U.S. and China Struggle Over Film Quotas

The renegotiation of the trade agreement could not come at a more sensitive time

Xi Jinping

As the U.S. and China begin to renegotiate the formal agreement that will determine relations between the two countries’ film industries, the talks couldn’t come at a more sensitive time.

Xi Jinping, party chairman and president of the People’s Republic of China, now leads a confident and expansionist country, while newly seated U.S. President Trump is looking inward and questioning many aspects of legacy trade policy.

Just before Trump killed off predecessor Barack Obama’s Trans-Pacific Partnership, Xi was stealing the limelight at the Davos conference in Switzerland and extolling the benefits of globalization.

The film renegotiations take place once every five years, and are scheduled to begin this month just after the expiration of the present bilateral agreement. They will certainly be different this time around, and their outcome will shape relations between the two superpowers’ film industries.

And while the movie industry’s cross-border financial flows are small compared with those of other business sectors, movies are highly visible, symbolic, and politicized.

The last round reached agreement in 2012 when the two countries’ (then) vice presidents, Xi and Joe Biden, crunched out a handshake deal before a basketball game. It then took lawyers fully three years to turn that into a contract, which had less than two years left to run.

That bilateral agreement expires imminently — in mid-February. Negotiations can begin after that. The only certainty is that they will be different from last time.

“A few months ago we might have assumed a continuation of the Biden approach, but now the process is full of uncertainties,” says Tom Ara, partner at U.S. law firm Greenberg Traurig and board member of the U.S.-Asia Institute.

Moreover, China’s history-making box office growth since 2012 requires a recalibration of the calculations. From $2 billion in 2011, the market had more than tripled to $6.4 billion in 2015. That has the effect of making the two industries far more co-dependent.

China is now by far the biggest single export market for U.S. films, while Hollywood blockbusters underpin the massive expansion of Chinese multiplexes (and the share price of recently listed China Film Co.).

Also, after a period of aggressive deal-making, Chinese capital is involved at multiple stages of the Hollywood studio system — corporate equity, slate finance, and marketing alliances.

Yet for all its growth, China’s film industry is still less developed than the mature markets of Europe or some others in Asia. China’s ancillary markets are growing, but their value is a small part of global entertainment trade. And the degree of state involvement in Chinese film remains unusually high. It includes state-owned operating companies, censorship, and government controls over the release dates of imported movies.

“We hope that the result of the U.S.-China trade talks will be reciprocally beneficial.”
James Wang

The U.S. trade representative will be responsible for articulating the American position. Uncertainties here include the strategy of incoming USTR head Robert Lighthizer, a vehement China critic from the Reagan era, and Peter Navarro, Trump’s pick to head a new National Trade Council, who has authored “Death by China.”

The USTR is advised by the Motion Picture Assn. of America and the Independent Film and Television Alliance, which in turn have different agendas.

MPAA’s six Hollywood studios want more of three things.

The first is for more revenue-sharing movies to be allowed to enter China. There are 34, comprising 20 regular titles and 14 in the Imax or 3D format.

The second is that the share of revenue payable to foreign-rights holders increase from the current 25% of gross box office, which is very low by world standards. This would significantly boost what the U.S. studios earn from China.

The third is better access to China’s market.

IFTA, for its part, wants any increase in revenue-sharing quota films not to lead to an equivalent reduction of flat-fee import payments, which are what IFTA members’ films mostly obtain when they sell to China.

It also wants more players in the distribution sector — China Film Co. controls digital print keys even when a film is released by a private-sector distributor — and it wants far greater access for independent films to China’s streaming, TV, and other developing market segments.

Where the two lobby groups most closely overlap is in their desire to see China move closer to becoming a normal market.

Yet that is where they confront a Chinese negotiator who is likely to argue that the market is still immature and needs protection. While Zhang Hongsen, a senior spokesman at SARFT — the State Administration of Radio, Film and Television — has already told the local industry to get ready for more “intensive and fair competition” from 2018 onward, the Chinese government is unlikely to give much ground on film ratings and classification, or regulators having final say over import choices and release dates.

It seems equally unlikely that Chinese regulators will want to relax their unwritten and unofficial policy of market manipulation that ensures Chinese-qualifying films (including co-productions from Hong Kong, or those with American partners, such as “Kung Fu Panda 3”) account for 60% box office share. They managed 58.3% in 2016.

“[China] could easily expand the quotas, but then use other methods such as censorship, or unfavorable release dates, to ensure that there is no change to market share,” a source close to the U.S. delegation says.

One area of possible change could be the path to market access. While China is unlikely to allow Hollywood studios to own their own Chinese distribution companies, it could allow more local entities to handle the imported titles.

If the Hollywood studios could choose their own local distributor, rather than be obliged to sub-contract through the state duopoly of CFC and Huaxia, they would see that as an opportunity to introduce competition and develop expertise. Potential distributors exist in both the public and private sectors.

To some extent this reflects the successful development of the Chinese industry behind its trade barriers. China now has home-grown corporate champions, including Wanda, Alibaba, and Huayi Bros. They are eminently capable of releasing foreign titles, and are lobbying the Chinese government to be allowed to do so.

“China’s film market is getting more open to foreign players. … We hope that the result of the U.S.-China trade talks will be reciprocally beneficial,” says James Wang, co-chief of Huayi Bros. Media, which is a partner of budding Hollywood studio STX Entertainment.

“In recent years, Chinese firms are proactively going out, seeking multiple ways of cooperation with U.S. counterparts. We take globalization as an important way of learning and growing. Our vision is to tell Chinese stories to the global audience.”

Attitudes such as Wang’s point to the two industries finding common ground, but two huge unknowns now haunt the film trade talks: the implications of 2016’s abrupt slowdown in the Chinese box office, and the arrival of an unpredictable U.S. president.

After a record-breaking Chinese New Year season in 2016, China’s box office hit the skids in May, and the succeeding weak months meant that annual revenues grew by only 4%, proving wrong those who had predicted China grosses would imminently overtake those in North America. Where China did catch up was by opening nearly 10,000 screens to hit a 40,000 total.

The ostensible cause of the box office drop was a reduction in subsidies by online ticketing firms, but other factors, including a weak crop of Chinese films, may have been at play. Many in the industry promised to heed the lessons.

But in the meantime, government regulators quietly shortened “blackout periods” and allowed the import of some 40 Hollywood titles on revenue terms, without acknowledging that they had deviated from past practice. “Perhaps that is the best way forward for both sides. Let China open up on its own terms, but don’t highlight it. Don’t be seen to antagonize,” say Asian public affairs sources at one of the Hollywood majors.

The question as to whether the Trump administration is capable of or interested in such subtlety is now keeping several industry observers awake at night.

“Logically, we don’t expect the quotas to shrink. Trump would surely prefer a free market in movies in China. From an American point of view the more exports the better,” says the public affairs exec. “Trump is more concerned by imports into the U.S. [which in film are negligible], and there is congressional concern over Chinese buying companies in the States.”

But like many others, he fears that film industry negotiations could be contaminated by other areas of contention in the U.S.-China relationship. “If Trump does something silly, China would not hesitate to put politics over commerce,” says the lobbyist.

Such “silly” measures could include the imposition of tariffs on other industries such as steel, the stirring up of territorial disputes in the South China Sea, or — one of Trump’s campaign promises — to label China a currency manipulator.

With Xi seeking to further centralize the reins of power around himself in a year when the Communist Party renews its leadership, this is a particularly sensitive time.