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China’s IP Reform: State Interests Align with Intellectual Property Protection (Again)

Copyright Commentary Notes
Written By: Gillian Kassner Edited By: Matt Gelfand Editorial Policy In a 2009 Los Angeles Times article, “Beijing Loves IKEA – But Not for Shopping,” reporter David Pierson offered a humorous account of the weekend excursions of Beijing families to their local IKEA where they enjoyed free soda and Swedish meatballs, snapped family photographs, surveyed the merchandise, and went home. Pierson noted that purchasing anything at the Beijing IKEA “can seem like an afterthought.” What Pierson failed to include was an epilogue: chances are most of these Chinese consumers would later purchase knockoff IKEA furniture online or at a local store. A combination of cultural and economic factors underlies the current attitude of the Chinese towards the protection of intellectual property. As China has propelled itself onto the global stage by its fast-paced economic growth, external pressures from the United States and other nations and internal tensions between traditional Chinese values and the desire for economic prosperity have earmarked intellectual property as a key issue that will determine China’s economic and political trajectory. The Chinese Communist Party’s recent focus on IP protection signals that while China may continue to condone certain levels of infringement in the interim, in the long term, China’s continued economic growth and the survival of the CCP will require the serious reform of China’s IP enforcement. To be effective rather than cursory, it is evident from China’s history and political structure that such reform must be the natural product of China’s internal weighing of incentives rather than a response to external pressures.  China’s Current IP Enforcement Landscape and its Impact on Multinational Companies: When it comes to protecting intellectual property rights, China doesn’t have the best track record. As the world’s single largest producer of pirated goods, China has an extensive and sophisticated network of infringers who pirate products of virtually every industry. China is one of the world’s largest manufacturers of fake DVDs, designer goods, car parts, and pharmaceuticals. Statistics by various agencies estimate 90-99% of software in China (including software used by the Chinese government) is pirated. More than half of all cell phones, , shampoo, razor blades, and cigarettes sold in China are counterfeit. Counterfeited products are both sold within China and exported to other countries. Entire stores and websites are dedicated solely to the sale of fakes. According to the U.S.-China Business Council, counterfeit products account for as much as 15% to 20% of China's total GDP, amounting to $20 billion to $25 billion of copycat products sold in China in per year. Counterfeit labeling of agricultural and other food products is commonplace. Counterfeiters have even begun to copy the experience of shopping by replicating the storefronts and interiors (“trade dress”) of famous global stores and restaurants, including IKEA, McDonalds, Starbucks, Dairy Queen, The Apple Store, and In-N-Out. In response to the Chinese government’s failure to curb infringement, multinational companies have resorted to expensive alternatives to legal intervention in order to protect their products from piracy. For example, Microsoft[i], a developer of some of the most widely copied software, has upgraded its security measures by installing surface holograms and developing programs that scan websites for fake goods. Microsoft has additionally entered agreements with Chinese company Lenovo to preinstall Microsoft Windows on Lenovo computers. Companies like Louis Vuitton have similarly sought to cut the counterfeiter supply chain by initiating landlord liability actions against parties who knowingly condone piracy on their premises. The interventions are pricey, but costs of infringement are even higher. According to a 2011 U.S. International Trade Commission 2009 study, U.S. businesses lost $48 billion in sales, royalties, and licensing fees due to infringement in China. While industry statistics should be viewed with appropriate levels of skepticism, it is nonetheless evident that China’s lack of IP enforcement has made the world’s largest consumer market a double-edged sword for foreign investors and companies. The U.S. Government’s Response to Chinese Infringement: Intellectual property enforcement, along with the trade deficit and currency exchange, continues to be a topic of ongoing tension between the United States and China. Over the past two decades, the United States has invoked various mechanisms to pressure China to improve its IP enforcement. In the 1990s and early 2000s, the United States continuously threatened to impose trade sanctions against China. Before China joined the World Trade Organization in 2001, the United States threatened non-renewal of China’s Most Favored Nation status and opposed China’s WTO accession. In 2005, the United States placed China on its “priority watch list” of countries failing to protect IP rights and significantly reduce infringement levels. Two years later the United States brought and won a suit against China through the WTO. Last year the U.S. Patent and Trade Office requested public comment on intellectual property enforcement in China in order to compile a report detailing the patent enforcement landscape in China from the perspective of U.S. rights holders. During Vice President Biden’s notoriously tense meeting with Chinese Vice President Xi Jinping last November, intellectual property and trade deficits were topics of contention. Despite its implication of a variety of legal and political pressures, U.S. efforts to curb infringement have been largely unsuccessful. American pre-accession threats of trade sanctions and non-renewal of China’s MFN status (described by one expert as a “cycle of futility”) resulted in a series of compromises that did not significantly alter China’s IP protection. While China’s accession to the WTO provided a new forum through which the United States could bring IPR complaints, the effectiveness of WTO decisions in combating China’s IP practices is limited. Despite the overall favorable ruling in U.S.’s 2007 WTO case, the WTO panel report resulted in only minor amendments to China’s Copyright Law and Customs Regulations and did not meaningfully change China’s IPR enforcement. The U.S.’s failed efforts to police Chinese infringement suggest that IP reform in China must initiate within China rather than through impositions by foreign governments. A Brief Look into China’s IP Legislation: As many critics have noted, the problem isn’t that China doesn’t have intellectual property laws: it’s that China doesn’t enforce them. China has maintained and regularly reformed Western-style intellectual property legislation since the 1980s. In the 1990s, China entered into several bilateral agreements with the U.S., including the 1992 Memorandum of Understanding and the 1995 Agreement Regarding Intellectual Property Rights (renewed in 1996). As a result of these agreements, China revised its patent and copyright laws no fewer than four times in a span twelve years (in 1992, 1995, 2001, and 2004). Some notable differences remain between China’s Trademark, Patent and Copyright Laws and their Western equivalents. For example, China’s Trademark Law is characterized by a first-to-file rule which stipulates that a trademark is granted to the party that files first, rather than the party that first uses the trademark. This disparity results in a phenomenon known as “trademark squatting,” whereby local Chinese businesses and individuals are granted trademarks of foreign products. This practice, combined with the necessity of registering Chinese translations in addition to original names, results in expensive conflicts for multinational companies seeking to enter the Chinese market. Facebook, for example, currently contemplating re-entering the Chinese market after being blocked three years ago, recently discovered that many iterations of the website’s name and its Chinese translations have already been registered in China due to the first-to-file rule. This year, Facebook, at considerable expense, applied for as many as 60 trademarks (some of which have already been registered), including the English and simplified character iterations of “Facebook,” “Fei-si-bu,” “Fei-shu-bo,” “Fei-si-bo-ke,” and “Mianshu.” The recent trademark dispute between Apple and Proview similarly highlights the high financial stakes raised by disputes resulting from slight differences in trademark legislation. Trademark squatters have also targeted the names of famous celebrities and athletes including Jeremy Lin and Michael Jordan, who filed suit last month against a Chinese company Qiaodan Sports Co. (the Chinese translation of “Jordan”) for using a logo on a shoe that resembles Nike’s Air Jordan silhouette. China’s Patent Law is likewise characterized by a first-to-file rule (which, after the passage of the America Invents Act, also applies in the United States). The starkest differences between U.S. and Chinese patent law involve patent litigation procedure. Unlike in the United States, Chinese patent trials are quick. There is no discovery and no jury. In addition, Chinese courts do not allow the challenge of the validity of a patent as a defense in an infringement suit. Finally, China’s Copyright Law includes several provisions that differ from Western copyright legislation and compromise its efficacy, particularly a relatively low cap on damages, which the U.S.-China Business Council highlighted in its latest report. The cap, set at 500,000 RMB (roughly $80,000), precludes awarding damages equivalent to the actual losses suffered by the rights holder and often fails to adequately deter infringers who often earn substantially higher profits from infringement. Because of these legal differences, critics are quick to highlight the flaws in China’s IP legislation. However, despite the legislation’s imperfections, the legislation for the most part conforms to WTO standards and most experts agree that the Chinese government nonetheless has the necessary legal framework to combat piracy. Enforcement, not legislation, is the real issue. The Cultural and Political Roots of China’s Modern IP Regime: Why would the Chinese government invest in developing sophisticated IP legislation and subsequently fail to provide the resources necessary for proper enforcement? As Zhang Qianfan notes in his article on Chinese constitutional law, A Constitution without constitutionalism? The paths of constitutional development in China, 2010, “as long as the government finds an incentive in enacting good laws but a disincentive in enforcing them, then laws and reality will never collide.” China’s disincentive to enforce its IP legislation can partly be explained by Chinese history and traditional Chinese values. While China’s history of intellectual property recognition is among the longest in the world, the notion of intellectual property protection as an individual rather than a state right was relatively foreign in ancient Chinese society and has been recognized by China for only about thirty years. While the first Chinese trademarks are dated to the discovery of early Chinese pottery around 2698 BC and continued through the Han Dynasty (206 BC - 220 AD), trademarks were intended solely to protect the accuracy of copied works and the value was allocated exclusively to society rather than the individual artist. Edicts in the Tang dynasty (618-907 AD) that prevented the reproduction of items such as calendars and almanacs were passed not to reward the creator but rather to protect the dynasty by preserving the belief that the emperor bridged the human and the supernatural. After printing was invented, copying and disseminating another’s work was considered a high tribute to the work rather than a form of theft. Furthermore, traditional Chinese philosophies of Confucianism and Daoism emphasized communal learning and the mastery of traditional teachings over individual innovation and profit.  It wasn’t until the 1800s when China began to have more contact with the West that the nation was exposed to Western notions of intellectual property through a series of patent treaties with the United States. However, intellectual property laws enacted in that period were repealed by the Chinese Communist Party under Mao Zedong’s leadership during the 1950s and replaced by the Provisional Regulations on the Protection of Invention Rights and Patent Right of 1950. These regulations awarded the creator of a patented invention with a certificate and limited form of compensation, but vested the right to disseminate the invention in the state. Even these protections were eliminated by the Cultural Revolution, a period of general backlash against both legal formalism and property ownership, embodied in the persecution of intellectuals, scientists, and writers. The 1980s and 1990s, an era of rebuilding and development, marked the beginning of China’s first serious attempts at strengthening its recognition of individual intellectual property rights. China’s interest in benefiting from participation in the global economy created an incentive to pass Western-style IP legislation. As a result, China joined a collection of international organizations, including the World Intellectual Property Organization, and passed legislation including the Trademark Law of the People’s Republic of China in 1982 and the Patent Law of the People’s Republic of China in 1984. These laws were reformed before and after China joined the WTO in 2001. However, because China was considered a developing nation and allowed more flexibility in adhering to international standards, the incentives to draft Western-style IP legislation did not apply to enforcement. Furthermore, the inherent inconsistencies in protecting the property of individual inventors in a socialist regime were not lost on the Chinese government. This tension is reflected in China’s constitution: while the American Constitution explicitly protects intellectual property rights, the Chinese constitution stops short at emphasizing the general importance of science, technology, and research. Although some academics criticize the over-reliance on Chinese cultural norms to explain the government’s lack of adequate IP enforcement, such norms, combined with the short-term economic benefits of piracy, help explain China’s ongoing reluctance to enforce externally-inspired legislation that conflicts with China’s longstanding values. Practical Barriers to IP Enforcement: Practical economic and political factors on both a national and a local level also act as disincentives of Chinese IP enforcement. China enforces its patent, trademark, and copyright protections through both administrative procedures and civil and criminal forms of adjudication. However, due to administrative reluctance to pass along cases to the judiciary and cultural norms which favor social harmony over antagonistic dispute, the majority of cases are handled by administrative processes. Unlike litigation, administrative decisions do not award monetary damages to victims of infringement. Local administrative agencies also tend to be underfunded because local officials benefit from kickbacks and bribes and because counterfeiting often drives local economies. The overall result[ii] is a failure to report piracy and to fund administrative agencies responsible for enforcement. Even if infringement cases are settled through litigation, inadequate judicial transparency, judicial ties to the agenda of the Chinese Communist Party, and delays in adjudications involving foreigners lead to legal inconsistencies among localities and hinder IP enforcement in general. Furthermore, current Chinese patent, trademark, and copyright laws strictly limit civil fines to awards significantly below real economic harm and do not mandate strong enough punishments to deter counterfeiters from highly-profitable piracy. A 2005 U.S. International Trade Commission report summarized the problems by asserting, “lack of coordination among Chinese government ministries and agencies, local protectionism and corruption, high thresholds for criminal prosecution, lack of training, and weak punishments” are responsible for the lack of IP enforcement in China. Despite the existence of a relatively robust legal IP framework, practical inadequacies in Chinese administrative procedures and civil and criminal adjudication prevent the creation of disincentives sufficient to deter illegal counterfeiting. Failures in enforcement of IP legislation in some ways merely embody greater fundamental structural problems in China’s legal system. As long as local economies benefit from piracy and local officials accept bribes or other rewards from counterfeiters, governmental policies will not curb enforcement on a local level. Furthermore, until the Chinese government finds adequate incentives to restructure the legal system to better combat corruption and allow for proper infringement remedies, pressure from external sources is unlikely to have any practical effect. In sum, attempts at IP reform will not be successful in China until the benefits of IP protection exceed the benefits of infringement for domestic businesses and, by extension, the Chinese government. Long-Term Signs of Change and Growing Incentives for IP Enforcement in China: In the past decade, little has developed in terms of the external pressures imposed by foreign governments and the internal practical and cultural barriers to IP enforcement. However, one key factor has changed – the nature of the Chinese economy. Over the past few years, China has replaced the United States as the world’s largest producer of manufactured goods and seen average annual GDP growth rates of around 10 percent. The number-one priority on the Chinese Communist Party agenda is self-preservation, which depends on its ability to sustain China’s current economic growth and development. To achieve this goal, the government indicated in its 12th Five Year Plan its intention to shift the focus of its economy from low-productivity manufacturing to a balanced economy with a stronger service sector and a focus on scientific innovation. As China seeks to complete this transition, cooperating within the global market is essential, and IP protection is a key element of such cooperation. While some foreign companies have been willing to invest in China despite the lack of adequate IP protection in order to take advantage of lower production costs, venture capitalists have been generally reluctant to invest financial resources in Chinese businesses and high tech companies have reduced Chinese accessibility to latest technology. As China increasingly depends on gaining access global resources, IP protection will become more important. Furthermore, strict IP enforcement will also benefit domestic companies and consumers. While beneficial to China in the short run, piracy has had unsettling long-term effects on the Chinese domestic economy. Some estimates indicate that up to 80 percent of Chinese counterfeit products are knockoffs of Chinese brands. The piracy of domestic products creates an environment of suspicion and distrust and curbs investment, innovation, and cooperation. In addition, the costs retailers incur in combating piracy are ultimately reflected in higher prices of brand name products and lower accessibility of original products to Chinese consumers. The more that Chinese businesses turn to innovation and services rather than manufacturing, the more Chinese consumers will additionally become creative producers and stakeholders in IP reform. For these reasons, Chinese businesses have started to demand reforms to strengthen IP enforcement within China and a handful of businesses have ventured into foreign courts to protect their intellectual property rights abroad. As China continues to transition from a developing nation to a more sophisticated global economy, the stage is being set for incentives to favor stronger IP enforcement. As it approaches its 2012 leadership turnover, the Chinese government has acknowledged the growing importance of IP reform in achieving its economic goals. The government has recently employed awareness campaigns and propaganda to make its commitment to IP reform as visible as current infringement. Two ambitious plans have been announced in the past few years: the National Intellectual Property Strategy in 2008 and the National Patent Development Strategy for 2011-2020 in 2010. Intellectual Property Reform was also a conspicuous topic addressed by Xi Jinping, current Chinese Vice President and likely future state president and Chinese Communist Party general secretary, in his February 2012 visit to Washington. In a planned written response to the Washington Post, Xi stated, “We have taken active steps to meet legitimate U.S. concerns over IPR [intellectual-property rights] protection and trade imbalance, and we will continue to do so.” While Chinese government announcements and Xi’s political sound bite are certainly no guarantee of change, they identify IPR as an area of development, underscoring its presence on the CCP agenda. Unlike pressures from foreign nations and international organizations which have only a limited effect on Chinese enforcement in practice, the CCP is woven into every level of legal practice in China. Should the CCP choose to make enforcement a priority (and the economic climate indicates that it will), we can have confidence that IPR reform will be undertaken. Temporary Setbacks on the Road to Ultimate Reform: While IP enforcement seems inevitable in the long run, the immediate future is less certain. The Chinese government’s recent zeal for intellectual property protection and current reality offer a sharp and interesting contrast. In 2011, China surpassed the U.S. to file more patents in 2011 than any other country.  Similar trends apply to trademarks; in 2010, 1.07 million trademark applications were filed in China, the most in the world for the ninth consecutive year. China currently serves simultaneously as the world’s source of the most annual patent and trademark filings and the most widespread IP infringement. This contrast has also been highlighted through propaganda. In 2006, a Beijing Higher People’s Court affirmed a judgment in a suit brought by five luxury brands (Prada, Chanel, Louis Vuitton, Gucci and Burberry) against landlords of China’s “Silk Market” for condoning IP infringement. The Silk Market, housed a six-story building, is a famous Beijing tourist attraction where customers haggle to purchase predominantly counterfeit goods. The court judgment, which imposed damages equivalent to about $2,500 per plaintiff against the landlord, was recognized by China’s Supreme People’s Court as one of the “Top Ten” IP cases decided that year. The damages imposed by the court did little to deter counterfeiting, and the Silk Market remains a site of flagrant infringement (and ongoing law suits). Last year a banner was hung in the market’s entryway; it states, “Protect Intellectual Property Rights, Be Law-Abiding Vendors,” offering a picture of the rift between the intellectual property ideal and current reality. Nonetheless, signs of change are conspicuous. IP rights suits are becoming more affordable and more socially acceptable and increasing numbers of IPR cases are filed in China every year (in 2009, 30,626 cases were filed in local courts, a 25 percent increase from 2008).  Cases like the Apple/Proview trademark conflict and the Pfizer Viagra patent case have gained widespread public attention. Due to the development of the Chinese economy, the struggle over IP protection is shifting from the international to the domestic realm. Chinese businesses are compiling IP portfolios and beginning to realize the economic benefits of protection. Today, approximately 95 percent of IP cases in China are disputes between two Chinese companies. If current economic trends continue, as in the Han and Tang dynasties, the interests of the state  will overlap once again with intellectual property protection: this time around in terms of protection of individual rights rather than preservation of dynastic hierarchy. While the development of adequate enforcement mechanisms will take time, the incentives will eventually favor the Chinese government fully opening its market to foreign companies by taking IP enforcement seriously, opening the door to more extensive judicial reform in general.

[i] Andrew Evans, Taming the Counterfeit Dragon: The WTO, Trips and Chinese Amendments to Intellectual Property Laws, 31 Ga. J. Int'l & Comp. L. 587 (2003). [ii] Id.