Altering China’s behavior without the use of costly tariffs

President Trump made the right call this week by extending the hard March 2 deadline when tariffs on $200 billion of Chinese goods would’ve increase to 25 percent from 10 percent.

Both sides should use the extra time to fashion an agreement that moves China in a reform-oriented direction while continuing the robust, mutually beneficial trade ties between the world’s two largest economies.

{mosads}The Trump administration’s complaints against China have merit. As the Office of the U.S. Trade Representative (USTR) laid out in a report last year, the Chinese government has been lax in enforcing intellectual property rights.

It also imposes unnecessary restrictions on foreign direct investment, such as requiring U.S. firms to transfer technology to their Chinese joint-venture partners. And some Chinese investments in the U.S. tech market are problematic.

Still, the administration’s response — imposing sweeping tariffs — has been arbitrary, unprecedented and grossly out of proportion to any actions by the Chinese government.

The most important outcome of any deal will not be changes in Chinese behavior, but the lifting of the misguided Section 301 duties the Trump administration began imposing last summer.

Those duties have imposed higher prices on U.S. families and higher costs on U.S. producers, inflicting real damage on our own economy. Chinese retaliation, meanwhile, has cost U.S. soybean farmers billions in lost sales that may now be forfeited permanently to suppliers in Russia and Brazil.

The draconian duties were never warranted. Despite the mostly one-sided USTR indictment, China’s record on intellectual property (IP) protection is mixed. Since joining the World Trade Organization in 2001, China has made significant progress in both modernizing and enforcing its IP laws.

The U.S. Chamber of Commerce, in its international IP index, ranks China 25th out of 50 major trading nations for its IP protections. According to the U.S. Department of Commerce, China paid $8.7 billion to U.S. companies in 2017 for the use of intellectual property, ranking fourth among U.S. trading partners.

China’s practice of requiring technology transfer as a condition of doing business is fundamentally different than outright IP theft, and it’s not an uncommon practice in less-developed nations. Multinational companies routinely accept it as a cost of doing business in those markets.

Despite restrictions, the U.S. Department of Commerce reports that U.S. companies operating in China generated $463 billion in sales and $34.5 billion in operating profits in 2016. 

Like IP protection, China’s policies on technology transfer have been moving in the right direction. In recent years, China has expanded the list of sectors where foreign firms are no longer required to engage in joint ventures and technology transfer, most recently to include automotive, aircraft, shipbuilding and certain financial services. 

According to Nicholas Lardy of the Peterson Institute for International Economics, the share of foreign direct investment in China that is free of technology transfer rules has climbed from less than 50 percent in 2000 to about 70 percent today.

As for concerns over Chinese investment in the United States, we should welcome foreign investment, including in the high-tech sector. If any Chinese investment poses a threat to U.S. security, the administration can halt it through the inter-agency Committee on Foreign Investment in the United States (CFIUS).

Congress expanded its scope last year, granting CFIUS enhanced authority to block acquisitions that could threaten national security. 

The best deal for both countries would be the immediate elimination of all Section 301 duties and those imposed by China in retaliation, coupled with renewed commitments from China to enforce intellectual property rights and to further liberalize its rules on foreign investment.

{mossecondads}The United States already possesses the necessary tools to enforce an agreement. First, the Trump administration can join with U.S. allies to file joint cases in the World Trade Organization (WTO) to pressure China to fully conform to its existing international commitments.

The WTO has proven effective at modifying the practices of the Chinese government in a more trade-friendly direction.

A second enforcement tool should be targeted legal and administrative action against Chinese parties directly responsible for IP violations.

The U.S. government has already brought cases against the Chinese state-owned enterprise Fujian Jinhua Integrated Circuit for conspiring to steal technology from the Idaho-based chipmaker Micron Technology and against the Chinese technology firm Huawei for allegedly stealing trade secrets from its U.S. partner, T-Mobile. This, not tariffs, is the right approach.

When President Trump next meets with Chinese President Xi Jinping, they should strike a deal to end the tariff war, codify China’s commitments to reform and police compliance through WTO and other legal actions.

The China hawks in Washington will complain, but the two presidents will have reached a good deal in the interests of both nations.

Daniel Griswold is a senior research fellow and co-director of the Trade and Immigration Project at the Mercatus Center at George Mason University.