A short primer on China, Anti-Dumping and the Commission’s proposal on significant distortions
This article seeks to introduce non-lawyers to the Commission’s new proposal on dumping. The circumstances are complex. The proposal is all about China and it’s not about China at all. It’s about special and general methods for calculating dumping. It’s about burdens of proof and litigation strategies. It’s about the correct interpretation of China’s WTO Accession Protocol. However, an examination of the themes underlying the Commission’s proposal reveals some simple ideas and gives guidance on how to improve it.
The Commission’s radical new thinking on dumping
The Commission proposal [COM(2016) 721final] to change the EU’s approach to the calculation of dumping is all about China and nothing to do with China at all. In fact, there’s no mention of China. This is natural given the nature of the proposal. The proposal seeks to end the EU system of classifying, in law, countries as market or non-market economies and replace it with a system of classifying countries as WTO or non-WTO.
At the same time the proposal is all about China. This is because the reflections on the functionality of the EU’s dumping methodologies came about while considering the consequences of the expiry of one sentence of Article 15 of China’s 2001 WTO Accession Protocol as well as reflections on the market distortions which are evident in China.
Under current EU law, the world is divided into market economies and non-market economies. China is defined as a non-market economy. The method for calculating the level of dumping from market economies is set out in Article 2(1) to 2(6) in the basic anti-dumping Regulation [Regulation 2016/1036] and in Article 2(7) for non-market economies (the analogue country approach). As today, China is classified as a non-market economy, the Commission uses Article 2(7) to calculate dumping from China. Under the new proposal, Article 2(7) would apply to non-WTO members only and the provisions of Article 2(1) to 2(6) would apply to all WTO Members, including China, whether or not they are market economies.
Not only is China defined in law as a non-market, it is not a market economy in reality. When it joined the WTO in 2001, China agreed that it was not a market economy. Rules were written into Article 15(d) of its WTO Accession Protocol [WT/L/432] setting out the procedure to be followed if China was to demonstrate that it had made the transition to a market economy. These rules did not expire in December 2016. China has tried in the past to demonstrate that it was a market economy to the EU, but on three occasions the EU Commission has found that China did not meet all the EU’s five criteria. In the last months, the responsible EU Commissioners have all confirmed that China is still not a market economy.
That being said, the definition of China as a non-market economy will no longer be relevant for the calculation of dumping in EU law. The issue for the Commission is the level of the distortions in any particular economy rather than how the law classifies that economy. And, as market distortions can found in all economies whatever their market classification, the Commission proposal seeks to improve the mechanisms for addressing these distortions wherever they are found.
The proposal recognises that the current text of 2(1) to 2(6), which will in the future apply to all WTO members, may not be adequate to address problems with calculating dumping from countries such as China. If the market is distorted then the costs and prices on that market are distorted as well. Thus, they may not be suitable for the calculation of dumping (which measures the difference between the price in the market of origin and the price for export to the market of sale). For this reason, the Commission proposes to add Article 2(6a) to the basic anti-dumping Regulation to address significant market, and therefore price, distortions.
This article looks at the new approach being proposed. Some fundamental questions are asked about the overall approach being taken. The article then describes the changes being make and finally makes some suggestions as to improvement.
Does China get market economy status by default?
The change from classifying countries as market economies or non-market economies has profound effects on EU dumping investigations. The classification system has the big advantage of giving certainty to the system. Today complainants know how dumping from non-market economies should be calculated and how to construct a prima facie case on the basis of methodology set out in Article 2(7). The proposal removes this certainty. The methodology proposed for the future to show prima facie evidence of dumping is vague. To what extent do complainants bear the burden of proving that there are distortions in a particular economy? And if distortions are considered to be present what costs and prices can be used. This lack of certainty is at the basis of the concerns raised by many observers and users of the dumping instrument.
It has also raised the question whether the Commission is proposing that China should be granted market economy status by default. By removing the classification system, the Commission seeks to side-step the consequences of the issue of China’s status. Under the proposal, the classification of a particular market becomes irrelevant. This in turn means that the specific consequences of the expiry of one sentence of Article 15 of the WTO Accession Protocol on dumping methodologies also becomes irrelevant. In addition, the Commission also tries to side-step or anticipate the consequences of the outcome of the WTO dispute settlement procedure that China has launched against the current EU classification system.
All WTO economies will now be considered equal in law and subject to the general WTO dumping methodologies set out in Article 2(1) to 2(6). If any one of these economies is significantly distorted then the significant distortions provisions of Article 2(6a) will come into play. But Articles 2(1) to 2(6) are the provisions applicable to market economies and not non-market economies. If the Commission had intended to change the non-market provisions it would have added the new provisions to Article 2(7) rather than to Article 2(6). And if the intention was to introduce a completely new methodology surely it should have been placed in a new 2(8). By introducing the changes to the market economy provisions the Commission is in fact proposing to bring China within the market economy provisions of both EU and WTO law.
In law, the implication of the Commission’s approach is that the EU is abandoning the idea that Article 15 of the Accession Protocol can be the legal basis for treating China differently from other WTO members. This is despite the fact that only one sentence of Article 15 expires, that there is significant debate as to the legal consequence of that expiry, and that Article 15 as a whole is a recognition, by China and all other WTO members, that China was not a market economy in 2001 and that it cannot be considered a market economy until it demonstrates that it is one. China has failed to demonstrate that it is a market economy and yet the Commission seeks to treat it equally with market economies. This is unfortunate.
We now turn to the provisions of the Commission’s proposal.
Article 2(6a) is divided into five subparagraphs (also, a little confusingly, lettered (a) to (e)). Paragraph (a) would allow the Commission to determine, in the course of a specific investigation, that there are significant distortions in the economy of the country of origin of the goods, and that therefore the price of the good from that country can be constructed using input costs and prices from outside the country of origin. Paragraph (b) then provides a non-exhaustive list of what might be considered a significant distortion. These include government interference in the market or any other factor distorting free market forces.
The idea of significant distortions is not provided for in WTO law or the laws of any other country. It’s a completely new concept. This has good and bad consequences. The main disadvantage is that it is not clear how it will work. On the plus side, it allows room for the EU to address the substantive problems of distortions of costs and prices in all countries.
The not knowing how it will work is maybe not the biggest problem. With time, we will learn. But there is a lot to learn and there is concern that EU industry will be harmed during the learning process. What are significant distortions and what are the consequences of the finding of a significant distortion? In many energy-rich middle eastern or north African countries the energy market is both isolated from world markets and prices are kept artificially low. Is this a significant distortion? And does that distortion affect the whole market or just the energy market?
Taking this idea a step further, China’s market for capital and finance is both closed and government managed. Only state-owned banks are licenced and those banks are obliged to finance industries considered to be favoured under the five-year plans. Most observers agree that this is a significant distortion: it is the basis of the build-up of massive overcapacities in many sectors. But is the distortion only felt in the finance and capital market or does it infect the whole economy. In a particular anti-dumping investigations does this mean that when constructing the price of the good in China all input costs and prices must be taken from outside China or only some? What has to be learnt over the coming years is what weight to give to the different distortions in a given economy and the consequences of that weight. All parties will have to become familiar with the traceability of distortions though production processes.
A significant gap in the Commission’s proposal is that it does not spell out clearly how the new approach should be considered in WTO law. General WTO law allows the construction of the price (the legal term is called the normal value) when the price is not set ‘in the ordinary course of trade’ or because a ‘particular market situation’ makes an input cost or price unreliable. The general WTO law is reflected in Article 2(1) to 2(6) of the basic anti-dumping regulation.
As the Commission considers that the general WTO rules apply, then the concept of significant distortions must come within the general WTO rules for the construction of prices and thus will be framed by the general WTO rules on what can be considered as being ‘in the ordinary course of trade’ or a ‘particular market situation’ and not by the Protocol of Accession which defines China as a non-market economy.
The WTO has not given members much guidance on what these concepts mean. Recently, the EU lost a WTO dispute settlement case about constructing the Argentinian price for Biodiesel. The EU had considered the soya price in Argentina distorted thus distorting the Biodiesel price. The WTO Appellate Body found that the EU had not shown in sufficient detail how an export tax on soya had distorted the Argentinian soya price. The AB did not find that a distortion could never be found. Rather it found that the EU had not proved the distortion in sufficient detail. A good aspect of Biodiesel for the purposes of the Commission’s new approach is that it shows off-shore price benchmarks can be used as a reference when local prices are distorted. But again, very little guidance was given by the Appellate Body as to how this would work. Can the distorted price be replaced completely or can it only be adjusted upwards towards the off-shore benchmark price and if it can be adjusted upwards, by how much?
This highlights the fundamental problems addressed previously: has the Commission abandoned too easily (and too early) the possibility of using the WTO Accession Protocol as a legal basis for special rules for China or will the proposed new rules in Article 2(6a) turn out only to be an embellishment of the existing rules in Article 2(1) to 2(6) which in turn are the general WTO rules. A second question is whether the general WTO rules on which Article 2(1) to 2(6) is based are sufficiently robust to support the new significant distortions approach.
The Country reports
Paragraph (c) of the Commission’s proposal provides that the Commission may issue Reports on distortions in markets around the world. These Reports would list distortions in the economies (or sectors of the economy) in the countries for which they would be written.
The reports would not draw any conclusions as to the impact of the distortions or the weight to be given to them. Rather the reports would be placed on the file of the of a particular investigation and the parties to that investigation would have ample opportunity to comment on them. Decisions on the consequences of the distortions would only be taken in the context of the specific investigation. In other words, if the investigation concerned a particular steel originating in China, the Report would allow the parties to the investigation to consider the distortions in the report and to argue the weight and the consequences of the distortions for that particular steel product. The Commission in turn would only make conclusions on the distortions in relation to that steel product.
Paragraph (d) of the Commission proposal provides that complainants may rely on the contents of reports when making complaints. Under EU and WTO law a complainant must show prima facie evidence of dumping. To do that the complainant must be able to know how to measure the dumping and therefore what prices from the country of origin to use. Paragraph (d) seeks to give clarity on this issue.
This aspect of the proposal gives rise to three basic problems. One, what if there is no country report? Or, what if the country report does not address all sectors of an economy and in particular the sector of concern to the complainant? Second, what are the consequences of the distortions? It is the complainant which much first determine the consequences of any particular distortion because on the basis of the weight that a complainant will give to that distortion the complainant will either dismiss all costs and prices in constructing the price and use off shore benchmarks or it will only dismiss a limited number of the input costs and prices. Third, what if the complainant gets it wrong? Does that mean the complaint has not met the prima facie test? Fourth, how will the exchange of evidence between the complainants and the exporting producers play out in the course of the investigation? What certainty can the complainants place on the report? What extra evidence might be needed to be placed on the file to show the impact of any one distortion on a particular product? Finally, what is the status of the three reports that the Commission has already issued that conclude that China has not met the five EU criteria for market economy status and that the economy is thereby distorted?
All these questions hinge around the issue of burden of proof. Under the current approach complainants know to use Article 2(7) and the clear rules set out in that article for non-market economies. Under the new proposal, there is only the uncertainty of the significance of the distortions for particular products. A particular distortion might be relevant for one product and not another or have difference consequences for the different products. But most importantly who will have the burden of showing the consequence of the distortion for a particular product.
The fact that any particular report does not draw conclusion has advantages. The main advantage is that it would not be a formal decision of the Commission and therefore not subject to challenge before the EU courts in Luxembourg (for those who might have standing to challenge it). And it is clear that the drawing up of reports would ease the burden on complainants which do not have the resources to find distortions in third country markets. But it cannot be denied that the new approach is more complex than the current approach and that it requires more work from EU complainants.
The proposal does not align the EU with the US
Underlying the Commission’s proposal, but not spelt out in it, is a shift to a Costs of Production method for constructing the price in the country of origin where there are significant distortions. The Commission will break down the costs of production into different factors. It is not known what these factors will be, but they are likely to include: capital, labour, raw materials, parts, energy, land, maintenance as well as accounting issues such as depreciation, administration and profits.
If one of the factors is distorted then the price will be constructed using an undistorted benchmark from outside the country of origin. This is current Commission practice for market economies. If more than one factor is distorted then more non-country of origin benchmarks can be used. One of the many questions to be determined is whether a particular distortion of the economy in the country of origin affects all the factors of production or only one, or some, of them and which costs or prices to use in constructing the costs of production. Would a distortion in the energy sector or in the provision of capital to a market be sufficient to distort the costs and prices of all or more than one factors of production?
The Commission is clearly attempting to mirror the approach taken in the United States to calculating dumping from non-market economies. The US uses the Factors of Production approach. However, the Commission Cost of Production approach is significantly different from the US Factors of Production approach and cannot be considered an alignment with it.
First, the US uses the factors of production approach for non-market economies only and thus the very use of the factors of production approach is based on the preliminary determination that a country has or has not a market economy. The US determined in 2006 that China was not a market economy and, until that determination is changed, complainants in the US have the certainty of using this approach when making complaints.
Second, because the US approach is based on the preliminary determination that a country is non-market, all values or costs and prices of all factors of production are taken from off-shore benchmarks. Thus, the complainant knows, in making the complaint, how to get a value for all the factors of production and can easily construct the price for the country of origin.
Third, the US approach does not allow the use of any costs and prices from the country of origin. The EU approach will result in a mix of both country of origin and international benchmarks as, unlike the US, it starts from an examination of country of origin prices.
Fourth, the US approach means that because of the 2006 determination that China is a non-market economy complainants in the US do not bear the burden of proving that a particular cost or price is distorted.
In simple terms, the US approach gives certainty. The EU approach does the opposite.
Improving on the Commission’s approach
The Commission’s approach is not without merit. It seeks to address the economic reality, and the consequences, of distortions to markets rather than the legal classification of those markets.
The Commission seeks to balance the absence of certainty in WTO law as to the substance of the concepts of ‘not in the ordinary course of trade’ and ‘particular market situation’ and the need to give effect to those concepts in EU law. The Commission proposal is intentionally flexible so as to allow for the implementation of the future rulings of the WTO as to how the concepts should be interpreted.
But it is this very flexibility that is causing such concern for the Union industry. These concerns relate to the functioning of the new system, its ability to provide an effective tool to address the evident distortions of the market in China, what new burdens will be placed on complainants and whether, over time, lawyers will whittle away the room for the Commission to achieve the promises it has made for the new system: that it will result in measures as effective as under the current Article 2(7) calculation methodology.
The uncertainty could be removed by recognising that the 2001 Accession Protocol provides a sufficiently strong basis for treating China differently from other WTO members. The WTO will, in the not too distant future, determine the full scope of this possibility.
That being said, amendments could be introduced into the proposal to remove many of the uncertainties inherent in the current text. Changes to the Commission proposal could include:
- In paragraph 6a(a) make clear that the new methodology is, in law, a new and stand-alone methodology, as the Commission insists it is, and not simply an embellishment of the existing Article 2(1) to 2(6) market economy approach. This can be achieved by removing the reference to ‘when applying this provision or any other relevant provision of this Regulation’ and or by placing the new provisions in a new Article 2(8).
- In paragraph 6a(a) ensure that the stand-alone methodology also allows the use of off-shore prices for the product concerned (rather than just values for the different factors of production of that product). This would ensure that the new rules allow the use of an off-shore price for the product concerned as a whole as well as allowing for the use of off-shore values for each element of the cost of production. This can be ensured by including the words ‘….. the normal value shall be based on a price or a price to be constructed ….’
- In paragraph 6a(a) remove the phrase ‘with a similar level of economic development as the exporting country’. This is too limiting of the range of sources for obtaining un-distorted prices.
- In paragraph 6a(b) expand the list of distortions to include the five NME criteria used heretofore and in particular reference to the absence of a competitive and independent financial sector and a functioning bankruptcy system. In other words, make reference to systemic distortions of markets.
- In paragraph 6a(c) require that the Report comes to a prima facie conclusion giving greater certainty to complainants and parties to investigations. This would bring the EU closer to the US system and lessen the burdens on EU complainants.
- In paragraph 6a(c) allow the use of old reports examining the market economy status of different countries as well as the conclusions of investigations of dumping of other products.
- In paragraph 6a(c) introduce a right for exporting producers to establish that the significant distortions do not distort costs and prices in the sector producing the product under consideration. This would reflect, but be more comprehensive than, the market economy treatment provisions in Article 2(7) and implement the provisions of Article 15(d) of China’s Accession Protocol.
- In paragraph 6a(d) expand the use of the Report and introduce the idea that a finding of distortions is prima facie evidence that prices and costs are not reliable and that all costs and prices to be used in constructing the normal value should come from off-shore benchmarks. This would improve the alignment of the EU system with that of the US.
- In paragraph 6a(d) introduce special rules to allow industries with a large incidence of SMEs to use prices for the product concerned rather than having to construct the normal value based on international benchmarks.
- In paragraph 6a(e) introduce a time limit on discussions of the methodology to be used.
Create a new paragraph 6a(f) to deal with the consequences of less than adequate cooperation by exporting producers and introducing consequences for lack of cooperation. For example, in the absence of cooperation or in the presence of significant distortions, the lesser duty rule should not be applied.
The changes proposed in this note would have the effect of giving more certainty to both complainants and exporting producers in EU anti-dumping investigations. This can only be to the benefit of all.