Country of origin effect

AN

ASSIGNMENT ON

COUNTRY OF ORIGIN EFFECT

Submitted to:
Prof. Priti Salvi

Submitted by:
Janaki Joshi (13)
Sachin Nandha (22)
Himanshu Solanki (49)
Mukesh Rana (39)

S.V.Institute of Management, Kadi.

 Country of origin effect

Rule of origin in the context of international trade

 Classification of “Rules of Origin”

There are two types of rules of origin: non-preferential and preferential. Non-preferential
rules of origin are used to distinguish foreign products from domestic products when a
country does not want to provide the former with the same treatment granted to the latter.
In some countries, for example, public procurement either excludes foreign products or
reserves certain transactions to domestic products, or grants a margin of preference to
them.

According to WTO Agreement, signed in Marrakech in 1994, “the general notion

of rules of origin shall include all rules of origin used in non-preferential commercial
policy instruments, such as in the application of most-favored-nation treatment, anti-
dumping and countervailing duties, safeguard measures, and any discriminatory
quantitative restrictions or tariff quotas”.

Hence, non-preferential rules are important for several reasons including the
application of tariffs, quotas, antidumping and agreements on textiles and clothing.
Preferential rules of origin are used to determine which goods may enter a country under
a preferential treatment. They define if goods are eligible for special treatment under a
trading arrangement between two or more countries, such as the Generalised System of
Preferences (GSP), free trade areas, bilateral and regional integration agreements.
According to the agreements, certain products benefit from duty-free or duty-reduced
entry into the nations granting special treatment, provided that they originate from
specific countries. If the product is judged as “not originated” from that country because,
for example, it has not undergone substantial transformation or has had little value added
there, the applicable tariff rate would usually be the most favored- nation rate.

S.V.Institute of Management, Kadi.

 Country of origin effect

The WTO Agreement on Rules of Origin is applied only to non-preferential rules

of origin. It is not applicable to the process of determination of the country of origin for
preferential trade, for which the origin is determined on the basis of the provisions
prescribed by a country for the particular system of preferences4. Recognizing that some
Members applied preferential rules of origin, distinct from non-preferential ones, a
“Common Declaration with Regard to Rules of Origin” has been added to the main
document. In this Declaration, members agree to apply many of the same general
principles for rules of origin to those rules, which they use to administer preferential
arrangements (either in free trade areas or within GSP) and to notify these rules.
However, they do not accept to apply harmonized rules for preferential purposes.

For the aims of this Common Declaration5, “preferential rules of origin shall be
defined as those laws, regulations and administrative determinations of general
application applied by any Member to determine whether goods qualify for preferential
treatment under contractual or autonomous trade regimes leading to the granting of tariff
preferences going beyond the application of paragraph 1 of Article I of GATT 1994”.

Within this context, the main purpose of rules of origin is to ensure that benefits
arising from preferential tariff treatment under the Generalised System of Preferences
(GSP) or any other preferential arrangement is limited to products that have been
produced or manufactured in the preference-receiving country.

Therefore, rules of origin are crucial instruments both to identify the nationality of
a given good and to determine whether and which commercial arrangements have to be
applied. They are also a tool of trade policy to differentiate between priority partner
states.

S.V.Institute of Management, Kadi.

 Country of origin effect

The differences between the two regimes are the mirror image of deliberate
different trade policy objectives and the rationale for this differentiation has been
underlined in the framework of the EU rules of origin by the European Court of Justice
(ECJ) in the S.R. Industries v. Administration des douanes case.

 Global harmonization of rules of origin

In 1953 the International Chamber of Commerce made the first attempt to harmonise
rules of origin: it submitted a resolution to the contracting parties recommending the
adoption of a uniform definition for determining the nationality of manufactured goods.
In the 1970’s another effort was made with the Kyoto Convention. It came into force the
25 September 1974, with the aim of attaining a
harmonized scheme of custom procedures. .

The use of the rules of origin to implement trade restrictive and trade distortive
policies finally lead to the inclusion of “rules of origin” as a topic of the Uruguay Round
multilateral trade negotiations. The WTO Agreement on Rules of Origin was part of the
outcomes of the Uruguay Round: it sought to harmonize the non-preferential rules of
origin used by signatory countries into a single set of international rules. By drafting the
rules in a multilateral context where all countries are represented and the adopted rules
are used for all non-preferential purposes, the possibility for a single country to draw up
rules in politically motivated ways has thus been limited.

A specific program was set up, and two new institutions were created to reach this
purpose. The first one was the Geneva-based Committee on Rules of Origin (CRO) at the
WTO, the second body was the Brussels-based Technical Committee on Rules of Origin
(TCRO) of the World Custom Organisation. The Harmonization Work Programme
(HWP), which was launched on 20 July 1995, was scheduled for completion within three
years of its initiation, i.e. by July 1998. However, due to the complexity of the issues, the
work has still not been completed.

S.V.Institute of Management, Kadi.

 Country of origin effect

Negotiation difficulties can be attributed to problems such as:

1) The definition of goods which are wholly obtained in one country, in particular when
they are related to products extracted from international territories, as in high seas or
outer space;
2) The need for further refinement of the definitions of minimal operations and processes
which do not by themselves confer origin: processes like assembly, disassembly,
bleaching, drying, cutting and sewing, blending, packing and packaging, colouring must
be classified and ordered in the definition of “substantial transformation”;
3) The need of product-specific rules for particular product sectors.

In order to achieve harmonization, committees are working on a detailed uniform

definition for determining when goods are wholly obtained in one country, on a list of
minimal operations or processes that do not by themselves confer origin to a good and
finally on the definition of last substantial transformation. The determination of the last
transformation will depend on the change in the tariff classification method through the
use of the harmonized system combined, when necessary, with tests of value-added and
others specific methods.

As of May 2000, measurable progress had been made with respect to the general
rules but the TCRO is still unable to complete the work owing to the divergence of views
over the method of application for the primary and residual rules. The work is currently
in progress.

 Criteria for defining the origin

The determination of origin8 does not present special difficulties when the product
is “wholly obtained or produced” in one State. But it has become increasingly complex as
a result of the globalization of the world trade and the activity of pan national companies.
Producers may source the components from different countries or may manufacture the

S.V.Institute of Management, Kadi.

 Country of origin effect

product in subsequent stages in different countries. In this case problems arise in

determining the spot of production.

A product originates in a particular country either if it is “wholly obtained and produced”

in its customs territory or if it has undergone “substantial transformation”.

The substantial transformation method states that a good originates from the last country
where it emerged from a given process with a distinctive name, character or use. It
requires that the product has been transformed into a new and different article. It means
that exporter, importer or producer are requested to furnish a great deal of factual
information to prove substantial processing. What is to be determined is whether the
change, manufacturing or processing is of such a substantial nature to justify the
conclusion that the article is a product of the country where this change took place. A
change of use is usually considered as a determinant factor if the processing or
manufacturing transforms the product from one that is suitable to one use to one
applicable for another use or for multiple uses. A processing operation that merely
completes an article normally does not constitute a change in use sufficient to
substantially transform the article.

Substantial transformation can be basically defined according to three criteria: the

“value-added “ criterion, the “ process” criterion and the “change in tariff classification”
criterion.

The value-added or ad valorem percentage test: it defines the degree of transformation

required to confer origin to the good in terms of minimum percentage of value that must
come from the originating country or of maximum amount of value that can come from
the use of imported parts and materials. If the floor percentage is not reached or the
ceiling percentage exceeded, the last production process will not confer origin. The value
of the goods exported is normally calculated using the cost of manufacture and the price
at exportation: the value of the constituent materials might be established from
commercial records or documents. Two problems arise: firstly, border-line cases,

S.V.Institute of Management, Kadi.

 Country of origin effect

determining a slight difference above or below the prescribed percentage, because a

product failed to meet origin requirements; secondly, elements such as the cost of
manufacturing or the total cost of the products are usually difficult to assess and may
have different interpretations in the country of exportation and in that of importation.

This criterion is applied by Australia, Canada, New Zealand and the United States and
also by Bulgaria, the Czech Republic, Hungary, Poland, the Russian Federation and
Slovakia. The latter group of countries has fully harmonized the criterion applied.

The specified process tests of origin13: it confers origin to the product based on
the results of tests it must undergo. This criterion is applied by the European Community,
Japan, Norway and Switzerland.

The change in tariff classification method: it is the most widely applied criterion.
It determines the origin of a good by specifying the change in tariff classification of the “
Harmonized System of Tariff Nomenclature” (HS) required to conferring origin on a
good. As a general rule, imported materials, parts or components are considered to have
undergone substantial transformation when the product obtained is classified in a heading
of the HS at the four-digit level which is different from those in which the non-
originating inputs used in the process are classified. However, since sometimes the CTH
rule is not able to determine the origin of a product, preference-giving countries have
drafted a list, the Single List, of working or processing to be carried out in non-
originating inputs in order that the final products may obtain originating status.

S.V.Institute of Management, Kadi.

 Country of origin effect

 National legislations

In the United States, Section 304 of the US Tariff Act of 1930 requires that all
foreign products imported into the country have to be marked with their foreign origin.
When two or more countries participate in the production of a good, local customs apply
the rule of the last substantial transformation issued in 1996.

As for the EU legislation, rules of origin are treated in Commission Regulation

No. 2454/93, which lays down provisions for the implementation of Council Regulation
2913/92 establishing the European Community Custom Code (ECCC), as modified by
Regulation No. 12/97 and by Regulation No. 46/9915. The Customs Code defines
substantial transformation in broad terms. Since this criterion is vague and leaves wide
discretion to national custom authorities, additional tests are used to define it more
precisely:

A technical test, prescribing that the product must undergo specific processing
operations in the originating state and determined on a case by case basis. For example, it
may be stated that the product has been substantially transformed if it has one properties
that it did not have before;

A domestic content test, requiring a minimum percentage of local value added n

the originating State or setting the maximum percentage of value originating in on-
member States;

A change in tariff classification, requiring the product to change its tariff eading
under the Harmonized Commodity Description System in the originating State. n such
cases a significant qualitative change in its characteristics is essential to determine a
change in the origin. In assembly operations, the importance of the transformation has to
be assessed within the entire production process. The assembly an be more than simple,
but not substantial, or it can be the decisive stage of the process which gives the product
its specific character: in this case the assembly confers origin.

S.V.Institute of Management, Kadi.

 Country of origin effect

The EU also applies very detailed rules of origin to several products categories:
textiles, clothes, meat, grape juice, wine, vermouth, leather clothes, shoes, ball bearings,
tape-records, magnetic discs, television sets, integrated circuits, copier machines, watch
bands, and ceramic articles.

Within the context of the EU legislation, it has to be underlined that the

irrevocable fixing of the exchange rates of the currencies of the 11 Member States
participating in Monetary Union and the use of the Euro have raised some important
issues. First, it is no longer possible to consider European Countries as units separately
identified; moreover, the previous zone calculation method of the indices of each
country’s rules of origin system cannot be directly applied. Therefore, the index of the
Euro zone is now treated as representing one country.

On the contrary, the advent of the Euro has not modified an effect of the current
EU rules on the percentage of goods origination from another EC Member State, to be
included in the cover of the insurance contract. The rules set out in the Council Decision
82/854/EEC of 10 December 1982 apply regardless of the currency of the contract or
financing.

In Japan, local customs apply the change tariff method: origin is conferred on the
basis of a change in tariff heading in the nomenclature between non-originating inputs
and processed goods

In Switzerland, the Federal Government legislation defines a product as “made in

Switzerland” when there is a tariff shift in the harmonized system nomenclature between
foreign inputs and finished products, or the value-added in Switzerland reaches 50%, or
when product-specific rules are fulfilled.
.
Nafta has centered its analysis on the tariff-classification and in some instances on
the value-added criteria, trying to achieve a more objective approach.

S.V.Institute of Management, Kadi.

 Country of origin effect

 Rules of origin and the impact on the world trading system

The lack of harmonization in rules of origin regulation is still providing countries

with the opportunity and incentive to use their rules of origin to implement protectionism
in trade policy and to accord disparate treatment to similar goods.

In the increasingly globalize nature of production, there is no single correct

definition of origin. Nowadays, the origin is determined according to the way rules of
origin are formulated and applied. It means that countries, using Rules of Origin in are
sults-oriented manner as a trade policy tool, can control the degree of preferential
treatment in international trade. Rules of origin may, for example, be utilized to restrict
the import from particular sources.

As a consequence of the increasing number of free trade area agreements, it is

also important to consider the link between rules of origin and regional free trade areas.
In a free trade area, tariffs and quotas are eliminated on goods originating from and
traded between member countries. In a custom union the same principle applies with the
added element of the determination of a common external tariff applied to goods
originating from non-member countries.

Sometimes rules of origin generate distortions since they encourage countries to

use local factors of production in order to facilitate the determination of origin and to
benefit from preferential measures addressed to them. In this way, local inputs may be
preferred even when it is economically more efficient to import them. Rules of origin
encourage countries to diversify their economic processes and produce within their
national territory and to use whenever possible local materials in the manufacture of
products. Sometimes, however, it would be more efficient for a country to import certain
materials or to carry out specific industrial processes abroad because of cheaper or of
higher quality. Nevertheless, the benefits deriving from the national origin of the goods
make countries move into the opposite direction.

S.V.Institute of Management, Kadi.