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Press Release

Issue Analysis 33A - Don't Break the China


"The elimination of China's normal trade status, rather than advancing human rights and the rule of law, would actually harm those in society most dedicated to their promotion."

-- Secretary of State Madeleine K. Albright
The Washington Post
June 10, 1997

The U.S.-China Relationship

Since 1989, the year of the Chinese government's crackdown on democratic activists in Tiananmen Square, annual renewal of China's MFN status has taken on greater levels of controversy. Congress began to link a broader scope of human rights and trading issues with the annual legislative rite. Despite that trend, President Clinton and Congress were successful in de-linking China's MFN status and the human rights issue during the 1994, 1995, and 1996 debates on MFN. Trade between the two nations has flourished, totaling more than $60 billion per year. Exports have increased by almost 150% from 1990 to 1996 to a total of nearly $12 billion in 1996 alone.1 This year, however, a broad coalition of groups, from organized labor to religious organizations, have reinvigorated the debate over renewing China's MFN status by focusing on a number of issues along with human rights.

In addition to the significant and on-going concerns the United States holds on human rights, religious and political freedom of China's 1.2 billion citizens, and issues of the trade deficit, global and national security also complicate the debate over revoking China's MFN status. The impending transfer of Hong Kong to China on July 1, 1997, has the United States troubled about how best to preserve the colony's political and economic prosperity. While fiscal issues have taken a back seat to human rights considerations, many are still worried about the negative impact of the trade deficit with China on American jobs and the economy. And finally, short-term and long-term regional and global security issues trouble the U.S.-China relationship. Despite these many contentious issues, China is proceeding to become -- albeit slowly -- a more liberal economy and a more liberal society. Renewing China's MFN status would provide a much needed reinforcement to this important trend.

Most-Favored Nation Trading Status

As some members of Congress once again oppose the president over renewing China's MFN trading status, it is helpful to clarify the true nature of MFN. Most-favored-nation status is a misleading, often misunderstood term which is sometimes mistakenly construed as granting a special trading privilege or favor by the United States.2 The truth is, MFN status does not provide any type of preferential treatment, but simply establishes the normal, nondiscriminatory trading relationship the United States maintains with virtually every nation of the world.

MFN is reciprocal. As a condition of the United States granting MFN status to a country, that country grants MFN status to the United States in return. This reciprocal trade agreement guarantees that goods imported by the United States from all MFN countries will face equal tariffs. In addition, American goods being imported by a country are not subject to higher tariffs than the goods of any of the importing country's other MFN trading partners. MFN status ensures equitable terms of trade and ensures that American companies are not disadvantaged in their efforts to compete with other foreign firms in a third country's market.

MFN status applies only to private trading, and should not be confused with economic assistance to foreign governments or foreign businesses. For example, World Bank loans made to foreign governments for infrastructure development and United States Export-Import Bank financing for American companies doing business in foreign countries are loans often mistakenly associated with the MFN issue.

China has consistently received MFN status. Since 1980, China's MFN status has been continuously maintained through waivers of the Jackson-Vanik freedom-of-emigration amendment of the Trade Act of 1974, which denies MFN status to non-market economies that do not have open emigration policies. Under the terms of this amendment, China's MFN status must be renewed annually.

Human rights violations and repressive policies of the Chinese government, embodied in China's June 1989 suppression of pro-democracy demonstrators in Tiananmen Square, led to calls for withdrawal of China's MFN status. Since the Tiananmen Square incident, every Congress has considered legislation to either withdraw, substantially limit, or make conditional China's MFN status. In mid-1993, President Clinton required China to meet additional human rights conditions for renewal of MFN status the following year.

However, on May 26, 1994, President Clinton reversed this policy by separating human rights issues from China's MFN renewal. This delinking of trade and human rights issues indicated the United States' desire to remain engaged with China through trade in order to retain influence on Chinese government policies. The president announces his decision to renew China's MFN status, and then sends the formal waiver recommending extension of unconditional MFN to Congress. This year, President Clinton made his formal announcement on May 19. Congress does not have to vote to approve this waiver; however, if it wants to revoke MFN, it must vote to do so. This waiver remains pending before Congress.

MFN Cancellation Would Hurt the United States Economy

Withdrawal of China's MFN status would be substantially damaging to the United States economy. Both American business and individual American consumers would suffer losses, with low and middle-income consumers being hardest hit.

Americans would lose jobs. As many as 200,000 American jobs are supported by United States trade with China.3 Revoking China's MFN status would result in China's retaliation with restrictions on imports, resulting in the loss of most United States exports to China. The most likely result of this would be that American companies which export their products to the Chinese market would face potentially crippling decreases in sales, causing lay-offs and job losses for American workers. Jobs at risk include not only export-related jobs, but also additional import-related jobs in "hidden" or overlooked sectors like ports and retail sales.

Well over half the jobs at risk if China's MFN status is revoked are in high-paying sectors of the economy with wage rates that are higher than the United States national average.4 Technology sector exports like computers and electronics create and support high-wage and high-skill jobs, as do exports in the power generation, telecommunications and aircraft industries. With infrastructure development expenditures in China projected to reach $750 billion over the next decade, numerous high-wage and high-skill jobs in these infrastructure-building industries will be created.5 However, if the United States revokes China's MFN status, these jobs will be created in Germany, France, Japan, and other countries, not in the United States.

Americans would pay higher prices. Removal of China's MFN status would subject Chinese imports to disastrous Smoot-Hawley tariff levels established in the 1930's. These Smoot-Hawley level duties would apply to approximately 95 percent of United States imports from China, increasing the cost of imported Chinese goods an average of 33 percent, with many Chinese imports suffering duty increases of 65 percent or more.6 Relative cost increases would be highest on low-margin consumer goods such as clothing, household electrical and electronic products, and toys. Because these goods make up a large share of low-income consumers' expenditures, their increased costs would disproportionately affect working class, low-income Americans.

Toys, for example, are imported from China duty-free under MFN, but if China's MFN status were revoked imported Chinese toys would be subject to the full duty rate of 70 percent. A cost increase of this magnitude could place virtually all toys produced in China out of reach for parents and children in low and middle-income families. Likewise, women's silk blouses would suffer a duty increase of over 57 percent, and knitted vests an increase of 55 percent, which may make this clothing unaffordable to most low and middle-income women who are now able to purchase these items in discount clothing stores. Even Christmas ornaments, imported duty-free under MFN, would be subject to the full non-MFN tariff rate, increasing their cost over 20 percent.7

Sample Tariff Increases on Major Imports From China if MFN is Revoked8

Product MFN Rate
Non-MFN Rate

Toys 0 percent
70 percent

Game machines 0 percent
35 percent

Radio/tape players 2.2 percent
35 percent

Men's leather coats/jackets 10 percent
35 percent

Women's silk blouses 7.4 percent
65 percent

Women's silk vests, knitted 5 percent
60 percent

Cordless handset telephones 4.8 percent
35 percent

Plastic or rubber footwear 6 percent
35 percent

Artificial flowers 9 percent
71.5 percent

Christmas ornaments 0 percent
20 percent

The extremely high tariffs, which would be added to the cost of Chinese goods if MFN status were removed, would drive many products out of the United States market altogether. This would result in not only more limited selection for American consumers, but higher prices for replacement goods from other sources. The increased cost of remaining Chinese imports with assessed higher tariffs, combined with the higher prices of replacement goods, would cost United States consumers as much as $29 billion. This equates to an average tax of $302 annually on each of the 96 million United States households.9

American businesses would be hurt. Restriction of U.S.-China trade relations would also hamper American firms' competitiveness in China. Given that China is the world's third largest economy -- and projected to be the world's largest economy by the year 201010 -- trade limitations could form a serious obstacle to United States exporters. If United States companies are kept out of or denied the advantage of early market entry in so large and promising a market, a tremendous head start would be given to other foreign firms -- a lead which could take a long time to regain.

Chinese retaliation against United States exports would cause significant harm to the American grain industry, as well as United States firms which produce power generation machinery, aircraft, and fertilizer products. For example, China currently has a $2 billion agreement to purchase 2.1 million tons of American wheat.11 This agreement, as well as future ones, would be seriously jeopardized by removal of China's MFN status, and Chinese retaliation would decimate the American grain industry.

Withdrawal of China's MFN status would jeopardize the $10.7 billion Americans have invested in China.12 Many American companies, like Boeing, General Motors, AT&T, Northern Telecom, IBM, Motorola and Microsoft, to name just a few, have substantial investments in China which would be at risk.13 Americans would also lose the opportunity to benefit from future investment in China, since unstable economic relations resulting from United States cancellation of China's MFN could cause Chinese business ventures to select foreign investment partners from other nations whose stability and permanence in trade relations they trust.

The Boeing example. The Boeing Company estimates China's market for airplane sales will be worth $100 billion over the next two decades. Since 1972, Boeing has sold 201 airplanes to China, and is in constant competition with the European consortium Airbus Industries to produce China's future aircraft. In April of 1996, the Chinese government demonstrated its preference to do business with its more stable trade partners rather than perhaps its more competitive trade partners. For example, it chose Airbus over Boeing to fulfill a $1.5 billion order for 30 jetliners, and announced that it would choose a European consortium to develop a new 100 seat aircraft for the Chinese market. Moreover, China's Minister of Trade and Economic Cooperation Wu Yi postponed a $4 billion aircraft contract with Boeing and McDonnell Douglas, demonstrating the financial jeopardy American businesses face as a result of the unstable trading relationship caused by the annual debate over China's MFN status.14

However, as a reflection of the potential success of positive trade relations between the two nations, in March of 1997, Boeing signed a contract worth $685 million for the production of five 777-200s to be completed in 1999. Boeing officials expect China to purchase around 1,900 more jetliners totaling approximately $120 billion over the next 20 years.15 Should MFN status be revoked, China's cancellation of Boeing's existing orders or refusal to place future orders would deliver a serious blow to the export-supported Pacific-Northwest of the United States.16

Constant Trade Threats Damage American Interests

The constant threat of removing China's MFN status most likely will result in China's denying American firms lucrative joint ventures in favor of competitors whose governments can offer a more stable trading relationship. As China's Vice Premier Li Lanqing succinctly stated: "People think trade with the U.S. is not reliable, and maybe one day it may impose sanctions or cancel China's MFN status. Why shouldn't we instead do business with Europe or Japan?"17

The Chinese, as Gary Hufbauer at the Institute for International Economics has pointed out, have "figured out how to play the Europeans, Japanese and the Americans off against each other."18 And while the United States will publicly threaten China with sanctions, our friends and allies will not. Instead, as one of President Clinton's top strategists noted: "If we move to sanctions against China, everyone else will privately tell us we're doing the right thing -- and then they'll send five new trade missions to Beijing."19 The constant U.S. threat of revoking MFN does not help the United States overcome these problems. All the threat does is make the United States ever more vulnerable to manipulations by the Europeans, Japanese and Chinese.

Trade Deficit Concerns

China and the United States share $60 billion annually in trade. According to Commerce Department statistics, the United States had a $40.2 billion trade deficit with China in 1996, the largest United States trading deficit with any country other than Japan. However, this trade deficit is not as significant as it seems, as it is an overstated statistic in particular, and a misleading indicator of wealth in general.

The role of Asia's "Little Dragons." A major reason the United States has a large trade imbalance with China is that a number of the goods exported to the United States by China were previously made in Korea, Taiwan, Hong Kong and Singapore, Asia's "Little Dragon's." These countries saw their wealth, living standards, and labor costs increase due to the benefits of trade. As a result, they moved many of their shoe, clothing and hardware manufacturing plants to China to take advantage of the lower manufacturing costs there.20 "Hong Kong has shifted nearly all of its low-cost, labor intensive manufacturing" to China over the past ten years; Taiwan has done the same with about 50 percent of its production. And "half of South Korea's textile firms have invested in China" as well.21 So, while the United States trade deficit with China in these product categories has been increasing, that increase has been mirrored by decreasing levels of trade in these categories with South Korea, Taiwan, Hong Kong and Singapore.22

The overstated United States trade deficit with China. Moreover, The Institute for International Economics found that the U.S.-China trade deficit was overstated by approximately 33 percent during the period from 1989 through the third quarter of 1993. More recent calculations by the U.S.-China Business Council found the deficit to be overstated by close to 50 percent.23

One reason the United States trade deficit with China is overstated is that the intermediary role played by Hong Kong is not accurately accounted for. The United States counts Chinese exports that first go to Hong Kong and then on to the United States as direct Chinese exports to the United States. At the same time, the United States does not count United States exports to China that travel through Hong Kong in the same manner. This obviously skews trade figures.

Moreover, United States trade figures do not account for the fact that many goods that travel through Hong Kong are not immediately re-exported to the United States, China, or elsewhere in the world. Rather, while in Hong Kong, value often is added to the goods received, thus increasing their costs before they are re-exported. Consequently, this process impacts U.S.-China trade figures because of the important role Hong Kong plays not just as a transshipment point, but as a point where goods actually increase in value.

A recent study conducted by the Department of Commerce found that in 1992-1993, 75 percent of China's exports to the United States went through Hong Kong. While in Hong Kong, those goods had 29 percent of additional value added to them before being re-exported to the United States.24 So, not only is the United States incorrect in not counting as exports American goods that travel through Hong Kong, it also overstates the value of Chinese goods that are exported to the United States.

The misguided focus on trade deficits. Although China's trade deficit with the United States is overstated, the even more important point is that trade deficits are not the cause of concern many have portrayed them to be. Studies show that trade deficits are not correlated with unemployment or decreases in economic growth.25 In fact, periods of high growth and low unemployment tend to be times of higher trade deficits. A trade deficit, contrary to popular misconception, demonstrates a stronger, healthier economy than Americans believe.

Over the past two decades, average real U.S. Gross Domestic Product (GDP) has grown nearly twice as much in years when the trade deficit increased as when the deficit decreased. In addition, in the last thirty years the unemployment rate usually fell as the trade deficit increased. These results are not surprising, since Americans can afford to import more goods when the United States economy is strong. When the United States economy is weak, imports decrease and the trade deficit is reduced. Japan's recent economic problems have clearly demonstrated this, as the weak Japanese economy produced record trade surpluses.26

The existence or lack of a trade deficit is not the critical issue in determining a society's prosperity. Rather, it is the overall level of trade that matters. A definite, positive relationship exists between the level of trade and the total amount of goods and services enjoyed by Americans. As trade has risen from under 15 percent of U.S. GDP in 1976 to over 26 percent today, the income of the average American has also increased. Over the past twenty years, per capita disposable income (adjusted for inflation) has risen from $13,800 to over $18,700 annually.27

Trade Conflicts: The Need for Alternative Policy Tools

The recently resolved dispute over China's failure to protect American intellectual property rights will probably arise again, as will a number of other such conflicts in the future. But tying MFN status to each concern as it arises will hardly help promote a quick resolution. Given that economic sanctions often fail to achieve their desired result, encourage a tit-for-tat response from the sanctioned party, and hurt as many American interests as foreign, the United States should employ alternative policy tools to influence China in this area. The United States cannot simply force such a large, increasingly powerful, and ideologically different country to comply with its wishes and demands. Change is ultimately preceded by shared goals and common interests created through strong economic ties.

Harry Harding, one of the most respected foreign policy specialists on China, states "In dealing with Beijing, then, the United States needs to employ both rewards and punishments, carrots and sticks. Washington must be creative in rewarding China ... [and] incentives and disincentives should usually be the same as those used with other countries in comparable circumstances." (emphasis added)28

Creative solutions: intellectual property rights. Issue-specific tools such as American companies providing technical and financial assistance to aid intellectual property rights enforcement are much more likely to produce desired results than disengagement through cancellation of China's MFN. The issue of intellectual property rights protection in today's technology-intensive, cyberspace environment requires innovative, creative solutions. Bruce Stokes, a senior fellow and director of international-trade programs at the Council on Foreign Relations, presents a variety of alternatives to trade sanctions if China allows future intellectual property rights violations.29

Stokes contends that the value of punitive tariffs is debatable since Japanese and European suppliers will make up the losses of American goods in Chinese markets. He suggests alternatives such as licensing some U.S. technologies to Japanese and European companies to increase their stakes in protecting all intellectual property, and "recruiting" potential pirates overseas by making them joint partners. These moves would increase the economic stakes of all involved, making intellectual property protection a shared goal.30

Beyond Economics: Trade Helps the Chinese People

Both China and the United States benefit economically from trade, and clearly China's MFN status is mutually beneficial. China's market reforms and increased trade with America and the world has had a tremendous impact on the lives of the Chinese people.

The benefits of China's market reforms. The sweeping, market-based economic reforms launched in 1978 under Deng Xiaoping unleashed productive and entrepreneurial forces in China that have created unparalleled improvements in the daily living conditions and quality of life of Chinese citizens. China's "open door" economic policy reinvigorated the country's internal development and boosted its foreign trade by granting permission to foreign firms to establish joint-venture companies and by establishing Special Economic Zones in the coastal regions near Hong Kong. To encourage foreign and Chinese companies to develop plants and offices in these regions, the Chinese government offered tax incentives and removed legal restrictions.

At first, provinces that were not part of the initial round of economic reforms demanded that the special economic privileges accorded the coastal provinces be revoked. In time, however, as people saw and heard tales of great economic growth and increasing wealth, they demanded that their provinces too be granted the opportunities created by policies of economic liberalization.31 China's economic reforms have continued to spread to other provinces and regions of the country, and have continued to unleash truly revolutionary change in the size, scope and character of China's economy and society. These changes have led Christopher Patten, the final British Governor of Hong Kong, and one not known for heaping effusive praise on the Chinese leadership, to conclude:

"The Chinese leadership, whatever criticisms people may have of it, has managed to engineer an astonishing transformation in the last 16, 17 years from, let's face it, North Korean economics to something resembling an open capitalist economy."32

Astounding economic gains. The stunning improvements in the standard of living of Chinese citizens brought about by China's economic reforms and the Chinese people's entrepreneurial spirit can not be simply dismissed by those who claim to have the interests of Chinese citizens at heart. Since 1979, China's Gross Domestic Product has quadrupled and the country's real GNP has grown at an average of almost 9 percent per year. China's liberalization of its trade policy, which spurred internal improvements while opening up Chinese society to the world, increased foreign trade to $236 billion in 1994, up from 20.7 billion when the economic reforms began in 1978.33 Between 1985 and 1991, real income growth in China increased by 63 percent, while it increased by over 100 percent in the coastal provinces of Guangdong and Fujian, and the internal provinces of Xinjiang and Yunnan. And as impressive as the 1985 to 1991 increases in real income are, they "greatly [understate] the average effect of China's economic boom, because three of the six years are years of austerity policy and drastically sub-par growth."34

A 1992 article in The Economist concluded that China's economic development has led to "one of the biggest improvements in human welfare anywhere at any time."35 In 1978, between 200 million and 270 million Chinese were living in absolute poverty, without even enough food; but by 1985, that number was reduced by more than 50 percent. In effect, the equivalent of twice the population of Britain, a Japan, or half the entire United States population, were saved from absolute poverty in just the first six years of economic reform.36

Whither the state? China's economic reforms have resulted in vast increases in the number of private enterprises and substantial decreases in state-owned ventures. Over the last decade, the percentage share of China's gross value of industrial output of private or foreign enterprises grew by an average of 34 percent per year. State-owned enterprise accounted for less than half of China's gross output value of industry in 1995, an overall decrease of almost 33 percent over the 1984 to 1995 period.37 "Only one person in five now works for the state,"38 and Chinese officials claim that 80 percent of commodities are distributed through market channels at prices largely set by market forces.39

Human Rights and Human Wrongs

Those who claim that China remains an authoritarian state that engages in sometimes brutal repression of its citizens' human rights do not overstate their case; they are by no means incorrect. No less incorrect, however, are those who point out that China's growing economy has greatly improved the everyday lives of the overwhelming majority of its citizens. And foreign trade, investment and engagement -- including American trade, investment and engagement -- has played an important role in accomplishing that feat.

China, like Taiwan and South Korea before it, is changing; it is moving in the right direction. Such a conclusion does not yield the proponents of extending China's MFN status the immediate sense of moral satisfaction that is reserved for the prophets of the black and white world view, those who can boil this complex issue down to a simple choice between "principles or profits." Nevertheless, patience and engagement is the prudent path to follow.

Today's China: The half-full, half-empty dilemma. As China continues to lurch into the modern world, the conditions of China's citizens will continue to be a cause of concern to Americans. However, most Americans, and many policymakers, appear to have a stagnant and outdated view of the conditions of the Chinese people. In fact, even those in the West who have a better understanding of the changes underway in China will continue to be troubled because, as William H. Overholt observes, China represents "the ultimate half-full, half-empty problem." Overholt continues:

"The Chinese are extremely poor, but at no time in history have living standards improved so fast for so many. Wages are low, but the typical Chinese worker is content with raises that are much more rapid than those in the West, past or present. China is authoritarian, but the improvements in freedom of speech, information, movement, and occupation in the last 15 years is unprecedented40 ... People can wear what they like, share opinions with their neighbors, choose their careers, change jobs, hear conflicting opinions from their national leaders, vote in competitive local but not national elections, move around the country with limited hindrance, start their own business, and in general do pretty much anything other than directly challenge the authority of the government41 China's government is a brutal dictatorship, but its leaders are addressing the most pressing needs of the people, and competitive elections affect the lives of the ordinary Chinese more than elections affect ordinary citizens of democratic India."42

Half-empty and half-full, indeed. But perhaps there is a little more hope in the glass than most people expect or believe. America should continue to help fill the glass, not smash it -- along with the hopes of so many Chinese -- by revoking China's MFN status.

Can China Progress Toward Increased Political Freedom?

For the 1.2 billion people of China, the benefits of trade with the United States extend beyond economics. The economic development created by trade not only improves the standard of living, but fosters a larger middle-class, which can better support positive political and human rights change. In both Taiwan and South Korea -- authoritarian regimes until as recently as the mid-1980's -- political rights and civil liberties improved as economic development advanced through trade.

The lesson of Taiwan. In a May 7, 1996, Wall Street Journal article, Jeffrey Koo, Chairman and CEO of Taiwan's Chinatrust Commercial Bank stresses the correlation between economic reform and political freedom. He states, "[T]he most powerful argument in favor of MFN is that trade with the U.S. will accelerate economic reform and the development of a free market system, which will nudge China toward democracy. This argument has particular resonance here in Taiwan, since it is the path that we have followed."43

Taiwan's President Lee Teng-hui, elected last year in Taiwan's first democratic presidential election, also believes there is a connection between economic reform, development of a free market system, and political liberalization. Moreover, the example of Taiwan's still nascent democracy is especially relevant to China given the historical and cultural ties shared by the two societies. In a March 27, 1996 interview with The Wall Street Journal, President Lee concluded:

"Vigorous economic development leads to independent thinking. People hope to be able to fully satisfy their free will and see their rights fully protected. And then demand ensues for political reform ... [T]he fruits of the Taiwan experience will certainly take root on the Chinese mainland. In fact, the mainland is already learning from Taiwan's economic miracle. The model of [Taiwan's] quiet revolution will eventually take hold on the Chinese mainland."44

Forces of Change: China's Southern Provinces and Hong Kong

Revocation of China's MFN status would be most damaging to the economically strong, export dependent southern Chinese provinces of Guangdong and Fujian that are on the forefront of China's economic reform. These provinces are exploding in capitalist entrepreneurship and hold the most hope for gains in political freedom. The experiences of Guangdong and Fujian are examples that economic development can lead to political liberalization and decentralization of government. In fact, in 1990, provincial governors led by Guangdong's Xe Xuanping tried to block Beijing's attempt to write tax increases and recentralization policies into its new five-year plan.45

The importance of Hong Kong. The leading catalysts for growth in Guangdong are the massive investments in the province by Hong Kong businessmen (Taiwanese businessmen are doing the same in Fujian). Hong Kong -- which reverts from British to Chinese rule in July this year -- distributes approximately 70 percent of China's exports to the United States,46 and the economies of both Hong Kong and Guangdong share a dependence on exporting activities. According to Hong Kong Governor Christopher Patten, "If China loses MFN, Hong Kong will lose a colossal amount of business at a stroke. [It's] growth will be halved and [its] unemployment could be doubled."47

The loss of Hong Kong's economic and political vitality would be a great loss not just to the people of Hong Kong and China, Governor Patten stresses, but to the United States and the region as a whole. Patten explains:

"Hong Kong represents the kind of Asia that Americans want to see: An Asia committed to open markets and open minds, an Asia committed to the rule of law and respect for human freedom. Hong Kong has proved that East and West can mix very well commercially, culturally, socially [and] intellectually. If Hong Kong is diminished after 1997, the relationship between East and West will suffer."48

Revoking MFN imperils change in China. If China's MFN status were revoked, Hong Kong and China's southern provinces of Guangdong and Fujian would lose the power and momentum with which they can create positive political change in China. Robert Broadfoot, managing director of the Hong-Kong based Political and Economic Risk Consultancy, has noted that "a Hong-Kong-Guangdong alliance could create a speed and momentum of economic reform that could jeopardize political stability, meaning the Communist Party in Beijing." Hong Kong already has greatly influenced mainland policy by demonstrating the success of capitalism. Anson Chan, the chief secretary of Hong Kong who is known to be quite influential with the Chinese government, has stated that "[Hong Kong] will be a stronger influence on China [than vice versa and] Hong Kong can serve as an example to the rest of the world."49

Engagement with China Fosters Global Security

Security tensions, including the issue of nuclear proliferation, are best relieved through a policy of engagement. Like political and human rights change, United States security interests cannot simply be forced on the Chinese government. Economic interdependence provides China powerful motivation for peaceful relations and the United States an avenue for exerting influence on China.

Engagement, not isolation. A policy of engagement has been publicly embraced by Anson Chan, the chief secretary of Hong Kong. Chan advocates delinking Chinese trade from other issues and keeping United States trade open with China as an "avenue of influence," and she

has stated that "trying to not renew MFN is the worst possible way to succeed. Americans must stay engaged with China, you mustn't push them into an isolationist corner."50

Isolating Whom: China or the United States? U.S. withdrawal of China's MFN status would send a global message which could irreparably harm U.S. security interests. Revocation of China's MFN status may be interpreted as a sign of American withdrawal to U.S. strategic allies throughout the region. Tense relations between China and the United States would not only strengthen regional trade groupings which exclude the United States, but could encourage Japan, and perhaps even a unified Korea, to adopt less hospitable policies toward the United States.51

Policy Conclusions

Economic sanctions will not be effective. Economic sanctions have historically been unsuccessful in forcing change in a foreign government. Gary Hufbauer, a senior fellow at the Institute for International Economics and co-author of a book on sanctions has stated that "the efficacy [of sanctions] isn't better than one in four, and getting weaker over time." He notes that sanctions weren't effective against a tiny, impoverished nation like Haiti, and would have even less effect on a large, powerful country like China.52

The Institute for International Economics has found that sanctions work best when the international community is unified, when the target of the sanctions is weak, and when they are aimed at "discrete goals" rather than "reshaping a country's political character". China is an unlikely target for successful sanctions because it does not fit any of these criteria.53

China's MFN status must be renewed. The United States should clearly renew China's MFN status. If China's MFN status is removed, the United States will sacrifice all its influence on the Chinese government. Removal of China's MFN status is tantamount to a declaration of economic warfare, where the only winners would be the neutral countries --America's competitors -- that will pick up larger pieces of the expanding economic pie in China produced by trade. America's current influence in China, as well as the potential for an expanded influence in the future, would be lost.

Without economic engagement, little incentive exists for China to comply with U.S. interests. The Chinese are prepared to replace United States goods with those of other foreign suppliers. They are prepared to depend on their own rapidly expanding markets, as well as find new markets elsewhere in the world to replace U.S. consumers. Influence over the Chinese can only be obtained through a policy of engagement in which mutually beneficial economics create common goals.

China should receive permanent MFN status. Without the stability and permanence of a constant, reliable trade relationship, the United States sacrifices its competitiveness in the Chinese market. Foreign businesses whose governments have more stable trade policies will be preferred by the Chinese for joint ventures and other lucrative projects. Eliminating the annual renewal process for China's MFN status will provide the stability and permanence necessary for a strong economic relationship between the United States and China, as well as a more secure political relationship.

Integration of China into the international community increases China's stakes politically and economically. Granting China permanent MFN trading status with the United States facilitates and reinforces this process. China's stability and economic development depend on foreign relationships, since "history demonstrates that an isolated China can produce harmful, even disastrous, results for the Chinese people, the region and the world."54

When this publication was originally released on June 25, 1996, Cristina Suarez Duffy was an adjunct scholar and Michael Harrold was director of trade policy at Citizens for a Sound Economy Foundation. It has been updated by Anita Sheth, director of regulatory policy at Citizens for a Sound Economy Foundation.

1 Wayne M. Morrison, "China-U.S. Trade Issues," Congressional Research Service, February 5, 1997, pp. 2-3.

2 "Most-favored nation trading status" is such a misleading and frequently misunderstood term that Senators Roth and Moynihan are working to replace the phrase in U.S. statute with a term which emphasizes the unexceptional nature of the MFN concept (i.e., Normal Trading Status or Standard Trading Status).

3 "The Costs to the United States Economy that Would Result from Removal of China's Most Favored Nation Status," International Business and Economic Research Corporation, June 1996, p. 20.

4 International Business and Economic Research Corporation, op. cit., pp. 2-3.

5 Testimony of Ambassador Stuart Eizenstat, Undersecretary of Commerce for International Trade, before the House International Relations Committee Subcommittee on Asian Affairs and the Subcommittee on International Economic Policy and Financial Affairs, May 16, 1996.

6 Vladimir M. Pregelj, Most Favored Nations Status for the People's Republic of China, Congressional Research Service of the Library of Congress, May 17, 1996, pp. 4-5.

7 Ibid.

8 Pregelj, op. cit., p. 5.

9 International Business and Economic Research Corporation, op. cit. p. 8.

10 Eizenstat, op. cit.

11 Tom Brune, "Sanctions Against China May Also Hurt U.S.," Chicago Tribune, March 18, 1996, p.1

12 Eizenstat, op. cit.

13 Brune, op. cit.

14 Mure Dickie, "China Paper Warns Poor Ties Threaten U.S. Business," The Reuter European Business Report, April 28, 1996.

15 "Boeing, GM Deals Show Trade Ties Shifting Back on Track," The Associated Press, March 25, 1997.

16 Brune, op.cit.

17 "Li Lanqing: Does 'Engagement' Mean Fight or Marry?" Business Week, May 6, 1996, p. 50.

18 David Sanger, "It's Lonely for the U.S.; Walking Loudly, Carrying Trade Rules," The New York Times, April 21, 1996, sec. 4, p. 5.

19 Sanger, op. cit.

20 Ke Wan, "Wrong Assumptions about U.S.-China Trade," The (St. Louis) Post-Dispatch, May 30, 1996, p. 7.

21 Dusty Clayton, "Beijing Takes Flack For U.S. Explosion in Trade Deficit," South China Morning Post, November 9, 1995, p. 1.

22 Ke Wan, op. cit.

23 International Business and Economic Research Corporation, op. cit., p. 31.

24 International Business and Economic Research Corporation, op. cit, pp. 30-31.

25 For a more complete discussion of the misplaced concern regarding trade deficits and their purported negative impact on employment and economic growth, see Bryan Riley, "Little-Known Facts About Trade Deficits," Citizens for a Sound Economy Foundation, Capitol Comment, February 11, 1993; and Wayne Leighton, "Playing With the Numbers: Why Protectionists are Wrong about Trade," Citizens for a Sound Economy Foundation, Issue Analysis, updated April 30, 1997.

26 Riley, op. cit.

27 Leighton, op. cit.

28 Harry Harding, A Fragile Relationship, The Brookings Institution, 1992, p. 330.

29 Bruce Stokes, "Rethinking Piracy Penalties," The Japan Times, June 1, 1996, p. 19.

30 Stokes, op. cit.

31 William H. Overholt, The Rise of China, 1993, p. 102.

32 Christopher Patten, speech before the National Press Club, Washington, D.C., May 8, 1996.

33 Morrison, op. cit., p. 5; Jim Rohwer, "The Titan Stirs," The Economist, November 28, 1992, p. 3.

34 Overholt, op. cit., pp. 105-107.

35 Rohwer, op. cit.

36 Rohwer, op. cit.

37 The breakdown by Gross Value of Industrial Output in China for 1995: State owned enterprise (46.3 percent), collective enterprise (34 percent) and private and foreign enterprise (19.7 percent). Calculations based on data from PRC State Statistical Bureau, China Statistical Yearbook, 1995, as reported in U.S.-China Business Council, Forecast '96.

38 William H. Overholt, "China After Deng," Foreign Affairs, May/June 1996, Vol. 75, no. 3, p. 73.

39 Robert G. Sutter, "China After Deng Xiaoping -- Implications for the United States," Congressional Research Service, April 7, 1995, p. 12.

40 Overholt, "China," op. cit., p. 78.

41 Ibid, p. 64.

42 Ibid, p. 78.

43 Jeffrey Koo, "MFN for China is also Good for Taiwan," The Wall Street Journal, May 7, 1996, p. 22.

44 Melanie Kirkpatrick, "Taiwan's Quiet Revolution," The Wall Street Journal, March 27, 1996, p. 22.

45 Andrew Tanzer, "The Mountains are High, the Emperor is Far Away," Forbes, August 5, 1991, p. 70.

46 Pregelj, op. cit, p. 5.

47 Patten, op. cit.

48 Patten, op. cit.

49 Steve Higgins, "Hong Kong Leader Anson Chan: Getting Ready for Role as Keeper of Capitalist Flame," Investor's Business Daily, April 30, 1996, p. 1.

50 Higgins, op. cit.

51 Leon Hadar, "The Sweet-and-Sour Sino-American Relationship," Cato Institute, Policy Analysis, January 23, 1996, p. 32.

52 Robert S. Greenberger and Kathy Chen, "Uneasy Partners: Dollar Diplomacy Fails to Sway the Chinese, As Taiwan Feud Shows," The Wall Street Journal, March 13, 1996, p. 1.

53 Sanger, op. cit.

54 Warren Christopher, "American Interests and the U.S.-China Relationship." Address by Secretary of State to the Asia Society, the Council on Foreign Relations and the National Committee on U.S.-China Relations, May 17, 1996.