The WTO Agreement on Subsidies and Countervailing Measures establishes general international rules regarding the types of subsidies that exporting countries may and may not maintain and procedures that importing countries may employ to counter injurious subsidy practices. U.S. trade law generally reflects the agreement’s provisions. The United States applies CVDs with some regularity—almost always in tandem with the other major mechanism for providing relief from unfairly traded imports: antidumping duties. However, CVDs are requested and applied much less frequently than antidumping duties. Appendix II provides additional background information on WTO subsidy rules and relevant U.S. laws, explains antidumping actions in more detail, and provides more detail about how frequently CVD and antidumping actions are sought and duties actually imposed. 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. This policy 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 are (1) from a legal standpoint, 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. Commerce has classified China as an NME country since 1981. Figure 4 shows the countries that Commerce currently classifies as NMEs. 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). Commerce observed that, even though Congress had addressed unfair trade remedies in both the Trade Act of 1974 and the Trade Agreements Act of 1979 and revised U.S. countervailing duty law on both occasions, it had not given any indication that CVD law should be applied against these countries. Instead, Congress provided two other remedies—antidumping duties and safeguard measures—to address unfair trade practices by NME countries. The U.S. Court of Appeals for the Federal Circuit upheld Commerce’s decision in Georgetown Steel Corp. v. United States. “We believe a subsidy (or bounty or grant) is definitionally any action that distorts or subverts the market process and results in a misallocation of resources. . . . In NMEs resources are not allocated by a market. With varying degrees of control, allocation is achieved by central planning. Without a market, it is obviously meaningless to look for misallocation of resources caused by subsidies. There is no market process to distort or subvert…. It is this fundamental distinction—that in an NME system the government does not interfere in the market process but supplants it—that has led us to conclude that subsidies have no meaning outside the context of a market economy.” In upholding Commerce’s position in this matter, the Court of Appeals found in Georgetown Steel that in nonmarket economies the governments 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. 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. However, Commerce officials observed that it may be difficult for China to meet these criteria in the near term. Alternatively, Commerce could reverse its 1984 position and decide that CVD law could be applied to China while it remains classified as an NME country. However, absent a clear grant of authority from Congress, such a reversal could be challenged in court. The results of such a challenge are uncertain. WTO rules, including relevant provisions of China’s WTO accession agreement, do not explicitly preclude the United States from pursuing either alternative. Moreover, China’s WTO accession commitments (1) permit use of third-country information in CVD cases and (2) could facilitate Commerce adjudication of CVD actions against state-owned enterprises in that country. The Department of Commerce has administrative authority to reclassify NME countries as market economy countries, or individual NME country industries as “market oriented” in character, provided that the country as a whole or the industries in question meet certain criteria. Department of Commerce officials explained that countries classified as NMEs may ask that their status be reviewed either within the context of an ongoing import relief case or as an independent matter. Commerce has responded to a number of requests for such reviews, granting some countries (such as Russia and Estonia) market economy status while classifying others (such as Vietnam) as nonmarket economies. Table 1 shows former NME countries that Commerce has determined merit reclassification as market economy countries. In making decisions on such matters, U.S. trade law specifies that Commerce shall take into account the following factors: the extent to which the country’s currency is convertible into the currency of other countries, the extent to which wage rates are determined by free bargaining between labor and management, the extent to which joint ventures or other investments by foreign firms the extent of government ownership over the means of production, the extent of government control over the allocation of resources and enterprises’ price and output decisions, and other factors that Commerce considers appropriate. In April 2004, the United States and China established a Structural Issues Working Group under the auspices of the U.S.-China Joint Commission on Commerce and Trade. Among other things, this group is examining issues relevant to China’s desire to be classified as a market economy country under the criteria set forth in U.S. antidumping law. U.S. officials involved with the group have observed that substantial additional reform will have to take place (e.g., in improving respect for labor rights and reducing or abandoning controls on currency convertibility) before China can expect to be declared a market economy country under the criteria listed above. The Chinese government regards recognition as a market economy among its trading partners as a desirable diplomatic goal. While acknowledging that this change in status may result in the United States (and other countries) applying countervailing duties, Chinese officials we spoke with emphasized the political value of their country being officially declared a “market economy.” Other trade experts pointed out that Chinese officials may also be seeking this change because they believe it would generally result in lower antidumping duties being assessed against Chinese products. China has actively sought change in its status among its trading partners. A number of them, including Singapore and Malaysia, have declared China to be a market economy. However, in June 2004, the European Union officially declined a Chinese request for designation as a market economy. In making this decision, the EU acknowledged that China had made progress, but concluded that much remained to be done in reducing state interference in the economy, improving corporate governance and the rule of law, and bringing the banking sector under market rules. Department of Commerce officials informed us that Chinese representatives have not yet officially requested that Commerce review their country’s NME status under U.S. law. The Department of Commerce could also designate individual Chinese industries as “market oriented” and thus as eligible for application of CVDs. In a 1992 CVD decision involving imported oscillating and ceiling fans from China, Commerce determined that, short of finding that an entire country merits designation as a market economy, Commerce can find specific industries within such countries to be “market oriented” in character. Commerce stated that certain criteria, developed earlier in the context of an antidumping case (also against China), would have to be met for an industry to be found market oriented. The industry in question must be characterized by the following: virtually no government involvement in setting prices or amounts to be private or collective ownership, and market-determined prices being paid for all significant inputs, whether material or nonmaterial, and for all but insignificant proportions of all the inputs accounting for the total value of the product. Commerce justified application of these criteria to determine whether a CVD investigation should proceed by observing that if the Chinese fan industry met the criteria just described, then Commerce could rely on prices and costs to producers in that industry to provide accurate measures of value. Commerce concluded that, if the prices and costs in a sector of an NME were market determined, then the practical concerns cited by the Court of Appeals in Georgetown Steel would not arise and Commerce could apply U.S. CVD law. To date, Commerce has not accepted any claim that an NME country industry should be designated as market-oriented in character. Commerce officials observed that, as a practical matter, the criteria for designation as a market-oriented industry may be difficult for producers operating in a nonmarket economy to satisfy. In any event, Commerce has not received a CVD petition involving a market-oriented industry claim since the early 1990s. In a few cases, Chinese companies have responded to antidumping cases, in part, by requesting designation as a market-oriented industry. Commerce has denied these requests—primarily on the grounds that the Chinese companies in question submitted information that was insufficient or provided too late in Commerce’s process to allow an informed decision. Since there is no explicit statutory bar to applying CVDs to NME country products, Commerce could make an administrative determination to apply such duties to China and other NME countries. Some legal experts have taken the position that Georgetown Steel merely upheld Commerce’s decision that it could not apply CVD law to NME countries, and that Commerce could therefore change its policy so long as the change could be defended as reasonable. Commerce officials told us that it might be possible for parties in a particular case to present new legal positions that would permit it to apply CVDs against an NME country product without a change in current law. They added, however, that in the absence of an actual case, it was hard to say whether or how this would occur. While Commerce could reverse its 1984 position, the Court of Appeals’ Georgetown Steel ruling raises serious doubt about Commerce’s ability to make such a change without a clear grant of authority from Congress. The Court of Appeals did uphold Commerce, but the court also appeared to make its own findings. The court emphasized that recent 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 “f 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.” The Uruguay Round Agreements Act, 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.” Although Members of Congress introduced legislation to make U.S. CVD law explicitly applicable to NME countries in 2004, and again in 2005, these bills did not gain approval. Consequently, a Commerce decision to reverse the position it adopted in 1984 and allow CVD actions against NME countries could very well be challenged in court. The results of such a challenge are uncertain. WTO subsidy and countervailing duty rules do not address the issue of NME status in CVD proceedings. The WTO Agreement on Subsidies and Countervailing Measures does not discuss market/nonmarket economy designations in general and, more specifically, does not address the question of whether members can bring CVD actions against NME countries. The CVD provisions in China’s WTO accession agreement are similarly silent. Thus, we believe that these rules (1) do not explicitly restrict the United States from continuing or ceasing to apply NME status to China on either a countrywide or industry-specific basis and (2) do not explicitly preclude bringing CVD actions against countries that are classified as NMEs. While 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. The agreement does require, however, that before considering application of information from outside China, member countries should first seek to use adjusted information from China itself. This provision has no expiration date and does not differentiate between China as a market or a nonmarket economy. China’s WTO accession agreement contains another provision that may facilitate application of CVDs in some cases involving state-owned enterprises. WTO members may only apply CVDs when the subsidies in question can be shown to be “specific to an enterprise or industry or group of enterprises or industries.” Determining whether a particular subsidy meets this test can be challenging. For example, a government loan program directed specifically at providing below-market financing to enable fishermen to acquire boats and equipment might be considered specific, and thus actionable. On the other hand, a program that provides below-market financing to many types of small businesses, including some fishermen, might not be considered specific, and thus not open to application of CVDs. China’s accession agreement provides that subsidies benefiting state- owned enterprises will be regarded as specific if, among other things, such enterprises are the “predominant” recipients or receive “disproportionally large amounts” of such subsidies. This may facilitate application of CVDs in some circumstances because it may make it difficult for China to argue that such subsidies are generally available, and thus not actionable. Instead, members may regard them as specific to state-owned businesses without regard for the sector in which they operate. While 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. “It is difficult to identify and quantify possible export subsidies in China because of the lack of transparency in China’s subsidy regime. Chinese subsidies are often the result of internal administrative measures and are not publicized. U.S. subsidy experts are currently seeking more information about several Chinese programs and policies that may confer export subsidies. Their efforts have been frustrated in part because China has failed to make any of its required subsidy notifications since becoming a member of the WTO.” Commerce officials told us that even though there has been 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 that 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 while the Chinese government heavily influences allocation of credit—favoring some industries over others—it is uncertain how to quantify the subsidy benefits conferred through this process. In addition, while some attorneys who have represented Chinese companies disagreed, Commerce officials and attorneys who have represented U.S. firms said that lack of adherence to generally recognized accounting standards and unreliable bookkeeping among Chinese companies can make accurate identification and accurate measurement of subsidy benefits extremely difficult. Some Commerce officials and trade experts also said that unlike most market economies, which are national, China’s economy is fragmented into five or six regions, each with its own pricing. Thus, even if an industry were declared to be market oriented, it would be difficult to evaluate the subsidy benefits accruing to the national industry as a whole. 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 that would face Commerce. 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. While the United States employs “surrogate” or third-country information to calculate antidumping duties on imports from China and other NME countries, CVD cases against China would raise issues that Commerce analysts do not face in antidumping cases and that may not be resolved by use of third-country information. For example, it may be difficult to separate specific (and therefore countervailable) subsidies from those that are generally available (and therefore not countervailable). In addition, identifying reasonable benchmarks (such as market-determined capital costs) in third countries will only provide Commerce with a starting point for calculating CVD rates that should be applied to Chinese products. After establishing such benchmarks, Commerce would then face significant challenges in quantifying, for example, the capital or utility costs that are actually being paid by Chinese companies under investigation, so that analysts can determine the difference between unsubsidized and subsidized costs. Commerce also has the authority to employ facts available to overcome difficulties in calculating subsidy benefits and corresponding CVD rates. Commerce normally obtains information from U.S. companies seeking relief and also from foreign companies and government agencies alleged to be benefiting from or providing subsidies. However, U.S. law grants Commerce authority to make determinations based on facts otherwise available when foreign sources cannot or will not provide needed information. Commerce might be able to complete some China CVD cases by applying this approach. However, Commerce officials pointed out that their authority to employ facts available is subject to certain limitations. The extent to which Commerce would employ this approach in China CVD cases is uncertain. 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. In joining the WTO, China made commitments regarding four import relief measures that other members may apply against imports from China. As already noted, 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 has passed legislation—commonly referred to as section 421—implementing the second (involving application of safeguard measures). While Congress did not adopt legislation to implement China’s third import-relief commitment (regarding textile safeguards), the U.S. interagency group responsible for processing textile safeguard cases believes that existing legislation provides it with authority to implement such measures. In contrast, U.S. trade law was not amended to explicitly authorize Commerce to implement China’s fourth commitment, regarding application of third-country information in CVD cases, and does not otherwise clearly state that Commerce may apply third-country information in such cases against foreign countries in general. Commerce regulations do provide for application of third-country information to CVD cases—but only in some circumstances. The most explicit provision covers only subsidies that impact goods and services used in producing the allegedly subsidized imports. 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. 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 to China would result in overall levels of protection for U.S. products that are higher than those already applied through antidumping duties. CVDs could be applied alone or in tandem with antidumping duties. CVDs alone generally tend to be lower than antidumping duties. For two reasons, simultaneous application of both types of duties could well result in reduced antidumping duties, and it is unclear whether application of CVDs would compensate for such reductions. First, designating China as a market economy would require a change in the methodology used to calculate companion antidumping duties that is widely expected to lead to lower duty rates. Second, regardless of whether China is designated as a market economy, some companion antidumping duties might need to be reduced to avoid double counting subsidy benefits. Each of these considerations introduces an element of uncertainty about the magnitude of the total level of protection that would be applied to Chinese products; each may result in combined rates that are lower than might be expected. U.S. CVDs 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 and antidumping duties imposed on the same products over the last decade. As the figure shows, 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 where 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. Under the WTO subsidies agreement and U.S. law, CVD rates are limited to the levels required to offset the amount of the subsidies. 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 countervailing duty 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. U.S. companies, therefore, may experience substantial difficulty in competing with Chinese companies that owe their existence to favorable government actions in the past, but find that legitimately applied CVDs are minimal. Administrative actions reclassifying China as a market economy (in whole or in part) would require Commerce to cease applying its NME 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. Therefore, once Commerce reclassified China as a market economy it could no longer apply this methodology. Similarly, Commerce could no longer apply this methodology to individual Chinese industries after it found them to be market-oriented in character. After either finding, Commerce would apply its market economy approach to calculate antidumping duties. Commerce has never attempted to calculate antidumping duties on Chinese products based on prices charged within China. Whether these antidumping duties would be higher, lower, or approximately the same as those derived through Commerce’s NME approach remains uncertain. However, if—as trade experts commonly expect—they prove to be significantly lower than antidumping duty rates derived through Commerce’s NME methodology, then even in combination with companion CVDs, the total level of protection applied may not be as high as that currently applied against Chinese products. If called upon to apply CVDs against Chinese products, Commerce would have to adjust companion antidumping duty rates downward in some cases in order to avoid “double counting”—imposing two sets of duties to compensate for the same unfair trade practice. However, the extent of these adjustments—and their net impact on combined duty rates to be applied—remains uncertain. 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.” 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. 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, 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 in order 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. Another potential source of double counting could emerge if Commerce were to apply CVDs to China while it retains its NME status. In such circumstances, Commerce would continue to use third-country information to calculate antidumping duties. While, in principle, double counting of actionable domestic subsidies generally does not occur when analysts employ information from exporting countries themselves to determine duty rates, it may occur when analysts use third-country information. However, 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. 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. Economists, trade law practitioners, and Commerce officials we consulted disagreed on whether, in practice, antidumping duties derived through the third-country-based methodology effectively offset all of the subsidy benefits enjoyed by Chinese exporters. 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 third-country information to calculate antidumping duties on the same products against which it also applied CVDs. Because the United States has never attempted to apply both countervailing and antidumping duties against an NME country, the implications of taking such an action are unknown. 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. Therefore, Commerce officials observed that they would have no choice but to apply both duties without making any 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 told us that, theoretical arguments aside, interested parties finding fault with Commerce’s decision making would have to prove that there was actual double counting. Despite increasing concern about Chinese government subsidies and their adverse impacts on U.S. producers, U.S. producers may not currently avail themselves of the U.S. government’s primary tool for countering unfair subsidies—CVDs. While the methodology that Commerce currently employs to calculate antidumping duties on Chinese products already results in duty rates that offset subsidy benefits to some degree, Commerce could act to make CVDs available against China as well. It could do this either by changing China’s NME status, or by changing its current policy and determining that it may apply CVD law against China regardless of its NME status. However, Commerce appears unlikely to employ the first alternative in the near future, and the Georgetown Steel ruling raises an obstacle to employing the second, without clear authority from Congress. While Congress is considering legislation that would authorize Commerce to apply CVDs to China as an NME country, substantial practical questions about how such cases would proceed remain unanswered, and the results that they would produce remain uncertain. The absence of such information makes it difficult for interested Members of Congress, prospective participants in CVD cases, and Commerce itself to gain any perspectives on the implications of taking such actions. 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. In particular, Commerce lacks guidance or experience in applying third- country information to calculate CVD rates—an approach that is explicitly permitted under the terms of China’s accession to the WTO and that Commerce may very well find necessary to employ given lack of transparency regarding China’s subsidy practices. The CVD rates that would result from these investigations are uncertain, as are the net effects of applying both CVDs and antidumping duties to Chinese products. 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. In order to provide Congress and the Department of Commerce with better information about the implications of taking actions that would result in application of U.S. CVD laws to China, we recommend that the Secretary of Commerce analyze and report to Congress on Commerce’s ability to identify and measure subsidy benefits at the present time, based on its knowledge of significant Chinese subsidy programs; and broadly applicable methodologies that Commerce might employ to complete CVD actions against Chinese products, if called upon, including how it might respond to potential double counting of domestic subsidy benefits when applying both countervailing and antidumping duties to the same products. 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, Congress may wish to consider adopting legislation to provide Commerce clear authority to fully implement China’s WTO commitment regarding use of third- country information in CVD cases, and 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. The Department of Commerce provided written comments on a draft of this report. These comments are reprinted in appendix III. Commerce provided a different characterization of our finding that it did not have clear legal authority to apply CVD law to China, taking the position that there is no explicit statutory bar to taking such an action, and stating that Commerce would carefully consider any CVD petition. We modified our report to clarify 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 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 Commerce changing its policy. With regard to our recommendations, Commerce did not comment on our recommendation that it analyze and report on its ability to identify and measure subsidy benefits in China. Commerce believed our recommended report on the methodologies the department would employ if called upon to apply CVDs to China would be too speculative, and therefore not meaningful or appropriate before an actual case was filed, and that such a report could prejudge the outcome of future actions. We agree that specific decisions on how best to complete individual CVD actions against China would depend upon the facts in particular cases. We did not intend that Commerce provide detailed discussions of how it would respond to particular sets of circumstances. Rather, this report would provide Commerce, Members of Congress, and potential parties to CVD cases with some general-level guidance about how such actions might proceed. For example, such a report could address Commerce’s use of benchmark information from within or outside China to measure subsidy benefits and application of China’s WTO commitment regarding CVD actions involving state-owned enterprises. Providing broad commentary on such points would be consistent with Commerce making general guidance on its antidumping practices publicly available. Regarding our matters for congressional consideration, 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, and 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 it would put China 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. Finally, we intended that our suggestion on double counting apply to all NME countries, and have clarified our language on this point. The Department of Commerce also provided technical comments, as did USTR and ITC. We took these comments into consideration and made revisions throughout the report as appropriate to make it more accurate and clear. We are sending copies of this report to the Secretary of Commerce and the United States Trade Representative, appropriate congressional committees, and other interested parties. We will also make copies available to others upon request. In addition, the report will be available at no charge on GAO’s Web site at http://www.gao.gov. If you or any of your staff have any questions about this report, please contact me at (202) 512-4347 or yagerl@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of this report. GAO staff who made major contributions to this report are listed in appendix IV. In May 2003, the House Appropriations Committee’s Subcommittee on Commerce, Justice, and State, the Judiciary, and Related Agencies held hearings regarding U.S. government efforts to support American businesses adversely affected by imports from China. In light of concerns expressed at this hearing, the conference report on fiscal year 2004 appropriations legislation requested that GAO monitor the efforts of U.S. government agencies responsible for ensuring free and fair trade with China. In subsequent discussions with your staff, we agreed to respond by providing a number of reports on relief mechanisms available to U.S. producers adversely affected by unfair or surging imports, and the manner in which they have been applied to China. In this report, we (1) explain why the United States does not currently apply CVDs to imports from China, (2) describe available alternatives for applying CVDs to Chinese- origin imports, (3) explore the challenges that the Department of Commerce would face in applying these alternatives, and (4) examine the potential impact that applying these alternatives would have on the rates of duty applied to Chinese products. To address our objectives, we reviewed applicable U.S. laws and regulations and World Trade Organization (WTO) agreements, including the Agreement on Subsidies and Countervailing Measures, and China’s WTO accession agreement. We conducted a literature search and reviewed relevant scholarly and legal analyses, Department of Commerce determinations, and decisions by U.S. courts and the WTO Dispute Settlement Body. We consulted with trade and legal policy experts from the U.S. government, private sector trade associations, consulting firms, and academic institutions; law firms with broad experience in trade actions against China; as well as representatives of the WTO, the government of China, and other governments concerned about Chinese trade practices, including the European Union, Canada, New Zealand, and Mexico. In addition, to address our fourth objective, we obtained information on U.S. countervailing and antidumping duty actions from 1995 through 2004 from the Department of Commerce and the U.S. International Trade Commission. We used this data to construct our own database on countervailing duty determinations and antidumping duties applied on similar products over the same period. We included all countervailing duty cases over this time period, as well as all antidumping cases in which a petition was filed by U.S. industry for an antidumping investigation against a similar product from the same country (e.g., honey from Argentina). Of the 72 countervailing duty cases from 1995 through 2004, we found only 3 in which a similar antidumping petition was not also filed. Our database includes information on the outcome of the investigations (e.g., whether an order was issued), the status of the orders as of the end of 2004, the duty rates imposed in each case that resulted in a CVD order and the antidumping duty rates imposed on similar products. For each countervailing or antidumping duty order, the Department of Commerce may issue several different duty rates. These may include separate duty rates for large individual companies (suppliers), as well as weighted average “all others” rates for smaller suppliers. We collected all of these rates and compared the lowest and highest separate rates, the average of all separate duty rates, and the “all others” rates. As we report above, we found that the averages or median rates for countervailing duties orders are smaller than similar antidumping rates, whether comparing the lowest rates, the highest rates, the average rates, or the “all others” rates. However, as shown in figure 2, in some individual cases countervailing duty rates were higher than antidumping rates. Also, future investigations may yield different results depending on the types of products, countries, and activities investigated. Having verified these data with the original Federal Register notices, which provide the official U.S. government notification of investigations and orders, we find the data to be sufficiently reliable for analyzing the number, status, and duties (if imposed) on U.S. countervailing duty cases from 1995 through 2004, as well as U.S. antidumping cases on similar products. In addition, to provide information on the growth of U.S. imports from China, we examined official U.S. import data from the Department of Commerce, Bureau of the Census, which we adjusted for inflation using the end-use import price index published by Commerce’s Bureau of Economic Analysis. While U.S. data on imports from China have some acknowledged limitations, we found them to be sufficiently reliable for the purpose of establishing that there has been rapid growth in these imports in recent years. We performed our work from January 2004 through June 2005 in accordance with generally accepted government auditing standards. 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, 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 being suffered. These duties are intended to offset the price advantages that the subsidy confers on the imported product and, more broadly, encourage governments that maintain subsidies to eliminate them. The subsidies agreement requires that the investigating authorities quantify the value of the subsidies being provided and limits the level of duty imposed to that value. To facilitate identification of subsidies and 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.” Under U.S. law, 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. The 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 (consequently) the size of the CVD that should be imposed. 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. The United States has imposed CVDs with some regularity, on a variety of products from a variety of countries. From 1995 through 2004, U.S. domestic industries petitioned for 72 CVD investigations against 43 different products from 25 countries. Thirty-six of these investigations (50 percent) resulted in application of CVDs. Figure 4 shows the results of these 72 petitions. 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 that are 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. Figure 5 illustrates how antidumping duties are determined. 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 6 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 6 shows that even among market economy countries, the United States imposes CVDs much less frequently than antidumping duties. The following are GAO’s comments on the Department of Commerce’s letter dated June 1, 2005. 1. We agree that U.S. trade law does not explicitly bar CVD actions against NME countries. Also, we acknowledge that the Department of Commerce remains open to considering petitions for CVD action against such countries, and that Commerce could conceivably decide that the facts in a particular case warrant and permit applying CVDs in an NME context. We have revised the text to ensure that these points are clearly stated. Nonetheless, while not explicitly barring CVD actions against NME countries, U.S. trade law also does not explicitly authorize such actions, and both Commerce and a U.S. Court of Appeals decision have indicated that U.S. CVD law was not intended to be applied to NME countries. This position was also supported by the Statement of Administrative Action accompanying the 1994 Uruguay Round Agreements Act. Accordingly, we conclude that there would be legal obstacles to Commerce reversing its policy and allowing CVD actions against NME countries, including China. It is likely that, absent a clear grant of authority, such a policy change would result in court challenges. 2. We do not presume that applying CVD law to China would require that China be designated a market economy under U.S. antidumping law. We assume that if Commerce applied CVDs to China without changing its status as an NME country, it would continue to apply its NME methodology in antidumping cases against that country. 3. We agree that completing CVD actions against China would be a challenging exercise, and that specific decisions on how best to complete such actions would depend on the facts at hand in particular cases. We do not intend to suggest that Commerce provide detailed analyses of how it would respond in case-specific circumstances. Nonetheless, a Commerce study evaluating how it might generally proceed in such cases would be helpful to Commerce itself and Members of Congress in considering whether to take actions that would lead to CVD cases against NME countries, as well as to potential parties to such actions concerned about how to proceed in such cases. For example, such a report could address (1) benchmark information from within or outside China that Commerce would consider in measuring subsidy benefits, (2) methods and approaches that could be employed to respond to potential double counting of domestic subsidy benefits, and (3) how China’s WTO commitment regarding subsidies and state-owned enterprises might affect specificity determinations. We have revised the report text to make these points. 4. We acknowledge that Department of Commerce regulations do provide for applying information from outside a subsidizing country to assist in assessing subsidy benefits—in some circumstances—and that Commerce has applied them in a number of cases. We have revised our report to include information on these provisions. Nonetheless, current U.S. law does not explicitly authorize Commerce to fully apply China’s commitment regarding the use of information from outside China to complete CVD actions. Also, as discussed in more detail in the body of the report, the methodologies set forth in regulatory provisions cited by Commerce do not apply to the full range of subsidies that might arise in a CVD case. Moreover, the methodology in the more specific of these provisions has been questioned in a dispute settlement case under the North American Free Trade Agreement. 5. We agree that any legislation authorizing Commerce to adjust duty rates to avoid double counting in applying countervailing and antidumping duties to products from NME countries should not apply only to China. We have modified the report text to make this clear. We disagree with Commerce’s comment that legislative action on this matter is not warranted or appropriate. We believe that sound economic reasoning suggests that there is substantial potential for domestic subsidies to be double counted in the event that Commerce applies CVDs to NME country products while continuing to use third- country information to calculate antidumping duties on those same products. Therefore, congressional action to provide Commerce with authority to avoid double counting in these instances would be prudent. We agree that making such adjustments could raise complex methodological issues. It is for this reason that we recommend that, in reporting on methodologies for completing CVD actions against China, Commerce include discussion on responding to potential double counting of domestic subsidy benefits. This would allow Commerce to evaluate, among other things, the feasibility and cost of making such adjustments and their likely impact. In addition to those named above, the following individuals made significant contributions to this report: Adam R. Cowles, R. Gifford Howland, Michael McAtee, Richard Seldin, Ross Tuttelman, and Timothy Wedding.

Summary: Some U.S. companies allege that unfair subsidies are a factor in Chinese success in U.S. markets. U.S. producers injured by subsidized imports may normally seek countervailing duties (CVD) to offset subsidies, but the United States does not apply CVDs against countries, including China, that the Department of Commerce classifies as "nonmarket economies" (NME). In this report, GAO (1) explains why the United States does not apply CVDs to China, (2) describes alternatives for changing this policy, (3) explores challenges that would arise in applying CVDs, and (4) examines the implications for duty rates on Chinese products. The current Commerce policy of not applying CVDs to NME countries (including China) rests on two principles advanced in 1984 and confirmed by a federal appeals court. These are 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. Commerce could 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 said that China is unlikely to satisfy them in the near term. It could also reverse its 1984 position and apply CVDs without any change in China's NME status. However, absent a congressional grant of authority, such a decision could be challenged in court, with uncertain results. 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 use of third-country information in CVD cases. 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.