Info Service on WTO and Trade Issues (Nov14/03)
11 November 2014
Third World Network
outline challenges in complying with existing rules of origin
Published in SUNS #7911 dated 7 November 2014
Geneva, 6 Nov (Kanaga Raja) -- The Least Developed Countries (LDCs),
at a meeting of the WTO Committee on Rules of Origin late last week,
outlined the challenges that they are currently facing in complying
with preferential rules of origin (RoO) under unilateral preference
According to trade officials, Uganda, on behalf of the LDC Group,
presented a new paper (G/RO/W/148) at the Committee meeting on 30
October, which amongst others, analysed the trade effects and utilisation
rates from the European Union and Canadian preferential rules of origin
that have undergone modifications/reforms.
At its meeting, the Committee carried out its first review of new
developments concerning preferential rules of origin for the LDCs,
and heard a presentation from the WTO Secretariat on its Database
on Preferential Trade Agreements.
Under the Bali Ministerial Decision of 7 December 2013 on preferential
rules of origin for the LDCs, the Committee on Rules of Origin is
to "annually review developments in preferential rules of origin
applicable to imports from LDCs" in accordance with the guidelines
laid out in the Decision and is to report to the General Council.
In their paper, the LDCs said that what has been argued by the LDC
group is that it is simply anachronistic to maintain unaltered the
same rules of origin as if the world trading system was like the one
in the 1970s.
After more than 40 years, successive rounds of negotiations have substantially
lowered the preferential margins, and that dramatic changes in technologies
and transport, information technology and communication have occurred.
The fragmentation of production and the global value chains approach
have defeated any argument for a vertical integration of industrial
sectors underpinning the need for strict rules of origin, said the
The paper highlighted that the Trade Facilitation Agreement (TFA)
demands a series of reforms in the way customs procedures operate
including rules of origin to facilitate trade, and yet, with some
notable exceptions, the rules of origin of some preference-giving
countries are the same as those of the 1970s and the arguments heard
to maintain the status quo are almost exactly those of the 1970s.
The LDCs noted that a major boost of confidence to the value of the
LDCs' proposal and a recognition of the extreme need to reform LDCs'
rules of origin (which remained almost unchanged for the last 40 years),
has come from the changes in the Canadian rules of origin in 2003,
and the EU's own modification of its rules of origin, which entered
into force in 2011.
The EU and Canada have so far been the only preference-giving countries
that have conducted a unilateral reform of their rules of origin for
According to the LDC paper, such reform triggered dramatic increases
in the utilisation rates of existing preferences and, most importantly,
generated an overall increase in trade flows thanks to new investment
and manufacturing operations being located in the LDCs.
It however noted that other preference-giving countries have yet to
do so, while a number of developing countries have introduced DFQF
(Duty-Free Quota-Free) schemes containing RoO that need to be assessed.
The paper went on to illustrate the difficulties faced by the LDCs
in meeting certain origin criteria that are based on percentage criterion,
provided some examples of best practices and discussed possible improvements
and changes in the light of the Decision on preferential rules of
Highlighting some experiences, the LDCs said that the important lessons
to be learned are that:
* No matter how RoO are designed or drafted, they should reflect global
value chains. If not, trade will not be created and trade preferences
will be underutilised. RoO should not be used as a disguised form
of industrial policy aiming at requiring substantial transformation
in LDCs going beyond what is commercially meaningful and viable.
* One should begin by considering the desired objective of a given
set of RoO separately from the drafting methodology. A distinction
has to be made between the "form" of a given RoO and its
The "substance" is the degree of restrictiveness of a RoO
with respect to an existing value chain context in which it is expected
to operate (in this case, the beneficiaries are LDCs, many of which
are landlocked and island countries).
For decades, LDCs said that they have complained that the RoO attached
to these trade preferences were overly stringent, requiring, for example,
a double processing stage in the clothing sectors that does not tally
with existing value chains. The restrictiveness of the RoO is the
reason why many of the preferences have not been utilised.
This being said, there are a number of lessons learned and best practices
that have progressively emerged on how to draft a given rule of origin
(the "form"), especially the percentage criterion that is
still used by a number of preference-giving countries.
According to the LDC paper, cumulation is a practice that allows the
consideration of products originating in other countries or work or
processing carried out in other countries as being a domestic product
or work of processing.
In short, cumulation is not a substitute for introducing rules of
origin allowing global sourcing from the most competitive supplier.
In a manufacturing world dominated by the existence of supply chains,
LDC companies and investors should be allowed to source their inputs
from the most competitive supplier rather than be provided incentives
through cumulation to restrict sourcing and indulge in trade diversion
practices, it said.
Cumulation is a viable tool for regional integration arrangements
at a high or advanced industrial stage like ASEAN where cumulation
has been mostly utilised.
In other regions like Sub-Saharan Africa or island LDCs with a low
industrial base and high cost of freight, cumulation offers limited
possibilities and cannot replace liberal rules of origin.
The paper noted that the lessons learned from drafting "the form"
of rules of origin are mainly related to the percentage criterion.
The paper said that the limitations in using the percentage criterions
are well known. It summarised them as follows:
(a) Percentages calculations are easily affected by movements in exchange
rates for finished products that have imported raw materials, in that,
when a local currency appreciates, the percentage value added tends
to decline, and vice-versa;
(b) The level of percentage threshold may be arbitrarily set and it
is difficult to set it up even with consultations with the private
sector given the number of variable costs and products to take into
(c) The costs of labour in developing countries is relatively cheap
and in a value added calculation, it may turn an asset into a penalty;
(d) The calculations may be difficult entailing some accountancy expertise
and a certain amount of discretion in assessing costs that may lead
to dispute. Accountancy skills are generally not available in most
small firms in LDCs.
In the light of the lessons learned and best practices that are progressively
adopted, the LDCs are of the view that a calculation methodology based
on a value of materials calculation should be preferred when preference-giving
countries are using a percentage criterion.
This methodology eliminates most of the shortcomings of a value added
calculation. The value of material calculation is based on the WTO
Customs Valuation Agreement anchoring the rules to a multilateral
instrument in use by WTO Members.
According to the paper, this method of calculation is similar to the
one used by the US in recent FTA agreements with Australia, Singapore,
Chile, Central America and other countries. The EU and Japan are also
using a value of material calculation in their GSP scheme and in their
The paper argued that another intrinsic limitation of the percentage
criterion is in setting the level of percentage.
The first criticism is derived from the fact that, even if determined
through consultations with the private sector, setting an adequate
level of percentage tends to be arbitrary as it may change from time
to time due to variations in the cost of the inputs and currency fluctuations.
Moreover, the level of the percentages may be different from product
to product and the stringency or leniency of a given percentage depends
on the calculation methodology.
The LDCs consider that a level of percentage of 15-25 per cent or
even lower for certain category of products calculated according to
the build-down formula (highlighted in the paper) would guarantee
that substantial transformation takes place and genuine manufacturing
operations have been carried out in LDCs.
The majority of LDCs have a very basic, in most cases, barely existent
industrial base. It is clear that in such a situation, LDCs, especially
land locked and island countries, are relying on inputs imported from
third countries to manufacture their finished products.
The paper said that the mere granting of tariff preferences or duty-free
market access to exports originating in LDCs does not automatically
ensure that beneficiary countries effectively utilise the trade preferences.
Preferences are conditional upon compliance with rules of origin requirements
mainly consisting of (a) compliance with origin criteria, (b) documentary
evidence (certificate of origin form A or declaration by exporter/importer),
(c) transport requirements in case the products have not been shipped
As a result, even when a wide product coverage suggests potential
benefits in terms of preferential market access to LDCs, the actual
utilisation of such preferences could be limited.
A clear indicator of the effectiveness of trade preferences is the
utilisation rate. Such an indicator is the ratio of the amount of
imports, which actually received trade preferences at the time of
customs clearance in the preference-giving country, to the amount
of dutiable imports eligible for preferences. This is the most realistic
measurement of the effectiveness of trade preferences.
The paper said that records of high utilisation rates, on average
or for some product categories, do not always mean that market access
at preferential rates and rules of origin exists and has been effective.
High utilisation rates may be easily obtained for very low amount
of trade due to the fact that trade preferences and associated rules
of origin have been incapable of generating trade and investment effects
For instance, the paper noted that UNCTAD has recorded that the United
States had record very high utilisation rates on textile and clothing
products (94.8 per cent) since 2001.
However, such a high utilisation rate was obtained in a few tariff
lines with minimal trade value since textile and clothing are in general
excluded from the product coverage of the US GSP.
The LDCs underlined that changes and reform of rules of origin may
have a significant impact on the trade and investment decisions of
companies located in LDCs or neighbouring countries that may be attracted
by favourable rules of origin and market access conditions to relocate
However, the paper noted that there are marked differences in utilisation
rates and trade dynamics in preference-giving countries that embarked
on reform of their rules of origin like the EU and Canada and those
like the US and Japan that have yet to do so.
In the case of the reform of the EU and Canadian rules of origin,
the LDC paper found that when fuel and agricultural products are excluded,
the figures of total imports of the EU from the LDCs show a steady
increase in utilisation rates from 2010 to 2013, rising from 89 per
cent to 99 per cent.
According to the paper, the figures highlighted provide evidence that
the Canadian and EU reform of rules of origin undertaken respectively
in 2003 and 2011 have significantly impacted both utilisation rates
and the import values, the former reacting faster.
In the case of Canada, imports from the LDCs increased exponentially
and the utilisation rate immediately reached 100 per cent.
The EU reform substantially liberalised the rules of origin not only
for clothing but also in a variety of other sectors, allowing up to
70 per cent of non-originating materials for bicycles and easing ASEAN
Figures show that the utilisation rate of bicycles exported by Cambodia
to the EU has increased to around 80 per cent in 2011, from 33 per
cent in the previous year.
Moreover, between 2010 and 2013, import values have been multiplied
by a factor of 5.4, increasing from US$60 to US$325 million (+442
The paper also highlighted the evolution of imports from the LDCs,
excluding AGOA beneficiaries, over time in the case of preferences
granted by the US to LDCs, where no reforms to rules of origin have
Between 2008 and 2013, the total imports have decreased from US$10.2
billion to US$8.9 billion.
Over the same period, imports receiving GSP treatment and MFN treatment
(while covered by the GSP scheme) have also significantly declined,
from US$3 billion to US$137 million and from US$550 million to US$77
The paper summarised that US imports from non-AGOA LDCs are notoriously
highly concentrated in the textile and clothing sector.
The paper highlighted that (1) the US rules of origin seems to have
so far been unable to trigger a diversification of exports and the
value of trade covered by the US GSP is abysmally low; and (2) it
seems that in the industries other than textile and clothing that
are mostly covered by the US GSP scheme, preferences are not fully
utilised with relatively high values of imports receiving MFN treatment.
In the case of Japan, the paper said that there are some data limitations
that have not permitted the analysis for a longer observation period
During this period, the overall trade performance of the LDCs under
the GSP scheme of Japan seems to have followed a cyclical pattern
with a decrease of overall imports following the financial crisis
Overall utilisation rates are relatively high showing however a rather
stagnant linear approach with an average figure between 84 per cent
and 85 per cent.
There are no significant differences in the pattern of utilisation
of the Japanese GSP scheme when fuels and non-agricultural products
are excluded. Utilisation rates range from 88 per cent to 86 per cent
These figures show that even after significant improvements in terms
of coverage to the Japanese GSP scheme, there has not been a significant
modification in the trade patterns and utilisation of the Japanese
The paper went on to suggest some initial practices based on the LDCs'
(1) Preference-giving countries when using a percentage criterion
for determining substantial transformation should use a value of materials
(2) A level of percentage of 15-25 per cent or lower for certain categories
of products calculated according to the build-down formula should
be considered appropriate when using a percentage criterion.
(3) Percentage criterion-based rules of origin should adequately take
into account the costs of freight and insurance when determining the
value of materials especially for landlocked and island LDCs.
According to trade officials, at the Committee meeting on 30 October,
Uganda invited the US and Japan, whose preferential rules of origin
remain largely unchanged since the 1970s, to review the substance
and form of their systems in this area.
Canada, Brazil, India, Switzerland and the EU welcomed the LDC paper.
They said that they will need additional time to study the paper in
detail, trade officials said.
The Chair of the Committee, Ken Chang-keng Chen of Chinese Taipei,
said that the Committee will continue discussions on the paper at
its next meeting in April 2015. +