Without improvement, she said, the US would not hesitate to impose economic sanctions.
The report comes amid continuing tensions between Washington and Beijing over China's record trade surplus – the bulk of which is with the US - and the value of the Chinese currency, the yuan.
The trade talks that Paulson will attend, dubbed the "Strategic Economic Dialogue", are expected to focus on China's currency controls.
Paulson has tried to downplay expectations of landmark agreements from the Thursday and Friday meetings in Beijing.
Chinese officials have ruled out big changes in Beijing's currency policies, a key issue for American manufacturers, who say the yuan is undervalued.
"There are worrisome signs that China's market liberalisation efforts have slowed in the last year"
US trade representative
Despite easing the band in which the yuan is allowed to fluctuate last year, Beijing keeps the value of its currency artificially low, making its exports unfairly cheap and driving other producers out of business, Washington says.
On Monday, China's central bank chief said Beijing was prepared to give a "very positive and active response" to US concerns.
Paulson will be accompanied on his visit by Schwab and Ben Bernanke, the chairman of the US Federal Reserve.
Commenting on the forthcoming visit Schwab said China would be urged to pick up the pace of reform in line with its commitments made to the WTO.
|Rampant piracy is a serious concern for|
companies doing businesses in China
"We will clearly convey our view that a slowdown in reform hinders China's development and undermines the health of our bilateral ties," she wrote in Monday's edition of the Financial Times.
Her annual report submitted to congress said China needed to do more to tackle widespread copyright piracy and needed to work harder to eliminate policies that unfairly discriminate in favour of Chinese companies.
The report said Chinese policies continue to block US exports and hinder American financial and other service companies seeking to do business in China.
"There are worrisome signs that China's market liberalisation efforts have slowed in the last year," Schwab said in a statement released to coincide with the report.
|China has been accused of keeping its currency |
low to make its exports unfairly cheap
"With five years of WTO membership experience under its belt, we believe it is fair to expect China to be implementing the letter and spirit of its WTO obligations in full."
The US trade representative is required to submit an annual report to congress giving an update on China's progress in opening its markets to US goods, and on protecting American companies against piracy.
The Bush administration has said it would use all the tools available, including bringing cases against China before the WTO, if it does not do more to lower barriers to American exports and US companies.