litany of complaints. They cannot enter without a Chinese partner whooffers ‘protection’, they cannot navigate the often opaque regulations, they find thatwhat matters are connections rather than rules and laws, and they find that the courtsystem is not independent of political pressure (Pei 2016; Bai, Hsieh, and Song 2015).This is amplified by the growing financial control exerted by SOEs. A small number oflarge SOEs are increasingly at the hub of large conglomerates that use cross-ownershipto tie together not only smaller SOEs but also joint ventures and private firms. Theseconglomerates control the allocation of a large fraction of all Chinese registered capital,somewhere between one-third and one-half of all registered capital (Bai et al. 2018).This competitive environment (or lack thereof) makes it hard for foreign firms topenetrate the Chinese market.

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1.1.3. International spillovers of China’s industrial subsidies and competition policyAs noted earlier, China has used consolidation in industries such as Steel, Shipbuilding,and Rail to achieve scale cost advantages which it then leverages to enter foreign markets.Even absent subsidies to these industries, such consolidation is illegal in most OECDcountries. Competition policy thus becomes a source of comparative advantage.

Crony capitalism and competition policy interact. Consider the case of Huawei. Therecan be no doubt that Huawei produces a superior and low-cost 5G system, yet it is eitherexcluded or likely to be excluded from a number of OECD countries. Here I focus on onelimited aspect of the case. The United States requested Canada to extradite MengWanzhou, chief financial officer of Huawei. Extradition is a legal process controlled byCanada’s independent court system: the Government has no power to influence thedecision. The Canadian courts are currently conducting a very lengthy review of themerits of the U.S. extradition case. It is lengthy because serious doubts have been raisedabout the U.S. arguments. In the meantime, Meng Wanzhou is under house arrest in hermulti-million dollar Vancouver mansion. She is being treated extremely well. If Huaweiwas simply a Chinese company with no crony connections to the Party, there would be noChinese response. After all, China also requests Canada to extradite Chinese criminalsback to China and so must be sympathetic to Canada’s use of extradition. Instead, Chinahas jailed two Canadians and banned Canada’s largest export to China (canola). That is,the Chinese government has come to the aid of its corporation, which illustrates its cronycapitalism. More importantly, in using a WTO-illegal ban on Canada’s largest exportChina is undermining the WTO.

This example highlights two points. First, Chinese firms more so than firms in theOECD, are protected by and beholden to the state and the Communist Party. Second,the current Chinese leadership is behaving as badly as the Trump Administration inacting unilaterally and in violation of its WTO commitments. Whether China will actagain this way in the future is a matter of speculation; however, it does not bode well forthe future of the international trade system if its two largest members flaunt its rules atthe highest levels.

1.4. Reforms to the intellectual property regime (IPR)

The most difficult issue facing the China-OECD relationship surrounds intellectualproperty (IP). China has relative weak protection of IP, including IP held by Chinesenationals. In contrast, the United States has overly strong protection of IP (Boldrineand Levine 2013). Neither regime is likely optimal for national or global welfare. Chinaargues that it needs weak IP protection in order to develop. The OECD argues thatweak Chinese protection of OECD IP diminishes the incentives for the OECD to doR&D, which in turn reduces world welfare. This position is supported by recent workby Lim, Trefler, and Miaojie (2019) and Autor et al. (2017).

There have been a number of OECD complaints about Chinese behaviour. These include(1) forced technology transfer through joint ventures, (2) an IP court system which isunderdeveloped and overly controlled by the government (cronyism) so that OECD IP isnot adequately protected from theft, and (3) state-sponsored industrial espionage.

Two aspects make this situation unstable. First, Chinese companies have used IP stolenfrom OECD firms to penetrate OECD markets. Consider the two leading switch makers

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in North America in the 1990s and 2000s, Cisco and Nortel. During the 1990s and 2000s,Huawei was convicted of stealing Cisco technology which it then sold into the UnitedStates. Even worse, unidentified actors in China so thoroughly penetrated Nortel’sinternal network that the Chinese knew everything that was happening in the company,including technical breakthroughs and details of C-Suite meetings. This likely contributedto the demise of Canada’s largest technology company. Huawei’s rise is thus in part dueto IP theft that crushed some of its OECD competitors.4

The current situation creates a fundamental asymmetry. An OECD company oper-ating in China has limited protection of its IP whereas a Chinese company operating inthe OECD has the full protection of the court system. Resolving this issue must be oneof the highest priorities.

1.5. Artificial intelligence

AI is unique in two dimensions. First, it will soon represent a very large portion of alleconomic activity. Second, the appropriate regulatory environment remains unclear andthe little that is clear is not dealt with by any trade agreements to which China isa signatory. Regulating AI is a difficult task, especially so when seeking internationalharmonization. AI and trade issues are discussed in two papers by Goldfarb and Trefler(forthcoming a, forthcoming b) and briefly reviewed here. Six issues arise:

(1) Privacy(2) Data localization(3) Property rights over data(4) Privileged access to government data(5) Regulation of AI, including standards setting and transparency.(6) Protection of source code.

These issues are not easy to harmonize. Chinese consumers are less sensitive to privacyconcerns than are OECD consumers, which means that OECD firms are handcuffed bytheir privacy laws. This is especially true in Europe where the GDPR plays such a largerole. Data localization – the requirement that all personal data be kept within the countrywhere the persons reside – puts limits on cloud computing giants and limits the ability tocustomize predictive tools to local circumstances. Privileged access to government data,such as the vast data being compiled as part of China’s Social Credit System, can create animportant source of comparative advantage for firms with the privileged access.Regulation of AI is complicated both by the inherent intransparency of neural nets andby the murky area of how to assign fault when AI systems fail, e.g., when an autonomousvehicle hits a pedestrian. Protection of source code deals with whether governmentsshould be allowed to examine source code in order to ensure that the code does what itclaims to do. Government oversight is important for protecting the public againstmalicious intent, but may also contribute to state-sponsored industrial espionage.

We are a long way from understanding domestic regulation of AI and even furtherfrom thinking about international harmonization. Currently, differences in regulatoryenvironments in China, the United States and Europe will likely lead to a balkanizationof firms, meaning that domestic giants will likely continue to face difficulties in

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penetrating foreign markets. Longer term, there is a real risk of a regulatory race to thebottom – similar to what happens in environmental regulation – in which privacy andother consumer protections are ignored by industry.

2. U.S. and Chinese bargaining positions

The U.S. and China are currently involved in trade negotiations. Solutions to thecurrent trade impasse are not obvious. As a starting point to mediation it is useful tolist the main demands of China and the United States (Mitchell 2019).

2.1. The U.S. on China

U.S. Demand #1: Reduce the trade deficit. As noted above, this is key for PresidentTrump.

US Demand #2: End industrial subsidies, including subsidies to SOEs and subsidiesrelated to the Made in China 2025 program.

US Demand #3: Strengthen intellectual property protections and enforcements.US Demand #4): Alter laws, policies, practices and actions related to technology

transfer, intellectual property and innovation.5 Specifically:

(1) End the practice of ownership restrictions, including joint ventures andequity limitations, and administrative reviews which force US firms totransfer technology at below-market values and with long-run implicationsfor the erosion of US competitive advantage.

(2) End restrictions on technology licensing terms that advantage Chinese reci-pients over the U.S. creators of the technology.

(3) End Chinese government-directed acquisition of US companies where theaim is to acquire cutting-edge technologies in industries deemed importantby Chinese government industrial plans.

(4) End Chinese government-sponsored cyber-intrusions into and theft of thetechnical specifications and internal business communications of U.S. firms.

US Demand #5: Increase Chinese Imports and FDI from the United States. This isoften couched in sectoral terms.

(1) Increase agricultural imports, especially soybeans.(2) Allow FDI into the financial sector, including investment banking and

payments systems.(3) Eliminate data localization restrictions.6

(4) Eliminate restrictions on cloud services that have all but cut out all the(world-leading) US companies.7

US Demand #6: Oversight – The two parties should meet on an ongoing basis toreview progress towards implementation. Further, the United States retains theright to unilaterally impose tariffs should progress be insufficient.

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2.2. Chinese demands on the United States

Chinese Demand #1: Elimination of tariffs and tariff uncertainty. This includes theend of anti-dumping and countervail disciplines (AD/CVD) associated withnational security (232s) and commerce determinations (301s). It also meansWTO normalization, i.e., the granting of ‘market economy’ status at the WTO.

Chinese Demand #2: Improved access for Chinese goods entering the U.S. market.Huawei products loom large here, but this includes other Chinese success storiesin the food industry.

Chinese Demand #3: Easier regime for Chinese investment into the United States inthe technology and natural resource sectors. In particular, a ramping down ofoversight by the Committee on Foreign Investment in the United States (CFIUS).

Chinese Demand #4: Acceptance of the Chinese model.

(1) SOEs are a legitimate vehicle of public policy, not a vehicle for exportsubsidies or for blocking access into the Chinese market.

(2) Made in China 2025 is a legitimate development program, much like the veryeffective U.S. Defense Advanced Research Projects Agency (DARPA)program.

Chinese Demand #5: End US export restrictions on high-technology goods.

3. Solutions and pitfalls

Mediation of disputes begins with a clear statement by each party of its broader goalsand its specific demands. The previous sections have made these goals clear. The secondstep is to find points of commonality. There are many. (1) Both countries benefit fromtrade and trade wars are costly. Amiti, Redding, and Weinstein (2019) estimate that theUnited States and China each lose $1.4 billion USD per month as a result of the war. (2)the Chinese IP regime is too weak and most Chinese actors would agree. Strengtheningit would help both countries. (3) China has already made serious reductions in itsexternal balance. Part of this is due to the shift away from manufacturing exports andtowards increased domestic consumption. The United States should acknowledge thisprogress and encourage more of it.

The final step is to make concessions. First, the United States cannot hope to isolateChina or insulate itself from China. It should give up the attempts. Examples ofsuccessful Chinese regional outreach include the Asian Investment InfrastructureBank (AIIB), the Asian Development Bank, the use of RMB to support IMF SpecialDrawing Rights (SDRs), the Belt and Road Initiative, the increasing rise of the RMB asan international currency, ongoing though slow negotiations over the China-centeredRegional Comprehensive Economic Partnership (RCEP), and China’s increased militarypower. The US must accommodate these rather than fight each.

Second, China cannot continue on its current trajectory of IP theft, cyber-espionageand links between exporters and military actors. OECD public opinion polls, positionpapers by key Chambers of Commerce, and political rhetoric all point the fact thata major public reaction to China is in the makings. China must more actively manageits public relations face in the OECD or risk a major confrontational backlash.

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Third, China should wait out the Trump Presidency in the hope of facing a less inward-looking Administration, one that understands international economics more fully.

Fourth and most important, the two parties must return to international institutionbuilding. While the United States has been particularly egregious in undermining suchinstitutions, China has been slow in engaging with and supporting them. Indeed, recentactions against Canada suggest a turn against cooperation through rules-based inter-national institutions. China and the United States are not the only international players.It is vital that they do not reach agreements which are a return to the days of ‘managedtrade.’ Without trade rules, other OECD countries will increasingly view China and theUnited States as trade bullies and will respond accordingly, meaning, with Wild Westtrade sanctions. This will lead to a major set back for all countries.

The world has long known that the United States is a superpower that imposes itswill on other countries for its own benefit. There was a period after World War II wherethe United States actively worked to build international institutions knowing that theseinstitutions would constrain U.S. ability to project power and impose its will. One ofthose institutions was the GATT and its WTO successor. Today, there is a perceptionthat China too is behaving like the United States in bullying trade partners whenever itis in its power to do so. Bullying is a worse option than building cooperative interna-tional institutions. Both China and the United States need to be reminded of this. Noleader has ever expressed this more universally then Deng Xiaoping in his landmark1974 speech to the United Nations General Assembly:

If one day China should change her colour and turn into a superpower, if she too shouldplay the tyrant in the world, and everywhere subject others to her bullying, aggression andexploitation, the people of the world should identify her as social-imperialism, expose it,oppose it and work together with the Chinese people to overthrow it.

This is a universal message. Let all superpowers take heed, turn their backs on unilateralactions, and support the building of international, rules-based institutions such asthe WTO.

Notes

1. Anticipating arguments below, only item (4) has merit.2. The articles quotes a competitor as follows: “I think using the Chinese as the excuse to

merge Siemens and Alstom is a bit premature.”3. I would add Visa and MasterCard to the list since they were kept out of the market even

after a WTO ruling in their favour. This left an opening in the credit card and paymentssystem space that was then occupied by Alibaba and Tencent.

4. I emphasize that Huawei has since become a major R&D powerhouse and made importantproduct developments in-house.

5. These are demands outlined in (U.S. President 2018).6. The Financial Times reports that “On data, China has proposed regulations allowing data to be

transferred abroad only if it is under a certain size, does not include sensitive and personalinformation, and is agreed to by the customer each time.” See Polti and Mitchel (2019).

7. The Financial Times reports that “On cloud services, foreign companies are currentlyrequired to have a Chinese partner to obtain a licence and effectively run their business inChina – and foreign providers cannot use their own brand name.” The Times quotesNaomi Wilson, senior director policy director in Silicon Valley: “Foreign cloud servicers

12 D. TREFLER

are pretty much cut out of the market but China gets the benefit of their well-developedbusiness model and technology so that is something we would like to see go away.” SeePolti and Mitchel (2019).

Disclosure statement

No potential conflict of interest was reported by the author.

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