U.S.-China Trade: Challenges and Choices to Apply Countervailing 
Duties to China (04-APR-06, GAO-06-608T).			 
                                                                 
Some U.S. companies allege that unfair subsidies are a factor in 
China's success in U.S. markets. U.S. producers injured by	 
subsidized imports may normally seek countervailing duties (CVD),
but the United States does not apply CVDs against countries,	 
including China, that the Department of Commerce classifies as	 
"non-market economies" (NME). In this testimony, which is based  
on a June 2005 report (GAO-05-474), GAO (1) describes the options
for applying CVDs to China, (2) the challenges that would arise, 
and (3) examines the likely results of applying CVDs on Chinese  
products.							 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-06-608T					        
    ACCNO:   A50777						        
  TITLE:     U.S.-China Trade: Challenges and Choices to Apply	      
Countervailing Duties to China					 
     DATE:   04/04/2006 
  SUBJECT:   Foreign governments				 
	     Importing						 
	     International economic relations			 
	     International trade				 
	     International trade regulation			 
	     International trade restriction			 
	     National policies					 
	     Policy evaluation					 
	     Restrictive trade practices			 
	     Subsidies						 
	     Trade policies					 
	     China						 

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GAO-06-608T

     

     * Summary
     * Background
     * Options Available to the Department of Commerce to Apply CVDs Against
       China
     * Commerce Would Face Challenges in Applying CVDs against China
     * It Is Uncertain Whether Applying CVDs Would Result in Increased
       Protections
     * Conclusions
     * Related GAO Products

Testimony

Before the U.S.-China Economic and Security Review Commission

United States Government Accountability Office

GAO

For Release on Delivery Expected at 9:00 a.m. EST

Tuesday, April 4, 2006

U.S.-CHINA TRADE

Challenges and Choices to Apply Countervailing Duties to China

Statement of Loren Yager, Director International Affairs and Trade

GAO-06-608T

Mr. Chairman and Members of the Commission:

I am pleased to be here today to contribute to the discussion related to
China's Industrial Subsidies and the Impact on U.S. and World Markets. We
appreciate the Commission's role and are pleased to be able to contribute
to your efforts.

Imports of goods from China have grown rapidly over the last decade,
rising to more than $242 billion in 2005 and making China the second
largest foreign supplier of the U.S. market after Canada. While the prices
of these Chinese goods are often lower than U.S. prices and therefore
benefit consumers, this growth has presented a major challenge for U.S.
producers that compete with Chinese products in the U.S. market. Some U.S.
companies adversely affected by this growth have alleged that unfair
Chinese government subsidies have been an important factor in the success
of Chinese companies in the U.S. market. U.S. officials have expressed
concern about Chinese subsidies in bilateral and multilateral meetings.
However, while U.S. producers injured by subsidized imports may normally
seek imposition of countervailing duties (CVDs) to offset the price
advantages that these subsidies confer, U.S. CVD laws are not currently
applicable against countries-including China-that the Department of
Commerce classifies as non-market economy (NME) countries. Various
parties-including U.S. industry representatives, some trade attorneys, and
this commission-have advocated taking steps to make CVDs available against
Chinese products.

Today I will focus my remarks on three issues, after providing some
background on CVD and antidumping duties under WTO and U.S. law. First, I
will describe the policy options currently available for applying CVDs
against China. Second, I will discuss the challenges of doing so. Finally,
I will summarize the likely results of applying CVDs to Chinese imports.

A number of the studies we have performed for the Congress address
important aspects of U.S.-China trade relations.1 We have stated in prior
testimony before this Commission that U.S. government efforts to ensure
that China complies with its WTO commitments will require a sustained
approach.2 My statement today is drawn mainly from our June 2005 report
U.S.-China Trade: Commerce Faces Practical and Legal Challenges in
Applying Countervailing Duties (GAO-05-474). The scope and methodology for
our work, which was conducted from January 2004 to June 2005 in accordance
with generally accepted government auditing standards, is detailed in an
appendix to that report.

1See Appendix 1 for a list of related GAO products.

2See GAO-05-295T.

                                    Summary

Commerce could choose one of two paths to apply U.S. CVD laws to China.
The current Commerce policy of not applying CVDs to countries with
non-market economies (including China) rests on two principles advanced in
1984 and confirmed by a federal appeals court. These were that Commerce
(1) lacks explicit authority to do so, and (2) cannot arrive at meaningful
conclusions regarding subsidies in such countries due to government
intervention in the economy. Following the first path, Commerce could,
when appropriate, reclassify China as a market economy or individual
Chinese industries as "market oriented" and apply CVDs against China as a
market economy. Commerce has criteria for such determinations, but
Commerce officials said that China is unlikely to satisfy them in the near
term. Following the second path, Commerce could reverse its 1984 position
and apply CVDs without any change in China's NME status. However, the
appeals court ruling raises serious doubt about Commerce's ability to make
such a change without a clear grant of authority from Congress and such a
decision could be challenged in court, with uncertain results. The House
passed legislation that would grant this authority in July 2005, and
companion legislation was introduced in the Senate.3 World Trade
Organization (WTO) rules do not explicitly preclude either alternative.

If Commerce were to apply CVDs against China, it would face substantial
challenges in determining appropriate CVD levels against Chinese products.
Chinese subsidies remain difficult to identify and quantify largely
because of the structure of the Chinese economy and the lack of
transparency in the country's subsidy regime. Commerce has no directly
relevant experience and little guidance in place to indicate how it would
proceed. It may be able to overcome these challenges at least partially by
using third-country information to create benchmarks as part of its
methodology for measuring subsidy benefits or by employing "facts
available" to complete cases in which foreign parties cannot or will not
provide needed information. However, these approaches would not fully
resolve the methodological challenges that would face Commerce. Moreover,
under current U.S. law, Commerce lacks explicit authority to use of
third-country information in CVD cases against China, as provided for in
China's WTO commitments.

3See H.R.3283, S.1421.

Making CVDs available against China would give U.S. producers an explicit
import relief measure that targets unfair government subsidies.
Nonetheless, it is unclear whether, on a net basis, applying CVDs would
provide greater protection than U.S. producers already obtain indirectly
in the form of antidumping duties calculated using the NME methodology.
CVDs alone tend to be lower than antidumping duties. If Commerce grants
China market economy status, both CVDs and antidumping duties could be
applied simultaneously. However, required methodological changes would
mean that AD duties would likely decline, especially for Chinese companies
not assigned individual rates. Individual company rates would likely
diverge, with those that do cooperate with Commerce receiving rates that
are substantially lower than those that do not cooperate. It is not clear
whether CVDs would compensate for these reductions. Regardless of China's
status, some duties might need to be reduced to avoid double counting of
subsidies. Commerce is required to reduce duties to avoid double counting
when export subsidies are involved. However, Commerce lacks clear
authority to make such corrections when domestic subsidies are involved.

As a result, in our 2005 report we made recommendations for Commerce to
analyze and report to Congress on its ability to measure Chinese subsidies
and what methodologies it might use to do so. We also asked Congress to
consider clarifying Commerce's authority to use third-country information
in CVD cases and to make corrections to avoid double counting of domestic
subsidies.

                                   Background

As explained below, WTO rules provide disciplines on subsidies and
countervailing measures used by China, the United States, and other WTO
members. China accepted additional commitments in this area when it joined
the WTO in 2001. U.S. procedures for countervailing duty actions reflect
WTO rules. Such CVD actions are usually applied in tandem with antidumping
duties.

WTO Agreement Provides General Rules

The WTO Agreement on Subsidies and Countervailing Measures defines a
subsidy as a financial contribution by a government or any public body
within a WTO member that confers a benefit. While the agreement imposes an
outright ban on some types of subsidies,4 most types are not completely
prohibited but are classified as actionable under certain conditions.
Actionable subsidies are those that are specific-i.e., benefit a specific
enterprise, industry, or group of enterprises or industries-and cause
adverse effects to the interests of another WTO member, such as injury to
their domestic industries.

According to the WTO, members may impose CVDs when they (1) identify
subsidized imports, (2) determine that a domestic industry is suffering
injury, and (3) establish a causal link between the subsidized imports and
the injury suffered. These duties are intended to offset the price
advantages that the subsidy confers on the imported product and, more
broadly, to encourage governments that maintain subsidies to eliminate
them. The subsidies agreement requires that the investigating authorities
quantify the value of the subsidies provided and limit the level of duty
imposed to that value.

To facilitate identification of subsidies and the evaluation of their
trade effects, the agreement requires WTO members to provide the
organization with annual notifications on all of the specific subsidies
they maintain and to provide additional information on any of these
programs when requested. The agreement specifies that member states should
provide sufficient information "to enable other Members to evaluate the
trade effects and to understand the operation of notified subsidy
programs."5

China Made Additional WTO Commitments

China made additional commitments regarding industrial subsidies as part
of its agreement to join the WTO. China agreed, upon WTO accession, to
terminate all subsidies on exports, as well as the subsidies conditioned
upon the use of either domestic goods or export performance. China listed
24 subsidy programs in the accession agreement and agreed to eliminate 3
programs upon accession. The 24 programs include direct subsidies given by
central and local governments to money-losing state-owned enterprises and
many other types of indirect subsidy programs. Indirect subsidies include
loan priorities, preferential tariffs, tax breaks given to firms
encouraged by the government because of their location, export performance
(amount of exports), and use of local resources for the products they
make.

4Export subsidies (those contingent on export performance) and local
content subsidies (those contingent on use of domestic over imported
goods) are explicitly prohibited.

5WTO Agreement on Subsidies and Countervailing Measures, art. 25.3.

Among the three programs that China agreed to eliminate, two were related
to subsidies to the automobile sector, and the other was the central
government's program to give budgetary subsidies to money-losing
state-owned enterprises. China also committed to treating other subsidies
given to state-owned enterprises as subsidies to private enterprises and
subjecting them to WTO disciplines. Furthermore, China agreed not to
invoke certain articles in the Agreement on Subsidies and Countervailing
Measures that make determination of "actionable" subsidies more difficult
to establish against developing countries. Given China's present level of
economic development and reform, some WTO members were concerned about the
potential for China to maintain or raise industrial subsidies, especially
to state-owned enterprises. Some members also raised concerns that China's
reporting on subsidies in the WTO negotiations was incomplete. In
response, China agreed to work toward full notification and acknowledged
that subsidies are sometimes difficult to identify.

U.S. Procedures Reflect WTO Rules

Under U.S. law,6 CVDs may be imposed against subsidized imports from other
WTO members when a U.S. industry is materially injured or threatened with
injury or the establishment of an industry in the United States is
materially retarded.7 The U.S. International Trade Commission (ITC) and
the Department of Commerce share investigative and decision-making
responsibility in CVD cases. The ITC determines whether there is material
injury or threat thereof to the domestic industry by reason of the subject
imports. Commerce determines whether the foreign country is providing a
countervailable subsidy, and, if so, the size of the subsidy and the size
of the CVD to impose. To make these determinations, Commerce solicits
information from exporting country governments and from individual
producers and exporters of the subject merchandise and applies this
information to establish appropriate duty rates for each known exporter or
producer.8

619 U.S.C. S:1671 and following.

7U.S. law requires an injury test when the exporting country is a WTO
member or meets certain other criteria. 19 U.S.C. S:S:1671(b) and (c).

Commerce will dismiss petitions that (1) do not allege the elements
necessary for imposition of a duty and contain information "reasonably
available to the petitioner" in support of these allegations, or that (2)
have not been filed by or on behalf of the domestic industry concerned.
The information to be submitted must address, among other things, the
nature of the subsidies provided to the foreign producers, the competitive
benefits that these subsidies bestow, and injury to the U.S. industry by
reason of the subject imports.

Countervailing Duties Usually Applied in Tandem with Antidumping Duties

The United States has imposed CVDs with some regularity, on a variety of
products from a variety of countries.9 From 1995 through 2004, U.S.
domestic industries petitioned the Department of Commerce and the ITC for
72 CVD investigations against 43 different products from 25 countries.
Thirty-six of these investigations (50 percent) resulted in application of
CVDs. Generally, when petitioners seek imposition of CVDs, they also seek
imposition of antidumping duties on the same product from the same
country. In 69 of the 72 CVD cases, petitioners also requested a companion
antidumping investigation.

Dumping occurs when a foreign company sells merchandise in a given export
market (for example, the United States) at prices lower than the prices
charged in the producers' home market or another export market. When this
occurs, and when the imports have been found to materially injure, or
threaten to materially injure, U.S. producers, WTO rules, and U.S. laws
permit application of antidumping duties to offset the price advantage
enjoyed by the imported product. As in CVD cases, Commerce analysts
establish antidumping duties for each known producer or exporter.

8Individual company rates can vary a great deal, depending upon the facts
in each case. In one recent case, for example, the Commerce Department
applied a CVD of about 17 percent to one Indian exporter of carbazole
violet pigment, but a rate of about 34 percent to another Indian exporter
of this product. 69 Fed. Reg. 77995 (Dec. 29, 2004).

9The United States has more CVDs in place than any other country.
According to the WTO, the United States had 57 CVD measures in place as of
June 2004. The next highest reported totals were for the European
Community (18) and Canada (10). See WTO, Report of the Committee on
Subsidies and Countervailing Measures, G/L/711 (Geneva: Nov. 9, 2004).

Petitioners requesting antidumping investigations do not always request
CVD investigations, and CVDs are, in fact, sought and imposed much less
frequently than are antidumping duties. From 1995 through 2004, U.S.
industry groups petitioned for nearly five times as many antidumping as
countervailing duty investigations (354 compared with 72). Similarly, the
United States put in place over four times as many antidumping duty orders
(156) as it did CVD orders (36).

Figure 1 shows the distribution of these countervailing and antidumping
duty orders by year for 1996 through 2004. For antidumping orders, these
are further broken down into orders against market economies, China, and
other nonmarket economies. The number of CVD orders imposed might have
been higher, and the contrast with antidumping duty orders less
pronounced, if CVDs had been available against nonmarket economies during
this period. Nonetheless, figure 1 shows that even among market economy
countries, the United States imposes CVDs much less frequently than
antidumping duties.

Figure 1: U.S. CVD Orders against All Countries and Antidumping Duty
Orders against Market Economies, Other NME Countries, and China, 1996-
2004

  Options Available to the Department of Commerce to Apply CVDs Against China

The U.S. government does not apply its CVD laws against China because the
Department of Commerce classifies China as an NME country and has adopted
a policy against taking CVD actions against countries so designated.
Commerce (or Congress) could take one of two paths to apply U.S. CVD law
to China. First, they could change China's NME status to a market economy
status in whole or in part and allow Commerce to apply U.S. CVD law to
China on a country or industry basis. Alternatively, they could decide
that CVD law could be applied to China while it remains classified as an
NME country. WTO rules, including relevant provisions of China's WTO
accession agreement, do not explicitly preclude the United States from
pursuing either alternative.

The Department of Commerce Does Not Apply CVD Law to China as an NME Country

The policy not to apply CVD law rests upon two principles, first advanced
in two 1984 Department of Commerce decisions and subsequently upheld by
the U.S. Court of Appeals for the Federal Circuit. These principles were
(1) from a legal perspective, Commerce does not have explicit authority to
apply CVDs against NME countries; and (2) as a practical matter, Commerce
cannot arrive at economically meaningful conclusions regarding subsidies
in such countries.

The Department of Commerce classifies China, as well as Vietnam and a
number of former Soviet republics, as NME countries. Under U.S. trade law,
Commerce may classify any country that does not operate on market
principles -"so that sales of merchandise in such country do not reflect
the fair value of the merchandise" -as an NME country.10 Commerce has
classified China as an NME country since 1981.11

U.S. trade law does not contain any explicit prohibition against applying
CVDs to NME countries. Nonetheless, the Department of Commerce determined
in 1984 that it did not have explicit legal authority to apply CVDs to
such countries. Commerce set forth its conclusions on this matter in
rulings denying CVD protection against carbon steel wire rods from Poland
and Czechoslovakia, which were then considered NME countries.12 In its
1984 determinations, the Department of Commerce also concluded that it
cannot measure subsidy benefits in NME countries. In explaining this
conclusion, Commerce observed that, in market economy countries, markets
generate prices that can be used to measure the impact of government
subsidies. However, in NME countries, government intervention in the
economy is so pervasive that one cannot make meaningful comparisons
between market-determined prices and those that have been distorted by
government intervention.

1019 U.S.C. S:1677(18).

11Final Determination at Less Than Fair Value: Natural Menthol from the
People's Republic of China, 46 Fed. Reg. 24614, May 1, 1981.

1249 Fed. Reg. 19370, 19374 (May 7, 1984).

The U.S. Court of Appeals for the Federal Circuit upheld Commerce's
decision in Georgetown Steel Corp. v. United States.13 In upholding
Commerce's position in this matter, the Court of Appeals found that
governments with nonmarket economies control their trading entities by
determining where, when, and what they will sell, and upon what terms.
When no market exists, subsidies cannot be found to distort market
decisions.

Department of Commerce Could Act to Apply CVD Law

Commerce could take either of two paths to applying U.S. CVD law to China.
First, Commerce could use its administrative authority to change China's
NME status in whole or in part. This would allow Commerce to apply U.S.
CVD law to China on a country or industry basis. Commerce, for example,
recently granted Ukraine market economy status. We detail the criteria for
making such determinations, which include currency convertibility, in our
report. However, Commerce officials observed that it may be difficult for
China to meet these criteria in the near term. Furthermore, they noted
that Chinese representatives have not yet officially requested that
Commerce review their country's NME status under U.S. law.14

Alternatively, CVD law could be applied to China while it remains
classified as an NME country. Congress could pass legislation now under
consideration to apply countervailing duties to NME countries. Commerce
could reverse its 1984 position to do this; however, we believe that
absent a clear grant of authority from Congress, such a reversal could be
challenged in court. The results of such a challenge would be uncertain.
The Court of Appeals upheld Commerce's position, but the court also
appeared to make its own findings. The court emphasized that trade
legislation showed that Congress had intended that any selling by NME
countries at unreasonably low prices should be dealt with under the
antidumping law and that there was no indication that Congress had
intended or understood that the CVD law would also apply. The court
stated, in addition, that "[i]f [antidumping law] is inadequate to protect
American industry from such foreign competition (resulting from sales in
the United States of merchandise that is priced below its fair value) . .
. it is up to Congress to provide any additional remedies it deems
appropriate."15 The Uruguay Round Agreements Act,16 adopted in 1994, made
important changes in U.S. CVD law but did not add any language authorizing
CVD actions against NME countries. Moreover, the Statement of
Administrative Action accompanying the Act acknowledged that the
Georgetown Steel ruling stood for "the reasonable proposition that the CVD
law cannot be applied to imports from nonmarket economy countries."17

13801 F.2d 1308 (Fed. Cir. 1986). In upholding the Department of
Commerce's position, the Court of Appeals overruled an earlier ruling in
the same case by the Court of International Trade, which had reversed the
Department's position. See Continental Steel v. United States, 614 F.
Supp. 548, 550 (C.I.T. 1985).

14Commerce also has the authority to designate individual NME industries
as market oriented in character. Commerce officials noted that on several
occasions Chinese industries responding to antidumping duty petitions have
requested designation as market-oriented industries. To date, Commerce has
denied such requests-primarily on the grounds that the Chinese companies
in question submitted information that was insufficient or was provided
too late in Commerce's process to allow an informed decision.

         Commerce Would Face Challenges in Applying CVDs against China

Although Commerce could proceed with CVD actions against China, it would
continue to face substantial practical challenges in identifying Chinese
subsidies and determining appropriate CVD levels. Commerce could employ
third-country information or "facts available" to complete China CVD
actions. However, these approaches would not eliminate the challenges that
such actions would present. Moreover, Commerce lacks explicit legal
authority to implement China's WTO commitment allowing other members to
employ third-country information in CVD actions against China.

15801 F.2d 1308, 1318 (Fed. Cir. 1986).

16Pub. L. No. 103-465, 108 Stat. 4809, adopted Dec. 8, 1994.

17The statement presented the Clinton administration's views on the
interpretation and application of the agreements resulting from the
Uruguay Round of trade negotiations and was approved by Congress as part
of this Act. 108 Stat. 4814, 19 U.S.C. S: 3511(a)(2).

Chinese Subsidies Remain Difficult to Identify and Assess

Several trade experts stated that, even in the best of circumstances, it
can be quite difficult to identify and quantify subsidy benefits.18 In
joining the WTO, China specifically agreed to provide the organization
with information on all of its subsidies as called for in the WTO
subsidies agreement. Some trade experts we spoke with believed that
sufficient information could be obtained to understand and estimate the
benefits derived through Chinese subsidies. However, U.S. government
officials and other trade experts said that it remains particularly
difficult to obtain substantive information about Chinese subsidies.

Commerce officials told us that despite substantial reform in China,
underlying features of the Chinese economy continue to make it difficult
to identify appropriate benchmarks for measuring subsidies. For example,
according to USTR, most Chinese subsidies are believed to be provided
through the country's financial system. However, some trade experts stated
that government control over the banking system in China makes it
difficult to identify market-determined rates of interest that could be
used as benchmarks to determine whether, or to what extent, particular
companies or industries are benefiting from credit subsidies. U.S.
government and private sector analysts added that because the Chinese
government heavily influences allocation of credit by favoring some
industries over others, it is uncertain how to quantify the subsidy
benefits conferred through this process. In addition, some attorneys and
Commerce officials have said that lack of adherence to generally
recognized accounting standards and unreliable bookkeeping among Chinese
companies can make accurate identification and measurement of subsidy
benefits extremely difficult.

Commerce may find employing third-country information or "facts available"
helpful in completing China CVD actions. However, these approaches would
not fully resolve the challenges Commerce would face. WTO rules allow
members to apply alternate methodologies-not based strictly on information
from within the exporting country-to calculate antidumping duties in
certain cases. The organization's rules do not make explicit provision for
applying third-country information in CVD cases. However, China's WTO
accession agreement specifically permits application of third-country
information in CVD determinations. The agreement states that countries
attempting to identify and quantify subsidy benefits in China may
encounter special difficulties because "prevailing terms and conditions in
China may not always be available as appropriate benchmarks." In such
situations, the agreement allows other member countries to employ "terms
and conditions prevailing outside China" to generate benchmarks that can
be used to measure subsidy benefits and establish appropriate CVDs. This
provision has no expiration date and does not differentiate between China
as a market or a nonmarket economy. Commerce has not attempted to develop
methodologies or procedures for determining CVDs against products from
nonmarket economies-based either on information from within the country
itself or from a third country. Nonetheless, Commerce officials stated
that, if required, they would endeavor to apply existing guidance and
conduct an investigation that would withstand analytical and legal
scrutiny.

18WTO officials observed that even the United States-where government
actions influencing the economy are comparatively well documented-has had
difficulty identifying and quantifying subsidy information that it is
required to report to the WTO.

Commerce Does Not Have Explicit Authority to Implement China's WTO Commitment
Regarding Third-Country Information in CVD Cases

Existing U.S. laws do not provide Commerce with clear authority to fully
implement China's WTO commitment allowing members to use third-country
information to identify and measure Chinese subsidy benefits. Even before
China joined the WTO, U.S. trade law specifically allowed for
implementation of the first of these commitments-application of
third-country information in antidumping cases. Congress passed
legislation-commonly referred to as section 421-implementing the second
(involving application of safeguard measures).19 While Congress did not
adopt legislation to implement China's third import-relief commitment
(regarding textile safeguards), existing legislation provides the U.S.
interagency group responsible for processing textile safeguard cases20
with authority to implement such measures.21

In contrast, U.S. trade law was not amended with regard to applying
countervailing duties to China. Specifically, the legislation that
implemented section 421 and facilitated the United States granting
permanent normal trade relations status to China did not explicitly
authorize Commerce to implement China's fourth commitment regarding
application of third-country information in CVD cases. We found that U.S.
trade law does not otherwise clearly state that Commerce may apply
third-country information in such cases against foreign countries in
general.22

19Section 421 of the Trade Act of 1974, as amended, Pub. L 106-286, 114
Stat. 882, 19 U.S.C. S: 2451. This section implements article 16 of
China's WTO protocol of accession, which authorizes other WTO members to
apply product-specific safeguards on Chinese imports that are deemed to be
causing or threatening to cause market disruption.

20This interagency group, which is headed by the Commerce Department, is
the Committee for the Implementation of Textile Agreements.

21See 7 U.S.C. 1854 and Exec. Order 11651, 37 Fed. Reg. 4699 (Mar. 3,
1972), as amended.

This lack of clarity raises a question about whether Commerce could
currently apply this commitment, even if it were to decide to reclassify
China as a market economy or specific Chinese industries as market
oriented in character. Department of Commerce officials said they had not
yet decided whether Commerce could fully apply the commitment in the
absence of authorizing legislation.

It Is Uncertain Whether Applying CVDs Would Result in Increased Protection

Making CVD procedures available to U.S. producers that believe they are
injured as a result of unfairly subsidized Chinese imports would provide a
mechanism for taking actions that specifically target Chinese government
subsidies. However, it is unclear whether, on a net basis, applying CVDs
would provide greater protection than U.S. producers already obtain from
antidumping duties. CVDs alone tend to be lower than antidumping duties.
If Commerce grants China market economy status, both CVDs and antidumping
duties could be applied simultaneously, but required methodological
changes could well reduce antidumping duties. It is not clear whether CVDs
would compensate for these reductions. Regardless of China's status, some
duties might need to be reduced to avoid double counting of subsidies.
Commerce lacks clear authority to make such corrections when domestic
subsidies are involved.

22Commerce regulations do provide for application of third-country
information to CVD cases-but only in some circumstances. For example,
according to Commerce, 19 C.F.R. S: 351.505 authorizes use of
international lending rates to measure subsidy benefits from certain
loans. However, this provision only applies to loans and does not
specifically authorize use of third-country information.

CVD Rates Tend to Be Lower Than Antidumping Duties

If CVDs were applied to China, U.S. companies may experience substantial
difficulty in competing with Chinese companies that owe their existence to
favorable government actions in the past because legitimately applied CVDs
could be minimal. U.S. CVDs vary but tend be lower than companion
antidumping duties. This may, in part, explain why U.S. producers seek
CVDs less often than antidumping duties. Figure 2 compares CVDs, which are
currently only applied to market economies, with antidumping duties
imposed on the same products over the last decade. CVDs imposed on these
products varied from less than 2 percent to more than 60 percent. However,
CVDs were lower than companion antidumping duties in nearly 70 percent of
the 36 cases in which the United States imposed CVDs. The average CVD rate
imposed in these cases was about 13 percent, while the average antidumping
duty rate imposed was about 26 percent.

Figure 2: U.S. Countervailing Duties and Companion Antidumping Duties,
1995-2004

Note: This figure compares "all others" duty rates. See GAO-05-474 for
more detail.

Under the WTO subsidies agreement and U.S. law, CVD rates are limited to
the levels required to offset the amount of the subsidies.23 For example,
a company may be receiving government credit subsidies that reduce its
capital costs by 20 percent. This advantage may make a real difference in
the company's ability to compete in the international market. However,
Commerce stated that CVD rates are calculated by dividing the total value
of subsidy benefits by the total value of an exporting company's sales.
Since the subsidy just mentioned affects only one portion of the company's
balance sheet (capital costs), the CVD applied to offset this benefit may
be much lower than 20 percent. In some instances, past government
intervention and support may have been critical to an exporting industry's
start-up or survival. However, loans and nonrecurring benefits, such as
equity infusions or grants, are generally amortized over a period of
years. After several years have passed, the current value of these
subsidies may have declined to a comparatively insignificant level.

Change in Methodology May Lower Antidumping Duties:

If administrative actions reclassified China as a market economy (in whole
or in part), Commerce would have to change its methodology for calculating
antidumping duties on affected Chinese products. This is significant
because, as noted earlier, CVD actions usually have a companion
antidumping action. U.S. law allows Commerce to employ its
third-country-based methodology to calculate antidumping duties only when
the merchandise in question is being produced in countries that it
classifies as NMEs. Based on our analysis, we believe a change to a market
economy methodology would lower AD duties for some Chinese companies.
Duties would likely decline for Chinese companies not assigned individual
rates. Individual company rates would likely diverge, with those that do
cooperate with Commerce receiving rates that are substantially lower than
those that do not cooperate. In any case, as we explain in another report,
it appears that the actual trade impact of the NME antidumping methodology
will decline. As the portion of total export trade conducted by Chinese
companies assigned individual rates increases, the country-wide rates that
largely account for the comparatively high average rates applied to China
decline in importance.24

23See article 19 of the WTO Agreement on Subsidies and Countervailing
Measures, and 19 U.S.C. S:1671(a).

24GAO, U.S.-China Trade: Eliminating Nonmarket Economy Methodology Would
Lower Antidumping Duties for Some Chinese Companies, GAO-06-231.
(Washington, D.C.:, Jan. 10, 2006.)

Adjustments Required to Avoid Double Counting of Export Subsidies

Both WTO rules and U.S. laws require adjustments in combined duty rates to
avoid double counting of export subsidies. WTO rules specify that no
product can be subjected to both antidumping and countervailing duties "to
compensate for the same situation of dumping or export subsidization."25
U.S. law echoes this provision, in effect, by requiring adjustments in
antidumping duties in the event that CVDs are applied simultaneously to
counter export subsidies on the same products.26 The rationale behind
these provisions is that, since antidumping duties are calculated by
comparing domestic prices with export prices, such duties already offset
the price advantage that export subsidies confer over the prices charged
in the exporter's domestic market. When imposing both countervailing and
antidumping duties on market economies, Commerce adjusts antidumping duty
rates downward by any amount that is attributable to export subsidies.

Commerce would be obliged to make such adjustments when applying both
types of duties to China, regardless of whether China remains an NME
country under U.S. law. The extent to which Commerce would have to reduce
antidumping duty rates to avoid double counting Chinese export subsidies
is unknown. As already noted, China agreed to cease providing export
subsidies upon joining the WTO. Some trade experts allege that China has
nonetheless continued to provide such subsidies. However, no industry
group has petitioned for application of countervailing duties against
Chinese subsidies, and U.S officials have not attempted to quantify the
benefits provided by Chinese subsidy programs in general, or export
subsidies in particular.

Commerce Lacks Clear Authority to Adjust for Potential Double Counting of
Domestic Subsidies

If Commerce were to apply CVDs to China while it retains its NME status,
another potential source of double counting could emerge with regard to
another type of subsidy. In principle, double counting of actionable
domestic subsidies generally does not occur when analysts employ
information from exporting countries themselves to determine duty rates.
However, it may occur when analysts use third-country information. Current
trade law does not make any specific provision for adjusting antidumping
duties in such situations, and the implications of such situations arising
are therefore unclear.

25WTO General Agreement on Tariffs and Trade, art. VI.5.

2619 U.S.C. S:1677a(c)(1)(C).

When an antidumping duty is calculated using the third-country-based
methodology that Commerce applies to NME countries, the normal value of
the product (the basis for calculating an antidumping duty) is based not
on Chinese prices (which might be artificially low as a result of domestic
subsidies) but on information from a country where prices are determined
by free markets. Thus, when the normal value is compared with the export
price, the difference will, at least in theory, reflect the price
advantages that the exporting company has obtained from both export and
domestic subsidies.27

Economists, trade law practitioners, and Commerce officials we consulted
disagreed on whether, in practice, antidumping duties derived using
third-country information effectively offset all of the subsidy benefits
enjoyed by Chinese exporters.28 However, they generally agreed that, in
theory, antidumping duties derived in this way do offset much of the value
of both export and domestic subsidies. As a result, it appears that some
double counting of actionable domestic subsidies could occur if Commerce
used its NME methodology to calculate antidumping duties on the same
products against which it also applied CVDs.

Commerce lacks clear authority to make such corrections when domestic
subsidies are involved. The relevant WTO agreements are silent with regard
to making adjustments to avoid double counting actionable domestic
subsidies, and U.S. law does not provide Commerce with any specific
authority to avoid double counting in such situations. As a result,
Commerce officials observed that the department would have no choice but
to apply both duties without making such adjustments. While at least two
U.S. courts have suggested that double counting to compensate for the same
unfair trade practice is generally considered improper, they have not
ruled on the specific question of whether double counting of actionable
domestic subsidies, in particular, is improper. Commerce officials stated
that, theoretical arguments aside, interested parties finding fault with
Commerce's decision making would have to prove that there was actual
double counting.

27In contrast, when a market economy methodology is used, both the normal
value and the export price will, in principle, reflect the benefits that
the producer has derived from domestic subsidies. Therefore, comparing the
normal value with the export price will not result in an antidumping duty
rate that captures the benefits provided by these subsidies; these
benefits will be captured only in a CVD investigation. Thus, domestic
subsidy benefits generally would not be double counted.

28For example, some experts believe that Commerce's analyses may not
result in antidumping duties that fully offset Chinese subsidies because
the third-market values employed by the department may be distorted by
subsidies provided by other governments.

                                  Conclusions

Congress is considering legislation that would authorize Commerce to apply
CVDs to China as an NME country; however, substantial practical questions
about how such cases would proceed remain unanswered, and the results that
they would produce are uncertain. Commerce has had no experience in
attempting to complete CVD investigations on Chinese products and has no
specific guidance in place for how to proceed.

Furthermore, Commerce lacks clear authority under U.S. law to either fully
implement China's WTO commitment regarding the use of third-country
information in CVD cases or adjust antidumping duty rates to avoid double
counting of Chinese domestic subsidy benefits. Given this lack of clarity,
it is reasonable to expect that parties objecting to Commerce's decisions
on these issues would challenge relevant aspects of CVD decisions against
China, complicating and delaying application of such duties to products
from that country. Until these issues are clarified, policymakers will not
be fully informed about the implications of applying U.S. CVD laws to
China, and Commerce will not be prepared to implement such a change in
policy.

As a result, we recommended that the Secretary of Commerce analyze and
report to Congress on Chinese subsidies and the potential methodological
approaches it might employ. Unfortunately, the Secretary disagreed with
our recommendations, saying that this would be too speculative. He
commented that it would not, therefore, be meaningful or appropriate to
prepare such a report before an actual case was filed and that such a
report could prejudge the outcome of future actions.

In the event that (1) Commerce changes China's NME status or (2) Congress
decides to adopt proposed legislation that would authorize Commerce to
apply U.S. CVD laws to NME countries, including China, we suggested that
Congress provide Commerce clear authority to:

           o  fully implement China's WTO commitment regarding use of
           third-country information in CVD cases, and
           o  make corrections to avoid double counting domestic subsidy
           benefits when applying both CVDs and antidumping duties to the
           same products from NME countries, in situations where Commerce
           finds that double counting has in fact occurred, taking into
           account Commerce's analyses of this issue prepared in response to
           our recommendation above.29

           In response, Commerce took the position that there is no explicit
           statutory bar to its application of CVD law to NME countries and
           stated that the department would carefully consider any CVD
           petition. We modified our report to clarify the point that
           Commerce could decide, in response to a petition, that
           circumstances warrant and permit a change in its policy. However,
           given that Commerce determined in 1984 that it did not have
           explicit legal authority to take such an action, and that this was
           subsequently upheld and affirmed by a federal appeals court and
           later confirmed by a 1994 statement of administrative action, we
           continue to believe that there would be legal obstacles to a
           change in Commerce policy.

           Commerce cited some legal authority for using external benchmarks
           in CVD cases. We evaluated this information and added a discussion
           in our report. We were not convinced that the cited authority
           would clearly provide for full implementation of the special
           methodology in China's WTO accession agreement. An explicit grant
           of authority by Congress would remove doubt and lesson the chances
           for legal disputes; therefore, we continue to believe our
           suggestion is prudent. Commerce also said our suggestion that
           Congress provide Commerce with authority to correct any double
           counting of domestic subsidies in companion CVD and antidumping
           actions was not warranted or appropriate because Commerce had not
           yet encountered this situation, such corrections might be too
           difficult, and China would be placed in a special category
           distinct from all other countries. We maintain that our analysis
           shows that there is substantial potential for double counting of
           domestic subsidies if Commerce applies CVDs to China while
           continuing to use its current NME methodology to determine
           antidumping duties. We believe that, in such a situation, Commerce
           should be provided authority to proactively address potential
           double counting, rather than waiting for it to occur and create
           methodological and legal problems.

           Mr. Chairman and Members of this Commission, this concludes my
           prepared statement. I would like to acknowledge Adam Cowles,
           Assistant Director, who helped prepare this statement and led our
           work on China trade remedies. I would be happy to answer any
           questions that you may have.

           U.S.-China Trade: Eliminating Nonmarket Economy Methodology Would
           Lower Antidumping Duties for Some Chinese Companies. GAO-06-231.
           January 10, 2006.

           China Trade: U.S. Exports, Investment, Affiliate Sales Rising, but
           Export Share Falling. GAO-06-162. December 9, 2005.

           U.S.-China Trade: The United States Has Not Restricted Imports
           under the China Safeguard. GAO-05-1056. September 29, 2005.

           U.S.-China Trade: Commerce Faces Practical and Legal Challenges in
           Applying Countervailing Duties. GAO-05-474. June 17, 2005.

           U.S.-China Trade: Opportunities to Improve U.S. Government Efforts
           to Ensure Open and Fair Markets. GAO-05-554T. April 14, 2005.

           U.S.-China Trade: Textile Safeguard Procedures Should Be Improved.
           GAO-05-296. April 4, 2005

           U.S.-China Trade: Observations on Ensuring China's Compliance with
           World Trade Organization Commitments. GAO-05-295T. February 4,
           2005.

           U.S.-China Trade: Opportunities to Improve U.S. Government Efforts
           to Ensure China's Compliance with World Trade Organization
           Commitments. GAO-05-53. October 6, 2004.

           World Trade Organization: U.S. Companies' Views on China's
           Implementation of Its Commitments. GAO-04-508. March 24, 2004.

           World Trade Organization: Ensuring China's Compliance Requires a
           Sustained and Multifaceted Approach. GAO-04-172T. October 30,
           2003.

           GAO's Electronic Database of China's World Trade Organization
           Commitments. GAO-03-797R. June 13, 2003.

           World Trade Organization: First-Year U.S. Efforts to Monitor
           China's Compliance. GAO-03-461. March 31, 2003.

           World Trade Organization: Analysis of China's Commitments to Other
           Members. GAO-03-4. October 3, 2002.

           World Trade Organization: Selected U.S. Company Views about
           China's Membership. GAO-02-1056. September 23, 2002.

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29We limit this matter for congressional consideration to situations
involving NME countries because we believe that it is unlikely that double
counting problems involving domestic subsidies will arise in companion
antidumping and countervailing duty actions against market economy
countries.

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Highlights of GAO-06-608T , testimony to the U.S.-China Economic and
Security Review Commission

April 2006

U.S.-CHINA TRADE

Challenges and Choices to Apply Countervailing Duties to China

Some U.S. companies allege that unfair subsidies are a factor in China's
success in U.S. markets. U.S. producers injured by subsidized imports may
normally seek countervailing duties (CVD), but the United States does not
apply CVDs against countries, including China, that the Department of
Commerce classifies as "non-market economies" (NME). In this testimony,
which is based on a June 2005 report (GAO-05-474), GAO (1) describes the
options for applying CVDs to China, (2) the challenges that would arise,
and (3) examines the likely results of applying CVDs on Chinese products.

What GAO Recommends

In its 2005 report, GAO recommended that Commerce report on its ability to
measure Chinese subsidies and the methodologies it might use to do so.
Also, GAO suggested that Congress may wish to clarify Commerce's authority
in several respects if CVDs are to be applied to China.

Agency officials thought GAO's recommendations were unnecessary. GAO
maintains they are prudent in light of Commerce's lack of explicit
authority in this area and to prepare for potential CVD cases.

There are two alternative paths for applying CVDs to China. First,
Commerce could determine that China is no longer a nonmarket economy and
apply CVDs against China as a market economy. Commerce has criteria for
such determinations but stated that China is unlikely to satisfy them in
the near term. Second, it could reverse its 1984 position, which was
confirmed by a federal appeals court, and apply CVDs without changing
China's NME status. However, absent a clear congressional grant of
authority, such a decision could be challenged in court, with uncertain
results. The House of Representatives passed legislation that would grant
this authority in July 2005, and companion legislation was introduced in
the Senate. World Trade Organization (WTO) rules do not explicitly
preclude either alternative.

Commerce would face challenges, regardless of the alternative adopted.
Chinese subsidies remain difficult to identify and measure. Employing
third-country information or "facts available" may help but would not
eliminate these difficulties. Commerce lacks clear authority to fully
implement China's WTO commitment on the use of third-country information
in CVD cases.

Making CVDs available against China would give U.S. producers an explicit
import relief measure that targets unfair government subsidies. However,
on a net basis, applying CVDs might not provide greater protection than
U.S. producers already obtain from antidumping duties. CVDs alone tend to
be lower than antidumping duties. If Commerce grants China market economy
status, required methodological changes would reduce antidumping duties
for some companies. It is not clear whether CVDs would compensate for
these reductions. Regardless of China's status, some duties might need to
be reduced to avoid double counting of subsidies. Commerce lacks clear
authority to make such corrections when domestic subsidies are involved.

Two Paths to Apply Countervailing Duties to China

Source: GAO
*** End of document. ***