In this week’s post, we continue to examine the Office of the United States Trade Representative (USTR) 2016 Special 301 report (Report) reviewing the state of intellectual property rights (IPR) protection and enforcement in U.S. trading partners around the world. The Report details the results of extensive research and analysis, which led to placing eleven countries on the priority watch list and twenty-three on the watch list. China remains on the Priority Watch List, as the environment for protection and enforcement of IPR in China continues to be complex and contradictory. Surveys continue to indicate that many businesses chose not to offer their technology, goods, services, or investments in China. The choice was based on the obstacles that restrict foreign firms’ ability to fully participate in standards setting, the unnecessary introduction of inapposite competition concepts into intellectual property laws, and acute challenges in protecting and incentivizing the creation of pharmaceutical inventions and test data.

In the past year, China’s leadership developed draft reform measures on a range of subjects including copyrights, patents, trade secrets, drug review and approvals, Anti-Monopoly Law enforcement as it relates to intellectual property, and regulations on inventor remuneration. The State Council established the Office of the National Leading Group on the Fight Against IPR Infringement and Counterfeiting, currently chaired by Vice Premier Wang Yang. The group extended its online enforcement campaign in 2015 and has played a positive role in China’s IPR. Further, courts have been established in Beijing, Shanghai, and Guangzhou to study the merits of specialized intellectual property courts over a three year period.

Despite the reform measures, it is difficult to prevent the misappropriation of trade secrets due to deficiencies in China’s primary trade secrets law (found in the Anti Unfair Competition Law, or AUCL) that limit the law’s application; unresolved weaknesses in China’s civil enforcement system including limited injunctive relief and low damage awards; and difficulties in pursuing criminal enforcement, including the need to prove actual damages caused by the theft of trade secrets. In the Report, the U.S. urges China to consider drafting a stand-alone trade secrets law, which would provide an opportunity to address a broader range of concerns than possible as part of a reform to the AUCL.

The Report further indicates that the disclosure of critical intellectual property for foreign information and communication technology (ICT) products and services continues to be required as a condition of access to the Chinese market. The justification for this disclosure is purportedly for security measures. These measures were suspended in 2015, in response to strenuous objections from the U.S., other foreign governments, and the private sector. Furthermore, China’s draft counterterrorism law included provisions that appeared to require telecommunications business operators and Internet service providers to disclose critical proprietary intellectual property to regulators. Objection by the U.S. and others led China to remove some of the troubling aspects in the final version of the law. Similar concerns have arisen in China’s National Security Law and draft insurance sector regulations. The Report states that it is critical that China adhere to its commitments and not simply invoke security concerns in order to require the disclosure of critical intellectual property.

The Report also highlights the concern that certain government measures, policies, and practices that are purportedly intended to hasten China’s development into an innovative economy, instead put foreign right holders at a disadvantage. These measures appear to include the requirement that certain IPRs be developed in China or be owned or licensed to a Chinese party. Through engagement with the U.S., China has committed that:

1. Technology transfer and technological cooperation shall be decided by businesses independently and will not be used by the Chinese government as a precondition for market access;

2. It must treat intellectual property rights owned or developed in other countries the same as domestically owned or developed intellectual property rights; and

3. Enterprises are free to base technology transfer decisions on business and market considerations, and are free to independently negotiate and decide whether and under what circumstances to assign or license intellectual property rights to affiliated or unaffiliated enterprises.

The Report states that the U.S. will continue to push back against existing measures that distort technology transfer.

Additionally, the Report states that online piracy and counterfeiting in China’s massive e-commerce continues to be a wide-spread problem, which results in great losses for U.S. right holders involved in the distribution of a wide array of trademarked products, as well as legitimate music, motion pictures, books and journals, video games, and software. The piracy extends to unauthorized access or copies of, scientific, technical, and medical publications as well. China has the largest internet user base in the world, with the annual sales of goods on the Internet projected at nearly half a trillion U.S. dollars. China’s State Administration for Industry and Commerce (SAIC) reported that more than 40 percent of goods that SAIC purchased online during a 2014 survey were “not genuine”. Furthermore, the USTR’s 2015 Notorious Markets List reported that China is the manufacturing hub of counterfeit products sold illicitly around the world. The effects of these counterfeit goods go beyond lost sales volume and harm to the reputations of U.S. trademark owners, as counterfeit goods potentially threaten the health and safety of consumers around the world. A positive development in 2015 was the reported removal of over 2.2 million unlicensed works at the request of the National Copyright Administration of China. In the Report, the U.S. urges China to accelerate the development of its E-Commerce Law and to ensure that it addresses online piracy and counterfeiting, while providing appropriate safeguards to Internet service providers.

Regarding patent related measures and policies, according to the Report, IPR and technological standards in China heighten U.S. concerns regarding a range of Chinese government policies and practices. Membership or participation rights to foreign parties have been denied by China, which prevent foreign parties from participating in the standards setting process. In addition, there is also the concern that patent holders may be forced to contribute proprietary technologies to standards (and to license them to implementers) against their will. The U.S. secured commitments in the 2015 U.S.-China Joint Commission on Commerce and Trade in which China stated that:

1. It welcomed the participation of U.S.-invested firms in the development of national recommendatory and social organization standards in China on a non-discriminatory basis; and

2. Licensing commitments for patents in voluntary standards should be made voluntarily and without government involvement in negotiations over such commitments, except as otherwise provided by legally binding measures.

The Report also disclosed the state of Anti-Monopoly Law (AML) enforcement. Specifically, it stated that Chinese competition authorities may target for investigation those foreign firms that hold IPRs that may be essential to the implementation of certain technological standards. In this regard, the U.S. has secured a number of commitments from China, including that:

1. The objective of a competition policy is to promote consumer welfare and economic efficiency rather than promote individual competitors or industries;

2. Enforcement of competition laws should be fair, objective, transparent, and non-discriminatory; and

3. China’s AML enforcement agencies are to be free from intervention from other agencies in enforcement proceedings.

The Report further states that China also committed to attaching great importance to maintaining coherence in the rules related to IPR in the context of the AML, based on the pro-competitive effects of intellectual property licensing.

With regards to pharmaceutical patents, the Report states that China was once generally consistent in its review of patent applications with the U.S. and leading patent offices in other countries. However, an applicant’s ability to provide supplemental data in support of an application was severely restricted after revisions were made to the interpretations of the guidelines of the Chinese Patent Office. The revisions have resulted in the denial of patents and invalidation of patents that the U.S. and other jurisdictions have granted patent protection to in similar cases. According to the Report, China subsequently agreed to work with the U.S. to follow up on implementation of a revision of its policy on data supplementation in late 2013; however, industry generally reports only partial progress as a result of the change. Furthermore, the U.S. has concerns about the extent to which China provides effective protection against unfair commercial use of, unauthorized disclosure of, and reliance on, undisclosed data generated to obtain marketing approval for pharmaceutical products.

According to the Report, some of China’s proposals for reform appear to contain provisions that would provide regulatory incentives for companies to shift manufacturing to China or participate in selected national projects and programs. Proposals such as these may have lasting negative effects on promoting global innovation and would appear more consistent with forced technology transfer industrial policies.

Although there have been promising developments to IPR protection and enforcement in China, including repeated affirmation of the importance of intellectual property by China’s leadership, an ongoing intellectual property legal and regulatory reform effort, and encouraging developments in individual cases in China’s courts, the Report indicates that substantial issues remain.