China's WTO Compliance and Foreign Investment in the Auto Industry

Dismantling the Barriers to Trade and the TRM

Under the WTO accession agreements, China shall provide relevant information, including information specified in Annex 1 of the WTO Protocol, to each subsidiary body² of the WTO in advance of the review. The General Council will review the implementation by China of the WTO Agreement and the provisions of China's Protocol of Accession. China can raise issues relating to any reservations by the members³ or to any other specific commitments made by other members in this Protocol. Each WTO sub-committee is required to report the results of its review to the Council for Trade in Goods, which should in turn report to the General Council by the end of the year. The General Council may "make recommendations" to China and to other members in these respects.⁴ It is also worth noting that the TRM itself shall be "without prejudice to the WTO rights and obligations" of China (or other WTO members), and shall not preclude or be a precondition to recourse to consultation or other provisions of the WTO Agreement or the China WTO Protocol.⁵

On December 10 2002, the WTO General Council approved the final Transitional Trade Policy Review report on China's WTO implementation. Interestingly, the report is in fact simply a compilation of reviews by individual committees. Due to the divergence of opinions between China and key WTO members, the compiled documents, which in themselves do not draw any conclusions, are not accompanied by any recommendation or even a cover letter that attempts to present a unified document.⁶

Principally, we will focus on the WTO TRIMs (Trade-related Investment Measures) Committee's TRM report on China dated November 12 2002.⁷ This included a review of the answers provided by China in response to questions from other members (most from the EU, Japan and the US) concerning China's progress in complying with WTO Agreements and regulations. Diplomatically, China insisted that it was not legally bound to provide written answers to questions raised by members, but then responded to many of those questions anyway. Practically, China's answers in this committee, while less satisfying than what other members might have sought, appeared to be more constructive than its responses to questions posed in other areas of the TRM, such as the Anti-dumping, Countervailing Duties and Subsidies issues.

The Institutional Approach: Japan's Concerns Regarding China's Auto-related WTO Implementation

1994 Auto Industry Policy and Abolition of WTO-inconsistent TRIMs

Although China released its Auto Industry Five-Year Development Plan on July 1 2001, this did not invalidate the 1994 Auto Industry Policy, which still contains local content requirements and other provisions inconsistent with the WTO requirements.⁸ While clarifying that a local content policy should no longer apply, the Five-Year Development Plan "encourages" key Chinese auto firms to "achieve the goal of increasing local content level" by promoting and expanding foreign investment in auto parts production. As a result, the spirit of the 1994 Auto Industry Policy is theoretically in force. According to the Protocol of Accession, China shall upon accession: comply with the TRIMs Agreement, without recourse to Article 5 of the TRIMs (extension period for developing countries); and eliminate and cease to enforce foreign exchange balancing requirements, and local content export performance, technology transfer, export performance, or R&D requirements through laws, regulations or other measures.⁹

In response to a Japanese question concerning the revision of the 1994 Auto Industry Policy, China confirmed its commitment to abolish articles regarding local content, export performance and the mandatory transfer of technology. Further, as to the treatment of foreign and domestic auto enterprises, China is conducting a review and a research study of new policies. Sources indicated there will be four separate auto industry policies to be released in 2004, covering the whole auto production chain from manufacturing to after-sale services and consumption.

Tariff Rate for Imports of Autos and Parts

Tariff rates were probably the most contentious issues in discussions between Japan, the US and China. Tariff reduction became the primary concern of key automotive multinationals that were aggressively seeking the phase-out of the existing restrictive automotive import regime, and were trying to re-allocate the distribution channels of different auto models and parts pursuant to their own global strategies. Under the WTO Accession Agreement, China is committed to phasing out auto quotas progressively until 2005, including the 80% local content requirement of auto parts. By July 2006, the import auto tariff will be reduced from the current 100% to 25%, and the average tariff for auto parts will be reduced to 10%. The market share of imported automobiles and parts is estimated by MOFTEC to reach a maximum of 20% by 2006. Implementation of a transitional three-year quota (non-tariff measure) is required for auto imports. The quota was set to be a maximum of US$7.9 billion for the first year (2002), and will grow 15% each year.

Regarding Japan's concerns on China's tariff rate for auto parts, China insisted that its rate is consistent with customs classification rules. China argued that the quota was a "market access opportunity", "not an importation obligation". Therefore, "actual imports had no direct relationship with the quota allocated" and the volume of imports depended on the supply and demand of the market. The Chinese government encourages the full utilization of quotas but cannot guarantee whether the quotas allocated will be fully utilized. With regard to the request for information on the total value or quantity of the quota applied for automobiles and parts and CKD/SKD automobiles, China noted that it had an "integrated quota for automobiles and key parts, but no split quota is to be allocated". Therefore, China asserts that it is the responsibility of the applicants to apply for the value and quantity of automobiles and parts to be imported.¹⁰ In addition, China told Japan that any further questions, while welcome, should be addressed in another WTO sub-committee, for example, the Committee on Customs Valuation.

The US however, seemed sympathetic to Japan's dissatisfaction with China's answers and charged that MOFTEC created false fill rates by filling the quota for autos with auto parts (other than those parts allowed by China's accession agreement). This is the first instance in which the United States has made such a straightforward allegation of this type of quota allocation abuse by China. In addition to the above, the USTR noted that MOFTEC had not fully allocated the auto quotas by mid-2002, although the USTR attributed part of that delay to MOFTEC's crackdown on the illegal secondary market for auto import licences.¹¹ Following the US allegation, Japan announced that it will urge China to increase its import quota allocation of Japanese cars by proposing the inclusion of the "import quota regime" in the coming Non-Agriculture Market Access negotiation, which begins in January 2003.¹² Whatever Japan may achieve in doing so, the political pressure over China's auto import regime has guaranteed that US and Japan carmakers will be able to diminish any attempts by the domestic auto industry to take advantage of such protection available during the post-WTO transitional period. Thus, there will be more market leverage for multinationals to better control their joint ventures with Chinese automakers.

Restrictions on the Licensing of Auto Production

Japan requested that China indicate a specific time in which restrictions on the licensing of auto production would be repealed. China refused to provide a fixed schedule because of differences in the restrictions on different categories of vehicles and types of production. But China eventually confirmed it would abolish such restrictions before the deadline of December 11 2003.

Independent Provincial Approval for Investment in Motor Vehicle Manufacturing

Japan questioned the status of independent approval by provincial governments for investments in vehicle manufacturing. China clarified its commitment to increase the limits for the approval by provincial governments for investment in motor vehicle manufacturing "upon promulgation of a new regulation by the end of 2002". We note that China's WTO Working Party Report requires China to raise the limit within which investments in motor vehicle manufacturing must obtain provincial government approval, from the current level of US$30 million, to US$60 million one year after accession, US$90 million two years after accession and US$150 million four years after accession.¹³

Item-by-Item Approach: Questions Raised By the US and the EU

WTO-inconsistent Trade Related Investment Measures (TRIMs)

The EU sought further clarification as to the extent WTO-inconsistent TRIMs had actually been abolished. Accordingly, China provided in the annex to the report a detailed statement regarding changes it has made in its laws to comply with the TRIMs Agreement.

Acceptance of Follow-up Questions and the "30-day Rule"

Referring to the US request to submit "additional questions" as part of the review process, China said it had no difficulty in accepting any follow-up questions on its WTO regime.

China stated that it would welcome any points on which a member sought clarification, but that it would respond to them "through other channels". Further, if any member had additional questions during the TRM process, China would make supplementary replies and comments. In addition, if members still had questions after the meeting, they could forward them through China's WTO enquiry point and China would respond to them within 30 days, consistent with its commitment under the Protocol of Accession. China added that members should have sufficient opportunity to put forward their questions, since they would have at least nine years under the TRM to continue this exercise.

De Facto Technology Transfer Requirements

The US questioned the status of existing de facto technology transfer requirements in light of obligations undertaken by China to eliminate mandatory technology transfers. China contended that it was legitimate for itself or any other member to have relevant policies to "encourage" technology transfers, as long as it did not impose mandatory requirements. China noted that it has revised the relevant provision of its joint venture laws to state that it "encouraged the establishment of wholly foreign-owned enterprises with...adoption of advance technology". The provision had required that "the establishment of wholly foreign-owned enterprises ...must adopt advanced technology".

Contract Changes after WTO Accession

Both the EU and Switzerland expressed their concerns about difficulties facing some companies in obtaining removal of provisions such as local content requirements from contracts concluded prior to China's accession.

China explained that while it had, upon accession, abolished local content and export performance requirements, this action did not automatically invalidate such requirements in pre-accession contracts. As a result, it is up to the parties to joint venture contracts to agree to remove such requirements. This is consistent with the "principle of freedom of contract" in Chinese law.

"Non-automatic Application" of WTO Rules

China also explained the feature of "non-automatic application" of WTO rules under China's legal system. China stated that it needs to promulgate and revise laws and regulations to achieve WTO consistency, in conjunction with revisions in the way in which it implements those laws, regulations and administrative rules.¹⁴ Although China has not finished the revision of these policies, the WTO-inconsistent articles regarding local content, export performance and mandatory technology transfer are no longer valid in China. The question of compliance is, therefore, in China's view settled, even though implementing regulations might still be in the drafting process and not yet available for discussion.

Market Access and De-regulation on Foreign Investment in the Auto Industry

A US Commerce Department official recently pointed out that, although the TRM process is "tough" on China, and may not always achieve dramatic progress, it is still a primary channel for private business groups to request the US government to bring "WTO-consistency" issues to the table in Geneva. Historically, China has almost always resolved trade disputes initiated by the US. As a result, the US government believes that the TRM is very important for private businesses to push the Chinese door open wider. Despite China's face-saving contention that some of the questions from WTO members were "beyond the scope of the TRM", Japan and the US repeatedly stated in TRM reports that many of their questions were not answered adequately. This kind of exchange hinted at contentious issues such as quota allocation, trade remedies, TRIMs, trading rights and market access. In our view the question-and-answer process between China and the Quad group, along with appraisals and affirmation by developing country WTO members, forms a precedent for future annual TRM reports. Compared with the formalistic trade policy review that applies to other WTO members every four years, the China-specific TRM is far more demanding of China.

Moreover, China's WTO accession agreement itself embodies a set of extensive and far-reaching objectives on China's part to change its trade regime at all levels of government in the course of a gradual transition toward a market economy. The institutional, legal and regulatory changes demanded of China are far-reaching and complicated by a highly decentralized administrative structure covering a vast, diverse country.¹⁵

China, the world's fourth largest auto production market, is expected to become the second in the next three years, with foreign auto multinationals rushing to establish their presence there. It is estimated that, by the middle of this decade, auto sales will reach 500,000 to 650,000 cars annually by each of China's "Big Three": Shanghai Automotive Industry Corp. (SAIC, allied with Volkswagen and General Motors), First Automotive Works (FAW, with ties to Volkswagen and Toyota), and Dongfeng Automobile Group (with Nissan).

The manufacturing of automobiles, motorcycles and engines are categorized as a restricted industry for foreign investment.¹⁶ Foreign automakers are allowed to invest in the form of equity or contractual joint ventures subject to approval from either the State Planning and Development Commission (SPDC) or the State Economic and Trade Commission (SETC).¹⁷ Generally, they have to follow a similar regulatory process to that stipulated in the 1994 Automotive Industry Policy. They must first obtain governmental permission to set up a minority-shareholding joint venture with a Chinese automaker, usually a final assembly plant devoted to making one model. Then, the foreign auto company can only expand by obtaining permits to add new models one at a time. The unwritten industrial policy was no more than one joint venture for each foreign automaker.

However, the following case studies will illustrate how these policies were circumvented and dismantled by major foreign auto multinationals that have established more than two plants in China.

Volkswagen: Tough to Beat

When China began opening to foreign investment in the 1980s, Japan was focusing on its partnerships with European and American carmakers. Volkswagen AG, a German auto manufacturer, strategically turned to China and began producing cars after signing a 25-year partnership contract with Shanghai Automotive Industry Corp. in September 1985. With government approval, Volkswagen's venture did not follow the usual foreign majority share restriction and unusually took the limit of 50% foreign ownership.¹⁸ Various local policies restricting engine size, as well as incentives to city taxi companies for use of the Santana model, helped to further safeguard Volkswagen's market dominance.¹⁹

Today, Volkswagen remains the auto market leader in China, with a 47.7% market share. Volkswagen announced in February 2001 that it planned to invest US$1.72 million over the next five years to increase business throughout Asia, particularly in China.²⁰ Combined sales from Volkswagen's joint ventures with Shanghai Automotive Industries and First Auto Works are expected to reach 500,000 this year, a gain of almost 40%. Volkswagen plans to invest 600 million euros, or about US$613 million, annually in new products and production through 2007.²¹ This predominance in the Chinese market has long formed an obstacle for Volkswagen's rivals. Phil Murtaugh, CEO of General Motors China Group once noted that, if GM hesitates to enter into the economy car sector in China following WTO accession, the mantle will eventually fall to Volkswagen, rather than GM.²² Faced with challenges, Volkswagen has begun moving toward the market access of distribution and marketing ahead of China's WTO GATS (General Agreement on Services) schedules. In the above-mentioned WTO Transitional Review process, the EU criticized China for still lacking regulations regarding the conditions imposed on distribution licences.²³ These strong WTO efforts by the EU for market access of distribution and marketing rights are no doubt indicative of the behind-the-scene anxiety of the Chinese market dominator, Volkswagen, in Shanghai.

General Motors: Building Local Partnerships

Six years ago, General Motors Corp., Ford Motor Co. and DaimlerChrysler AG's Chrysler Corp. controlled 72% of the US car market. But that number has fallen by nearly a dozen percentage points as Japanese and Korean brands (Toyota Motor Corp., Honda Motor Co. and Nissan Motor Co. of Japan, and Hyundai Motor Co. of Korea) are adding manufacturing capacity in North America as well as bringing increased imports from other manufacturing bases such as Asia (including China), which will have an estimated 50% of the US market in the next five years.²⁴ Thus, the Chinese market becomes vitally important.

In March, 2002, SAIC, partner with General Motors in the joint venture Shanghai GM, signed a restructuring and cooperation agreement with Liuzhou Wuling Automotive Co. Ltd.²⁵ SAIC took a 75.9% (for free) from Liuzhou Wuling Automobile, the seventh largest vehicle producer in China, and then established the SAIC-Liuzhou Wuling Shareholding Corp., in which SAIC is the largest shareholder. Subsequently, GM purchased 34% of SAIC-Liuzhou Wuling in the name of "further cooperation with existing Chinese partner, SAIC".²⁶ Through this indirect acquisition, GM circumscribed the limits imposed in Chinese regulations, gained control of the Liuzhou Wuling company and made its inroads in the lucrative mini-vehicle market in China. Interestingly, rather than proclaiming this to the Chinese media as another successful investment project in China, GM called this transaction as "participation in China's Western Development".²⁷

In order to consolidate its position in Asia and compete with its Japanese rivals, in October 2002 GM realized the takeover of Daewoo Group by using the capital of SAIC that spent US$59.7 million to become a 10% shareholder.²⁸ This paved the way for GM's move to acquire another Chinese auto company. On December 20 2002, GM together with SAIC, took over Yantai Body Works Corp. via a US$108.73 million investment for 100% of Yantai; GM thus launched its fourth joint venture in China, which hopefully will significantly increase its production capacity and competitiveness in China.²⁹ Yantai Body Works is part of the US$942.32 million Shandong-Daewoo project launched in the early 1990s. By making Yantai Body Works the production base for GM economy models in China, Shanghai GM will concentrate on making Buicks, and in particular the Buick GL8 wagon.

Although GM entered into China after Volkswagen had already established nearly a 50% market share, GM is strategically building itself as the second largest foreign auto giant in China through these investment projects.

DOMESTIC AUTO INDUSTRY RESTRUCTURING AND IMPLICATIONS FOR FOREIGN INVESTMENT

State-directed Industry Consolidation

The Chinese government regards the auto sector as a "pillar industry" and aims to raise production to 3.2 million vehicles annually, including 1.1 million sedans by 2005.³⁰ Prior to WTO accession, China's auto industry was deemed by the government to be one of the weakest domestic industries, and significant restructuring was needed to make the industry competitive.³¹ In an effort to streamline the industry, the Chinese government introduced a plan in July 2001 to consolidate or eliminate small and unprofitable auto firms to form a strong Big Three dominated industry.³² Under the plan, more than 100 small auto firms in China would be closed or merged into the aforementioned three largest auto firms: SAIC, First Automobile Works Group (FAW) and Dongfeng Automobile Group (Dongfeng). These three groups should receive government supports including easier access to capital and priority approval in forming new joint ventures and building research and development centres. In addition, they should at the same time reduce their debt burden by swapping debt for equity and optimizing their capital structure, as well as reduce their inventory and avoid pointless expansions. For the first time, China laid out a blueprint for industry consolidation that has broad implications for foreign-invested firms, including many international auto companies that have formed joint ventures with their Chinese counterparts in order to gain market access.

In September 2002, Li Rongrong, Director of the SETC, told the media that to deal with the ramifications of China's WTO accession, the relevant departments of the central government would publish policies and measures to encourage competition, restructuring and technical innovation in the auto industry.³³ The resulting Expanding the Auto Market and Encouraging Auto Consumption Policy touches on various issues, including the manufacture and sale of cars, environmental protection and intellectual property rights protection, while providing for the coordination of these policies. In fact, the merging and restructuring process of the auto industry has accelerated since 2001, with the scope and depth of joint ventures increasing as well.

The Recent Industry Development Guidelines promulgated by the SETC in September 2002 indicate that China will concentrate on the development of certain models of autos, most of which are small or mini cars (low-end auto products), passenger vehicles and on the manufacture of key auto parts. China believes this will boost its comparative advantage in the face of global auto overcapacity and fierce competition. In short, China wants to restructure its auto industry to focus on only certain auto products. The TRIMs Agreement is vague on this point because China is a developing country under the WTO. Eventually, the government hopes that industry restructuring will allow its biggest companies to compete, to some extent, with their foreign partners.

Multinationals: The Biggest Winners

Since WTO accession, "external factors" are obviously more and more influential on China's auto industry. Examples of this phenomenon are the joint ventures involving the Japanese auto giants, i.e. Nissan, Toyota and Honda.

Nissan, Toyota and Honda are late entrants to the Chinese market. They will invest a total of US$3 billion in the coming years, while General Motors and Volkswagen AG, which have already established themselves in China, will introduce new models and set up dealerships.³⁴ It is worth noting that Nissan and Toyota were unwilling to establish joint ventures with Chinese auto companies prior to WTO entry because of scepticism regarding business arrangements and divergences over the particulars of technology transfers between the two parties. Their presence in China at that time had to be maintained by imports and tentative CKD (Completely Knocked Down) assembly plants. But in recent years, Japanese companies realize that shifting manufacturing to China will have a beneficial impact on the profitability of Japan's capital-intensive corporate sectors, which are undergoing restructuring.

The Nissan-Dongfeng Merger

Nissan invested US$1 billion to buy 50% of the parent company of Dongfeng Auto Corp., to be renamed Dongfeng Motor Co. Ltd., and aimed to boost its sales in China from 265,000 vehicles in 2001, 73% of them commercial trucks and buses, to 550,000 in 2006. Of that total, 220,000 will be cars, which will be of the six models sold as Nissans. Nissan obtained 50% ownership of Dongfeng, including all of its automotive operations, except for its existing auto joint venture with Citroen and an engine joint venture with Honda. Thus, Nissan obtained the most favourable terms for a joint venture in China, compared with Toyota, GM or others. In exchange, managers appointed by Nissan President Carlos Ghosn will lead a dramatic restructuring and expansion of Dongfeng Motor Corp.³⁵

Honda Makes its Move

Honda, Toyota's main competitor in China, has been active as well. Picking up the shambles of a failed Peugeot plant in Guangzhou, in 1998 Honda established Guangzhou Honda, a 50:50 joint venture with Guangzhou Auto Group, and has been producing 60,000 Accords annually. Compared with investments by the American auto companies, Guangzhou Honda was a relatively small project with a registered capital of only Rmb1.16 billion. In April 2002, Honda set up another joint venture with Guangzhou Auto Group and Dongfeng Auto Group. In this JV, by 2004 Honda will most likely produce compact cars with a cylinder capacity of less than 2000cc.³⁶ Significantly, Honda acquired a majority stake of 65% in this venture by promising to the Chinese government that the joint venture will export all of its products to the European and Asian markets. Honda aims to manufacture 240,000 cars annually by early 2004, four times its current annual rate. The increase is rightly seen as part of Honda's global expansion.³⁷

Toyota: The Actor Behind the Scenes

In 1999, Toyota Motor Corp. announced its ambitious plan to grab a 10% share of the Chinese car market over the coming five to ten years.³⁸ As a late entrant, Toyota must not only establish a partnership with a Chinese auto maker as required by the Chinese government, but also must win market share from rivals such as General Motors and Volkswagen. In this disadvantageous situation, Tianjin Xiali Corp., Toyota's "beachhead" in China, has played an intermediate role in exercising control in Toyota's joint venture where it is prohibited from enjoying more than half of the ownership.

Toyota has had to maintain indirect ties with Tianjin Xiali Auto. Tianjin Xiali was the compromise outcome of Toyota's failure in the 1990s when its joint-venture proposal was rejected by the Chinese government due to the government's perception that the company lacked sincerity in transferring technologies. Since 1986, Tianjin has been building the duplicate model of the subcompact Daihatsu Charade, which is controlled by Toyota through a 51% stake. Despite the government's claims about a lack of technology transfers, in the past 20 years Tianjin Xiali has become China's third largest carmaker in part because of technology obtained from Toyota and Daihatsu. With China's WTO entry, Toyota has sought a greater role in the market.

Toyota arranged the merger of FAW and Tianjin Xiali. In June 2002, FAW, China's biggest auto group, announced its merger with China's fourth largest car producer, Tianjin Automotive Industry Corp., to rationalize production to compete in the maturing Chinese auto market. (FAW owns 60% of FAW-Volkswagen Automotive Co., with Volkswagen owning 30% and Audi 10%. It also builds Mazda cars under licence.) Tianjin Auto consented to transfer a 50.98% share of Tianjin Automotive Xiali Co., as well as its entire 75% share in mini-vehicle maker Tianjin Huali Auto, to FAW. Similarly, FAW also took over Sichuan Ranch-Wagon Works. In August 2002, two months after the Tianjin-FAW merger, Toyota and FAW officially announced their joint venture, Tianjin Toyota Motor Co., a 50:50 joint venture between the Japanese auto giant and Tianjin FAW Xiali Corp. The new company aims to build 300,000 to 400,000 cars by 2010, and will build a range of medium and large luxury sedans, mini-vehicles and luxury sport utility vehicles (SUVs) for the local market.³⁹

The Chinese media welcomed FAW's initiative to take over Tianjin, seeing it as a significant step to realize the government's aim to restructure the domestic auto industry in the face of foreign competition. But in fact, the biggest beneficiary of this merger should be Toyota. For Toyota, one stone felled two birds. By using the capital of its Chinese partner, FAW, Toyota transformed indirect ties into substantial direct control over Tianjin Xiali, while at the same time establishing a joint venture with 50% ownership.

Impacts and Effects

These facts provide evidence that the increasing behind-the-scenes control over China's current restructuring and consolidation of the auto sector by key international automotive manufacturers mirrors a fundamental global manufacturing shift. While maintaining their oligopolistic status and comparative advantages in new and high-end technologies, automakers from the US, the EU and Japan are deploying a new round of global resource re-allocation for the ultimate purpose of reducing manufacturing costs and enhancing their competitiveness. China's domestic restructuring and consolidation have given global automakers significant opportunities to re-shape their respective global market dominance. The increase in market share through foreign investment will foster multilateral trade. WTO compliance by China will further eliminate the existing regulatory barriers and lower the costs for mergers and acquisitions by multinationals, which will in turn tie the Chinese auto sector deeply into the low and middle end of the global manufacturing chain.

Vertically, restructuring of the Chinese auto industry through foreign investment will help modernize the downstream and upstream industries in China. It has been observed that growth of the auto industry may help the development of more than 100 sub-industries. Beside manufacturing, upstream industries such as steel, machinery, rubber, plastic, petrochemicals, electronics and textiles will be given a boost by greater economies of scale in the auto industry. In addition, downstream industries such as insurance, auto-financing, distribution, after-sale repairing, petrol stations, fast food restaurants and motels will likely benefit from the growth of the auto industry. In short, the restructuring of the auto industry will serve as one of the key engines of high economic growth in China in the next two decades.

However, each group of automakers represents a vertically integrated supplier industry of its own.⁴⁰ These "captive" networks will serve as the major obstacles to the reorganization and competitiveness of upstream and downstream industries in China. Thus, the great market potential in China could mask these long existing problems.

CONCLUSION

The prospects for the growth of the auto industry depend to some extent on whether China can realize high-end production in the chain of global auto manufacturing.

In 1998 China's entire sedan production was 507, 000 vehicles. This figure was estimated to have jumped to three million in 2002.⁴¹ There is little doubt that Chinese automakers will soon dominate the low-end chain of auto production, i.e., automotive parts, mini-vehicles, passenger cars, trucks with lower standards (under EUROII gasoline emission standards), etc. We have to carefully analyze whether foreign investment can bring China to the level of high-end producers, which will be the key in securing both market share and positive growth rates. Because China has an abundant pool of highly skilled labour, foreign investment may soon result in a reconsolidation of their Chinese partners (the domestic Big Three), to become their local branch plants of less value-added economic cars. As we discussed above regarding the Tariff Rate and Quotas controversy, the liberalization of trade in the automotive sector following WTO accession will nevertheless enhance the continued domination of high-end imported auto products. Thus, it becomes very difficult for major Chinese state-owned automakers to obtain the necessary comparative advantage, which is exactly what they longed for prior to accepting the partnership with the foreign investors. In addition, it is doubtful that the Chinese automakers will really benefit from the "guidance" given by their foreign partners. Consequently, within these joint ventures, the likely scenario will be tongchuang yimeng, one bed, different dreams.

It will take several years for the Chinese auto industry to take advantage of greater foreign investment to raise the quality of Chinese auto production and increase internal supplier efficiency. Increasing foreign investment in the auto industry will also enhance competition between foreign auto giants and the Chinese Big Three. However, the Chinese government will have to address problems such as inefficiency in supply chain management, insufficient regulation over auto-related insurance and financing, and an emerging overcapacity of economy cars because more and more new products are being introduced by current joint ventures. These issues are awaiting the Chinese government in its quest to realize the goals of improving the international competitiveness of the auto industry while embracing the increasing foreign investment. Compared with the annual production of five million vehicles by Toyota, these small-scale joint ventures are just the beginning for multinationals. It is still not clear how the inflow of foreign capital after entry into the WTO in China will eventually re-shape the auto industry. As Zhang Ruimin, Chairman of Haier Group said, foreign investment is a wolf when you see it with the eye of the weak, but when you see it in the vision of the strong, it will at most be a competitor; if you see it in the perspective of development, perhaps it will be your very good strategic cooperative partner, and will run in and join you in creating a win-win result.⁴²

Endnotes

1 Brian Duggan, "Special Report: The United States-China Bilateral WTO Agreement," Motor & Equipment Manufacturers Association, December 1 1999.

2 They are: Council for Trade in Goods, Council for Trade-Related Aspects of Intellectual Property Rights, Council for Trade in Services, Committees on Balance-of-Payments Restrictions, Market Access (covering also ITA), Agriculture, Sanitary and Phytosanitary Measures, Technical Barriers to Trade, Subsidies and Countervailing Measures, Anti-Dumping Measures, Customs Valuation, Rules of Origin, Import Licensing, Trade-Related Investment Measures, Safeguards, Trade in Financial Services.

3 Article 17 of the Protocol stipulates that all prohibitions, quantitative restrictions and other measures maintained by WTO members against imports from China in a manner inconsistent with the WTO Agreement are listed in Annex 8 at the HS 8-digit level. All such prohibitions, quantitative restrictions and other measures shall be phased out or dealt with in accordance with mutually agreed terms and timetables as specified in said Annex.

4 See para. 18.2 of the Protocol on China's WTO Accession.

5 See paras. 18.3-4 of the Protocol on China's WTO Accession.

6 "WTO approved report on China's WTO compliance without any recommendation," Inside US-China Trade, December 10 2002.

7 See Committee on Trade-Related Investment Measures - Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol of Accession of the People's Republic of China to the World Trade Organization, Report of the Chairman, G/L/586, November 12 2002.

8 Auto Industry Tenth 5-Year Development Plan. Released by SETC's Department of Sectoral Planning, July 1 2001.

9 See para. 7.3 of the Protocol on China's WTO Accession.

10 WTO document: Report to the Council for Trade in Goods on China's Transitional Review, Committee on Import Licensing, G/LiC/10, October 18 2002.

11 United States Trade Representative: 2002 Report to the Congress on China's WTO Compliance, December 11 2002, available at http://www.ustr.gov/regions/china-hk-mongolia-taiwan/2002-12-11-China_WTO_compliance_report.PDF.

12 Japan Economic News Morning Post (riben jingji chenbao), January 10 2003 (original in Japanese).

13 See para. 206 of the Working Party Report on China's WTO Accession.

14 China cited para. 68 of the Working Party Report, which stated that "...China confirmed that administrative regulations, departmental rules and other central government measures would be promulgated in a timely manner so that China's commitments would be fully implemented within the relevant time frames. If administrative regulations, departmental rules or other measures were not in place within such time frames, authorities would still honor China's obligations under the WTO Agreement and Draft Protocol".

15 United States Trade Representative: 2002 Report to Congress on China's WTO Compliance, December 11 2002.

16 See Foreign Investment Industrial Guidance Catalogue.

17 Further Strengthening Administration of Automobile Industry Projects Opinion (State Planning Commission, State Economic and Trade Commission, Ministry of Machine Building, Ministry of Public Security, Ministry of Foreign Trade and Economic Cooperation, General Administration of Customs, and State Administration of Industry and Commerce), June 20 1997.

18 Eric Harwit, China's Automobile Industry: Policies, Problems, and Prospects, Armonk, NY: M.E. Sharpe, 1994, chapter 7.

19 Eric Harwit, "The Impact of WTO Membership on the Automobile Industry in China," The China Quarterly, 167(1), September 2001, pp. 656-658.

20 "Asia Pacific: Volkswagen invests more in Asia," World Trade, April 2001.

21 Alysha Webb, "GM will acquire 4th China plant," Automotive News, Detroit, December 16 2002.

22 "The Intent of Multinationals Becomes Clearer," China Auto Daily, June 11 2002.

23 China's WTO Protocol requires China to progressively liberalize the availability and scope of the right to trade, and extend national treatment to foreign trading companies.

24 "US Carmakers Pessimistic About a Sales Rebound," International Herald Tribune, January 3 2002.

25 "GM China Plans To Join New Chinese Joint Venture," Autoparts Report, May 22 2002.

26 Lian Zhao, "Benz moves to Southeastern China," South China Weekend (Nanfang Zhoumo), October 31 2002.

27 Wu Yingqiu, "Why is SAIC Invited to Join the GM-Daewoo Merger?" Zhongguo Gongshang Shibao, October 23 2002.

28 Regarding it as a success story of Chinese enterprise's "overseas expansion", the merger was reported by China Economic Daily and Zhonghua Gongshang Shibao on October 23 2002.

29 "GM Plans a Fourth Auto Venture in China's Fast-growing Market," Wall Street Journal, December 20 2002.

30 See State Council, China 10th Five-Year (2001-2005) Plan.

31 "New Policies for 2001," The National Economic Research Institute (NERI), April 4 2001.

32 "China To Structure Automotive Industry," Autoparts Report, July 1 2001.

33 "SETC chief says auto industry needs major restructuring," China Auto Daily, May 5 2002.

34 "World's Car Makers Race to Keep Up With China Boom," Wall Street Journal, December 13 2002.

35 James B Treece, "Nissan's China deal stings rivals," Automotive News, September 23 2002.

36 "China OKs Honda's 65% Stake In Guangzhou Car-Export JV," Yahoo News, November 24 2002, http://biz.yahoo.com/djus/021124/1739000037_1.html.

37 "Honda Motor Co: Production in China Will Grow to Meet More Vehicle Demand," Wall Street Journal, December 19 2002.

38 "GM China and the WTO," ChinaOnline News, December 8 1999.

39 James B Treece, "Toyota deal reshapes Chinese market," Automotive News, September 2 2002.

40 David Murphy, "VW's Buechelhofer: A formidable barrier to entry in China market," Automotive News, July 10 2000.

41 Xinhua News Agency, August 26 2002.

42 Gong Wen, "One Year After WTO: "Wolfs" threatening us?," People's Daily, December 10 2002.

By Wang Yi, Willkie Farr & Gallagher LLP Washington, DC