the quantitative goals could lead to managed trade and strengthen the role of state-owned enterprises— whose reform is desirable and has been deferred.

Third, a deal that seeks trade creation could result in trade diversion, not just in China but also in the United States. As noted above, if China does not liberalize vis-à-vis the rest of the world, China’s bilateral commitments to the United States could result in reduced imports from other countries, including otherwise competitive developing countries. And the ability of the United States to realize its sales to China could come from reduced exports to other countries, at least until the capacity of U.S. firms and farms expands sufficiently—even as the United States operates at close to full employment. This double trade diversion could lead to trade distortions rather than beneficial trade liberalization.

Fourth, a deal that seeks to dispel uncertainty could make trade policy permanently unpredictable. In principle, an agreement makes the world more predictable. But this agreement appears to deviate from multilateral rules against discrimination and guarantees against trade protection. By requiring bilateral purchases, the agreement marks a deeper departure from multilateral rules against discrimination than the preferential tariffs associated with typical bilateral and regional agreements. Moreover, instead of independent multilateral dispute settlement, the United States has assumed the right to unilaterally judge and penalize China’s non-conformity with obligations that are not always clear, while China must either accept or withdraw from the agreement. The result could be durable uncertainty in the trading system. Finally, the deal disrupts not just existing rules but the established process of reaching trade agreements. Instead of exchanging the carrot of market opening at home for the carrot of market opening abroad, it resorted to the stick of protection to induce enhanced access abroad. Therefore, even existing openness— which had previously been assured by multilateral legal bindings—can no longer be taken for granted.

Many of these risks can be averted if China chooses to multilateralize this bilateral agreement. One route is to implement the provisions unilaterally as far as possible on an MFN basis. The fact that China negotiated the current deal may be ground for skepticism about the likelihood of China implementing broad-based liberalization. However, the agreement itself may encourage greater reform. To the extent there are losses from trade diversion, there will be increased pressure for China to liberalize trade for all partners—to reduce the costly trade diversion and increase imports from the most efficient producers. These pressures are not just a theoretical possibility: evidence from Latin American trade agreements show that PTAs typically induce multilateral liberalization, and these effects tend to be stronger when preferences are granted to important suppliers (Estevadeordal, Freund and Ornelas 2008).

Multilateral liberalization can be accomplished by implementing reforms in areas like services, intellectual property and technology transfer that extend the benefits of the agreement to all trading partners. In some cases, as in the recognition of foreign standards and conformity assessment procedures in agriculture, multilateralization could be a challenge, but China could still strive to establish objective and transparent conditions of eligibility for recognition. In financial services, barriers to entry could be eliminated on an MFN basis and regulatory recognition extended on the basis of prudential considerations that do not discriminate between trading partners with like regulatory conditions. Realizing the quantitative targets may pose the most significant difficulty. As we have seen, the extent of multilateral liberalization needed is likely to be much greater than the required preferential access for the United States alone. Moreover, for a large country like China, the liberalization may involve giving up the freedom to impose “optimum tariffs” that exploit its market power. Nevertheless, the costs of any such 16