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The Case Against a China Currency Case

Thursday, October 7, 2010

Relying on a World Trade Organization filing to address China’s undervalued currency won’t get very far.

Last week the House of Representatives overwhelmingly passed a bill to allow new tariffs on Chinese goods. Those tariffs are meant to offset the “subsidy” provided by China’s undervalued currency. Were the bill to become law, it would do little to address the root problems. What’s striking, however, is how the World Trade Organization has come to play a central role in China discussions. The bill was significantly rewritten by House Ways and Means Committee Chairman Sander Levin (D-Michigan) in order to pass WTO muster.

In earlier hearings, Levin described a range of measures that the committee might support. While some involve unilateral U.S. action, another favored option—still on the table—is for the United States to press a case against Chinese currency practices at the WTO. "Many of us in Congress believe that China’s exchange rate policy violates China's WTO commitments," Levin said in his opening statement. He recounted repeated petitions from Congress requesting that the White House file a formal complaint at the WTO.

A WTO filing would not be a get-tough alternative to difficult discussions, but rather would mark the launch of a new set of such talks.

There is a certain appeal to the idea. After all, if the WTO cannot settle such a central issue concerning world trade, what is it good for? As tempting as this logic may be, it misunderstands the appropriate role of the WTO’s system for resolving disputes and the way that system commonly functions.

One might envision a Solomonic panel issuing an injunction against China’s exchange rate regime, but this is not what a WTO filing promises. On the contrary, most cases that go to the Geneva-based institution are settled out of court, often in consultations and without ever being heard by a judicial body. The WTO prefers it this way. In this sense, dispute settlement is best thought of as a system that encourages litigants to bargain in the shadow of the law. Thus, a filing would not be a get-tough alternative to difficult discussions, but rather would mark the launch of a new set of such talks.

Nor would those new talks be easy. The dispute is politically sensitive, would raise tough legal questions about the scope of the WTO’s rules, and would have consequences for many countries’ trade relations with China, not just those of the United States. On top of this, the case would be sure to attract other WTO members either as co-complainants or interested third parties. Historically, such broad participation cuts the odds of a mutually agreed solution. Like most other defendants besieged by third parties, China may prefer to have the panel and appellate body sort things out. This is unlikely to go well.

The dispute is politically sensitive, would raise tough legal questions about the scope of the WTO’s rules, and would have consequences for many countries’ trade relations with China.

For starters, the legal merits of the case are dubious. China’s exchange rate regime could be attacked as a subsidy scheme or as a way of frustrating market opening under the WTO’s trade agreements. Subsidies are only prohibited if they meet certain criteria. Along these lines, China’s exchange rate regime does not benefit a specific firm or industry, nor is it contingent on export promotion or import substitution.

Alternatively, the case could rest upon Article XV:4 of the General Agreement on Tariffs and Trade (GATT), which says that WTO members “shall not by exchange action frustrate the intent of the provisions of the GATT.” There is no case law on the article and no consensus on how it might work. The language of the article is brief and sketchy, prominently pointing away from the WTO and toward the International Monetary Fund as a source of exchange rate expertise.

Given the lack of established case law, arguments for Chinese violation tend to the creative. One line of argument is that China’s exchange rate action is not an illegal violation under WTO law per se, but is prohibited because it undermines the intent of the trade pact. The challenge here is that China’s exchange rate regime is the same one it had when it joined the WTO, so the United States (and others) would be hard-pressed to argue that there has been a new policy action that casts doubt on China’s obligations. While there is a pro-plaintiff bias at the WTO, the dispute system has treated this sort of “non-violation” complaint with skepticism.

Using a dispute to try to compel action where no such principled agreement exists poses serious risks.

Even if all went according to plan, what might U.S. litigators hope for? There would be years of appeals and uncertainty about what Chinese compliance should look like. A bigger concern is how this could recast the role of the WTO dispute settlement system. That system has been very successful when there is agreement among trading powers on principles and argument over facts. Using a dispute to try to compel action where no such principled agreement exists, however, poses serious risks. It could strain the system’s ability to compel compliance, it could set a precedent for expansive interpretation of agreements and broadened WTO authority, and it could cause countries to rethink their commitment to the WTO. All of this happens should the United States win. Should the case fail, China would claim its policies have been vindicated.

China’s currency intransigence is a serious problem and policy makers’ instinct to go multilateral is the right one. But a WTO case is no substitute for hard bargaining among the world’s economic powers.

Marc L. Busch is the Karl F. Landegger Professor of International Business Diplomacy at Georgetown’s School of Foreign Service, and an adjunct scholar at the American Enterprise Institute. Philip I. Levy is a resident scholar at AEI.

FURTHER READING: Levy also wrote "The Straw Stimulus," urges the U.S. to be "An 18-Wheel Bellwether," and wonders "Will the President Confront His Base On Trade." Claude Barfield traces the path "From 'Government' Motors to 'Shanghai' Motors," and Arnold Kling explains what happens "When Labor Is Capital: The Limits of Keynesian Policy."

 

Image by Darren Wamboldt/Bergman Group.

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