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China, the WTO and Permanent NTR Status: What Does It Means for Your Business?

Published on Thursday, July 01, 1999

On July 27, 1999, the U.S. House of Representatives voted to extend Normal Trade Relations (NTR) status to China for another year. This signaled good will to China.

But, next on the agenda are two more issues that could further improve or harm U.S.-China relations. These include: granting China permanent NTR status, and allowing it to join the World Trade Organization (WTO). Both issues could have a major impact on the United States and your business.

Permanent NTR Status

By granting China NTR (formerly known as Most Favored Nation trade status), Chinese products will enter the U.S. at the same normal duty rates offered to most other trade partners, except for Afghanistan, Cuba, Laos, North Korea, Serbia/Montenegro, and Vietnam. In turn, U.S. products will continue to be allowed access to the Chinese market.

However, Congress soon will decide whether or not to grant China permanent NTR status. If approved, this will eliminate the current annual vote for NTR which has made planning difficult for U.S. companies.

China and the WTO

In order to be admitted to the WTO, China must agree to abide by a broad set of WTO rules. As of July, the office of the U.S. Trade Representative (USTR) indicated that China agreed to reduce its average tariff from 35% to 10%. In addition, the USTR said China appears to be willing to improve transparency, eliminate discriminatory taxes and regulations, and abolish export subsidies, as well as phase out protectionist quotas and import substitution requirements.

According to the USTR, China also agreed to eliminate unscientific food safety barriers, plus adopt judicial review procedures for administrative decisions. If accepted into the WTO, China will be subject to trade sanctions under the WTO’s dispute settlement procedures if these commitments are not carried out.

Chinese Agricultural Markets to Open

China’s commitments regarding agricultural market access address trading rights, distribution, high tariffs, quotas, the application of unscientific standards, reliance on state trading companies, and export subsidies.

As a result, China will move toward a system based almost entirely on tariffs. And on most bulk commodities, tariffs will fall to 1%-3%, reducing China’s duties to levels below most American trading partners.

Industrial Product Commitments

Under the WTO, China has agreed to allow U.S. firms to import, export and distribute industrial products within its borders. Additionally, China will reduce tariffs on industrial products to levels comparable with major U.S. trading partners and below those of most developing countries. And, China will bind all tariff concessions and phase out all quantitative restrictions on imports.

Chinese tariffs on high technology products, including semiconductors, computers and equipment, telecommunications equipment, and other information technology, will drop from present levels averaging 13.3% to 0% over a period of several years.

Tariffs on U.S. automobiles will decrease from 80% and 100% to 25% in 2005. Auto parts tariffs will fall to an average of 10%. Furthermore, China’s commitments in the chemical sectors will result in duty reductions to levels similar to other WTO members.

Service Sector Commitments

Chinese commitments on services are comparable to those of most WTO members. Nevertheless, according to the USTR, further negotiations are required. Services included in the agreement cover distribution, telecommunications, insurance, banking, securities, professional services, audiovisual, and travel and tourism.

In China today, foreign firms have no rights to distribute products other than those made in China, or to own or manage distribution networks. China also frequently issues business licenses which limit the ability of American firms to conduct marketing, after-sales service, maintenance and repair, and transportation. China’s commitment significantly liberalizes these restrictions.

Telecommunications and Banking Services

China severely restricts sales of telecommunications services and bars foreign investment. Under the WTO agreement, China will, to a large extent, lift these restrictions. In the insurance sector, China limits foreign participation to Shanghai and Guangzhou. This, too, will be lifted.

In the banking sector, China imposes severe geographical restrictions. For example, only nine foreign banks can conduct business in local currency and are limited to the Shanghai Pudong area. WTO negotiations seek full rights for foreign banks to handle both local and foreign currency business transactions, to serve Chinese as well as foreign customers, and to liberalize investment.

However, as of this writing, no WTO agreement has been signed. And with additional negotiations ahead, China’s commitments to reduce its trade barriers may change.

Importance of U.S.-China Trade

The United States, which accounts for only 4 percent of the world’s population, needs to sell to the other 96 percent. Passing permanent NTR legislation and admitting China to the WTO will help to achieve this. And since the United States is already a WTO member, with a few exceptions, China must make all the concessions. This is good for U.S. exporters, importers and investors.

In 1998, U.S. exports to China, which now include Hong Kong, were $27 billion. If China is admitted to the WTO and anticipated trade concessions are implemented, U.S. exports likely will rise at a faster rate than in the past.

However, if the United States denies China permanent NTR status and prevents it from becoming a WTO member, this could lead to deteriorated U.S.-Chinese relations. In turn, trade relations could be weakened.

Follow U.S.-China Negotiations

In July 1999, China concluded favorable bilateral WTO negotiations with Japan and Australia. During the upcoming Asia-Pacific Economic Cooperation meeting in September, President Clinton and Chinese President Jiang Zemin are expected to meet. What will come of their meeting is speculative. As a result, it’s important to incorporate a great deal of flexibility in your China strategy.

Consider Six Essential Factors Before Expanding Globally

Published on Thursday, July 01, 1999

For many companies, expanding globally is essential to achieve success in the 21st century. But determining the best strategy can be difficult. And depending on your goals and level of resources, it may change.

However, by establishing a set of guidelines, selecting the right export markets doesn’t have to be painful. To make your job easier, consider some of our guidelines below.

Study Economic Indicators

Rank your potential country markets by how much of your product they import from the U.S. Then rank each by their total demand (domestic production plus world imports) for the previous three years. From this you can determine market size, its rate of growth, and U.S. market share.

If total demand for your product is increasing, review the country’s growth rate and per capita income. If indicators are positive, it’s likely that demand will continue to rise.

Be Competitive and Adapt

Identify each selected market’s trade barriers. If excessive, they may out-price your product. Know your competitors, their products, prices, distribution methods, consumers, and after-sale service. If intense competition exists, consider smaller markets that may be unattractive for multinationals, but big enough for you.

Sensitivity to foreign cultures is not only polite — it’s good business. Study a culture’s wants and needs. If your product design is not suitable, adapt.

Know Your Risks

Importers with soft currencies or insufficient reserves may find it difficult to pay you. Understand the risks, buy insurance or choose other markets. If you accept foreign currency, guard against fluctuations. Keep abreast of political risk. Civil unrest or policy changes may harm your interests.

Investigate Infrastructure Needs

If your product requires a skilled support staff, make sure it’s available in your target market. If not, you may be forced to provide costly support from back home. The lack of physical infrastructure may also curtail exports. The inability to quickly deliver perishables due to inoperable roads or inaccessibility to refrigerated storage can be a deterrent.

Research Legal Issues

Many countries claim to enforce intellectual property laws, but don’t. Investigate how piracy is handled. If protection isn’t a priority, you may want to avoid this market.

In some countries, the accused is presumed guilty until proven innocent, and judges may unfairly favor domestic sales agents or consumers. Assess each country’s legal practices and investigate safety and environmental regulations.

Welcome Advice and Use It

By acquiring majority interest in a foreign firm, you can dictate policy — but don’t. Respect and value the input provided by existing managers. A sound acquisition strategy asks what management thinks of proposed changes and incorporates the input.

Accurately Weigh Your Own Factors

Do your homework. Establish the factors you feel will best help you determine the markets to pursue — and seriously weigh them. Success is best achieved if you calculate all the costs of doing business and understand the ramifications of each decision. If not, your efforts may turn into losses.

Currency Fluctuations Can Be Extremely Damaging

Published on Thursday, July 01, 1999

Today, technology enables global investors to electronically transmit $1.3 trillion daily to all corners of the world at unprecedented speed. Consequently, governments and central banks can no longer manage their currency fluctuations to the same degree as in the past. This can have serious implications for your business.

The Risks Are Increasing

As the speed of capital flows accelerates, foreign exchange and international business transactions will continue to soar, further limiting government control. This will expose traders to ever greater currency risks.

Unfortunately, this comes at a time when accepting foreign currencies can give U.S. exporters a much needed advantage over the competition.

No Warnings Given

Factors affecting currency fluctuations are complex and are contingent on seemingly independent activities, rhetoric, and highly fluid capital shifts, in addition to macroeconomic, social and political forces. As such, predicting whether a currency value will increase or decrease is very difficult and extremely risky.

The Asian financial and Mexican peso crises are two relatively recent examples where severe currency devaluations struck without warning. They not only demonstrated how fast-moving events can devalue currency markets, but also the magnitude of damage that can be inflicted on their economies and others around the world.

Establish a Sound Prevention Strategy

To protect yourself against adverse currency fluctuations, it’s essential to manage your foreign currency exposure. But, this requires more than research-based predictions — it demands a sound hedging strategy that plans future receivables, payables and capital flows.

Solutions That Work

If you exported goods to Thailand in February 1997 with payment in Thai bahts due in 90 days, you would have lost a great deal; within a very short period of time, the value of the baht dropped almost by half. With our solutions, you’ll be able to structure the deals you want, with the protection you need.

Through the use of spot, forward, forward with a window, and option contracts, you can accept foreign currencies from your importer at a later date, but lock in the U.S. dollar exchange rate now. This will protect your business against adverse currency fluctuations.

How Do These Hedging Strategies Operate?

Spot contracts convert the buyer’s currency at the current rate for settlement within two business days. A forward contract allows the exporter to lock in a rate of exchange leaving the settlement date open for three days to 12 months. A forward contract with a window goes further by specifying the exact settlement date. Unlike the above contracts, an option contract allows the exporter to cancel the settlement date indefinitely.

Production Sharing Can Enhance Your Level of Global Competitiveness

Published on Thursday, April 01, 1999

If global competition is making your company vulnerable, production sharing may be right for you. It can improve your level of competitiveness, keep your higher wage jobs and capital intensive processes in the United States, and provide an important market for your component exports.

U.S. firms engage in production sharing (also referred to as co-production) to reduce overall costs, as well as to gain access to unique technology, raw materials, specialized intermediate inputs and/or labor skills.

This often allows companies to retain product development and design, capital-intensive manufacturing, and marketing-related activities in the United States, while shifting labor-intensive operations to lower labor cost countries.

Production Sharing Is Not Unique to U.S. Companies

Production sharing is used throughout the world. For example, companies in Japan, Korea and Taiwan co-produce in China, Indonesia, Malaysia, Thailand, and the Philippines primarily to reduce their labor costs.

In the European Union (EU), most co-production involves apparel, auto parts, and electronic products and occurs mainly in Poland, the Czech Republic, Hungary, and Slovenia — countries with inexpensive but well-educated labor forces. A growing share of EU co-production is also taking place in Northern Africa.

Chapter 98 Can Help You

Production sharing is sometimes the only viable strategy to make your products more competitive abroad — and in the United States.

Under Chapter 98 of the U.S. tariff code (tariff classification 9802.00.60, 9802.00.80 and 9802. 00.90), U.S. materials assembled, processed or improved abroad, can be shipped back to the United States, incurring duty only on the foreign labor and non-U.S.-made materials.

As a result, these imports — which often contain substantial U.S. content — are more price competitive than other imports with no U.S. content. Importantly, this process promotes exports of U.S. components.

Production Sharing Saves U.S. Production and Jobs

In the late 1980s, the U.S. International Trade Commission (ITC) conducted a survey of 900 U.S. firms that co-produced utilizing Chapter 98. When asked what they would do if this Customs provision was eliminated, the firms said they would:

• Turn to foreign suppliers of components
• Drop labor-intensive products and import them from East Asia
• Move all manufacturing to Asia
• Cut back U.S. production and target a market niche not threatened by imports
• Go out of business.

Since then, production sharing has become even more important to U.S. companies and workers. According to the ITC, it has been responsible for generating new jobs and retaining those that would have been lost due to intense foreign competition.

Mexico: The Largest U.S. Partner

In 1997, Mexico ranked as the United States’ largest production sharing partner, accounting for 36% of total U.S. imports under Chapter 98. And on average, U.S. content comprised 58% of the value of these products. Mexican co-produced products include apparel, motor vehicles and parts, machinery, and electronic products, to name a few.

However, since an increasing portion of these products is entering U.S. Customs under North American Free Trade Agreement (NAFTA) provisions, and not Chapter 98, real production sharing activity is under reported.

Canada Is Number Two

Canada is the second largest U.S. production sharing partner. In fact, according to the ITC, it is likely that one-third of all Canadian exports to the United States are manufactured using U.S.-made components.

Yet, this is not reflected in Chapter 98 statistics. Instead, motor vehicles frequently enter U.S. Customs under the Automotive Products Trade Act of 1965; aircraft equipment is often entered under the Civil Aircraft Agreement; and other products enter under NAFTA provisions.

U.S. - Caribbean Production Sharing Expanding

In 1997, apparel represented 90% of U.S. imports from the Caribbean Basin entering U.S. Customs under Chapter 98. Medical equipment, which only represented 4%, is the second largest category — but it’s growing.

This has allowed many large U.S. medical equipment manufacturers to compete worldwide in less technology-intensive hospital goods by co-producing these products in the Dominican Republic, Costa Rica, and Mexico.

U.S.-Asia Co-Production Is Strong

The Philippines, Malaysia and Korea are principal suppliers of electronic products to the United States under Chapter 98. As a whole, Southeast Asia is a major U.S. co-producer of semiconductors. In fact, in 1997, semiconductors represented 74% of U.S. imports from the region. Footwear comprised 8%; motor vehicles represented 5%.

From 1996 to 1997, Japan increased its value of U.S. content by 134% in vehicle exports to the U.S. under Chapter 98. During this period, U.S. exports of vehicle parts to Japan also rose — reflecting a benefit to U.S. component suppliers.

Conduct Sound Research and Be Aware of Pitfalls

While co-production has been a panacea for many U.S. firms, some manufacturers have reported a different story.

Many companies have invested in foreign-based production sharing facilities only to find unexpectedly low levels of productivity, excessively high turnover, poor infrastructure, and a corrupt legal system. Consequently, several firms have abandoned their efforts.

To successfully engage in production sharing, it’s essential to fully understand your co-production partner’s needs, culture and environment. And make certain you are knowledgeable of the U.S. tariff codes under which you will operate.