Going Gently into the Night

The U.S.-China Phase One Trade Agreement, signed on January 15, 2020, reached its conclusion at the end of 2021 with nothing to replace it. In December 2021, the U.S. Census Bureau released data on U.S. exports to China and confirmed the obvious: China had failed, miserably, to meet its purchase commitments of more than $200 billion over 2017 levels of select U.S. goods and services before the end of its two-year period. In fact, the trade deficit between the U.S. and China had actually increased since the deal took effect in 2020. For the casual U.S.-China watcher, the deal looked to be a catastrophic failure from both the Chinese and American perspectives. It is hard to blame the average consumer for feeling this way as tariffs remaining in place contribute to rising prices.

The media, particularly in the west, paid excessive attention to the purchase commitments aspect of the deal. However, it must be noted that the havoc that COVID-19 wrought on both the Chinese and American economies, as well as global supply chains, doomed any hope of fulfilling those purchase levels. Given that the Phase One purchase targets were made prior to the pandemic, it was a mistake not to revise them to address these new realities. It is essential not to forget that the purchase agreements were only one facet of this agreement. Their overemphasis paints an opaque picture about where negotiations will go from here now that two years have passed.

According to the USTR 2021 Report to Congress on China’s WTO Compliance, the 2017 investigation USTR conducted under Section 301 of the Trade Act of 1974 states that the primary complaints that the United States had against China’s trade practices could be boiled down into four categories: China’s joint venture requirements and other investment restrictions, China’s imposition of its own technology transfer licensing terms, the forced or pressured acquisition of U.S. company technologies and intellectual properties, and China’s support for illicit activities such as the theft of trade secrets or intellectual property. The Phase One Agreement halted a never-ending spiral of tit-for-tat tariffs and created an opportunity for candid negotiations between the two countries. However, this report makes the Biden administration’s position clear that not only have serious issues been left unaddressed in this deal, such as market access restrictions, continued intellectual property protection and enforcement gaps, and a doubling-down of China’s state-led economic practices, but that many tenets of the deal itself have been neglected. Therefore, USTR has indicated that the U.S. is “prepared to use domestic trade tools strategically as needed to achieve a more level playing field with China for U.S. workers and businesses.”

So, what can we expect in late 2022 and into 2023? With the Phase One Agreement having quietly expired, questions remain about whether the Biden Administration will lay on new tariffs due to China’s inability to keep its promises made in the deal, which Katherine Tai did not rule out as a possibility. There is likely little appetite in either country that any major escalations from the current status quo would occur until much later in 2022. In China, the 20th National Congress of the Chinese Communist Party is set to happen sometime in Q4 of this year, where Chinese President Xi Jinping is expected to take a third term and who also referred to the event as “a major event in the political life of the party and the country.” Around the same time as the 20th National Congress, the 2022 midterm elections in the United States could drastically impact the Biden administration’s plans should a “red wave” sweep the ballots. A resumption of a highly disruptive trade war that includes tit-for-tat tariffs during this period would likely appear very unpopular, particularly as inflationary pressures have hurt Biden in the polls. The removal of tariffs in the short term is even more unlikely, as both sides must not appear weak while also maintaining stability.

Bilateral consultations with China are only one tactic the U.S. will use to address its economic relationship with China. Instead, we are likely to see a more indirect approach in the short term. The Biden administration is preparing its long-awaited Indo-Pacific Economic Framework for launch in 2022, which is intended to “promote and facilitate high-standards trade, govern the digital economy, improve supply-chain resiliency and security, catalyze investment in transparent, high-standards infrastructure, and build digital connectivity” within the region. These pathways are already taking shape, such as removing Trump-era tariffs on steel and other raw materials between the European Union and, more recently, Japan. In addition to the phasing down of these other trade disputes, the relocation of vital supply chains in different regions of the Indo-Pacific, with significant attention now being paid to its key regional partners through the Quad and ASEAN. These actions indicate a possible ramping up of longer-term measures other than tariffs, such as mandatory movements of critical supply chains out of China to these regional partners.

The current state of play between the U.S. Trade Representative and China’s Ministry of Commerce (MOFCOM) is even less discussed and remains tight-lipped in their approach. Scholars and experts in either country have been wary in making predictions about a ‘Phase Two’ or something else entirely that may arise. More importantly, questions remain on whether the Phase One Agreement’s consultation mechanisms should be applied in the next round of negotiations. Fortunately, the contents and outcomes of the Phase One Agreement, in addition to domestic pressures in both countries, provide a window on the potential nature and timeline for subsequent actions. Should both governments maintain the status quo on its surface into the next calendar year, the business community and other stakeholders must carefully extrapolate hints from events outside regular bilateral discussions to prepare for significant developments in the long run.

This commentary was originally published on China-US Focus on March 4, 2022.