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Cablegate: Mixed Impact and Industry Skeptics for China's Forest

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R 161012Z NOV 09
FM AMEMBASSY BEIJING
TO SECSTATE WASHDC 6853
INFO DEPT OF TREASURY WASHDC
USDA FAS WASHDC
DEPT OF COMMERCE WASHDC
DHS WASHDC
AMCONSUL GUANGZHOU
AMCONSUL CHENGDU
AMCONSUL SHANGHAI
AMCONSUL SHENYANG
AMCONSUL HONG KONG
AIT TAIPEI 7409
ASIAN PACIFIC ECONOMIC COOPERATION
AMEMBASSY MOSCOW
AMCONSUL VLADIVOSTOK

UNCLAS BEIJING 003123


STATE PASS USTR FOR R. SMITH

E.O. 12958: N/A
TAGS: SENV ETRD KSCA CH
SUBJECT: MIXED IMPACT AND INDUSTRY SKEPTICS FOR CHINA'S FOREST
INDUSTRY STIMULUS PLAN

REF: BEIJING 3052


SUMMARY
-------

1. (U) On October 29, five Chinese central government agencies
(State Forestry Administration (SFA), National Development and
Reform Commission (NDRC), Ministry of Commerce (MOFCOM), Ministry of
Finance (MOF), and the State Administration of Taxation (SAT)jointly
issued a "Forestry Industry Development Plan (2010-2012), designed
to bolster China's timber processing and forest products industry
during the current worldwide economic downturn, a downturn, which
according to the Plan, has resulted in over 3 million job losses
within the sector in major timber processing areas. Because
increasing numbers of migrant workers previously-employed in the
sector are now returning to more rural areas, major components of
the Plan are targeted toward rural development. The Plan's primary
goals are to "maintain growth (12% annual target growth rate for
sector; overall output increased from USD 210 billion in 2008 to USD
330 billion by 2012), protect livelihoods (employing 57 million
people by 2012, up from 45 million in 2008), and maintain stability"
through a variety of policy measures, the combined economic impact
of which is likely to be mixed. Chinese timber industry contacts
remain skeptical that the Plan will be implemented in any meaningful
way without a lasting revision in the current value-added tax (VAT)
rebate rate on exports of timber products. END SUMMARY.

ECONOMIC STIMULUS--ENVIRONMENTAL IMPACT UNCERTAIN
--------------------------------------------- ---

1. (SBU) The Forestry Industry Stimulus Plan released on October 29
has the potential to be far-reaching, with links to trade,
employment, R&D support, industry restructuring, new financing
mechanisms, forest tenure reform, climate change accounting, and
quite significantly, the utilization of forest resources in other
countries on which China's timber processors rely for sourcing raw
timber. (NOTE: The "forest industry" in this context encompasses not
only traditional products like timber, bamboo, wood panels, and wood
pulp, but also other products like woody grains and oils, edible
fungi, flowers, silkworms, medicinal herbs, and forest-based
eco-tourism. END NOTE) Key components of the plan are detailed
below.

2. (U) INCREASING DEMAND: The Plan seeks to expand market demand by
increasing domestic consumption of forest products, stabilizing
"traditional" export markets (U.S., EU, Japan), and opening new
international markets (Middle East, Russia, Africa, Central Asia,
South America, and other emerging markets). Domestically, demand
would be driven by new construction in rural areas, post-disaster
reconstruction, and conversion of squatter settlements. By 2012,
targeted overall trade volume in forest products will be USD 90
billion, with exports making up at least USD 50 billion of that
trade volume.

3. (U) The Plan calls for promoting growth in international end
markets for Chinese-processed timber products "in line with WTO
rules," including adjustment of tariffs on (imported) forest
products and favorable tax incentives for export-oriented timber
processing firms that create jobs. The government also plans to
fund a loan program with discounted interest rates for which
companies engaged in animal husbandry, timber processing, plantation
forests, biofuels, nurseries, nature reserves, and eco-tourism would
be eligible to apply. (NOTE: A similar expansion in government
support mechanisms within the agricultural sector, targeted toward
specific sub-industries and linked to rural development, was
announced in early 2009 (REFTEL). END NOTE)

4. (U) INNOVATION AND R&D: The Plan encourages innovation and the
use of advanced technologies to make Chinese timber processing more
efficient. This includes support for additional R&D domestically,
and also to "introduce, digest, and absorb" foreign advanced
technology and equipment for use by processing plants in reducing
energy use and minimizing pollution. Domestic R&D would focus on
enhanced timber processing equipment, reforestation, pest control,
and reducing threats from forest fires. To offset potential
investment risk, tax incentives and government funding would support
these efforts.

5. (U) MODERNIZED PROCESSES: The Plan encourages processors to
"capitalize on current weak demand and lower prices" to procure
advanced processing equipment imported from abroad, instituting
possibly "relaxed trade barriers" and tax incentives for operations
that upgrade technology used. Specific technologies encouraged
include thermal center heating, sewage treatment, low-formaldehyde
adhesives, continuous press wood-panel production technologies, and
energy saving/pollution control equipment. The Plan also seeks to
promote sustainable forestry and chain of custody certification
processes, to "strengthen the commercial environment," and to
"improve product quality."

6. (U) CONSUMER CONFIDENCE AND BRAND RECOGNITION: The Plan calls for
"enhancing" the competitiveness of Chinese processors by increasing
the quality of Chinese timber products and strengthening brand
recognition in both domestic and international markets. At the same
time, the Plan recognizes the need to improve mechanisms for
granting business permits, safety supervision, and testing to ensure
product quality and safety, i.e., use of anti-corrosion and/or
flame-retardant materials. Low efficiency, highly-polluting
operations will be discouraged, including quantities of formaldehyde
used in production processes.

7. (U) INDUSTRY CONSOLIDATION AND RISK MANAGEMENT: The Plan also
provides incentives for the industry to restructure and realign
itself, with the most competitive companies becoming stronger, while
creating a secondary market for small and medium-sized enterprises
(SMEs), which would distribute the risk within the industry. Policy
tools employed would include allowing for forest products companies
to raise capital through newly-created investment funds, and to
establish an insurance system to insulate companies further from
risk.

8. (U) ELEVATE DOMESTIC OUTPUT CAPACITY: The stimulus plan seeks to
increase the capacity of plantation forests, the development of
biomass energy, production of woody oils, and the establishment of
more eco-tourism opportunities. The Plan stipulates that this
action would not only enhance China's energy and food security, but
also increase opportunities for economic and rural development.
Growth in production is to be led by wood panels, packaging, and
other construction materials, but also includes tea-oil, olive,
walnut, and other high-yielding oil-producing plantations,
specifically in Hunan, Jiangxi, Sichuan, and Yunnan Provinces;
plantations for use in biofuel production; cultivating rarer species
like oak and mulberry; and continued development of "fast-growing"
timber plantations. On the eco-tourism side, the Plan stipulates
increased investment in infrastructure development at 300 scenic
spots, which would generate income and create jobs locally,
ultimately creating a "brand" for Chinese eco-tourism.

9. (U) Linked to this push to increase domestic capacity, the Plan
provides guidance for attracting additional foreign direct
investment in developing or upgrading timber processing operations
in line with the government's "Industrial Foreign Investment
Catalogue." The Plan also targets Central and Western regions, as
well as Heilongjiang and Inner Mongolia, where proximity to the
Russian border would provide continued easy access to timber, wood
pulp, and paper.

10. (U) INTEGRATE FOREST TENURE REFORM WITH STIMULUS: The Plan
emphasizes the need to continue with China's ongoing collective
forest tenure reform process. This would include expanding the
direct economic benefits to those living near forested areas and
encouraging a shift from "traditional" to "modern" forestry. For
those qualified to purchase forest tenure rights, a mortgage loan
program would be established to facilitate such purchases, and the
government will create guaranteed micro-credit loans for individual
foresters and small and medium enterprises. (NOTE: This ongoing
reform effort of forestry rights only applies to economic activity
associated with the trees; the land itself will still remain
"collectively" owned. END NOTE)

11. (U) FOREIGN TIMBER RESOURCES: Ensure a "stable" supply of
imported raw timber and paper products from foreign sources,
maintaining the volume at or above 160 million cubic meters.
Specific objectives include "accelerating" the development of
Russia's forest resources, "properly handling the international
problem of illegal logging." The Plan also encourages the export of
wood panel processing equipment to intended "new markets" (Africa,
Southeast Asia, and Russia) to co-locate Chinese processing
operations with the sources of raw timber. At the same time, it
would support "qualified" Chinese companies in efforts to establish
overseas operations through cross-border mergers and acquisitions,
but in accordance with the government-issued but voluntarily applied
2007 "A Guide on Sustainable Overseas Silviculture by Chinese
Enterprises."

12. (U) IMPLEMENTING GUIDELINES: As the State Forestry
Administration and other government entities implement these
policies, the Plan specifically calls for an "earnest strengthening
of macro controls," to improve the management and
institution-building of the forest industry. The Plan also cautions
that R&D investment should be carefully coordinated and advances
properly safeguarded under binding contracts. At the same time,
further development in the forest industry should be carried out
mindful of "local conditions," coordinated at all levels to avoid
redundancy, and allocated based on greatest development needs as
well as market principles. Finally, the government pledges in the
Plan to include domestic industry associations in most if not all
aspects of this stimulus process, including "responding to industry
concerns of anti-dumping, countervailing duties, and other
international trade frictions in a timely manner."

CHINESE INDUSTRY THINKS PLAN LACKS MEANINGFUL CHANGES
--------------------------------------------- --------

13. (U) Chinese industry contacts doubted the Plan will accomplish
the GOC's expectation because there are no new "solid" support
policy/measures. Post contacted Mr. ZHU Guangqian, President of the
China Timber Trade Distribution Association, Mr. WU Shengfu,
Director of China Forestry Industry Association, and Mr. LI Wei, a
large wood trader to ask their views. They unanimously expressed
skepticism that the plan would be implemented in a meaningful way.
They noted that China's wood processing sectors are very
market-oriented; about 90% of the wood processing factories are
privately owned. Thus, industry believes tax policies would be one
of the few ways to influence directly China's wood processing
sector. The industry leaders noted that, while the Plan may impact
production of wood products from domestic sources, the industry
heavily relies on exports of finished products and imports of raw
materials. This trade is impacted by the Value Added Tax (VAT)
rebate on exported timber products more than any other policy. The
government "means business" when the VAT rebate is changed.

14. (U) This current Plan was originally released in May 2009 and
designed to urge financial institutions to provide support for
forestry development. However, mandatory contributions by large
processors to a centralized "cultivation fund," managed by the
timber associations to funnel to the State Forestry Administration,
has been reduced to 10% of wood sales since July 2009, from 20%.
Industry voiced the opinion that China's wood processing sector has
passed the most difficult time and that both domestic and export
markets are going up. Representatives further noted that while an
increase in mergers and acquisitions within the industry is one of
the goals of the Plan, this has been accomplished by the bearish
market in 2008 and 2009 rather than by government encouragement.
Nonetheless, industry likes the fact that the Plan "encourages
large-scale businesses, supporting mergers and acquisitions of
leading companies." Industry believes the Plan may be able to offer
substantial financial incentives and policy support offered to
increase M&A.

COMMENT
-------

15. (SBU) COMMENT: Industry experts believe China's 2010-2012
Forestry Industry Stimulus Plan will have a limited impact on the
global environment. On the one hand, upgrades in technology, energy
saving measures, and pollution controls will reduce emissions of
carbon and other pollutants, which could contribute to China's
stated goals for reductions in energy and carbon intensity.
Additional trees planted in the creation of new plantation forests
also may be environmentally beneficial. The stated intent to
increase the use of forest certification schemes would inject
greater transparency into the chain of custody into and out of
China. Moreover, measures to address product safety concerns would
benefit consumers if adequately enforced. However, these positive
measures are still geared largely toward improving environmental
conditions domestically, with seemingly little regard for impact on
forest areas outside of China's borders. For example, it is
troubling that that the Plan specifically calls for increased
logging and timber processing activity to take place in key producer
areas like Russia, Southeast Asia, and Africa, and identifies
incentives to facilitate the export of Chinese processing equipment
to those zones. It appears that in this economic downturn, and
despite (or due to) the upcoming climate change negotiations in
Copenhagen, where forest-based mitigation will be a key feature,
China appears to have every intent to strengthen its timber industry
and China's access to carbon credits, even if it comes at the
expense of forest-rich developing countries elsewhere.

16. (SBU) The skepticism about the impact of the Plan is not only
limited to the lack of consideration of foreign resources. Chinese
business is particularly skeptical of the Plan because there is no
real money behind it. The forest products industry is
overwhelmingly privately-owned and small. This type of enterprise
is reactive to the market, particularly overseas demand. Small
players tend not to listen or take heed of broad "Plans" from the
government. Second, the lever that moves the forestry industry more
than any other is the VAT rebate for exported products, of which the
Plan makes no mention. Industry believes that the government will
"get serious" only when the VAT rebate is increased or decreased to
promote or discourage exports, respectively. Thus, this forestry
plan probably lacks meaningful policy tools to impact significantly
either the processing of wood products in China or the harvest of
resources in third countries that fuel the industry's growth. END
COMMENT

HUNTSMAN

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