USTR Reports on Chinese I/P Protections

On December 11, 2005, the United States Trade Representative released its "2005 Report to Congress on China's Compliance" with the following conclusions about China's intellectual property system:

Overall, China’s efforts to bring its framework of laws, regulations and implementing rules into compliance with the TRIPS Agreement have been largely satisfactory, although some improvements, particularly in rapidly emerging areas such as Internet copyright protection, are still needed. Enforcement of these measures, however, remained largely ineffective in 2005, giving rise to increasingly strong concerns among U.S. industry. As one trade association representing the information technology sector explained, “[d]espite the Chinese government’s serious effort to begin addressing the piracy of intellectual property, the protection of [intellectual property] remains our industry’s chief concern in 2005. Indeed, the appropriation of intellectual property in China has occurred on such a massive scale that it has impacted international prices, disrupted supply chains, changed business
models, and probably permanently altered the balance between tangible and intangible values contained within commercial products. U.S. companies have had their [intellectual property] appropriated within China even without engaging with China through exports or investment, and many U.S. companies, particularly in the media and entertainment, see their copied products migrate into mainland markets even while the legitimate product remains barred by regulation.”

The United States made IPR enforcement its highest priority during the run-up to the high-level Joint Commission on Commerce and Trade (JCCT) meeting in April 2004. It strongly urged China in a series of high-level meetings in Washington and Beijing to take immediate action to put it on the path toward compliance with its critical TRIPS Agreement obligation to make available effective enforcement mechanisms. When the JCCT convened, China announced a comprehensive action plan on IPR enforcement, which included five major commitments, although China’s efforts to implement these commitments were mixed.

First, and most importantly, China agreed that it would significantly reduce IPR infringement levels. Nevertheless, IPR infringement in China remains rampant, and IPR infringement levels reported by U.S. industry have not improved.

Second, China committed that it would take steps by the end of 2004 to increase penalties for IPR violations by subjecting a greater range of violations to criminal investigation, applying criminal sanctions to the import, export, storage and distribution of pirated and counterfeit products and applying criminal sanctions to on-line piracy. China did take some steps to increase penalties for IPR violations, as China’s Supreme People’s Court and Supreme People’s Procuratorate issued a judicial interpretation in December 2004 redefining the criteria for commencing criminal prosecutions and reaching criminal convictions. Nevertheless, while this judicial interpretation has generated improvements, it did not address deficiencies in China’s criminal law still in need of correction.

Third, China committed to crack down on IPR violators by conducting nation-wide enforcement actions and increasing customs enforcement actions. Vice Premier Wu launched this crack down at the time of the Xiamen China International Fair for Investment and Trade in August 2004. However, a lack of transparency hinders an assessment of the disposition of any ensuing enforcement and customs actions. Official Chinese statistics are expected in early 2006.

Fourth, China committed to improve protection of on-line works by ratifying and implementing the World Intellectual Property Organization (WIPO) Internet-related treaties as soon as possible, and by extending an existing ban on the use of pirated software in government offices. Although China has not yet ratified the WIPO Internet-related treaties, the Chinese government did extend its ban on the use of pirated software in government offices.

Fifth, China committed to launch a national IPR education campaign. China followed through on this commitment by launching a national public awareness campaign to educate the Chinese public on IPR protection, which included radio and televison programs, newspaper inserts, awards and national and local level training programs. The campaign also included the introduction of a television program, “Intellectual Fortune,” which is broadcasted in 20 provinces nationwide, the publication of an English language insert in the China Daily English-language newspaper on intellectual property, and radio broadcast programs, among other targeted efforts. The long-term impact of these efforts is currently unclear.

In early 2005, the United States conducted an out-of-cycle review under the Special 301 provisions of U.S. trade law. This review involved a systematic evaluation of China’s entire IPR enforcement regime, supported by submissions from U.S. manufacturers and businesses to document IPR infringement to the extent possible. The review’s findings confirmed that China had not resolved critical deficiencies in its IPR enforcement regime, as IPR infringement remained at epidemic levels. In the results of this review, the United States elevated China to the Special 301 “Priority Watch” list and set forth a comprehensive strategy for addressing China’s ineffective IPR enforcement regime, which included the possible use of WTO mechanisms, as
appropriate.

The United States immediately began to pursue this strategy during the run-up to the July 2005 JCCT meeting, as the United States sought to strengthen the commitments that China had made at the April 2004 JCCT meeting and to obtain China’s commitment for greater involvement of its police authorities in IPR enforcement matters. China subsequently agreed to (1) increase criminal prosecutions for IPR violations in absolute numbers and also relative to the total number of IPR administrative enforcement cases, (2) reduce exports of infringing goods by issuing regulations to ensure the timely transfer of cases for criminal investigation, (3) improve national police coordination by establishing a coordinating group in the Ministry of Public Security responsible for overall research, planning and coordination of all IPR criminal enforcement to ensure a focused and coordinated nationwide enforcement effort, (4) enhance cooperation on law enforcement matters with the United States by immediately establishing a bilateral IPR law enforcement
working group focusing on the reduction of cross-border infringement activities, (5) expand an ongoing initiative to aggressively counter piracy of movies and audio-visual products, (6) complete its program ensuring that only licensed software is use by all central, provincial and local government offices by the end of 2005 and extend this program to enterprises in 2006, (7) fight software end-user piracy by declaring that it is considered to constitute “harm to the public interest” and therefore is subject to administrative penalties nationwide, (8) establish an IPR ombudsman in the Chinese embassy in Washington to assist U.S. companies, particularly small- and medium-sized companies, experiencing IPR problems, (9) develop measures to rid trade fairs of fake goods, (10) join the WIPO Internet-related treaties in 2006, and (11) clarify the December 2004 Judicial Interpretation to make clear that its
criminal thresholds apply to sound recordings and that exporters are subject to
independent criminal liability.

To date, China has already taken several steps to implement these commitments. Nevertheless, the overall results of China’s efforts remain unclear, largely because of transparency problems associated with IPR enforcement activities in China. For example, China will not make public enforcement decisions made by administrative authorities. China has issued statistics that appear to show some increase in enforcement activities, but there is no evidence of any corresponding reduction in IPR infringement levels.

In October 2005, the United States submitted a request to China under Article 63.3 of the TRIPS Agreement The United States’ request seeks detailed information from China on its IPR enforcement efforts over the last four years, as do similar requests submitted simultaneously by Japan and Switzerland. China’s response to these requests, anticipated in early 2006, will be a key test of whether it is serious about resolving the rampant IPR infringement found throughout China. The United States remains prepared to take whatever action is necessary and appropriate to ensure that China develops and implements an effective system of IPR enforcement, as required by the TRIPS Agreement.

In the trademark area, some progress was made in 2004 on the recognition of foreign well-known marks, more than a year after the issuance of implementing
rules on well-known marks, as a handful of foreign marks have been recognized as
well-known. In addition, in June 2005, the Trademark Administration circulated
draft amendments to its Regulations on the Timely Transfer of Suspected Criminal
Cases in the Enforcement of Administrative Law, which are designed provide
guidance to regional industrial and commercial administrations in facilitating
effective trademark enforcement and protection.

With regard to copyright protection over information networks, in November 2004, the National Copyright Administration of China and the Ministry of Information Industry (MII) jointly organized a hearing on draft implementing rules known as the Draft Measures for Administrative Protection of Copyright on the Internet. The Chinese authorities issued these rules in final form in April 2005. The rules require Internet service providers to take remedial actions to delete contents that infringe on copyrights upon receipt of a complaint from the right holder, or face administrative penalties ranging from confiscation of illegal gains to fines of up to RMB 100,000 ($12,000).

In September 2005, China circulated a more important Internet-related measure for public comment, the draft Regulations on the Protection of Copyright Over Information Networks. U.S. industry subsequently submitted written comments on the draft regulations, and China invited the United States to assist in organizing a meeting with U.S. and other foreign rights holders to discuss the draft regulations. The final version of the regulations is expected to be issued in 2006.

In furtherance of China’s April 2004 JCCT commitment to increase border measures protecting against the import and export of infringing products and to make it easier for rights-holders to secure effective enforcement at the border, the Customs Administration issued the Regulations on Customs Protection of Intellectual Property Rights, which went into effect in March 2004. The Customs Administration subsequently issued implementing rules for these regulations, effective July 2004. These regulations and implementing rules addressed the duties of the Customs Administration and improved guidance on the implementation of the customs IPR recordal mechanism. In other areas, however, the regulations and implementing rules lacked clarity or could have benefitted from further changes, such as with regard to the storage and disposition of infringing goods and the transferral of cases for possible criminal prosecution.

Meanwhile, in September 2004, the Customs Administration issued new regulations on administrative penalties in the customs context, the Implementing Regulations for the Imposition of Administrative Penalties by the General Administration of Customs, effective November 2004. In an apparent improvement over the prior regulations, these new regulations do not impose a “knowledge” requirement before penalties can be imposed. However, the new regulations provide for fines not to exceed 30 percent of the value of the goods confiscated, or RMB 50,000 ($6,000), whichever is lower. In contrast, the prior regulations allowed for fines up to the full value of the goods confiscated. The fines allowed under the new regulations are also lower than those imposed by other Chinese agencies focusing on domestic IPR infringement. At present, the effectiveness of these various regulations and implementing rules remains in doubt, as exports of counterfeit and pirated goods from China are increasing, facilitated by trading rights liberalization and the rapid growth of Internet usage and e-commerce.

The United States has urged China to pursue additional legislative changes to improve the legal framework supporting enforcement, particularly in the area of criminal enforcement. For example, the criminal enforcement legal framework could be improved through the removal of various evidentiary thresholds, the “for profit” requirement in the copyright area, the “identical trademark” requirement and the distinction between individual and enterprise liability. In addition, by not making retail sales of counterfeit and pirated goods subject to criminal penalties, and instead only making them subject to China’s largely ineffective administrative enforcement
system, China’s legal framework has created a “safe harbor” for retailers that operates to deprive the criminal enforcement authorities of needed information regarding the sources of counterfeit and pirated goods.

The United States also remains concerned about weaknesses in China’s legal framework that encourage or support counterfeiting and piracy. Some of these weaknesses have facilitated the establishment of Chinese companies under the false appearances of foreign companies, the squatting of foreign company names, designs and trademarks, and the theft of trade secrets. In addition, restrictions on market access for legitimate movies, music, software and books and built-in delays in the marketing approval system for pharmaceuticals have created incentives for counterfeiting and piracy that are difficult to address through the existing legal framework.

Nearly four years after China’s accession to the WTO, U.S. rights-holders uniformly report that IPR infringement in China remains rampant. Indeed, some trade associations report that the situation confronting U.S. rights-holders in 2005 remains unchanged from 2004. Other trade associations report that the situation has actually worsened. U.S. rights-holders uniformly urge the Chinese government to accelerate its reforms in order to significantly reduce IPR infringement levels. This situation not only has had an enormous economic impact, but also presents a direct challenge to China’s ability to regulate many products that have health and safety implications for China’s population and, as an increasing amount of counterfeit and pirated products are being exported from China, for others around the world.

The three different mechanisms for IPR enforcement created by China’s IPR laws and
regulations – enforcement by administrative authorities, criminal prosecutions and civil actions for monetary damages – are examined below. As the United States and other WTO members have been urging, China needs to take immediate steps to improve each of these enforcement mechanisms,particularly criminal enforcement, in line with the minimum standards for IPR enforcement established by the TRIPS Agreement.

China continues to take a large number of administrative enforcement actions against IPR violators. However, they are not having a deterrent effect. Although the central government continues to promote periodic anti-counterfeiting and anti-piracy campaigns, and these campaigns in the short term result in high numbers of seizures of infringing materials, they are largely ineffective. For one thing, the cases subsequently brought by the administrative authorities usually result in low fines. When the administrative authorities decide on fines, the fine amounts are kept artificially low because many administrative authorities do not treat the infringing goods as having the value of the genuine articles, but rather establish value based on the price charged for the counterfeit or pirated goods. In addition, evidence showing that a person was caught warehousing infringing goods is not sufficient to prove an intent to sell them, and as a result the administrative authorities will not
even include those goods in the value of the infringing goods when determining the fine amounts.

The lack of deterrence from the fines is compounded by the fact that the administrative authorities rarely forward an administrative case on to the Ministry of Public Security for criminal investigation, even for commercial-scale counterfeiting or piracy. Statistics provided by China confirm this fact. In 2004, according to these statistics, only 96 out of 51,851 administrative trademark cases (approximately 0.2%) and 101 out of 9,691 administrative copyright cases (approximately 1.0%) were transferred for criminal prosecution. These statistics showed no improvement over 2001, when the corresponding statistics similarly indicated very low transfer rates of 0.2% for administrative trademark cases and 1.5% for administrative copyright cases. As a result, the infringers continue to consider the seizures and fines simply to be a cost of doing business, and they are usually able to resume their operations without much difficulty.

China’s administrative enforcement efforts have also failed to put an end to open and notorious IPR infringement at trade fairs, retail markets and wholesale markets throughout China. The United States has urged China to step up efforts at retail markets such as the “Silk Street” market in Beijing and wholesale markets such as Xiangyang in Shanghai, Yiwu in Yiwu City, and Lowu in Shenzhen. At major trade fairs, exhibitors displaying infringing goods in the past have escaped with only non-deterrent administrative penalties. China pledged to address the trade fair problem as part of its July 2005 JCCT commitments, and it is expected to issue final measures designed to improve administrative IPR enforcement at trade fairs, including provisions enhancing on-site complaint centers at major fairs, by the end of 2005.

In the view of the United States and U.S. industry, the most critical steps for China to take in improving its IPR enforcement are in the criminal area. Effective criminal enforcement is a core WTO obligation, and it offers the deterrence needed for China to begin to handle the rampant IPR infringement hurting both foreign and domestic enterprises. For this reason, the United States sought and obtained at the April 2004 and July 2005 JCCT meetings commitments by China to apply criminal sanctions to a wider range of IPR-infringing activities, to increase the penalties for IPR violations, to increase the number of criminal prosecutions for IPR violations, to reduce exports of infringing goods through the timely transfer of cases for criminal investigation, to improve national police coordination, and to ensure that its criminal thresholds apply to sound recordings and that exporters are subject to independent criminal liability.

At present, although the number of criminal prosecutions has increased, criminal prosecutions remain relatively low in relation to administrative cases, and they have not created an adequate deterrent for IPR infringers. U.S. companies also continue to complain that, in most regions of China, the police are either not interested in pursuing counterfeiting and piracy cases or simply lack the resources and training required to investigate these types of cases effectively.

Moreover, even when IPR violations are referred for criminal enforcement, the actual prosecution of IPR crimes frequently requires coordination among a relatively large number of agencies at the national and local levels. Coordination remains problematic, however, with different agencies using different standards to determine whether criminal conduct exists and some agencies apparently unwilling or unable to work together.

In part because of the ineffectiveness of the administrative and criminal enforcement mechanisms in China, particularly in the copyright area, there has
been an increase in the number of civil actions being brought for monetary damages or injunctive relief. Most of the civil actions have been brought by Chinese rights-holders. This increased use of civil actions has coincided with an increasing sophistication on behalf of China’s IPR courts, as China continues to make efforts to upgrade its judicial system. These efforts are still in progress, however. U.S.
companies still complain about local protectionism and have also found that most judges lack necessary technical training and that court rules regarding evidence, expert witnesses, and protection of confidential information are vague or ineffective. In addition, in the patent area, where enforcement through civil litigation is of particular importance, a single case still takes several years to
complete, rendering the damages provisions adopted to comply with China’s TRIPS Agreement obligations less meaningful.