Industry Insight: China’s Trade “Win-Win” and the Phase 2 Trade Deal

As published in Fierce Electronics, January 27, 2020.

While the White House has touted a major victory in the trade war with China with the signing of a so-called “Phase One” deal, it was difficult not to notice the very visible absence of Chinese President Xi Jinping himself. Instead, the Trump Administration received a congratulatory letter from President Trump’s Chinese counterpart read by Vice Premier Liu He, a level-three member of the Chinese Politburo.

Was this Phase One deal not big enough to draw the audience of the top leader of China? Possibly.

It may seem that the Chinese made significant concessions in terms of improving IP protections for foreign businesses, eliminating forced transfer of technology and allowing foreign business ownership, but these aspects of the Phase One trade deal were relatively easy for the Chinese. Why? Well, many of these policies have been in development in China before the Trump Presidency, and certainly before the advent of the U.S.-China Trade War, as part of the Chinese government’s controlled plan to open the Chinese economy and to attract foreign investment especially in support of China’s broader economic development and digital modernization.

If anything, the Phase One trade agreement serves to highlight mutually agreeable policies already evolving in China that might not have been apparent before outside of the country. In a CNBC interview at the World Economic Forum 2020 in Davos, Cisco CEO Chuck Robbins acknowledged that Chinese authorities cooperated in the recent prosecution of IP theft suffered by the company from four Chinese counterfeiters. The agreement contains a number of important confirmations by the Chinese government to provide a more open and healthier environment for US businesses and trade. Vice Premier Liu He stated those improvements would also be applicable to and enjoyed by other trade partners.

However, China’s provincial and municipal governments have faced a steep learning curve in instituting the many economic and business policy and regulatory changes (including IP protection) that the Communist Party of China has been promoting to foster the digital modernization of China’s industries as part of its Internet Plus strategy proposed by Premier Li Keqiang in his 2015 Government Work Report. Implementation and enforcement of regulations related to China’s commitments in the Phase One deal will also take time as the central Chinese government continues to work with provincial and municipal authorities on reforming their commercial and economic policies and regulations to foster a more open and equitable environment for foreign investment and foreign businesses.

In support of this mission, the central government has long since streamlined the process for foreign entities to establish themselves as WFOEs (Wholly Foreign-Owned Enterprises). A key milestone was established almost three years ago with the granting of a WFOE license to Manulife, a Canadian insurance and financial services firm, in early 2017. This does not diminish the significance of Article 4.4 of the Phase One agreement which outlines China’s commitment to fast-track the application of U.S. financial services companies seeking WFOE business licenses—a significant win for Mastercard and Visa and other U.S. payment processors that have long sought to enter the China market.

Whether the Chinese will live up to the expectations and commitments set out in the Phase One deal is yet to be seen. In particular, hotly debated Chapter 6 outlines China’s commitment to import at least $200 billion of U.S. goods and services over a two-year period. Several leading economists and trade experts have expressed doubts that the Chinese with their historically sluggish economic growth rate and cooling consumer spending will be able to meet the import floors set in the agreement.

At the end of the day, the Chapter 6 commitments do not appear to be firm because the Chinese negotiated conditional language into the text of the agreement. For example, Section 5 of Article 6.2 of the Phase One trade agreement suggests that purchases will be based on “commercial considerations” and “market conditions,” caveats that Vice Premier Liu highlighted in his address during the signing ceremony in Washington. Furthermore, Section 7 of the same article allows China to seek “consultation” if they believe that they are not able to meet obligations under Chapter 6 due to “action or inaction by the United States or by other circumstances arising in the United States.”

One indisputable positive and welcome side effect of the Phase One deal has been the truce that is now in place that will hopefully stay any further trade war escalation between the U.S. and China going forward. Though most of the tariffs levied on both sides remain largely intact, this period of calm will provide businesses, investors and consumers on both sides of the Pacific some respite from what seemed like an ever-worsening dynamic between the world’s two largest economies and persistent threat to global trade and economic growth. Maybe this is the “win-win” President Xi was looking for. 

Regarding a Phase Two deal, it looks like the Chinese will bide their time, however. They seem to realize that their countervailing strategy has enabled them to absorb the brunt of the deleterious intent and impacts of U.S. tariffs and policy actions. China can now enjoy in advance U.S. concessions such as the reduction of the tariff rate on $120 billion in Chinese goods to 7.5% while they gradually work on their obligations outlined in the Phase One agreement in arrears over the next two years. All the while, let’s hope that U.S. enterprises will enjoy improved access to a Chinese market that provides a fair and level playing field for business and trade needed to continue moving things in a positive direction.

As far as momentous deals go, we will know that one has happened when the U.S. and Chinese presidents both decide to show up and sign on the dotted line. Maybe that will be a Phase Two deal.

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Leonard Lee

Managing Director, neXt Curve

March 24, 2020

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