1 Made in?: Understanding Rules of Origin Market Access Division WTO 2014
2 Course objectives At the end of this online course, you will be expected to: Understand why rules of origin are used in international trade Understand the effects of rules of origin on trade and investment Know how to distinguish preferential and nonpreferential origin 4 5 Become familiar with the WTO disciplines on rules of origin Be familiar with the main methods used to design rules of origin
3 Table of contents What are rules of origin? Why are rules of origin used in international trade? What is preferential and what is non-preferential origin? Why do rules of origin matter? What is their impact on trade and investment? How can rules of origin be designed? WTO rules: the Agreement on Rules of Origin and the Ministerial Decision on rules of origin for least-developed countries
4 1 WHAT ARE RULES OF ORIGIN? WHY ARE THEY NEEDED IN INTERNATIONAL TRADE? WHAT IS PREFERENTIAL AND WHAT IS NON-PREFERENTIAL ORIGIN?
5 What is origin? According to the Dictionary, origin is the fact of being born from a particular ancestor or, more generally it is the act or fact of beginning from something; source or cause; starting point. For a person, origin is commonly thought to be your nationality. That may be determined by your place of birth, by the origin or your parents, by your marriage with someone or by your prolonged residency in a given country. Your origin (nationality) grants certain benefits like being able to live, work, access social security or run for elected posts. The origin of goods is similar: it is the nationality of a good, or the country where a good was obtained or where it was manufactured. Depending on the country of origin of a good, some benefits may apply, such as being imported without paying any import duties ( duty free ). Rules of Origin are the rules that determine where a good was obtained or manufactured, that is, its economic nationality. They set the conditions under which a good may be considered as having originated in a country.
6 Cotton: grown in Malawi Fabric: weaved in South Africa Dyeing: South Africa Many countries may participate in the manufacturing process of a good, but there must be only one country of origin. Printing: South Africa Yarn: from Pakistan Buttons: from India A RULE is needed to identify that country. Cut to parts in South Africa Assembly: Malawi Licenses: USA Cotton pyjamas 3
7 When are rules of origin used? Rules of Origin are used in international trade every time the treatment of an imported item varies depending on where it was produced; that is, every time there needs to be a distinction based on the country of origin. Most commonly, this happens at the importation of a good, to determine which tariff rate should apply. However, certain countries may also apply other trade policy measures which require the utilization of rules of origin for their implementation.
8 Import duties Imports from Mexico, Jordan and Lesotho are imported duty free (import duty = 0%). Imports from Country X pay reduced duties because tariff reduction in an agreement could be progressive or because the rates in the agreement were reduced but not eliminated. NAFTA US-Jordan FTA 0% 0% Certificate of Origin The import duties (tariffs) that a product will pay when it is imported often depend on the origin of the good. If the good is deemed to originate in a preferential country, it could be imported duty free. If it originates in a non-preferential country, it may have to pay import duties to be imported. The certificate of origin is what attests of the origin of a good. Based on it, customs will assess which duties apply. Countries with which the USA does not have an Agreement, such as Pakistan, pay the regular import duties. US GSP (AGOA) US-Country X FTA 0% 8% MFN 16% Boy s pyjamas HS
9 Preferential / Non-Preferential Treatment PREFERENTIAL Treatment: trade agreements facilitate trade among countries by reducing or eliminating customs duties. Because they create preferential relations, such agreements are in principle against the WTO s Most Favoured Nation principle, but Articles XXIV of the GATT and the Enabling Clause authorize Members to conclude such agreements. Preferential trade agreements have several forms or names: Reciprocal Trade Regimes: all parties reduce tariffs with respect to each other ( regional trade agreements in WTO talk) Free Trade Agreements, Free Trade Zones, Economic Partnership Agreement, Customs Unions, etc. Bilateral Agreements (EU-Chile, US-Korea) or Regional Agreements (e.g. NAFTA, COMESA, MERCOSUR, ASEAN, GCC, EU-ACP EPAs, etc.) Non-Reciprocal or Unilateral Trade Regimes: only one of the parties reduces or eliminates its tariffs with respect to imports from the other parties, while the others continue to maintain tariffs ( preferential trade agreements in WTO talk) Developed or developing countries General System of Preferences, GSP (e.g. US African Opportunity and Growth Act (AGOA) for Sub-Saharan African countries, EU Everything But Arms (EBA), China s preferences for least developed countries, etc. NON PREFERENTIAL Treatment: trade among Members of the WTO is usually conducted on the basis of the Most Favoured Nation principle. In respect to import duties, this means that WTO Members must, in the absence of preferences or exceptions, apply to each other the same import duty for like products.
10 Preferential vs. Non-Preferential The rules of origin which apply to an international transaction are always that of the IMPORTING country: it is the importing country that sets the conditions for entry of goods in its territory. This is why rules of origin have a direct impact on MARKET ACCCESS conditions. Preferential Rules of Origin ( reciprocal and nonreciprocal or unilateral trade regimes) ALL preferential trade agreements have rules of origin. In that context, rules of origin ensure that the benefits of an agreement are only given to those products which originate in one of the parties to the agreement. In fact, accepting NOT TO CHARGE import duties on an imported item is a real benefit! And a concession.. since it means foregoing revenue. And let s not forget that most Customs authorities report to the Ministry of Finance! The purpose of preferential rules of origin is therefore not so much to determine the real origin of a good.. but rather to CONFIRM that a good claiming preferential status actually MEETS the conditions set in the agreement.
11 Preferential vs. Non-Preferential Not all countries use non-preferential rules of origin (since no tariff concession is involved). Non-Preferential Rules of Origin (MFN treatment) Non-preferential rules of origin ARE NOT used to implement trade preferences. Instead, they are used in the context of OTHER TRADE POLICY MEASURES such as quotas, anti-dumping, food and health (sanitary) measures, etc. They are also used to indicate the country of origin on labels (consumer policies) and to collect trade statistics. Not all countries apply non-preferential rules of origin.
12 Import Quotas EUROPEAN UNION High Quality Beef import Quota Allocations Exporting Country Quota Quantity issued % allocated Argentina 30,000 24, Australia 7,150 6, Uruguay 6,300 6, Brazil 10,000 2, New Zealand 1,300 1, Paraguay 1, United States 11, Total 67,250 41, Source: EU Commission In the European Union, the importation of meat is regulated by a quota. Each country may export meat to the EU until a maximum volume (number of tonnes) is reached. Rules of Origin are needed to track imports and control the extent to which the quota allocated to each country is being used (distinguishing the meat by country of origin).
13 Anti-Dumping Antidumping duty likely on Chinese, Korean, Thai alloy wheels NEW DELHI: The Indian Government has announced that, following investigations, it is likely to impose an anti-dumping duty on a certain type of aluminium alloy auto wheels imported from China, Thailand and Korea, to protect domestic producers from below-cost imports. In its preliminary findings, the Directorate General of Anti-dumping and Allied Duties (DGAD) has recommended imposition of duty ranging between USD 1.18 and USD 2.15 per kg on imports of cast aluminium alloy wheels from the three countries, the Commerce Ministry said in a notification. If a company exports a product at a price lower than the price it normally charges on its own home market, it is said to be dumping the product. The WTO Anti-dumping Agreement regulates how governments can or cannot react to dumping, for instance, by imposing an additional tax on the importation of dumped goods. Rules of origin will allow customs officers to levy the additional tax only on imported items from specific countries in which dumping was found, but not on like products from other countries.
14 Sanitary inspections, embargoes If a disease found in meat from Brazil requires the prohibition of such imports, a ban should not penalize imports from other countries where no disease was found. Rules of origin will allow a customs officer to know which items may be imported and which may not.
15 Trade statistics TABLE 8. VALUE OF IMPORTS, TOTAL EXPORTS AND BALANCE OF VISIBLE TRADE WITH PRINCIPAL COUNTRIES FOR YEAR TO DATE COUNTRIES JANUARY - MARCH 2011 $000 T.T. IMPORTS (C.I.F.) EXPORTS (F.O.B.) BALANCE (1) (2) (3) COLOMBIA 2,644, , ,309,113.2 U. S. A. 2,156, ,447, ,290,752.8 GABON 1,450, ,450,659.9 BRAZIL 1,339, , ,647.2 CHINA 442, , ,175.7 RUSSIAN FEDERATION 405, ,465.7 REST OF THE WORLD 352, , ,411.9 CANADA 257, , ,618.1 GERMANY 223, , ,599.2 CARICOM 182, ,933, ,751,473.5 UNITED KINGDOM 162, , ,257.1 JAPAN 159, , ,887.4 THAILAND 119,837.9 The application of Rules 3,106.4 of Origin also -116,731.4 allow MEXICO 111,226.0 the compilation of national 22,339.4 statistics, which -88,886.6 SPAIN 102,970.7 indicate what is imported 1,449,636.0 (or exported) 1,346,665.3 from KOREA, REPUBLIC OF 93, , ,406.9 various countries.
16 Country of origin marking (labels) Many countries have consumer legislation indicating the information that should be contained in labels. Country of origin is a very common item which labels may need to contain.
17 Summarizing Rules of Origin are used to determine the country of origin of imported goods so that they receive the appropriate treatment at their importation. But the country of origin will also matter for statistics and for consumers! (health and labels) NON PREFERENTIAL Purpose is to identify the final country of origin Used for MFN trade Determine Statistics, Quotas, Antidumping, Licences, Labels Derive from National legislation (+ WTO Agreement) ORIGIN PREFERENTIAL Purpose is to verify that an imported good conforms with the conditions set in an RTA Used for Preferential trade Determine Import duties (tariffs) Derive from Regional Or Preferential Trade Agreements
18 Test your knowledge Select the correct answer. 1. Preferential rules of origin: a) Are negotiated in the context of regional trade agreements; b) Are adopted unilaterally by governments which maintain preferential trade schemes for developing or least-developed countries; c) Aim at ensuring that only goods which meet specific origin criteria can benefit from tariff preferences; 2. Non-Preferential rules of origin: a) Are used to differentiate goods on the basis of their country of origin: such as for anti-dumping, licenses or quotas; b) Must be complied with for a good to benefit from tariff preferences; c) Must be applied by all countries that engage in international trade; d) All of the above. d) All of the above.
19 Test your knowledge 3. Match the policy instruments on the right with the types of origin on the left. Non Preferential Origin Duty Free treatment Customs Unions Free Trade Agreements Product labeling Preferential Origin Anti Dumping duties MFN tariffs
20 Test your knowledge - Answers 1. Preferential rules of origin: d) All of the above. 2. Non-Preferential rules of origin: d) Are used to differentiate goods on the basis of their country of origin: such as for anti-dumping, licenses or quotas. 3. Match the policy instruments on the right with the types of origin on the left. Non Preferential Origin: Anti Dumping duties, Product labeling, MFN tariffs Preferential Origin: Free Trade Agreements, Duty Free treatment, Customs Unions
21 2 HOW DO RULES OF ORIGIN AFFECT BUSINESSES? HOW DO THEY AFFECT INTERNATIONAL TRADE? WHAT IMPACT DO RULES OF ORIGIN HAVE ON INVESTMENT?
22 Rules of Origin can encourage foreign and domestic investment where the rules facilitate international trade influence the ability of firms to benefit from regional or preferential trade agreements influence the capacity for firms to integrate international value chains encourage or discourage linkages between export sectors and national industries
23 Why do Rules of Origin matter? Because they set the CONDITIONS OF IMPORTATION into national markets, rules of origin affect MARKET ACCESS OPPORTUNITIES. In the context of trade preferences, goods which do not conform with the rules of an agreement will be denied preferential benefits (that is, they will still be imported but not at reduced or zero duty rates). If the conditions set are stringent, rules of origin may require producers to change their suppliers to qualify for regional or preferential trade agreements. Adjusting to such requirements is not always easy or doable for firms. This means rules of origin could have a significant impact on the cost of producing a good and might therefore affect its competitiveness and trade opportunities.
24 Why do Rules of Origin matter? In the context of non-preferential trade, rules of origin determine whether a product will be subject to anti-dumping duties, embargoes or sanitary restrictions, licences, etc. They may dictate which country of origin should be indicated in labels. If the rules of not clear, exporters and importers may have great difficulty predicting which treatment their goods will receive, making it more difficult to make business plans and decisions. If the rules are complex, companies may need to hire and dedicate staff specifically to understand them and reduce the risks associated with regulatory uncertainty, which increase their costs. Rules of origin may also be one of the considerations leading to foreign investment decisions. Rules of origin create both opportunities and challenges for firms.
25 Effect on international trade Preferential rules of origin set the conditions that a good must meet to be imported under the benefits of a preferential or regional trade agreement (particularly the ability of a good to be imported duty free). If the rules are adapted to the productive and industrial capacity of a country, they will encourage preferential trade. But if the rule is too strict (that is, its requirements are difficult or even impossible to comply with for a country), a firm s ability to export under preferences may be diminished. In this cases, we refer to a low or high utilization rate of an agreement (how much trade between two countries actually is done on the basis of a preferential agreement between them). There are hundreds of regional and preferential trade agreements, each with its own set of rules of origin. This means that companies need to understand, comply and prove compliance with sometimes very different rules. The WTO 2011 World Trade Report contains additional information on how rules of origin may discourage preferential trade flows (Chapter II-B.4., pages 83-85).
26 Economic effect Strict Rules of Origin Encourages the choice of local or regional suppliers and the use of inputs originating from within from preferential partners. Can promote local industries and incentivise the emergence of regional supply chains / added value and encourage regional integration. Can be difficult or costly to comply with if companies cannot find the inputs they need locally. If cannot be complied with, companies will not always be able to claim the benefits of the agreement ( under utilization ). Flexible Rules of Origin Do not restrict the choice of suppliers so have a more moderate impact on trade and business choices. By allowing to chose inputs globally, more flexible rules can boost the competitiveness of local or regional products. However, local companies or small firms supplying inputs could find it harder to compete with competitors abroad. Because the rules are easier to comply with, they may encourage trade and lead to a higher utilization of the benefits of the agreement. But, what may be strict or flexible for one country might not be for another
27 The clothing sector accounts for about 60% of exports from Lesotho. The sector grew rapidly particularly to take advantage of trade preferences in the EU and the USA. More recently, firms also produce to supply the South African market. Consider this example PREFERENCES Country A Rule of origin to qualify for preferences in country A is: 40% of the final value of the garment must be added locally. Non-originating materials ( imported fabrics ) can come from any country. The rule is flexible and allows producers to buy cheap fabrics and be competitive. However, the exporting sector might have little linkages with other sectors of the economy of Lesotho and local or regional cotton producers may find it hard to compete in supplying fabrics. The cutting and sewing of the garment are done in Lesotho, where labour costs are low. The cotton fabric used needs to be imported as there is no local production. So the possibility to import fabrics and the price and quality of the fabrics used have a direct impact on the competitiveness of exports. The rule is more strict and force local producers to find suppliers in Country B or within Africa. Finding competitive suppliers could be a challenge, which would undermine the competitiveness of final garments. However, local and African producers of cotton would find it easier to integrate into this value chain. Rule of origin to qualify for preferences in country B is: 50% of the final value of the garment must be added locally. Non-originating materials ( imported fabrics ) can come only from country B or an African country. PREFERENCES Country B
28 Summarizing Rules of origin are a necessary component of international trade and particularly in the context of preferential trade agreements. Because each preferential or regional agreement contains its own rules of origin, there are hundreds of different sets of rules of origin currently being applied in the world. If companies wish to export their products duty free, they need to comply with the origin requirements laid out in each individual agreement. If the rule is simple, predictable and easy to comply with (that is, no particular adjustment to production is needed), complying with the rule will be easy and the products will become eligible for preferences. If, however, the rule is complex and impose adjustments to the supply chain of a company (the way it structures its production), complying with the rule could be difficult or costly. So much so that certain companies may simply not be able to comply with them. In this case, they may export, but will not be able to claim preferences (that is, export duty free). Therefore, there should ideally be a match between origin requirements and the productive capacity of the companies and countries. Where there is no match, the rules may influence business choices and have an impact on competitiveness, the utilization of preferential agreements and generally on trade. It is in this context that rules of origin create both opportunities and challenges for companies and countries.
29 Test your knowledge Select the correct answer. 1. Preferential rules of origin: a) Impose procedural requirements, such as a certificate of origin but are a mere formality in international trade; b) Have been harmonized internationally so the same rules are applied by all nations; c) Can influence the choice of suppliers and therefore impose adjustments to the way companies structure their businesses; d) All of the above. 2. Rules of origin have an impact on trade because: a) They determine the eligibility of products for trade preferences; b) For firms that wish to claim trade preferences, they may constrain their choice of suppliers and inputs; c) They may increase production costs by forcing companies to understand and comply with a multiplicity of different rules; d) All of the above.
30 Test your knowledge - Answers 1. Preferential rules of origin: c) Can influence the choice of suppliers and therefore impose adjustments to the way companies structure their businesses. 2. Non-Preferential rules of origin: d) All of the above.
31 3 HOW CAN ORIGIN BE DETERMINED? WHAT ARE THE MOST COMMON METHODS USED TO DESIGN RULES OF ORIGIN?
32 How are rules of origin designed? Rules of origin will set the conditions according to which a product can be considered to originate in a country. The rule will therefore entail some understanding about how goods are obtained, produced, manufactured, processed, etc. This is why negotiating or implementing rules of origin may be a complex exercise: not only does it require some experience in drafting the rules themselves, but it also entails legal skills and an understanding about industrial or manufacturing processes. Rules of origin derive from national legislation, international agreements (for instance, regional trade agreements) or from a multilateral agreement (for instance the WTO Agreement on Rules of Origin or the Kyoto Convention). They can be general (and apply to all products) or specific to some sectors or goods only (product-specific rules). When a rule is specific, it will typically identify goods on the basis of the Harmonized System. The certificate of origin proves or demonstrates the origin of a good (in fact, a good is not necessarily shipped from its country of production, or the last place of production is not necessarily where it gained its essential characteristics). Watch Mr Stefano Inama, of the UNCTAD, speak about the difficulties in drafting rules of origin.
33 Reminder: HS Most commonly known as the Harmonized System of Nomenclature, of the HS. International convention elaborated to make it easier to identify products (goods) and facilitate international trade. Used by more than 200 countries. Developed and maintained by the World Customs Organization (headquartered in Brussels, Belgium). Regularly updated to keep pace with modern technology and new patterns of trade. HS Codes are built with sequential codes. The greater the number of digits, the more specifically an item is identified. Example: Section: Textiles and Textile articles Chapter 62: Articles of apparel and clothing, not knitted or crocheted Heading 62.07: Men's or boys' nightshirts, pyjamas, etc. Line Pyjamas: Of cotton Line Pyjamas: Of man-made fibres Line Pyjamas: Of other textile materials Find out more about the HS and the work of the World Customs Organization.
34 Rules of Origin divide goods into 2 main categories depending on how they are produced (1) Wholly Obtained Goods and (2) Substantially transformed Goods VALUE TARIFF CLASSIFICATION MANUFACTURING PROCESS
35 Wholly Obtained Goods The origin category of Wholly obtained goods covers the cases in which a good is entirely obtained, extracted, or manufactured in a single country without using inputs imported from other countries. Attributing origin in these cases is simple because only one country is involved in the production process. In any set of rules of origin, specific provisions describe or enumerate these goods. It is mainly used for natural products and for goods made from natural products which are entirely obtained in one country. Common examples are products extracted, harvested, hunted or captured in a country: mineral products extracted from a country s soil, vegetables harvested or gathered in that country; live animals born and raised in that country or captured or fished in that country, products obtained by maritime fishing taken from the sea by a vessel of that country or produced in such a vessel, etc. In addition, any good produced in a country exclusively from other wholly obtained goods will also be deemed to have been wholly obtained in that country (for instance sausages from meat obtained in that country or fruit jam from fruits and sugar obtained in that country).
36 Substantially Transformed Goods Substantially transformed goods are those which are produced FROM or WITH imported inputs or those which require processing in different countries. Attributing the origin of a good to a single country can be a complex exercise in these cases because several materials, parts, processes or a large number of countries may be involved. The rule of origin will therefore need to clearly identify when exactly a transformation occurs, that is, when the final product resulting from a process is sufficiently different from the inputs used to manufacture it. 3 approaches to determine whether substantial transformation has occurred. Percentage or value criterion Tariff classification criterion Specific processes criterion Origin is based on a product characteristics, such as its final price ( value ), the price and the proportion of foreign or local inputs Origin is based only on the tariff classification of a final good and the components used using the Harmonised System (HS) Origin is based on specific manufacturing or other specific processes which were necessary to produce a good
37 Illustration of substantial transformation Chemical fertilizers (SH 3105) are composed mainly of 3 elements: ammonium nitrate, potassium chloride, and ammonium phosphate. The compounds are blended together in different proportions and then granulated or diluted in water and packaged. Assume a producer imports these 3 elements from 3 different countries and uses his expertise to blend them. The fertilizer is then exported to another country. Here are illustrations of what the rule of origin could look like: Percentage or value criterion Tariff classification criterion Specific processes criterion At least 30% of the final value of the good must have been added locally Non originating materials (imported inputs) must not be more than 70% of final price Change of Tariff heading: all materials used (inputs) must be classified in a tariff heading different from that of the final product (fertilizer). Origin is determined by the place where the ammonium was obtained or where the blending was performed
38 Additional provisions Several other provisions complement and help clarify the basic rules of origin. Several of these provisions can help make the rule of origin more flexible or more strict or restrictive. One important concept is that of CUMULATION. While, in principle, all processes for origin purposes must have been carried out in a single country to be considered as originating, sometimes the rules may accept the use of imported inputs from selected countries. That is, imported inputs would be considered to be domestic for origin purposes. Several regional or preferential trade agreements contain this type of flexibility. This is a flexibility of great use for many developing countries with a limited productive capacity because it allows producers to import the materials they need without loosing access to trade preferences. Illustration of Cumulation Ready made Beef Stew In the EU-CARIFORUM Economic Partnership Agreements, parties to the agreement may source their inputs from any other Caribbean, EU or ACP country, as well as from selected neighbouring countries. In this example, the rule of origin would deem that 55$ in the value of this Beef Stew come from Jamaica.
39 Summarizing Rules of origin will set the conditions according to which a product can be considered to originate in a country. Rules of Origin divide goods into 2 main categories depending on how they are produced: 1. Wholly obtained goods (typically those occurring naturally); and, 2. Substantially transformed goods (most other products). The rule of origin will identify exactly when a new final product was obtained because a substantial transformation or sufficient processing has occurred. The rule does so by: 1. Assessing the value that was added locally or the value which was imported (if that value meets minimum or maximum percentages, the origin will be deemed to have changed); 2. Comparing the tariff classification of the inputs used and that of the final good (if the classification is sufficiently different, the origin will be deemed to have changed); 3. Identifying a very specific industrial process which, if accomplished, will change the origin of the final good. Rules can be general or product-specific. Several other provisions complement the rules, making them more flexible or more restrictive. Cumulation, for instance, allows to consider imported materials from certain other countries as being obtained locally. It is an important flexibility for developing countries as it allows producers to source the materials they need from firms abroad.
40 Test your knowledge Match the policy instruments on the right with the types of origin on the left. Wholly obtained goods Substantial Transformation (value added rule) Substantial Transformation (tariff classification rule) Substantial Transformation (specific process rule) Change of Tariff Heading (CTH) Regional content of at least 40% Animals born and raised in that country Country where refining occurred
41 Test your knowledge - Answer Match the policy instruments on the right with the types of origin on the left. Wholly obtained goods: Animals born and raised in that country Substantial Transformation (value added rule): Regional content of at least 40% Substantial Transformation (tariff classification rule): Change of Tariff Heading (CTH) Substantial Transformation (specific process rule): Country where refining occurred
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