International Economic Law and Policy Blog

Cross-Border Subsidies and Non-Violation Complaints

Weihuan Zhou and Victor Crochet have a new working paper called "Attribution to the State: A Critique of Cross-Border Subsidies," which combines two of my favorite issues: Cross-border subsidies and non-violation complaints. Here's the abstract:

While industrial policy and subsidies proliferate worldwide, the emergence of cross-border subsidies is intensifying legal and policy debate on how the rules of the World Trade Organization (WTO) can be applied to address the spillover effects of such subsidies. Amid this debate, this paper tackles a relatively more fundamental, yet under-explored, issue relating to attribution of state responsibility. We argue that the European Commission’s approach to attributing subsidies provided by one government to another government has overstretched the attribution rules under public international law and the WTO subsidy rules, setting a harmful precedent for similar abuses beyond subsidies. We propose non-violation claims as a viable and more balanced response to the challenges posed by cross-border subsidies. We call upon governments to retreat from unilateralism and resolve these challenges via cooperation.

After arguing that the EU approach to cross-border subsidies is not permitted, they say that non-violation claims can be useful here:

2. Developing non-violation claims

A more, and perhaps the only, sensible option is to bring non-violation claims (NVCs) pursuant to Article XXIII:1(b) of the GATT. This provision came out of the original GATT negotiations in the 1940s. It was applied and clarified by several GATT panels and was further negotiated in the Uruguay Round before it was also codified in Article 26.1 of the WTO’s Dispute Settlement Understanding (DSU).72 Article XXIII:1(b) and Article 26.1 maintain the avenue for governments to challenge measures which are not in breach of any WTO rules but which nullify or impair benefits under, or impede the attainment of objectives of the relevant covered agreement(s). It is clear from the historical development of these provisions that governments saw the importance of NVCs in addressing the issue of an incomplete GATT/WTO contract where the outcomes of tariff negotiations may be undermined by acts which were not foreseen at the time of the negotiations and hence were not captured by the GATT/WTO rulebook.73 At the same time, however, governments have resorted to NVCs with caution and generally accepted the interpretative approach taken by GATT/WTO panels to confine the application of NVCs to limited circumstances. Thus, governments brought and won NVCs only in a few disputes throughout the life of the GATT/WTO. These disputes were predominantly concerned about action taken by an importing Member subsequent to the negotiation of its tariff concessions with an exporting Member leading to the nullification or impairment of benefits (i.e. market access opportunities) derived from the concessions for the latter. 74 In Japan – Films (1998), the WTO panel summarised the legal conditions for an NVC: (1) the existence of a governmental measure, (2) a benefit accruing to the complaining Member from the relevant tariff concession or agreement, and (3) the benefit is nullified or impaired as the result of the application of the measure. 75 The panel also iterated that “the non-violation remedy should be approached with caution and should remain an exceptional remedy.”76

While GATT/WTO panels have developed restrictive interpretation of NVCs,77 we argue that their interpretation still provides room for establishing an NVC against cross-border subsidies. At a general level, there are at least three reasons for that optimistic observation. First, the legal conditions for NVCs remain unsettled. In the Uruguay Round negotiations, governments deliberately left out the conditions developed by GATT panels from the text of Article 26.1 of the DSU,78 arguably leaving the flexibility for WTO tribunals to further develop or refine these conditions. In a handful of disputes where NVCs were raised, WTO panels seem to have maintained GATT panels’ restrictive approach. 79 However, WTO panels also recognised that NVCs must be assessed on a case-by-case basis and can be applied to benefits unrelated to a tariff concession but stemmed from a WTO agreement.80 Second, a majority of the past NVCs, including the few successful ones, involved subsidy schemes, hence providing a solid precedent for applying NVCs to cross-border subsidies which as shown in Section III, are typical forms of financial contributions contemplated in the ASCM. Third, in adjudicating NVCs, GATT/WTO panels have focused on assessing whether a measure frustrated the competitive opportunities generated by tariff concessions rather than the impact on actual trade flows.81 This means that an NVC may be brought even before cross-border subsidies have caused an increase of subsidised imports into adversely affected countries.

Thus, more specifically, affected Members like the EU can argue that the cross-border subsidies provided by the Chinese government to its investors overseas have the effect of upsetting the competitive opportunity that EU producers should have enjoyed in their home market. The benefit, which must be interpreted broadly,82 comes out of the EU’s right to seek multilateral remedies or impose countervailing measures pursuant to GATT Article VI, as elaborated by the ASCM. Two complications can arise in this claim of “benefit”. One pertains to the fact that the benefit is related to the EU’s own tariff concessions. This presents an atypical situation compared to past NVCs, which consistently involved a tariff concession of a responding Member that created more favourable market access for the relevant exports of a complaining Member.83 The other complication involves the EU’s evidentiary burden to show that the Chinese subsidies were not reasonably anticipated at the time when the concessions were made,84 essentially during China’s WTO accession negotiations.

These hurdles, however, are not so difficult to overcome. A plausible argument would be that when the EU offered reciprocal tariff concessions, there was a legitimate expectation that it would have access to WTO-permissible remedies to offset the impact of subsidised imports to maintain certain degree of market opportunities for domestic industries. That China now provides harmful subsidies not captured by GATT Article VI or the ASCM nullifies or impairs the benefit that the EU should have enjoyed via these remedies. Here, it should be noted that the “adverse effects” claims under Article 5 of the ASCM would not apply as it requires the existence of a subsidy within the meaning of the ASCM in the first place.85

On the question of whether the subsidies could have been reasonably anticipated during China’s accession negotiations, the Working Party Report on the Accession of China (WPR) suggests that Members were unaware of issues related to cross-border subsidies. The discussions recorded in the WPR focussed on how the relevant economic policies, regulations, conduct of state entities, industrial subsidies may affect imports or investments into China, or how subsidised exports from China may impact trading partners.86 It follows that Chinese cross-border subsidies, which only became prominent after the launch of the BRI twelve years after China’s WTO accession, were not reasonably foreseeable by WTO Members.

Normally, I'm a non-violation skeptic, often on the basis that whatever measures were taken could have been anticipated. But here, as the authors point out, cross-border subsidies were not well known at the time of the Chinese accession negotiations, so it is plausible for a WTO Member to argue that it did not anticipate the Chinese government taking such measures in the way it did. Fleshing out the history of cross-border subsidies, in China and elsewhere, would be of great important to this claim.

Zhou and Crochet also make two other points that I want to highlight:

Not only is an NVC against cross-border subsidies viable, but it also provides a more balanced approach to tackle such subsidies for three reasons. First, a successful NVC does not require the removal of the contested measure but merely requires the disputing parties to reach a mutually satisfactory adjustment (Article 26.1(b) of the DSU). This provides the flexibility for the subsidising government to maintain the subsidies in pursuit of its policy goals and for the affected government to take action to rebalance the relevant rights and obligations under the WTO framework. Such action may involve withdrawal of tariff concessions (which would lead to an outcome similar to what a countervailing measure can achieve), compensation, or even cooperation between the parties in other areas of trade and investment. NVCs therefore provide a better avenue for the subsidising and aggrieved governments to negotiate a compromise that would work for both without causing a decision on whether the subsidies are WTO-unlawful.

... Third, compared to a violation claim, an NVC can be adjudicated more efficiently. As some have proposed in the context of using NVCs to address security-based measures, a “shortened and simplified dispute settlement procedure” can be developed to determine “nullification or impairment of benefits”, and the actual level of benefits can be agreed upon by the parties or decided by an arbitrator under Article 21.3(c) of the DSU.87 An NVC therefore can facilitate the settlement of disputes and the provision of remedies for the affected Member in a more timely fashion.

As to the resolution of successful non-violation complaints, we may not all agree on how DSU Article 26.1 is likely to work in practice, but I suspect that the first such complaint is going to lead to a good deal of confusion and controversy over how exactly things are supposed to proceed after a finding of nullification or impairment.

Relatedly, on their efficiency of adjudication point, maybe I am still scarred from my experience on the Japan - Film case, but I have doubts about whether non-violation complaints can be made significantly shorter and simpler than violation complaints. Among other factors here is that the responding party is unlikely to agree to something shorter and simpler. For obvious reasons, responding parties tend to try to drag the proceedings out, and I'm not sure why this would be any different in the non-violation context.

U.S. Subsidies vs. Chinese Subsidies / Good vs. Bad Subsidies

At a press briefing with Ambassador Tai on the announcement that the Biden administration would maintain the Section 301 tariffs on China and add tariffs on a few additional products, a reporter asked the following question regarding U.S. vs. Chinese electric vehicle subsidies:

The U.S. government is subsidizing the EV industry here pretty significantly.  How is that different from what the Chinese government is doing?

Tai responded as follows:

So, if you take a look at the Chinese economic model, what you see is a system of state support that is built to dominate and take over entire industries.  So, this is what I mean by, “We’ve seen the pattern” — steel and aluminum, solar panels, batteries, EVs. 

Today, China’s production capacity in steel is 55 percent of world capacity — that’s in one country; aluminum, 60 percent; EVs, 60 percent; solar, 80 percent; and in certain critical minerals, 85 to 95 percent.  So, those are subsidies with an aim to cornering the world market and achieving dominance and creating dependency. 

The types of support that we’re talking about here are defensive in nature.  They’re about creating the space to compete, the space to thrive, the space to survive the kind of onslaught that we are seeing across the board.

A lot of people have been trying to figure out how to distinguish good subsidies from bad subsidies. Is there something in what Tai said that can help provide the basis for doing so? Here are a couple possibilities:

• Maybe it's the intent that matters: Subsidies are a problem if they are "built to dominate and take over entire industries" or if they are provided "with an aim to cornering the world market and achieving dominance and creating dependency."
• Maybe it's the level of global capacity that is the problem (e.g. "steel is 55 percent of world capacity"): If it gets too high, that's a concern. On this point, here's something Jennifer Hillman and Chad Bown wrote a while back:

Because prohibited subsidies have both a clearer and faster remedy than merely actionable subsidies, expanding their list could add teeth to the ASCM. Currently, ASCM Article 3 limits prohibited subsidies to export subsidies or subsidies contingent on the use of domestic products over imports. If certain subsidies that are considered more trade distortive, such as those leading to substantial global overcapacity, could be defined and added to Article 3, it would strengthen the ASCM.

•  Maybe if they are "defensive in nature" it's OK, i.e., if they are provided in response to other governments' subsidies.

Could these factors be used in evaluating whether subsidies are good or bad? I've also heard people suggest that the real problem is "pervasive" subsides, so maybe the amount of subsidies should be considered as well. It would be interesting to see WTO Members discuss all this. 

At the same time, I would note that the existing SCM Agreement "adverse effects" rules -- along with the narrower prohibited subsidies rules of course -- might also be a good way to distinguish between good and bad subsidies. These rules provide a remedy based on the effect that subsidies have on foreign competitors. In a sense, the rules give Members a way to play defense when they are harmed by another government's subsidies.

If the goal here is to discipline subsidies, maybe it's worth using the WTO's adverse effects rules more. We can then see if there are still gaps that need to be filled in with additional rules.

It may take a while, but ultimately I think we will need to settle on some international rules in this area that everyone can live with. Otherwise the negative economic impact of unilateral trade retaliation and subsidy races is going to keep growing and become a serious problem.

What Would Joe Stiglitz Do about WTO Subsidies Rules?

In a recent Foreign Policy piece, economist Joe Stiglitz makes several references to WTO rules "forbidding" industrial subsidies:

The current moment is a good illustration. It is the product of longstanding beliefs and power relations. Under this system, industrial subsidies were a no-no, forbidden (so it was thought) not just by World Trade Organization rules, but also by the dictates of what was considered sound economics. 

...

... there is no global government to ensure that the powerful countries obey an agreement, as we are seeing today in the case of U.S. industrial subsidies. The World Trade Organization (WTO) generally forbids such subsidies and especially disapproves of some of the provisions—such as requiring domestic manufacturing (“Made in America”)—in legislation passed recently by the U.S. Congress, including the CHIPS and Science Act.

...

The neoliberal rules forbidding subsidies effectively meant that developing countries couldn’t catch up to the advanced countries; the rules condemned them to being commodity producers, reserving the higher value-added production for the advanced countries.

These statements leave me with some questions about how those who criticize "neoliberalism" (as Stiglitz regularly does) want to change international rules on subsidies.

As this blog's readers will know, Stiglitz's explanation of WTO rules on subsidies is a bit off. Yes, those rules "especially disapprove of" the domestic content requirements that were included in some recent U.S. subsidies legislation (and similarly disapprove of export subsidies). But no, the WTO doesn't "generally forbid" industrial subsidies. Instead, these subsidies can be subject to a WTO complaint in specific circumstances (if they cause "adverse effects" to other WTO Members). There haven't been very many of these adverse effects complaints, and the ones that have been brought haven't had much impact (I would say this is because of the particular cases that were chosen, rather than a fundamental flaw in the rules). Thus, in practice, industrial subsidies haven't been constrained much by the WTO's adverse effects rules, and there have been plenty of these subsidies over the past few decades by governments who could afford to provide them (which gave their industries an advantage over the poorer countries who couldn't afford them).

The other big thing the WTO does on subsidies is allow governments to impose countervailing duties when they find that subsidized imports from other countries have injured their domestic industry. However, the WTO also imposes certain constraints on the use of these countervailing duties. It's not clear to me what critics such as Stiglitz, who seem to want more leeway for governments to provide subsidies, think of either countervailing duties or the WTO rules that constrain them.

With all that in mind, my questions for Stiglitz, or anyone else with similar views who wants to respond, are:

• Do you want to eliminate the WTO rules (SCM Agreement Articles 3 and 4) that prohibit domestic content and export subsidies? (And relatedly, do you want to amend GATT Article III:4 so that it does not prohibit domestic content requirements)?
• Do you want to eliminate or modify the WTO rules (SCM Agreement Articles 5, 6 and 7) that provide a remedy for subsidies that cause adverse effects? If you want to modify them, in what way?
• What is your view of governments using countervailing duties as a response to foreign government subsidies? And what do you think of the WTO rules that constrain the use of those duties?

Overcapacity and future discussions in the SCM Committee.

Finbarr Bermingham reported on Wednesday, April 23, 2024, that in the recent SCM Committee meeting, there were ‘sharp’ exchanges between the US and China related to Chinese ‘overcapacity’ in key sectors owing to subsidies. China objects to the term ‘overcapacity,’ arguing that there is no clear definition within the WTO treaty architecture. Some of the US’s (and other members’) concerns at the SCM Committee stem from a related problem: WTO members lack information about the extent of Chinese industrial subsidies, making it difficult to know which elements of so-called overcapacity issues require closer inspection and governance. For China, overcapacity is a cloak for concerns with domestic competitiveness and ‘an excuse for protectionism.’

Is the absence of consensus on the legal requirements of ‘overcapacity’ a problem for WTO members seeking to address Chinese policies? I’d argue no. In fact, there’s a long history of trading partners working through government interventions through the GATT’s nullification and impairment clause.

According to the Rhodium Group, '[t]he simplest and most widely accepted definition of overcapacity is when factories’ production capacity is under-utilized.' This has a knock-on effect on global markets. When domestic production capacity far exceeds demand, firms lower their prices and search for foreign markets for their excess capacity. In 2015, the OECD reviewed growing imbalances in steelmaking. The OECD noted that the problem of growing imbalances stemmed from both the extent of and variety of government interventions that distort markets, including government subsidies, foreign investment controls and administrative hurdles that limit entry of new steel facilities.

In addressing China’s continued subsidies, Simon proposes members bring adverse effects cases to the WTO, citing the key parts of Article 5.

    Article 5: Adverse Effects

    No Member should cause, through the use of any subsidy referred to in paragraphs 1 and 2 of Article 1, adverse effects to the interests of other Members, i.e.:

    (a) injury to the domestic industry of another Member11;

    (b) nullification or impairment of benefits accruing directly or indirectly to other Members under GATT 1994 in particular the benefits of concessions bound under Article II of GATT 1994¹²;

    (c) serious prejudice to the interests of another Member.13

    ----------------------------------------------------------------------------------------

    11The term "injury to the domestic industry" is used here in the same sense as it is used in Part V.

    12The term "nullification or impairment" is used in this Agreement in the same sense as it is used in the relevant provisions of GATT 1994, and the existence of such nullification or impairment shall be established in accordance with the practice of application of these provisions.

    13The term "serious prejudice to the interests of another Member" is used in this Agreement in the same sense as it is used in paragraph 1 of Article XVI of GATT 1994, and includes threat of serious prejudice.

Article 5(b) addresses nullification or impairment of benefits, with a note that connects this term to the relevant ‘practice of application’ of the GATT provisions.

As many of you know, the non-violation nullification and impairment clause enables members to deal with contract incompleteness - government measures not covered by any WTO agreement (see also Horn, Maggi, and Staiger (2010) and Hudec 1990 and 1993). As Alan Sykes and Robert Staiger (2013) observe, the clause played a critical role in facilitating the ‘shallow integration’ approach that the GATT adopted – a non-violation claim creates a legal right for a complainant to receive compensation, in response to which the responding member can either pay or remove the measure in question, eliminating the nullification or impairment of the complainant’s benefits. The origins of the nullification and impairment clause stemmed from interwar trade negotiations concerning a formula of equitable treatment for trade agreements. In the League of Nations’ economic work, an American negotiator proposed ‘nullification or impairment’ language for future trade agreements that recognised that when it came to uncertain or indirect forms of administrative protectionism, governments needed a formal right to address frustrations with anticipated commercial benefits of negotiations. Robert Hudec reflected on the GATT concept of ‘nullification or impairment’ from this history, noting that it provides ‘equitable remedies for trade injuries not involving a breach of legal obligations.’

The main purpose of the GATT is to facilitate a balanced exchange of tariff reductions, along with requiring all contracting parties (now WTO members) to act in a manner consistent with the principle of non-discrimination. However, if a government must act in a way that distorts markets, the GATT includes commitments that a government consider concepts of fairness and equitableness when participating in global markets. For example, Article XVI:3 of the GATT 1994 evolved into prohibiting export subsidies within the SCM Agreement. However, at its root, the contracting parties ‘seek to avoid’ export subsidies (on primary products). When a government does ‘directly or indirectly’ subsidise exports, the subsidising government cannot receive ‘more than an equitable share of world export trade.’  (Aside: as per Ad Article XVI:B.2, a “primary product” was vital to development and understood to be any product of farm, forest, fishery, or any mineral). Another reference is found in Article XX(j) of the GATT, whereby if members purchase products that are globally in short supply, that member must remain consistent with the principle that all members ‘are entitled to an equitable share of the international supply of such products.’

I do not want to mask the causality problems involved with the ‘equitable’ language. In 1982, Colin Phegan wrote about the political sensitivity captured by GATT XVI:3, raising questions about the disciplining of ‘equitable sharing’, such as the threshold by which a country’s share in global markets becomes ‘inequitable’ or demonstrating causality between a subsidy and the increase in the share of global export trade.

But I do want to suggest that, where there are concerns about overcapacity, it seems entirely possible for the US and other members to bring an adverse effects case and seek non-violation nullification and impairment remedies, resting on the idea that when a government’s subsidies create global imbalances, there is a legal foothold to question whether the situation is equitable, even drawing parallels to the early consideration of export subsidies for taking ‘more than an equitable share of world export trade.’ Could this apply to domestic surplus across many industrial sectors? Perhaps not. Yet it seems that the multilateral trading system did embed these principles into the GATT knowing that state trading economies existed and would trade in global markets, explaining why we have non-violation cases and references to commitments that such state trading economies accord to the trade of other members’ fair and equitable treatment. At the very least, raising the concept in a non-violation nullification and impairment case seems a starting point for WTO engagement.

Whether this could work in the current state of WTO dispute settlement remains crucial. At the bare minimum, it may be time to examine the origins of these subsidy commitments and consider whether the EU, US, and other members have legal footing to open a discussion in the SCM Committee.

Subsidies, Overcapacity, and Domestic Demand/Savings

There has been a lot of discussion recently about how Chinese subsidies and other government support has led to industrial overcapacity, which can have a negative impact on the manufacturing sector of other economies. If domestic supply exceeds domestic demand, the Chinese-made products that won't be sold in the domestic market will be exported, and foreign producers have trouble competing with these Chinese products.

If I understand their argument correctly, some people attribute this situation largely to government policies that cause weak demand and excess savings in China, with these factors leading directly to the subsidized manufacturing. And it seems as though these people believe a key part of the solution is that China should stimulate domestic demand so that its consumers buy more of the Chinese production.

Finance professor Michael Pettis is leading the charge on this. As he recently put it: "In [persistent surplus economies such as China], weak domestic demand is simply the flip side of policies that result in manufacturing competitiveness. The manufacturing sector is subsidized directly or indirectly by households, which leaves them more competitive and leaves households less able to purchase a substantial share of what they produce."

Others who may be on board with this view are Treasury Secretary Janet Yellen, who recently said this: "I am particularly worried about how China’s enduring macroeconomic imbalances—namely its weak household consumption and business overinvestment, aggravated by large-scale government support in specific industrial sectors—will lead to significant risk to workers and businesses in the United States and the rest of the world. China has long had excess savings, but investment in the real estate sector and government-funded infrastructure had absorbed much of it. Now, we are seeing an increase in business investment in a number of 'new' industries targeted by the PRC’s industrial policy. That includes electric vehicles, lithium-ion batteries, and solar." Along the same lines, Yellen said the following in response to a question at a press conference on what could be done about Chinese overcapacity:

Well, there's supply and then there's also demand. And so we've had conversations with our Chinese counterparts about the demand side of the equation and the fact that China's saving rate is among the highest in the world, and even at this advanced stage of development remains close to 45%. The flip side of a very high saving rate is that consumer spending as a share of GDP is quite low in China relative to other countries at this level of income. So one possible approach would be to boost demand and to see a larger share of GDP accrue to households to bolster their income, or and/or to, for example, bolster retirement security, the ability to afford education for one's children and so forth, which are motives for very high saving, and call that rebalancing. And this is a matter that we have discussed over more than a decade in China and I too have talked to many officials and members of the academic community who think that that needs to be part of the solution. If consumer spending were higher as a share of GDP, there would be less need to have such large investment going into building supply.

While I agree that subsidies and overcapacity can lead to trade conflict, I have doubts about the focus on levels of domestic demand and savings. In particular, I'm skeptical that demand and savings are the most important factors here, and that the solution is for governments to try to influence these factors so as to address the trade problems. As I see it, governments pursue the fiscal and other domestic economic policies that affect demand and savings mainly for domestic political reasons, and while trade might be affected by these policies to a degree, the trade impact is not a significant part of the policy calculation. As a result, even if the trade impact is pointed out by affected countries, the governments pursuing these policies are not likely to make major adjustments. Yes, high or low savings levels can affect trade balances where national economies diverge in these areas, but governments see these as domestic choices that are mostly decided based on national politics. International coordination here is difficult and rare.

As support for the view that domestic demand and savings levels are not the main factors driving overcapacity and the resulting exports, let's look at another example of subsidies that support production which exceeds domestic demand. (And just to be clear, I know it's not a perfect parallel in terms of the nature and amount of the subsidies, but nevertheless I think it illustrates the point.) In the U.S., an area in which we have long seen a high level of subsidies is agriculture. This has led to the U.S. having significant "overcapacity" in certain agricultural products, in the sense that we produce more at home than we can sell here. Just like with Chinese industrial subsidies, U.S. agriculture subsidies support capacity that outpaces domestic demand. And as with Chinese manufacturing of electric vehicles, lithium-ion batteries, and solar products, here we see domestic subsidies going to a sector for which a significant amount will be exported. 

Notably, it's pretty clear that U.S. demand is not being repressed, either in general or in agriculture; I don't think anyone would say that the U.S. government is taking actions to limit the demand of U.S. consumers. And foreign economies that are affected by the U.S. exports don't call on the U.S. government to stimulate internal U.S. demand for these products in order to deal with the trade effects they experience.

And on savings, no one is accusing the U.S. of having excess savings.

The lesson I take from this is that you can have sectoral overcapacity and spillovers into global markets even without weak demand or excess savings, and this supports the view that domestic demand and savings are not the right focus when addressing overcapacity issues. Instead, the overcapacity causes that need to be addressed are on the supply side: Governments subsidize and otherwise support domestic industries for political reasons, leading to more supply than domestic demand can handle.

Fortunately, if you want to deal with the trade effects of subsidies and other governmental support, we have international tools that could be used here (with the caveat, of course, that international rules can’t solve every trade conflict). Thus, rather than calling on China to increase demand or reduce savings, it would be more productive for the U.S. to use these tools to push China to scale back the subsidies and other government support. 

One response might be that the Chinese subsidies for domestic manufacturing are intended to support jobs, and the Chinese government (at various levels) sees that as crucial for maintaining citizens' support. Failed companies and bankruptcies would not be well received, and therefore trying to address demand/savings issue is the easier course. I understand the difficulties here, but at the same time the trading system imposes obligations that China and everyone else has agreed to live up to. Practically speaking, you are free to ignore those obligation, but if challenged successfully you will have to offer compensation or accept retaliation. And with regard to the people affected if the subsidies were eliminated, there are lots of options to help them that don't violate trade obligations.

As to the demand and savings issues, to me these seem harder to address. What is the "right" level of demand or savings? Do the Chinese consume too little and save too much? Do Americans consume too much and save too little? I'm not sure there are definitive answers to these questions. Domestic policy choices on these issues vary, both by country and over time. Policies are decided by internal debates, and are constantly evolving based on the party in power and the mood of the country. They reflect deep-seated cultural attitudes as well. That makes it difficult to address these issues through international governance and coordination, with coordination a particularly daunting task between China and the U.S. at the moment. As a result, I'm skeptical that either side is going to convince the other one to change much on these issues.

Is Section 301 the Right Remedy for Chinese Shipbuilding Subsidies?

In the Section 301 petition recently filed by a group of unions, the petitioners argued that "Section 301 provides an appropriate mechanism for addressing China’s policies in the maritime, logistics, and shipbuilding sector." They offer three reasons for this:

First, traditional trade remedies are not available to address China’s unfair trade practices in this area, as the vast majority of ships produced in China are used in international commerce, and never imported into the United States. Second, the statute gives the United States Trade Representative (“USTR”) the power not only to impose tariffs, but also to impose fees and other restrictions, as well as take all other appropriate and feasible action within the power of the President. Third, Congress explicitly recognized that, by definition, support for the construction of foreign vessels used in international trade burdens or restricts U.S. commerce and thus is a proper target for action under Section 301.

I want to focus on the first reason, which is that "traditional trade remedies are not available." I agree that these remedies are not going to be of much use here because of the limited Chinese imports, but as I argued recently, even if there were lots of Chinese imports, there are better remedies available if your goal is "to address China’s unfair trade practices." Countervailing duties involve unilateral judgments that aren't likely to change the behavior of the government providing the subsidies, which limits the impact they will have. By contrast, in an Article 5 "adverse effects" complaint at the WTO, you could get a ruling that would be seen as objective and therefore would be more likely to have an impact on the Chinese practices. (Obviously I'm not going to offer a guarantee of Chinese compliance here; I'm just talking about probabilities.)

Recall that Article 5 provides for complaints against subsidies that cause the following adverse effects:

Article 5: Adverse Effects

No Member should cause, through the use of any subsidy referred to in paragraphs 1 and 2 of Article 1, adverse effects to the interests of other Members, i.e.:

(a) injury to the domestic industry of another Member¹¹;

(b) nullification or impairment of benefits accruing directly or indirectly to other Members under GATT 1994 in particular the benefits of concessions bound under Article II of GATT 1994¹²;

(c) serious prejudice to the interests of another Member.¹³

_{----------------------------------------------------------------------------------------}

_{11The term "injury to the domestic industry" is used here in the same sense as it is used in Part V.
12The term "nullification or impairment" is used in this Agreement in the same sense as it is used in the relevant provisions of GATT 1994, and the existence of such nullification or impairment shall be established in accordance with the practice of application of these provisions.
13The term "serious prejudice to the interests of another Member" is used in this Agreement in the same sense as it is used in paragraph 1 of Article XVI of GATT 1994, and includes threat of serious prejudice.}

Importantly, with Article 5, the WTO remedy can be broader than just imposing tariffs on the subsidized imports, as would happen with CVDs. This gives the complaining government a greater ability to induce changes to the subsidy measures.

In addition, to quote a friend of mine, "CVDs can deal with one destination market only, namely that of the CVD imposing country. Adverse effects can be established additionally in the market of the subsidising country and the markets of other countries, i.e. every market where the products compete."

It doesn't feel like USTR is in the mood to bring WTO complaints these days, but nevertheless I think that if the goal is to induce a change in China's practices, this option is worth considering. (And for what it's worth, the petition does mention this explicitly as a goal when discussing the possible remedies, with one remedy being: "(1) a fee on vessels built in China that dock at U.S. ports to offset China’s unfair practices and create an incentive to eliminate those practices.")

Conversations at WTO Ministerial Side Events: Subsidy Races and Trade Remedies

As part of the WTO Ministerial Conference last week, there were some side events going on. I was watching one called "Business Forum at MC13" and came across some interesting discussion of subsidy races and trade remedies.

The question that kicked off the subsidy race discussion was about the government help going to the semiconductor industry around the world, asking basically, if there is a subsidy race going on, don't all the subsidies cancel each other out to an extent. John Neuffer, President and CEO of the Semiconductor Industry Association (SIA), responded as follows:

I'll just speak for the US chip industry. So our federal government was not in the subsidy race for decades. As a result, 1990, US manufactured about 40% of the world's chips, 37%. And now it's about 10 or 12%. And the overriding reason for that is that it's 25 to 50% more expensive to build a fab or a semiconductor manufacturing facility in the US than it is in other countries, depending on which country you're comparing it to. And the biggest reason for that is that other countries, other competitors around the world, were in the subsidies race, and we were standing on the start line looking down the field, kind of scratching our navels saying what's going on here.

So while some call this a race to the bottom, at least now we're in the race as a country, because if the status quo continued, we would be even in further decline with our manufacturing on shore. So we're not trying to -- our government, I won't speak for the government -- but I'll just say, we're not trying to bring it all on shore, that's insane. We want more robust supply chains around the world that support our industry. We just need to reduce our vulnerability. So that's what's going on. And the harsh political reality is that as long as our competitors around the world are providing subsidies, our federal government needs to do it as well.

Now if everyone can agree to knock it off and say let's be done with that, then that's okay. But we got to get on some kind of level playing field. And that's what we were not in the US enjoying, and that's why the Chips and Science Act is so important.

I feel like there's a decent, although perhaps not perfect, steroids analogy here. The first person to take steroids gets an advantage over his/her competitors (while also causing long-term health damage of course). Then others jump in and start taking steroids in order to catch up with the first mover, and in the end, they are all back to where they started in terms of competitiveness, but at a significant cost. Along the same lines, if everyone is giving subsidies, who wins here? Neuffer suggested that perhaps everyone could agree to "knock off" the chips subsidies. Is that possible? Would that put us in the best place in terms of fair competition and an amount of U.S. production that would make people feel secure?

If everyone doesn't knock it off, what kinds of trade frictions will result? That leads me to the next item, which was Brazilian Foreign Trade Secretary Tatiana Prazeres talking about possible trade remedy responses to subsidies:

Another issue that I think is relevant, I mean, the elephant's been in the room and we need to talk about it, is the participation of the state in the economy. So the African group, for example, has put forward a proposal about policy space. There's a lot of talk about green subsidies. So for a country like Brazil, who wants to pursue an industrial policy, who wants to "new industrialize" if you want, the challenges are many, right. So if we see a subsidy race that is going on at the global level, for a country like Brazil that does not have the deep pockets of other countries, the challenge is how do you deal with that? There's a lot of conversation about this, green subsidies, subsidies race, etc. But for countries who don't have the same resources, what I fear is that we'll see a race towards trade remedies. And I'm in charge of trade remedies in Brazil, and I can tell you, it's coming. The wave is coming. Very often private sector comes to us, saying look at what country X is doing, economy Y is doing, etc., and what are you doing, right? And it's been very challenging to deal with the current economic circumstances, current views on trade policy, on industrial policy, on the role of the state in the economy, and we need to have a serious conversation about that in the WTO. Also taking into account different levels of development. I don't know the end result of this conversation, but we just cannot pretend it's not there.

These statements leave me with two questions.

First, what is the expectation or hope of subsidy supporters with regard to the use of trade remedies as a response to subsidies? I've asked this in various places, but for the most part have not gotten a clear answer.

Second, for those on the progressive left in the U.S. who have been pushing for this subsidy race, I'm curious what their view is of the impact on developing countries. So far I haven't heard concerns about this acknowledged by the progressives who have a say in making these policies, although some progressives who are on the outside do seem worried.

WTO Adverse Effects Complaints vs. Domestic CVD Cases

Subsidies have been in the news a lot recently, as China's subsidies continue to cause concerns, and the Biden administration and others are now increasing their own use of subsidies. In trade policy, the reaction to foreign subsidies tends to be an anti-subsidy (aka, countervailing duty) case carried out by a domestic agency, either at the request of a domestic actor or initiated by the government itself. Based on what I come across in the general political debate, it seems like many people assume that this is the most effective approach to dealing with the economic harm caused by subsidies.

But how well do domestic countervailing duties deal with the underlying problems caused by subsidies? From what I can tell, not that well, for a couple reasons.

First, domestic CVD actions are generally seen by their targets as biased and protectionist. As a result, the subsidizing government mostly just complains about the unfairness of being targeted in this way, and rarely -- at least as far as I know, although please feel free to point me to evidence to the contrary -- makes change to its subsidy measures as a response to the CVD action. It may even retaliate against the CVDs with trade restrictions of its own.

Second, while the duties imposed on the basis of the CVD investigation may provide a bit of help to the domestic industry that is experiencing the injury, the overall global market remains distorted -- because, as noted, the subsidies tend to continue -- possibly causing injury to the domestic industry on sales in foreign markets, and also continuing to cause injury to industries in other countries.

Thus, when you use CVDs, what you end up with is continued subsidies and tariffs added on top of the subsidies, which is a system that mostly favors well-connected established companies over new entrants, and limits competition.

With these inherent flaws in the CVD approach to dealing with subsidies, it may be worth considering another option: "Adverse effects" complaints brought at the WTO. (And let me note here that while the WTO dispute settlement system is having problems at the moment, it works for Members who are parties to the MPIA, and China, the main target of complaints about subsidy use, is a party. And let me further note that it would be great if the ongoing DS reform effort succeeded and the rules worked for everyone!)

Adverse effects cases have some overlap with domestic CVD actions in terms of the subsidy effect that is targeted, although there are additional bases on which these cases can brought. Here's the key part of SCM Agreement Article 5:

Article 5: Adverse Effects

No Member should cause, through the use of any subsidy referred to in paragraphs 1 and 2 of Article 1, adverse effects to the interests of other Members, i.e.:

(a) injury to the domestic industry of another Member¹¹;

(b) nullification or impairment of benefits accruing directly or indirectly to other Members under GATT 1994 in particular the benefits of concessions bound under Article II of GATT 1994¹²;

(c) serious prejudice to the interests of another Member.¹³

_{----------------------------------------------------------------------------------------}

_{11The term "injury to the domestic industry" is used here in the same sense as it is used in Part V.
12The term "nullification or impairment" is used in this Agreement in the same sense as it is used in the relevant provisions of GATT 1994, and the existence of such nullification or impairment shall be established in accordance with the practice of application of these provisions.
13The term "serious prejudice to the interests of another Member" is used in this Agreement in the same sense as it is used in paragraph 1 of Article XVI of GATT 1994, and includes threat of serious prejudice.}

Serious prejudice is then elaborated in Article 6.

For the purposes of my argument here, there are two crucial difference between adverse effects cases brought at the WTO and domestic CVD cases:

• Adverse effects cases are decided by a neutral adjudicator, so the subsidizing government can't characterize them as biased and protectionist.
• The WTO remedy can be broader than just imposing tariffs on the subsidized imports. This gives the complaining government a greater ability to induce changes to the subsidy measures, as the remedy can go beyond simply imposing tariffs on the product in question when imported into the domestic market.

Now, there's an obvious reason why domestic industries and governments like CVDs: They want the government to make these determinations itself, so as to get a quick and favorable outcome, and a remedy that helps with the basic problem of import competition in the domestic market. However, when you see how subsidies and their distortions remain in place despite the increasing use of CVDs over the years, it may be worth thinking about adverse effects cases as an alternative. There have been a handful of these cases (including the large civil aircraft cases, but those were not ideal for various reasons, as well as U.S. - Cotton and a couple others), but the option hasn't been explored as much as it could be. If the CVD approach isn't working, maybe it's worth giving something else a try.

Chip Subsidies, Exports, and CVDs

Subsidies are a big part of the Biden administration's economic policy, with a variety of types available. Some go directly to producers, while others are in the form of tax credits for consumers on their purchases of goods. How much is being spent? For semiconductor subsidies, which as I understand it go to the producers, the White House says: "[t]he CHIPS and Science Act provides $52.7 billion for American semiconductor research, development, manufacturing, and workforce development."

As a small example of what they have in mind, in December the White House announced that "the U.S. Department of Commerce and BAE Systems Electronic Systems, a business unit of BAE Systems, Inc., have signed a non-binding preliminary memorandum of terms (PMT) to provide approximately $35 million in federal incentives under the CHIPS and Science Act to support the modernization of the company’s Microelectronics Center, a mature-node production facility in Nashua, New Hampshire. The project will replace aging tools and quadruple the production of chips necessary for critical defense programs including the F-35 fighter jet program."

Subsidies are not exactly new, with agriculture subsidies having been around for decades in various forms, and state/local location incentives and federal defense spending commonly used for certain manufacturing industries. But with more industries covered, and new forms of subsidies being offered, we are seeing an increase in U.S. government subsidies.

One thing I wonder about in relation to this rise is what U.S. subsidy supporters expect in terms of a foreign response. If goods benefitting from the subsidies are exported to countries with competing industries, I would think there is a strong possibility of CVD cases being brought against these exports. As a result, here are some questions I have: Do proponents of these subsidies worry about this? Do they think CVDs imposed by foreign governments are an appropriate response and they are fine with it? Or do they have plans to fight against it? Do they not anticipate an increase in exports? Or do they figure that most exports will go to places without a competing domestic industry so CVDs won't have much of an impact?

In the New Hampshire example noted above, Commerce Secretary Gina Raimondo said:  "America invented semiconductors. We used to lead the world in manufacturing them. ... Producing those chips at home is fundamental to our national and economic security." It's clear that the Biden administration wants more chips, and more advanced chips, produced in the U.S. But what's not clear to me is whether they expect these chips to mostly just supply U.S. defense needs (Raimondo said: "I am excited to be here for our first CHIPS announcement, which highlights how central semiconductors are to our national defense"), or whether these subsidized chips will be sold around the world.

Currently, there appears to be a significant amount of U.S. chip exports. The Semiconductor Industry Association says that: "The United States exported $61.1 billion in semiconductors in 2022 and maintains a consistent trade surplus in semiconductors." Those exports don't seem to have triggered a trade remedy response so far. (The Commerce Department's page with a list of foreign trade remedies imposed on U.S. producers is here.) Could that change with $52.7 billion given to companies in the sector?

The Meaning of Economic (In)Security.

I posted a new working paper drawn from years of archival research that disrupts contentions that Cold War-era trade institutions fail to offer stability or predictability in the global economy due to advanced economies’ economic security strategies. The history is rich and exciting, and a future post may offer a summation of my redescription of the making of the postwar global economic order and its early tests with the elevated tensions between the Soviet bloc and Western free-market countries. Such historical analyses show a delicate sensitivity to state insecurities with trade multilateralism and reveal how such interferences were core to this system, not acts of violation or evidence of its impotence.

But I want to stick to the present. The WTO need not face its death just because governments are reimagining global economic integration. Instead, policymakers should move away from questions about the reviewability of the security exceptions and break down questions of self-sufficiency, conservation, and defeating foreign economic competitors within the multilateral trading system.

Economic security may be the paper that covers rock. It is far broader, abandoning any notion that economics and security are antinomies. Nor does it demand governments dwell on legal assessments between what is a rule and what is an exception in WTO terms. In the face of rising unilateral trade actions, the WTO defined ‘economic security’ as ‘resilience’ and ‘the ability of a system, including households, firms, and governments, to prevent and prepare for, cope with, and recover from shocks.’ The emphasis on prevention and preparation collapses notions of wartime, peacetime, or the transition period in between. No longer compartmentalised by ‘exceptional’ times, economic security stretches how security interacts with trade policy. States that refer to economic security emphasise ongoing evaluation and management of economic action in the highly integrated global economy, whether it is firms’ market power, technology transfers through foreign investments, or even classic efficiency gains from trade. The legal consequences of sustained economic security trade actions for the multilateral trading system remain unknown. However, any member may challenge the legality of ongoing strategies based on benefits being ‘nullified or impaired.’

I have developed a conceptual framework for economic security based on my historical assessment. I divide economic security into four buckets: two short-term and two long-term categories.

Short-term (ST): urgent, temporary responses to known threats that do not seek to alter existing markets.	Long-term (LT): preparedness and potential of unforeseen contingency; responses suggest governments do not take market structure as given.
ST1: Re-arming Trade restrictions related to ‘hardcore’ military interests, such as arms, ammunition, and implements of war.	LT1: Self-sufficiency Trade restrictions to develop the resiliency of a domestic economy. Lt1A: Domestic productivity (inward) Lt1B: Trade diversification; Multiple supply sources (outward)
ST2: Insecure Supply Trade restrictions related to an urgent event that demands a temporary workaround to address essential short-supply issues.	LT2: Breaking and Re-making Markets. Trade restrictions to weaken/slow economic opponents or to prevent a state (or its firms) from dominating the design, production, distribution, or trade of critical materials. LT2 measures aim to break and structure global markets, requiring future planning that can engage LT1 and ST2 measures to rebuild market structures or supply chains.

Some buckets fit neatly within existing institutional structures and rules. However, one bucket does not. Long-term economic security strategies of members that resolve to break and remake global markets are – at the roots – about members reacting to another member’s success within the globalised economy. Rather than complain to reverse restrictions, amend arbitrary or unjustifiably discriminatory practices, or countervail unfair trade practices, this long-term strategy focuses on powerful members remaking the markets that drastically reduce that member’s capacity. Underlying this bucket is the idea that long-standing economic competitiveness justifies severing supply chains – a deliberate, permanent choice to eliminate MFN treatment to another member. Members further pull these long-term actions outside the conventional ‘legal’ world into ‘non-law’ purgatory to escape an MFN violation. I use the word choice of purgatory deliberately, signalling a gap in WTO institutions. Within the paper, I identify these actions as LT2.

Members need not respond to a present threat when invoking economic security within this LT2 bucket. Governments emphasise the potential for unforeseen contingencies and speak to government anticipation of circumstances giving rise to economic security concerns. It speaks to state intervention for broad preparedness and potential, tethered to states’ dynamic views of economic security. Some explanations are the monopolisation of strategic markets or their contribution to excess global capacity, which impairs other states’ markets. Governments may push this further to assert that another state has a monopoly on production due to the exploitative activities of a dominant firm. As an example, the United States’ sweeping measures to bolster its competitiveness with China follow a political logic that views China as a ‘challenge to the international order’ and a significant threat to international rights and the goal of advancing democracy globally. Beyond the obligation to invoke security according to a member’s good faith obligations, there is nothing within WTO rules and institutions to effectively manage actions that thrust WTO commitments into purgatory. As LT2 strains the MFN principle, its crucial WTO members supplement the gap with other norms and principles to structure their actions and coordinate trade within the global economy. In other words, simply raising security exceptions leaves too much government policy as ‘untouchable.’

Within the paper, I detail an early experiment with international government coordination on the short supply of critical materials. Within the bounds of infant institutions for the multilateral trading system, the ‘free world’ economies used the Korean invasion in 1950 to drive what one official described as a temporary, urgent ‘super-government cartel’ for critical supply chains. Inbuilt into the newly established global economic order was an inherent contradiction regarding the permissiveness of state interferences in producing and trading goods. Rather than break the MFN norm and exist in violation of the GATT, the US-led ‘free world’ controlled the supply of materials informally, collectively, and under the principle of equitable allocation. A shared interest in critical materials for defence facilitated this contradiction, giving states a temporary legal foothold in the loosely held-together rules-based trading system. Equitable allocation would develop a double meaning for “free world” economic policymaking: it promised these countries a voice on distribution and interlocked production to US military preparedness. Although the GATT would reconstitute a global economy rooted in international legal structures, informal structures embedded within US military demands divided the global economy, too.

Where does this leave us? For one, WTO members can reimagine the idea of equitable allocation as the contrary force to equality of treatment (already captured within the existing WTO agreements). One pathway I found convincing was the work of green economy collaboration by Emma Aisbett and her co-authors that emphasise mutuality and conservation to dictate the contours of state intervention – a dramatic reorientation from US militarism.

At first glance, it might seem the notion of equitable allocation is alarmingly unhelpful (and if one looks over the bridge to the investment law world, there are many precedents to support issues with equitable treatment). However, I argue that international norms ground institutions and there is an apparent absence of norms settling relations when one speaks of LT2. Consider it this way: current dispute settlement reports where one member has invoked GATT Article XXI reveal only one key finding – the relations between the members must be near or at complete breakdown. There is, thus, nothing to help members come back from deterioration. Ungoverned, LT2 actions may only encourage governments to act alone and deny economic globalisation.  If WTO members reimagine globalisation, as perhaps towards global public goods and mitigating climate change, they must have the legal infrastructure to do so.

I’ll be brief here, but another potential pathway is to evolve the economic underpinnings of the multilateral trading system and establish dynamic, collective governance on materials that speak to the global challenges many members need to prioritise (in addition to their domestic interests!). To shift LT2 actions away from unilateral actions focusing on abuse and coercive practices, members may coordinate on select materials or goods they conclude no single member may dominate global capacities. An involved new form of governance entails negotiating new schedules and submitting to warning mechanisms that effectively let WTO members prepare for and manage supply chain dominance (as they define it). This entails significant reimagining of transparency and notification requirements and greater demands for providing reasons for, among other things, domestic capacity targets and purchasing powers on a rolling basis.

Many developing countries understand economic integration as vital to their economic security because of the role of trade in reducing extreme poverty and inequality. Even if the economic security strategies do not threaten the foundations of the system, efforts to shift multilateral trade governance to a new agenda set by industrialised economy members’ economic security strategies fail to address what Sylvia Ostry described as developing countries' ‘unfinished business of past negotiations.’ Just as there is a concern among advanced economies that existing legal structures are blind to the risks of economic integration, unilateral actions in response to these risks threaten developing countries’ growth capabilities, with risks of fractured global value chains and increased trade costs, particularly in agriculture and services. In this sense, the normative power of economic security strategies chokes the deliberative functions of the WTO.

The WTO remains an important forum for all governments to connect and deliberate on the supply of goods and services. Yet, WTO members must take great care in recommending ‘better’ management as the solution without a robust and clear articulation of the problem. Focusing on a solution to chase a problem fails to match the institutional form to the problem institutions are meant to address. Members must first articulate what domestic economic security policies aim to do, what (and whom) they protect, and what international coordination should achieve.

How To Design a Subsidy Rule Carveout for Carbon Reduction Measures

Jennifer Hillman and Inu Manak have a new paper out called "Rethinking International Rules on Subsidies." In a nutshell, they argue that all the new subsidies being thrown around are likely to create difficulties in international economic relations, and some revised rules might help with that. One key aspect of their paper is figuring out how to distinguish "good" and "bad" subsidies, and making clear that certain "good" subsidies are permitted under the rules. For example, subsidies that "genuinely contribute to fighting climate change," such as "subsidies for renewable energy, carbon capture and sequestration, electric vehicles, and clean cooking stoves," would be permitted.

In terms of how to carve out these subsidies from the rules, they say:

Increased transparency should begin with making the notification process as easy and understandable as possible, with clear incentives for fulsome and timely notices. The WTO secretariat has begun that process through its shift to online tools, but more needs to be done, in conjunction with the SCM Committee, to ensure that all countries understand what they are required to notify and into which boxes their subsidies fall. A further incentive to notify immediately those subsidies that a country believes fall into the green box as non-trade-distorting (i.e., funds for basic research and development or disaster relief or the like) would be an agreement that subsidies notified as within the green box cannot be challenged at all or after a certain period of time, or until concerns over such subsidies have been raised and discussed at a meeting of the SCM Committee.⁸¹ That safe harbor from challenge could be agreed upon as part of the notification process even without an agreement on overall caps on industrial subsidies.

---------------------

81. This could be structured similarly to the now expired Article 8 provisions of the SCM agreement, which were considered nonactionable.

Footnote 81 refers to Article 8 of the SCM Agreement, which carved out several kinds of subsidies, including certain environmental ones:

8.2 Notwithstanding the provisions of Parts III and V, the following subsidies shall be non-actionable:

...

(c) assistance to promote adaptation of existing facilities to new environmental requirements imposed by law and/or regulations which result in greater constraints and financial burden on firms, provided that the assistance:

(i) is a one-time non-recurring measure; and
(ii) is limited to 20 per cent of the cost of adaptation; and
(iii) does not cover the cost of replacing and operating the assisted investment, which must be fully borne by firms; and
(iv) is directly linked to and proportionate to a firm's planned reduction of nuisances and pollution, and does not cover any manufacturing cost savings which may be achieved; and
(v) is available to all firms which can adopt the new equipment and/or production processes.

If we want to apply the Article 8 approach to carbon reduction subsidies, a key aspect is how to identify the subsidies for which legal challenges are to be limited. Here's a drafting suggestion from me for a basic Article 8-style environmental provision that identifies certain subsidies as non-actionable:

"Notwithstanding the provisions of Parts III and V, the following subsidies shall be non-actionable:

Subsidies that are designed, structured, and expected to operate with a primary purpose and impact of achieving a reduction in carbon emissions, and which do not have elements that are applied so as to afford protection to domestic production."

It's difficult to get the balance right here. I think you need some degree of scrutiny of the purpose and impact of a measure, so that it is not used as the basis for disguised protectionism, but exactly how much scrutiny is needed? I took a bit of language from the case law and a bit from GATT Article III to achieve the balance in a way that I think is reasonable, but I'm open to alternatives. One alternative is to try to get more specific about some of the details of the subsidies, but I thought relying on general principles might work better.

Does Ro Khanna Want To Get Rid of the Specificity Requirement in WTO Subsidies Rules?

In a recent post, I quoted a speech by Congressman Ro Khanna, in which he said:

The US needs to work with our allies to pursue a broad WTO dispute case against the PRC. One hurdle is that the current Dispute Settlement process cannot litigate in key China-related areas that are not adequately covered by WTO rules. New rules must be negotiated.

For starters, the WTO must reconsider its “specificity” policy. 

Under the current rules, the WTO allows countries like China, to support state-owned enterprises and provide wide-spread subsidies to its economy. The WTO should stop letting its members do this. 

I interpreted his statements here to be about WTO rulings against U.S. CVD practices:

He doesn't spell it out in great detail, but when he mentions "specificity," he is probably thinking here about the use of domestic CVDs against China, and how the rules in the SCM Agreement may limit the use of CVDs, in particular as a result of certain Appellate Body rulings.

Upon hearing him mention this issue again at a recent event, however, I think I may have misunderstood. Here's what he said subsequently on the issue:

I think that the World Trade Organization's policy where you can have general subsidies but not specific subsidies needs to be revisited.

With this clear contrast between "general" and "specific" subsidies, my sense now is that he may be saying the SCM Agreement should not have a specificity requirement at all, which would mean deleting Article 1.2 ("A subsidy as defined in paragraph 1 shall be subject to the provisions of Part II or shall be subject to the provisions of Part III or V only if such a subsidy is specific in accordance with the provisions of Article 2"). The result would be that non-specific subsidies could be challenged directly in a WTO complaint under the "adverse effects" provisions, and could be countervailed as well.

The implications of this are potentially quite broad, as any measure falling under the Article 1 definition of a subsidy could now be challenged. At the same time, it might be hard to prove adverse effects / injury for non-specific subsidies, so perhaps the practical implications are not as great as they sound.

What's interesting here is that most left wing critics of the trading system complain that it restricts policy space too much. If I understand Khanna correctly, he is saying that it should restrict policy space more, by significantly expanding its constraints on subsidies. His focus here is China, but I suspect other people on his side of the political spectrum might point him to the various non-specific subsidies provided by the U.S. federal and state governments, which could now be subject to challenge through WTO complaints and also countervailed.

That leads me to the following question: Which subsidies exactly are the target? Presumably someone thinks there is a particular type of general subsidy that China provides but the U.S. does not, and therefore they can tweak the rules to catch the Chinese subsidies but not the U.S. ones. But it's not clear to me which Chinese subsidies these are and how they would be distinguished from U.S. subsidies.

How Is the Biden Administration Thinking about "Industrial Strategy" and International Economic Relations?

Last week, Deputy Secretary of Commerce Don Graves made some remarks on "Modern Industrial Strategy for U.S. Competitiveness, Equity, and Resilience." In his remarks, Graves explained how the Biden administration was providing direct subsidies and other government support to promote certain sectors of the U.S. economy. Here's an excerpt:

For the first time in decades, we have a generational opportunity to lay claim to the competitive industries of the future, along with the good-paying jobs and economic security that will come with them. But it’s going to require government, business, workers, and communities to work together in new and innovative ways, and it will require the private sector to consider national competitiveness and economic security as part of their corporate social responsibility.

...

With the passage of the American Rescue Plan, the Bipartisan Infrastructure Law, the CHIPS and Science Act, and the Inflation Reduction Act – all major legislative accomplishments of its first two years – the Biden-Harris Administration is making transformational investments in manufacturing innovation, research and development, infrastructure, workforce training, and community development. 

We’re focusing these public investments and leveraging private investment in key areas such as semiconductors and clean energy technologies where private industry, on its own, had not factored in our national and economic security interests. ...

...

The bipartisan CHIPS and Science Act that President Biden signed into law in August provides $50 billion to the Commerce Department to revitalize our domestic semiconductor industry. We are administering this funding through our new CHIPS for America program. 

The funding will drive R&D and manufacturing incentives that will facilitate domestic production of the most advanced chips and expand production of mature chips essential to our national and economic security.

...

Similar to CHIPS, under the Inflation Reduction Act, the Administration is making the largest-ever federal investment in clean energy innovation and leveraging private capital to scale clean technologies of the future—from electric vehicles to clean hydrogen to offshore wind. ...

So that all seems pretty clear: In the Biden administration's view, subsidies and other forms of government economic intervention are a good way to promote certain domestic industries, and are appropriate domestic policies.

At the same time, Graves pointed to other countries' subsidies and economic intervention, but also expressed concern about their "unfair subsidies and dumping":

Even as we seek to address these vulnerabilities, our competitors and trading partners are not standing still.  They are moving ahead with strategic public investments, along with private investments, in their own domestic manufacturing, including in semiconductors and other emerging tech.

Some are also using use unfair subsidies and dumping and becoming increasingly sophisticated at finding loopholes in our antidumping and countervailing duty laws.

Our  adversaries are ever-more aggressive in their efforts to control supply chains that we rely on – including critical minerals – and expropriate critical technologies. 

The problem here is that many other governments are likely to see the U.S. financial support for particular sectors as "unfair subsidies and dumping," and react negatively to the U.S. policies. In order to prevent trade conflict from arising over these kinds of measures, we are going to need international agreement on what is acceptable and what is not.

Existing WTO obligations set forth a carefully negotiated balance on these issues. For example, there are detailed rules on when subsidies are prohibited and when they cause adverse effects for trading partners.

At times, the Biden administration seems to want to renegotiate the existing balance, although exactly what new balance they are seeking is unclear. For example, do they think domestic or regional content requirements, such as those in the Inflation Reduction Act, should be permissible under WTO rules? It would be a pretty radical departure from the current rules if these were permitted and everyone started using them.

If the subsidies Graves described above are going to continue, the Biden administration, or some future administration, will have to come to a view on the right balance in terms of domestic policy and international economic relations. What level and kinds of government economic intervention are acceptable? How will international rules provide disciplines? At the moment, it seems as though we are stumbling into trade conflict, and out of that conflict we may develop some new boundaries. However, it would be better if these issues could be fleshed out in advance, with a goal of reaching a domestic and international consensus quickly and (trade) peacefully.

Some Questions about the Biden Administration's Plans for Industrial Subsidies

This is from a speech last week by White House NEC Director Brian Deese on "Executing a Modern American Industrial Strategy":

Some have raised a valid concern that countries may keep one-upping each other on ever-larger industrial subsidies, reducing their efficiency.  But the investments we’re making will pay enormous global dividends in expanding supply, speeding adoption, and driving down costs.  And for industries like semiconductors and clean energy, we’re nowhere near the global saturation point of needed investments.  We should welcome actions by most countries if they’re structured fairly and scaled appropriately.

This passage raises several question for me.

First, I agree that the concern about a subsidy war ("countries may keep one-upping each other on ever-larger industrial subsidies") is valid. This sort of thing has been common for a long-time with location incentives provided by national and local governments. Governments compete for investment with subsidies in a way that doesn't lead to much, if any, additional investment, but rather just better deals for companies who were planning to invest anyway. So what's the plan to deal with this potential problem here? The last sentence of the passage says: "We should welcome actions by most countries if they’re structured fairly and scaled appropriately." Does "scaled appropriately" mean some sort of limit on the amounts involved? Does "structured fairly" mean some forms of subsidies are allowed while others are not? Would this be like the Agriculture Agreement subsidy limits, but applied to industrial subsidies, with the result being some sort of WTO agreement with specific maximums on these subsidies? That's one possibility, and I think I recall that some people have suggested this approach recently. If that's not what Deese has in mind though, what is the plan exactly?

Second, what does he mean by "[w]e should welcome actions by most countries"? The obvious answer here is that Chinese actions would not be welcomed, but what does that mean? Does it mean they think China shouldn't be giving these subsidies, and we won't "welcome" it if China does? How exactly would the Biden administration react to Chinese subsidies of this sort? A Section 301 investigation and tariffs?

Third, he says that with "semiconductors and clean energy, we’re nowhere near the global saturation point of needed investments." But how do we know what the saturation point is? If we get to a moment when most of the companies in one of these industries are losing money because there is overcapacity, are we at the saturation point then? And do we change course at that point, or do we just keep the subsidies coming and maybe even increase them?

And finally, domestic countervailing duty law allows for tariffs to be imposed on subsidized imports. With all these new subsidies, is the Biden administration anticipating that other countries will impose tariffs on subsidized U.S. goods that are exported? Are they expecting U.S. industries to ask for tariffs against subsidized foreign goods? How do they see CVDs playing out here? With the level of subsidies they seem to have in mind, I'm not sure how long we can go before these CVD cases start coming.

Challenging China's Export Credits at the WTO

A couple years ago, I wrote about the possibility of challenging China's export credit practices under WTO rules. In that post, I noted the skepticism of others about such a challenge, and concluded with this:

I have more hope for a systemic case against China's export credit practices than the lawyers quoted in the piece do. The claim would be that the practices constitute a prohibited export subsidy under Article 3.1(a), and any attempt by China to invoke Item (k) of the Illustrative List of Export subsidies would fail because the terms of the OECD Arrangement are not met. The article provides, in parts not quoted above, some evidence of China's practices, and I think that a complainant could gather more evidence on its own. It could also request that the panel ask China for information under DSU Article 13.1. If China didn't supply it, the panel could draw adverse inferences.

I don't see this issue come up very often, but at a European Parliament hearing last week, Eoin O'Malley, Deputy Head of Unit at DG Trade, had this to say (at 10:06:02): 

A bigger challenge perhaps is that emerging economies are not members, are not participants to this OECD arrangement. So this includes China obviously. They are in theory disciplined by more limited rules on this that exists at the WTO, but in practice the transactions that China supports, and others support, are not excessively transparent. So the ability to hold them to account in terms of WTO rules is limited. 

This statement triggered a bit of additional thought about these issues for me. The second Brazil - Aircraft, Article 21.5 panel had the following to say about the burden of proof under the second paragraph of Item (k) of the SCM Agreement Illustrative List:

5.60 The Panel recalls that the text of the second paragraph of item (k) reads as follows:

Provided, however, that if a Member is a party to an international undertaking on official export credits to which at least twelve original Members to this Agreement are parties as of 1 January 1979 (or a successor undertaking which has been adopted by those original Members), or if in practice a Member applies the interest rates provisions of the relevant undertaking, an export credit practice which is in conformity with those provisions shall not be considered an export subsidy prohibited by this Agreement. (emphasis added)

5.61 On a reading which gives meaning to all of the terms used, the second paragraph suggests that export credit practices which are in conformity with the interest rates provisions of the relevant international undertaking are export subsidies -- and, as such, would normally be prohibited under the provisions of Article 3 of the SCM Agreement --, but that they are nevertheless not prohibited under the SCM Agreement.

5.62 This interpretation leads us to the conclusion that the second paragraph of item (k) provides for an exception from any prohibition on export subsidies laid down elsewhere in the SCM Agreement. The fact that the second paragraph does not, itself, impose obligations supports that conclusion.

5.63 Consistently with our view that the second paragraph of item (k) makes available an exception, it must be possible to invoke it as an affirmative defence to a claim of violation. As is clear from relevant WTO jurisprudence, the burden of establishing an affirmative defence rests with the party raising it.

(footnote omitted)

It seems to me that what a complainant could do here is claim that China's export credit practices, either as such or as applied in particular instances, constitute export subsidies and therefore violate SCM Agreement Article 3.1(a). This should be a fairly easy claim to win because that's kind of the nature of these programs, and I would think you could at least gather enough evidence for this part of the case. Obviously the "as such" claim would be more difficult to win than the "as applied" one, but again, I would think the nature of these programs gives the complainant a good chance here.

Then China would invoke the second paragraph of item (k), and would have the burden of proving it satisfied this exception. To do so, it would have to submit evidence. Either that evidence would be insufficient to satisfy the exception, or it would constitute proof that China is complying with the exception. Either way, we would have made some good progress in assessing the compliance of one particular form of Chinese subsidies with WTO obligations.

Guest Post: European Commission puts forth legislative proposal to tackle “foreign subsidies”

This is a guest post by Victor Crochet of Van Bael & Bellis

The European Commission puts forth its legislative proposal to tackle “foreign subsidies” in the European Union. The text of the proposal can be found here.

There has been lots of discussions on this blog over the Commission’s White Paper on foreign subsidies published by the European Commission last summer (see here, here and even here).

The European Commission’s proposal more or less follows the structure of the White Paper by addressing foreign subsidies ‘actually or potentially negatively affects competition on the internal market’. The proposal focuses on corporate acquisitions, public procurement bids, as well as any undertaking ‘engaging in an economic activity in the internal market’. The potential scope is thus very broad.

In terms of determining what constitutes a ‘distortion on the internal market’, the proposal contains a list of factors to take into account and also an illustrative list of subsidies ‘most likely to distort the internal market’ (e.g. direct facilitation of corporate acquisition, unlimited guarantees). Financial contributions of less than €5 million over the past three years are generally not considered distortive. This substantially raises the much criticised de minimis threshold of €200,000 proposed in the White Paper. In addition, a rather vague ‘balancing’ test is provided for, giving the EU important discretion to exempt subsidies it considers will have ‘positive effects on the development of the relevant economic activity’.  

Enforcement is partly modelled on the EU’s existing competition and State aid frameworks, although the Commission will be in the driver’s seat with Member States having an advisory role only (similar to trade defence). Investigations will follow a two-step model with a ‘preliminary review’, followed by an ‘in-depth investigation’, if justified. There is also the possibility to take ‘interim measures’. Importantly, there is no formal complaints mechanism. The review is thus ex-officio and ex-post for general subsidies. In contrast, for public tenders and corporate acquisitions, there is an obligation of pre-notification. This applies to public tenders with a value above €250 million, and to corporate acquirers with a turnover of €500 million having received a foreign financial contribution of at least €50 million in the past three years.

At the end of the in-depth investigation, if distortive subsidies are identified, the investigated entity may either offer binding commitments or have ‘redressive measures’ imposed on it. These can include divestments; licensing of technology; providing access to infrastructure; or reductions in capacity or market presence. Notably, fines of up to 1% of annual turnover can be imposed on companies which ‘intentionally or negligently’ provide incorrect or misleading information, and fines of no less than 10% of annual turnover can be imposed for failure to comply with a redress decision or agreed commitments. Failure to promptly comply can also lead to additional ‘periodic penalties’ of up to 5% of daily turnover. The incentives to cooperate in the investigations will thus be high and calls for a robust implementation of the brief article on rights of defence (for instance, there is no mention of an independent Hearing Officer as exists in both EU competition and trade defence proceedings).

The proposal is now out of the hands of the European Commission. It is the European Parliament’s turn to debate and amend the European Commission’s proposal before sending it to the Council. The Council can then make further amendments, which in turn would have to be agreed by the European Parliament and so on. It is thus likely that it will take some time, possibly a couple of years, until the legislation is finalised.

For those interested in the potential WTO implications of this proposal, Marcus Gustafsson and I recently published a paper highlighting how to ensure that the final instruments are in line with WTO rules (accessible here). Most of the concerns we expressed with regard to the instruments put forth in the White Paper are equally applicable to the legislative proposal.

Putting aside the procedural differences between State aid rules and foreign subsidies rules or the different remedies available to tackle them, one of our main concerns lies with the raison d’être of the two instruments.

The goal of State aid rules is not to prevent State aid/subsidisation in the European Union altogether but rather to avoid a race to the bottom between EU Member States by centralizing the granting of aid with the European Union’s institutions. Indeed, there is no prohibition on aid being granted by the European Union and its related agencies. On the other hand, the proposed foreign subsidies rules put forth by the European Commission targets all forms of governmental assistance without distinction as to whether this assistance is granted by a central government (as the European Union) or by regional governments (as EU Member States). Such a difference in treatment would be difficult to justify under WTO rules.

OBOR, No More?

Last year the European Union (EU) imposed countervailing duties (CVDs) against imports of glass fiber originating in Egypt. Nothing shocking so far, other than the fact that the EU measure was counteracting subsidies granted by … China. How should we think about this and similar issues?    

Facts of the Case

Commission regulation 2020/870 of June 24, 2020 raised a few eyebrows, even though, as Evenett et al. (2020) have argued there is an emerging trend in this vein, and we should not be surprised that the EU has adopted this attitude once again. Still, it is not every day that a WTO member countervails FDI (foreign direct investment). Jushi China, an SOE (state-owned enterprise), provided Jushi Egypt, a subsidiary headquartered in the Suez Special Economic Zone, with funds at preferential rates. Jushi Egypt then exported glass fiber products that had benefitted from Chinese subsidies to the EU, only to see their exports countervailed through the above-mentioned regulation. 

Is the EU Approach Lawful?

No dispute has been lodged so far before the WTO. But it would be hard to see how the EU could prevail in light of the unambiguous wording of Articles 1 and 2 of the SCM Agreement (Subsidies and Countervailing Measures), and the legislative intent that gave rise to these provisions. Clearly, it is subsidies paid to producers operating within the territory of the subsidizing government that can be counteracted. It is quite telling that the EU authorities relied on public international law to attribute behavior to Egypt, and when doing so, they have most probably overstated their case.

The legality of the EU approach is a minor concern, we submit. There is a wider policy that is of concern, to which we will return later on.

Of course, one might legitimately wonder why the EU did not choose another path. It could have invoked for example, that it was facing a particular market situation here. This is an amorphous concept, infrequently only used (US has recently invoked it). To the extent that the EU could have shown that a particular market situation exists affecting price comparability because of the Chinese subsidies, then it might have had a legitimate shot when defending its policies. Arguably this is a sleight of hand, but so is a lot of lawyering in antidumping practice. 

Another argument that could, probably, be mounted here is that China is violating MFN here. Subsidies are excluded from national treatment (III.8), but not from MFN. No one of course had anticipated extremely generous governments when the GATT was signed. To the extent that the disbursements in the present case were viewed as “rules in connection with exportation”, then they would have to be extended to all glass fiber products produced around the globe (and probably bankrupt OBOR, the “One Belt, One Road” initiative). Assuming successful complaint, MFN could prove to be the tombstone of a lot of OBOR, at the very least, of the part of OBOR that is linked to specific goods markets. And the challenged measures could not be justified under one of the exceptions to the MFN either: neither Article XXIV nor the Enabling Clause (which explicitly requires nondiscriminatory granting of benefits) would condone this measure. 

Anyway, the EU seems willing to take a firmer stance on foreign subsidies, OBOR being probably the prime target, as the recently adopted White Paper on Foreign Subsidies[1] evidences. The imposition of duties against Jushi Egypt is probably a notch in a belt that European authorities are slowly putting together around the One Belt initiative.

Incidentally, Egyptians enacted a law claiming that goods produced in the Suez zone are of Egyptian origin. Without entering into legal details regarding the conformity of this initiative with WTO, in the absence of this law, the origin of fibers produced in Egypt could have been an issue as well.

But there is a Wider Policy Issue

Unlike the Antidumping Agreement, the SCM protects not only the domestic market from subsidized goods, but also export income impaired by others’ subsidies. If Foreign dumps its goods to the world, Home can protect its market only through antidumping duties. But if Foreign subsidizes its exports to the globe, Home can protect its income everywhere. That mush is true. To this effect, it can introduce a complaint and ask from Foreign to stop subsidizing or else … Else, means of course, that eventually Home will retaliate following permission to this effect. One might of course, legitimately wonder why the threat of retaliation was not perceived as credible by Foreign in the first place, but this is another story. What we care about here is the legislative gap, and not the wider WTO remedies system.

What can one do in a case like the one we discuss here under the SCM Agreement? Nothing much, and this is a paradox. Jushi China profits from increased exports by Jushi Egypt, it might thus have an incentive to subsidize them, safe in the knowledge that it runs no risk to be countervailed under the SCM Agreement.

Yes, there might be a risk that it pays antidumping duties under the Antidumping Agreement, if the claim under particular market situation succeeds. But the trigger effect there, is dumping of the final good. The argument in that case, of course, is that, because of the particular market situation, the imposition of antidumping duties will be facilitated. True. But what if Egypt had investigated Chinese imports and decided that there was no reason to impose CVDs, or if the outcome of the investigation was duties at a low level? And of course, the MFN challenge remains for now a theoretical possibility as no one has gone this way so far. All this to suggest that there is high likelihood that practices like the one discussed in this brief Note, pass the WTO legal regime by stealth. Why is that the case?

The SCM was negotiated with the economy of the late ‘80s in mind. A lot has changed since then. GVCs (global value chains) make wholly-obtained goods an illusion. The very existence of GVCs requires a different thinking about the regulation of conditions of competition in the global market. Is Jushi China, when investing in Jushi Egypt, subsidizing its own production as well? Should not corporate links matter somehow? Can the trading community continue to pretend that national frontiers suspend corporate links? The SCM Agreement needs to be rethought to account for this (different) perspective, otherwise the WTO risks seeing its policy relevance eviscerated even further.

References

Evenett, Simon J., Juhi Dion Sud, and Edwin Vermulst. 2020. The European Union’s New Move Against China: Countervailing Chinese Outward Foreign Direct Investment, Global Trade and Customs Journal, 15: 413-422.

 

[1]https://ec.europa.eu/competition/international/overview/foreign_subsidies_white_paper.pdf  

Can the WTO Discipline China's Export Credits?

This is from an article by Kristen Hopewell about China's growing use of export credits:

6.2. Inadequacy of World Trade Organization disciplines

Amid the weakening of the OECD Arrangement’s authority and the inability to reach agreement on a new version to replace it, one might expect the US and other advanced-industrialized states to turn to the WTO to compel China and other emerging economies to reign in their use of export credit. However, for the purposes of disciplining export credit, the WTO is a poor substitute for the Arrangement. Export credit is covered by the WTO Agreement on Subsidies and Countervailing Measures (ASCM), which disciplines the use of export subsidies. The OECD Arrangement is incorporated into the ASCM as a carve out to the illustrative list of prohibited export subsidies. This operates as a “safe harbor clause,” ensuring that any use of export credit by a WTO member that conforms to the Arrangement’s disciplines will not be considered a prohibited export subsidy under WTO rules (Wright 2011). Consequently, any WTO member who acts within the conditions set out in the Arrangement, regardless of whether they are a participant to it, is deemed to be in compliance with their WTO obligations (Shaffer et al. 2015).

This means that, technically, the Arrangement’s disciplines are incorporated into WTO rules. However, they are nearly impossible to enforce at the WTO. Part of the reason the Arrangement was created in the first place is that the dispute settlement mechanism provided in the WTO, and its predecessor the General Agreement on Tariffs and Trade (GATT), is largely ineffective for disciplining export credit (Moravcsik 1989). First, WTO dispute settlement is generally considered too cumbersome and not fast enough to work well in this area. Given the lengthy nature of the WTO dispute settlement process, which often takes many years for a case to reach a conclusion, even if a country were to succeed in winning a determination that a competitor’s financing for a specific transaction constituted a prohibited export subsidy, the case would not be concluded until years after that transaction had been completed and its exporter had lost the contract.

Second, in contrast to the real time transparency provided by the Arrangement, the WTO contains no comparable mechanism for the routine exchange of detailed and confidential transaction data. While Arrangement participants are required to share extensive information about their practices with one another, the export credit practices of non-participants are generally secretive and non-transparent, with the result that their competitors lack detailed information about their export credit policies and programs, as well as the specific terms of individual transactions. This lack of information renders it extremely difficult to challenge export credit practices at the WTO.

Third, each time a state provides export credit, whether or not it is considered a subsidy will depend on the specifics of that transaction. As one negotiator stated, in order to challenge a state’s export credit policies at the WTO:

[Y]ou would need to bring a systemic case, but the terms and conditions of each transaction are different, so it is difficult if not usually impossible to bring a systemic case. Since it is very difficult to challenge a whole program, you would be left challenging individual transactions.

Consequently, there have only been two cases to date on (non-agricultural) export credit in the history of WTO dispute settlement – out of a total of over 500 disputes.

There are thus fundamental differences in how disciplines work in the Arrangement compared to the WTO, with crucial implications for the governance of export credit. As one WTO official stated:

The Arrangement works very well. Our rules are completely different in how they work and what they do. Short of prohibiting all use of export credit, there’s little the WTO can do. Our structure and the way our rules work are not well-suited to this issue. The system at the WTO really only works for broad systemic issues, and it is almost completely useless for dealing with export credit because it’s ex-post. Our system would never provide the day-to-day working and certainty of the OECD Arrangement.

As a result of the way its rules and dispute settlement mechanism are designed and function, the WTO is ill equipped to regulate export credit and cannot provide a viable alternative to the Arrangement.

Thus, while it would be theoretically possible to use the WTO’s dispute settlement mechanism to challenge the use of export credit by China and the other emerging economies, WTO trade lawyers indicate that in practice this would be “extraordinarily difficult if not usually impossible.” As one indicated:

China’s use of export credit is potentially actionable at the WTO, yes. But the reason they created the system for governing export credit in the OECD in the first place is because our rules [at the WTO] have some profound weaknesses. Here, it’s a two to three year process to take a case, plus 18 months of implementation, so maybe five years later – long after you have lost the contract – you could get a finding that the exporting country violated its WTO obligations. But by then, it’s not like the transaction and the financing can be undone. So, in theory, one could challenge China on export credit, you could litigate it for five years, but what would you have at the end of five years?

In sum, “China could be vulnerable to a WTO challenge, but it would be expensive, take years to occur and be very hard to get a meaningful victory.” The WTO system is thus inadequate for disciplining state-backed export credit and provides little means for the US and other traditional powers to compel China to restrict its use of export credit.

(footnotes omitted)

I have more hope for a systemic case against China's export credit practices than the lawyers quoted in the piece do. The claim would be that the practices constitute a prohibited export subsidy under Article 3.1(a), and any attempt by China to invoke Item (k) of the Illustrative List of Export subsidies would fail because the terms of the OECD Arrangement are not met. The article provides, in parts not quoted above, some evidence of China's practices, and I think that a complainant could gather more evidence on its own. It could also request that the panel ask China for information under DSU Article 13.1. If China didn't supply it, the panel could draw adverse inferences.

It would have made sense to start this case many years ago, but starting it now would still be useful. For one thing, doing so could discipline China's practices and force China to change its approach going forward. For another, the article suggests that it is a U.S. objective to convince China to sign on to rules on export credits. Pursuing a WTO complaint might help achieve this.

New Proposal to Strengthen WTO Notification Requirements: From Dispute Settlement to Compliance Regime?

In a period where “trade wars” and the Appellate Body (AB) deadlock are getting most of the airtime, an April 1 proposal by nine WTO Members, including the EU and the US, but also Argentina and Costa Rica, to “strengthen notification requirements under WTO agreements” is both refreshing and intriguing (the proposal is a revision of an earlier document submitted by a smaller group on 1 November 2018).

The “chronic low level of compliance” with WTO notification requirements (preambular para. 2) is not news. Transparency and notifications are an important, and increasingly indispensable, first step to gauge compliance with substantive WTO commitments (think, for example, of subsidies). They also build, or may be able to re-build, trust between WTO Members.

But how does one enforce a notification obligation under a WTO dispute settlement mechanism that (i) is purely bilateral (state-to-state), (ii) is taking increasing amounts of time (on average, 18 instead of the mandated 9 months for panels, over 120 days instead of the mandated 90 days for the AB) and (iii) whose remedy, at the end of the day, is purely prospective (“please notify moving forward”) and (iv) backed-up with countermeasures capped to the (hard to prove) trade effects of a failure to notify?

I have written elsewhere about some of the limits of today’s “legalized” (over-legalized?), “win or lose” WTO dispute settlement system: crowding-out of settlements, concentration on a small sub-set of cases (mainly trade remedies) and an even smaller sub-set of WTO members (20 countries represent 85% of main-party participation), exploding timeframes and length/complexity of reports, increased number of compliance proceedings and (as a result?) an overall reduction in new cases filed.

In this context, the April 1 proposal offers an intriguing alternative, moving away from formal dispute settlement (although it remains available, also for notification failures) and setting up something more akin to a compliance regime as is common under, for example, environmental treaties.

Three features stand out in this proposal:

1. Establishing non-compliance: Notification “failure” is identified, not by dispute panels, but automatically, based on the required (and variable) timeframes. Importantly, also the Trade Policy Review mechanism (para. 4) and the SPS and TBT Committees (footnote 1) are given a role. Members are also encouraged to provide “counter notifications” (para. 5).
2. Administrative measures: Failure to notify, within prescribed time periods, automatically leads to “administrative measures” (para. 11) ranging from a bar on chairing WTO bodies to a “charge” to be paid into the WTO budget (money that should then be used for technical assistance with notifications). Additional “naming and shaming” measures are added after one year. No panel, AB, DSB or arbitrator is involved.
3. Focus on capacity building and learning: All WTO Members can request Secretariat assistance and even ask the Secretariat to do notifications on its behalf (para. 9). Developing country Members lacking capacity and who requested assistance are not subject to “administrative measures” (para. 10). A Working Group is tasked to “consider both systemic and specific improvements that can help Members to improve compliance with notification obligations” (para. 2).

Rather than assuming that countries (willingly) breach a WTO commitment in order to gain a trade advantage (and that a legal finding of breach backed-up by trade sanctions is what is needed to induce compliance), compliance regimes acknowledge that, in some cases, breach can be involuntary, due to lack of information or capacity. If that is the case, rather than “litigate and sanction”, “disclose and assist” may, indeed, be a quicker and more efficient route to compliance.

New ideas and approaches are needed to assist Members in (swiftly) settling trade disputes (so as to avoid escalating “trade wars”) and (cost-effectively) improving compliance records (so as to restore trust and fuel negotiations rather than litigation). This proposal, as narrowly focused as it is on notifications, is a good start. It illustrates that Members, including the US, have not given up on the WTO (yet).

Benefit and Market in the AB Feed-In Tariff Report

I'm at the BIICL WTO conference, which has me thinking about a good discussion last year of the Appellate Body's ruling on "benefit" in the Canada - Feed-In Tariff case (see prior posts here and here).  As I recall, there were two people on the BIICL Feed-In Tariff panel last year who were praising the ruling, and one criticizing it.  (I won't name names -- they can weigh in with a comment on this post if they'd like).  I had been meaning to do a post about this at the time, but never got to it.  The one year anniversary seems like a good occasion to come back to it.

I'm pretty sure where I stand on these issues (there was definitely a benefit in the case, and the AB got it wrong), but the conversations at BIICL forced me to think about it all a bit more carefully.  Why exactly is there a benefit in the situation where a government financial contribution "creates a market," as the AB put it?  Recall that the following was a key point in the AB's reasoning:

5.188. Nevertheless, a distinction should be drawn between, on the one hand, government interventions that create markets that would otherwise not exist and, on the other hand, other types of government interventions in support of certain players in markets that already exist, or to correct market distortions therein. Where a government creates a market, it cannot be said that the government intervention distorts the market, as there would not be a market if the government had not created it. While the creation of markets by a government does not in and of itself give rise to subsidies within the meaning of the SCM Agreement, government interventions in existing markets may amount to subsidies when they take the form of a financial contribution, or income or price support, and confer a benefit to specific enterprises or industries.

I think one possible answer is this: There's actually no such thing as "creating a market."  The financial contribution arising from the feed-in tariff has not, in fact, created a market for energy produced from solar panels and wind energy.  That market already existed.  Of course, this energy was so expensive that no one wanted to buy it.  But that doesn't change the fact that a market was there.  If someone offered enough money for the product (clean energy), someone else would provide it.  The fact that no one is currently offering the money or providing the product does not mean there is no market.  It just means that everyone has chosen not to participate in the market at the going sales price.

Let's take another example.  You could probably pay someone an exorbitant sum to build a rocketship that would take you to the moon.  But no one does it, because it's not worth the money to them.  That doesn't mean there is no market.  It just means no one wants to participate at the market price.

Thus, the financial contribution in the feed-in tariff market here does not create a market, but rather stimulates the development of an industry, by offering a high enough price so that companies enter the market.  In other words, the measure just lures participants into the market.  Just like if the government subsidized moon trips, clean energy subsidies are not creating a market, but rather bringing people into the market.

Furthermore, the distinction the AB drew between creating a market and supporting players or correcting market distortions is a false one.  A typical financial contribution goes to producers who can't compete with other producers, so as to help them enter a market.  They are inefficient and can't sell at a price people want to pay.  Imagine a new aircraft producer comes along and can't compete with the incumbent. The government might offer some money to help it compete.  (I think I vaguely recall that happening!)

What we have with wind and solar is just a variation on this.  No producer can sell at a price people want to pay.  Demand is not strong enough to create a steady supply at the market sales price.  The financial contribution helps producers enter the market, despite this.  That's the whole point.  A subsidy brings producers into a market they could not otherwise enter.  A situation with no prior transactions is no different than the one with prior transactions.  Through the financial contribution, the government is stimulating demand so that supply starts up or increases (or vice versa).  It is no different if supply already existed or if it did not -- a demand stimulus changes the intersection of the supply and demand curves.  Basically, in these circumstances, benefit is all about whether demand for, or supply of, a product has been stimulated.

So, governments never really create markets.  Markets exist outside of any government action.  There is always a market.  We often say, casually, "there is no market," but that's generally not correct.  What we really mean is that, at the market price, there are currently no buyers or sellers, as demand and supply do not match up.

Since we are talking about AB decisions, to help with all this let's now turn to a "specialized dictionary," i.e., my undergrad econ textbook (Samuelson and Nordhaus), which defines "market" as: "An arrangement whereby buyers and sellers interact to determine prices and quantities of a commodity."  As I read it, the focus here is on the interaction, not the actual transaction.  You don't need a sale for there to be a market.  If you take your antiques to a flea market, and no one buys them, you have still been participating in a market.

Thus, to sum up, the market is just the level of supply and demand that exists in the absence of the artificial government stimulation.  Benefit is not so much about actual market transactions; rather, it is about government stimulation of supply and demand.  Existing supply and demand levels are the market, and government actions -- in the form of financial contributions -- that influence supply and demand can confer a benefit.

Let me conclude by saying that I'm just thinking out loud here, and I reserve the right to retract all of this if I decide at some later point that it's nonsense.

Significant Developments in SCM Benchmarking Jurisprudence

Within the last two weeks, the Appellate Body has issued two important decisions interpreting the SCM Agreement: US-Carbon Steel (India) (DS436), and US-CVD (China) (DS437). In DS436, India raised numerous complex issues under SCM; in DS437, China mounted a systematic challenge to more than a dozen US CVD investigations. While the facts and the range of specific issues of the two cases differ, a key issue in both cases is the relationship between government ownership and benchmarking under SCM article 14. The two AB decisions have significantly developed its prior jurisprudence.

Previously, the AB had established under US-Softwood Lumber IV that when the government is the predominant provider of goods or services, private prices in the country of provision are likely to be distorted; in such a situation, alternative benchmarks, such as out-of-country prices, may be used to determine the existence and size of “benefit” conferred by government. The AB expanded this jurisprudence in US-AD/CVD (China)(DS379), in which it accepted the US position that when state-owned enterprises (SOEs) input producers had a dominant market share in China, private prices in the Chinese market were distorted so that the US may use out-of-country prices as benchmarks to determine the benefits conferred by SOEs. Thus, the AB equated SOE input producers with government for purposes of SCM Article 14(d), without making an analysis of the relationship between the SOEs and the Chinese government. This was so despite its holding in the same case that the US acted inconsistently with SCM in finding the SOE input producers were “public bodies” under SCM 1.1.  

DS436 and DS437 both involve SOE input producers. In both cases, the panels upheld the US’s use of out-of-country benchmarks to determine benefits conferred by SOE provisions of goods. The AB reversed the panels’ relevant rulings, and in the process has done the following: 

1.  Introduced the concepts of “government-related entities” and “government-related prices”. These two concepts are used for the first time in DS436. The AB explained:

We use the term "government-related entities" to refer to all government bodies (whether national or regional), public bodies, and any other government-owned entities for which there has not been a "public body" determination. (Fn. 740)

In other words, “government-related entities” are SOEs that have not been found to be “public body” under SCM 1.1.  And “government-related prices” are prices charged by government-related entities. In comparison with the binary distinction between “public body” and “private body” under SCM 1.1, the AB has introduced “government-related entities” as a third type of entity to be taken into account in the context of SCM article 14.

2. Established a new position that “government-related prices” other than the financial contribution at issue can form part of in-country prices if they are market determined. The AB stated that in-country prices could emanate from a variety of potential sources, including private or government-related entities, and that there is no hierarchy in the abstract between in-country prices from different sources that can be relied upon in arriving at a proper benchmark. (DS437 para. 4.48) It explained: 

[T]he issue of "whether a price may be relied upon for benchmarking purposes under Article 14(d) is not a function of its source, but rather, whether it is a market-determined price reflective of prevailing market conditions in the country of provision. As a consequence, prices of government-related entities other than those of the entity providing the financial contribution at issue need to be examined to determine whether they are market determined and can therefore form part of a proper benchmark. (DS437 para. 4.64, quoting DS436 para. 4.154)

In addition, a finding of government ownership and control of certain entities alone cannot serve as the sole basis for establishing price distortion. Furthermore, government-related prices cannot be discarded in a benchmark analysis without an examination of whether or not they are market determined. (DS437 para. 4.105)

This new position appears to be a major departure from DS379, where the AB simply accepted that prices of Chinese SOE input producers should be discarded, without requiring an examination of whether the SOE prices are market determined.

3. Suggested new criteria for a market analysis under SCM 14. Given the new position above, the AB suggested (rather than mandated) a number of criteria for benchmarking under SCM 14: 

In conducting the analysis required under Article 14(d), investigating authorities may have to examine the structure of the relevant market, including the nature of the entities operating in that market, their respective market shares, as well as any entry barriers. … In addition, investigating authorities may be required to assess "the behaviour of the entities operating in that market in order to determine whether the government itself, or acting through government-related entities, exerts market power so as to distort in-country prices". Thus, investigating authorities may be called upon to examine the conditions of competition in the relevant market in order to assess whether the government is influencing the pricing conduct of any government-related or private entities. (DS437 para. 4.62, quoting DS436 para. 4.157)

In a footnote to this paragraph, the AB noted: “depending of the particular circumstances at hand, an investigating authority may not be required to conduct a market analysis addressing all the elements mentioned above as examples of relevant inquiries. Such situations may include where the government is the sole provider of the good in question, and where the government administratively controls all of the prices for the goods at issue.” (DS437, fn. 552)

Significantly, the AB mentioned for the first time “the conditions of competition in the relevant market” as one potential factor to be examined in the benchmarking analysis.

In my opinion, these new developments in the benchmarking jurisprudence represent major progress in the right direction. In practice, the impact could be huge – the US will be required to significantly change its CVD methodologies where SOEs are involved, especially in the China cases. It will be very interesting to watch how this line of cases evolves.

A Braking Mechanism for Subsidies

Cato held a panel discussion yesterday on subsidies and subsidy discipline.  A central theme explored was how the United States can exert global leadership in the field of subsidy control and enlightened self-restraint.  I contributed a suggestion raising some potentially complex legal (maybe constitutional) issues that might benefit from commentary by this blog’s loyal readers.

The proposal begins with the observation that the United States has a front-loaded system for ensuring compliance with commitments made in trade agreements.  Usually using TPA, we pass (before entry-into-force) implementing bills that are supposed to make all adjustments needed at the statutory level.  This works fine when what we have committed to do involves cutting a tariff or amending a provision in a trade remedy law.  But it is an awkward approach to ensuring compliance with commitments made in the subsidy field, e.g. the commitment not to cause (through the use of subsidies) adverse effects to trading partners.  For a given subsidy program, there is no way to know ahead of time what level of payments might result in serious prejudice (or some other type of adverse effect) to a trading partner 2, 5, or 10 years down the road.  Even if US spending holds steady, market conditions may change in such a way that spending which was non-problematic in year 2 becomes highly problematic in year 6.  This possibility cannot be addressed up-front.  And in fact, when one looks at US trade agreement implementing bills, one does not see any tinkering with spending programs.  Spending is handled in totally distinct legislative processes – Farm Bills for agriculture spending, mainly appropriation bills and CRs otherwise.  The occasional result is akin to a car on a highway, with the cruise control set at 55mph, moving into a 40mph zone and having no one conveniently situated to touch the brakes.  There is no nimbleness in our system, when it comes to ensuring continuous adherence to our commitments in the subsidy field.

Hence the proposal:  the President could be given braking authority – the ability to scale back spending based on formal findings that a scale-back is necessary to prevent an imminent trade agreement breach.  To ensure accountability without destroying nimbleness, the President would be required to notify – but not seek permission from – the Congress.  This would be a special category of impoundment.  I can see no way to extend the principle to subsidies conferred through the tax code,
but at least where actual spending is concerned (a first test case could be the current Farm Bill) it might work.  If it were legal.

I’m sure there are all kinds of political ramifications, but for now am more interested in readers’ input on the legal ones.  Does the old case law on impoundment leave room for something explicitly connected to ensuring compliance with international obligations?

I am confident that this would be (and be seen as) a bold stroke, in terms of US leadership on subsidy control and respect for the (relatively light) disciplines that have so far been negotiated.  And it would address a deficiency in our otherwise well-designed (TPA-based) system for honoring trade commitments.

The Purpose of WTO Subsidies Rules

What is the goal of the subsidies rules in the WTO's SCM Agreement?  In an article in the Melbourne Journal of International Law, I argue that the rules can be characterized as fighting "protectionism."  Furthermore, I contend, the Appellate Body's interpretations of particular SCM Agreement rules in the EC - Aircraft case support this view.  Here's my argument, in bullet point form:

• Since at the least the 1920s, government trade negotiators have recognized the problem of subsidies as a means of indirect protectionism.  In this regard, subsidies can be used to favor domestic industries in a way that undermines the benefits of tariff reductions.
• At the same time, they also recognized the difficulty of distinguishing "good" and "bad" subsidies.  Subsidies might be used for protectionism, but they may also be used for various other policy purposes.
• GATT rules on subsidies were not very extensive.  The SCM Agreement, by contrast, has much more detailed rules.
• The SCM Agreement rules on "prohibited" subsidies -- export contingent subsidies and local content subsidies -- are designed to limit two kinds of "protectionist" subsidies (i.e., subsidies that give an advantage to domestic goods over their foreign competition).
• The SCM Agreement rules on "actionable" subsidies can also be thought of as targeting "protectionist" subsidies, in the sense that the "specificity" element looks at the intent to favor certain domestic industries and the "adverse effects" element looks at the effect on foreign competitors.
• Three of the finding in EC - Aircraft reinforce this view: (1) the Appellate Body's interpretation of the export subsidy standard focuses on the relative impact of the measure on domestic products and exports, which is a discrimination-type analysis; (2) the panel's findings that particular subsidies were "specific" illustrates how specificity is an indication that the measure is intended to favor a domestic company; (3) the Appellate Body's findings on "displacement" focus on the competitive relationship between domestic and imported products in the market, which is a lot like the "competitive opportunities" that have been the focus of non-discrimination cases.

The basic point is that one way to think about the purpose of international subsidies regulation is that these rules are intended to constrain the use of protectionist subsidies.  A couple ideas follow from that.

First, if that is the purpose, perhaps GATT Article XX should be available as a defense, so as to ensure that non-protectionist subsidies are permitted.

Also, it may be that a good way to accomplish non-protectionist policy goals using subsidies in a manner that is consistent with WTO rules is by subsidizing consumers, rather than producers.

That's a basic overview of the article, but of course it loses many of the nuances from the full version.  The SSRN version of the paper is here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1966786  You can also download it from the MJIL web site here: http://mjil.law.unimelb.edu.au/go/issues/current-issue

Any thoughts?  Is the purpose of subsidies regulation something other than fighting "protectionism"?  How would you distinguish "good" from "bad" subsidies?

One final thought that I didn't get into in the article.  Does it make sense to treat "subsidies" different from other "measures"?

More on Responses to Foreign Subsidies

Yesterday brought news of an AC/CVD petition in the U.S. in relation to imports of Chinese solar panels.  Here's the FT:

A coalition of US solar panel manufacturers asked on Wednesday for retaliatory tariffs on imports of panels from China, the first such case filed in the renewable energy sector.

A group of seven companies led by Solarworld, an Oregon-based solar cell and panel manufacturer, asked for anti-dumping tariffs and countervailing duties, which are imposed on goods deemed to be priced unfairly low and receiving government subsidy. “Artificially low-priced solar products from China are decimating the domestic industry,” said Gordon Brinser, president of SolarWorld.

Timothy Brightbill, a lawyer with Wiley Rein, the law firm representing SolarWorld, said the case would seek anti-dumping tariffs of more than 100 per cent on solar cells and panels from a wide variety of Chinese manufacturers. “China has a system of pervasive and illegal subsidy payments,” he said, including government cash grants and subsidised loans to the industry and subsidised raw material inputs. China had gone from an 8 per cent to 45 per cent share of the US solar market since 2008, Mr Brightbill said.

I first heard about the case through an email I received from SolarWorld's PR firm:

On behalf of our client, SolarWorld Industries America, I wanted to send you a quick email about an announcement they plan to make today in Washington, DC. SolarWorld, a member of the newly-formed Coalition for American Solar Manufacturing (CASM), will announce a major trade action against foreign manufacturers.

 SolarWorld will allege illegal activities that have resulted in job cuts, losses in shipments and harm in operating margins. The surge in foreign solar cells imports has resulted in the elimination of thousands of jobs in Arizona, California, Massachusetts, Maryland, New York and Pennsylvania.

Gordon Brinser, President of SolarWorld Industries and CASM spokesperson, Senator Ron Wyden (D-OR) and Senator Jeff Merkley (D-OR) will speak at this press conference. We apologize for the late notice, but as a blogger that covers this issue, we would like to invite you to this event.

Just to see what would happen, I responded with the following questions:

How do you respond to the charge that American solar companies have been subsidized as well? Would you say that they have not been subsdized, or would you say that the foreign subsidies are higher?

Also, I assume you are planning to bring a countevailing duty case. Would you prefer a WTO complaint? If USTR were to bring a WTO complaint, would you forgo the CVD case?

Here's the response I got from Ben Santarris, Head of Corporate Communications and Sustainability for the Americas of SolarWorld:

1. First off, SolarWorld has not received any federal government subsidies. We have received some state and local government subsidies, but they are available to any manufacturing firm in the region and not specific to solar (they would also be available to any Chinese firm operating in Oregon). There are some U.S. subsidies, but they are small compared with the subsidies given by the Chinese government. Moreover, there are WTO-legal subsidies and WTO-illegal subsidies. In our case, we are targeting China's WTO illegal subsidies.

2. We filed an AD and CVD case.  We are concentrating on our petitions, but would welcome a continuation of USTR's ongoing investigation of Chinese subsidies. Finally, we are not going to speculate on what USTR may or may not do in the future. We are concentrating on the next steps in our case -- a preliminary ITC hearing on November 8. 

 It will be interesting to see how China responds.  No doubt they will contest the case vigorously in the trade remedy proceedings, the U.S. courts and at the WTO.  Will they also try to make an issue of whatever subsidies the U.S. industry has received? 

“Do Subsidies Justify Retaliatory Protectionism?”

From economist Don Boudreaux:

As an empirical matter ... the costs of subsidies are borne chiefly by citizens of the country whose government uses subsidies while the benefit of subsidies is enjoyed overwhelmingly by that country’s trading partners.

Still – because trade makes markets less and less national and more and more global – the possibility is real that, especially over the very long run, subsidies do reduce the net welfare not only of citizens of the countries that use subsidies but reduce also the welfare of citizens of other countries. And economists have long recognised that it is possible, in principle, for a home government to beneficially use retaliatory trade restrictions to pressure foreign governments to end their subsidies and other market-distorting policies.

Economists, however, have also long been sceptical of the ability of such retaliatory measures to work in practice. Because subsidies and protectionist tariffs typically result from successful rent-seeking by politically powerful interest groups, home-governments’ retaliations against these market-distorting policies are unlikely to end these policies. The reason is that retaliation seldom diminishes either the absolute or relative power of those interest groups whose political manoeuvres are responsible for the policies in the first place. As long as these rent-seeking groups remain disproportionately influential in determining the economic policies of their countries, these groups will continue to successfully exercise their influence over their governments to maintain the market-distorting policies.

Economists’ reluctance to endorse the use of retaliatory trade restrictions springs also from the recognition that home governments cannot be trusted to pursue retaliatory trade policies in welfare-enhancing ways. Home governments, after all, are subject to rent-seeking pressures just as are foreign governments. It is simply too tempting and too easy for a home government to falsely portray its own market-distorting policies – policies implemented for reasons no more noble than to create rents for powerful domestic producer groups – as being parts of a quest to cleanse the global economy (or at least the home economy) of subsidies and other market distortions introduced by dastardly foreign governments.

Economists’ realisation that – over the short and medium run – subsidies chiefly benefit, not the countries that impose them but, rather, their trading partners, combines with (1) economists’ scepticism of the ability of retaliation to end foreign-governments’ subsidies, and (2) with economists’ fear of home-economy rent-seeking, to cause economists, generally, to recommend treating foreign-government subsidies as facts of nature to be taken as given rather than as alterable variables that ought to guide a home-government’s policy-making.

It's a good piece, but Boudreaux seems very focused on the unilateral response.  I might ask a different question:  Do subsidies need international regulation?  I have an article coming out in the Melbourne Journal of International Law in which I argue that the purpose of international subsidies rules is to restrain the use of subsidies as a form of protectionism.  Implicit in that piece is the view that, yes, subsidies need international regulation.  More on that later.

Putting these issues in more concrete terms, here's someting from recent news reports:

The tight-lipped Fast opened the vault slightly when it came to a recently announced U.S. inquiry into allegations that the Canadian ports of Vancouver and Prince Rupert are unfairly swiping lucrative cargo traffic from American West Coast ports.

The five-member Federal Maritime Commission is holding the inquiry following complaints from American ports that Canada is unfairly subsidizing the diversion of cargo ships away from its U.S. competitors.

The agency will deliver its findings to U.S. Congress after it completes the inquiry amid concerns that American lawmakers are mulling over a US$143-per-container levy on cargo entering the United States from B.C. ports as a retaliatory measure.

"Canadian and Mexican ports are free to compete with U.S. ports for U.S. cargo, but they should do so on a playing field that is not artificially tilted by governments' policies," Richard Lidinsky, chairman of the commission, said recently.

...

Trade Minister Ed Fast must meet with his U.S. counterpart to head off talk of a new tariff for goods shipped through Canada and into America, the head of the Canadian Chamber of Commerce said Monday.

Fast says the attempt by the U.S. Federal Maritime Commission to add a tariff to cargo shipped into Canadian ports and across the U.S. border is in its infancy. He says it's too soon to say what could come of it.

GATT Article XX, Environmental Measures, and the SCM Agreement

Can GATT Article XX be invoked to justify emissions trading schemes that violate the SCM Agreement? This is from Ingrid Jegou and Luca Rubini in an ICTSD issues paper:

Four aspects should be noted regarding the SCM Agreement. First, as noted above, this instrument is directly connected to the GATT by ‘increasing and improving’ the disciplines of both Articles  VI and XVI of GATT dealing with subsidies and countervailing measures.  This should be set in the context of the fact that the WTO is a single undertaking and its provisions are part of an ‘integrated’ legal system.  Second, there is no language in the SCM Agreement (or elsewhere) directly interfering with the application of Article XX of the GATT to subsidies. Third, as a general matter of interpretation, there is no need for an express reference to give way to the application of a provision, particularly if this has a general nature.  Fourth and finally, there are no indications in the negotiating history of the SCM Agreement that Article XX of the GATT should not apply.

Up to the end of 1999 there were specific provisions (Articles 8 and 9 of the SCM Agreement) recognizing that certain subsidies, including certain environmental subsidies, were overall beneficial and hence were non-actionable as well as sheltered from countervailing duty action.  The absence of an extension of these rules could be seen as a decision that exceptions should not exist under the SCM Agreement. However, one could equally argue that, with the expiry of this provisional category of subsidies, only the special discipline of exceptions of the SCM Agreement has disappeared, giving way to the applicability of the general exceptions of the GATT. The crux of this argument is that the general exceptions of the GATT should apply to rules that, as seen, find their origin within the GATT itself.

Another argument can be advanced. This counters the narrow scope of Article 8 of the SCM Agreement with respect to the environment. It could be contended that, even when Article 8 was in force, there was not really a common purpose and subject matter between the broad ‘environmental exceptions’ of Article XX and the confined remit of Article 8, with the result that Article XX could in principle have applied to subsidies not specifically permissible under the SCM Agreement. In other words, while it is clear that the SCM Agreement develops Articles VI and XVI of the GATT, it is not fully clear that Article 8 of the SCM Agreement was developing Article XX of the GATT in the context of subsidy discipline.

Whatever the merit of this argument, the expiry of Article 8 reinforces the legal and policy argument in favour of applying Article XX of the GATT to subsidies that are clearly contributing to tackling climate change. As noted above, the confirmation of the applicability of GATT Article XX to other WTO agreements via a judicial route may be politically troublesome; however, paired with the slow progression of negotiations in climate and trade, it may constitute the only alternative to tackle an undesirable lacuna in the system. The urgency of action is confirmed by recent developments in litigation.

 

Some WTO Members' Views on the AB's New Export Contingency Standard

From the June 1 DSB meeting, here are the views of Brazil, Canada and Australia -- three Members who have been involved in export subsidy cases -- on the Appellate Body's new export contingency standard, as set out in EC - Aircraft:

Brazil

15. Turning to export subsidies, and in particular to the issue of  de facto  export contingency, Brazil wished to highlight some of its concerns  with the interpretation developed by the Appellate Body and its application to the facts of this dispute.  Footnote 4 of the SCM Agreement provided that a subsidy was in fact contingent on export performance when the granting of the subsidy was in fact "tied to (...) anticipated exportation or export earnings".  The Appellate Body had stated in turn that, when the relationship of conditionality between the granting of a subsidy and anticipated exportation was not expressly or by necessary implication provided in the law, the "factual equivalent" of such conditionality could be established by recourse to the following test:  "is the granting of the subsidy geared to induce the promotion of future export performance by the recipient?"  The Appellate Body had explained that the standard for de facto export contingency would be met when the subsidy was granted "so as to provide an incentive to the recipient to export in a way that is not simply reflective of the conditions of supply and demand in the domestic and export markets undistorted by the granting of the subsidy".

16. The Appellate Body had explained that the  assessment could be based on a comparison between, "on the one hand, the ratio of anticipated export and domestic sales that would come about in consequence of the granting of the subsidy and, on the other hand, the situation in the absence of the subsidy.  The situation in the absence of the subsidy may be understood on the basis of historical sales of the same product by the recipient (...) before the subsidy was granted.  In the event that there are no historical data untainted by the subsidy,  or the subsidized product is a new product (...), the comparison could be made with the performance that a profit-maximizing firm would hypothetically be expected to achieve in the export and domestic markets in the absence of the subsidy.  (...) The granting of the subsidy will not be tied to anticipated exportation if, all other things being equal, the anticipated ratio of export sales to domestic sales is not greater than the existing ratio".   In  Brazil's view, there were a number of problems with those statements.  Brazil noted that, according to the standard formulated by the Appellate Body in this dispute, in order to demonstrate that the granting of a subsidy was in fact "tied to" anticipated exportation, it was not sufficient to establish a "tie" between the granting of the subsidy and expected exports.  Rather, one would have to demonstrate that the subsidy provided an incentive to export, and more than that, an incentive to export in a way "that is not simply reflective of the conditions of supply and demand in the domestic and export markets undistorted by the granting of the subsidy".  That, however, could be an unwarranted requirement, and one that was likely to lead to incongruous results.  The text of the SCM Agreement did not only prohibit subsidies "contingent upon the substitution of domestic sales by export sales", as seemed to have been the new test introduced by the Appellate Body.  Nor was there any basis in the text of the SCM Agreement or in the jurisprudence developed  by the Appellate Body for imposing a different legal standard for de facto export contingency.

17. It was not clear whether the findings of the Panel and the Appellate Body in the "Canada - Aircraft" dispute, for instance, would stand in light of the test now set out by the Appellate Body.  The evidence in that dispute had revealed that "funding in the regional aircraft sector is expressly designed and structured to generate  sales of particular products, and that the Canadian government expressly takes into account, and attaches considerable importance to, the proportion of those sales that will be for export, when making TPC contributions in the regional aircraft sector".  The Panel had not sought to elucidate what would be the proportion of exports to domestic sales that would come about as a result of the subsidy, nor what that proportion would have been had the subsidy not been granted.  Those proportions might well not have been different, in which case the original TPC, which had been found to be an export subsidy in that dispute, would not have been an export subsidy according to the standard articulated by the Appellate Body in this dispute.  Furthermore, this new standard appeared to imply that, by definition, subsidies provided to enterprises that only exported could never be found to be in fact contingent on export performance, no matter how much factual evidence a complainant amassed to challenge those measures.  That was because the ratio of domestic to export sales would always be the same, zero, with or without the subsidy because the firm only exported.  Thus, even where a subsidy worked in such a way that its provision was conditioned, for example, on a showing of growing export sales, thus being by any reasonable standard "contingent on export performance", such a demonstration would not meet the Appellate Body's new test for de facto export contingency. 

Canada

Canada welcomed the Appellate Body's adoption of a rigorous test to demonstrate de facto prohibited export subsidization under Article 3.1(a) of the SCM Agreement.  Under that test, a subsidy was export contingent if the granting of the subsidy was geared to induce the promotion of future export performance by the recipient.  In Canada's view, such a test appropriately shifted the focus of the export contingency analysis away from an examination of the granting authority's motivation for providing the subsidy, which was the approach adopted by the Panel, to an examination of whether the subsidy provided the recipient with an incentive to favour exports.

Australia

Australia had a keen interest in the interpretation of Article 3.1(a) and footnote 4 of the SCM Agreement, which pertained to export subsidies.  The interpretation of Article 3.1(a) and footnote 4 must avoid any potential discrimination against small or export-dependent economies, the firms of which may have a higher export orientation than firms operating in economies with large domestic markets.  Where a firm had a high export orientation because of the market conditions it was operating under, and this was particularly likely for small and export-dependent economies, that "export propensity" should not contribute to a finding of export contingency.  Export subsidies were prohibited because of their potential to directly distort international trade.   It was, therefore, imperative that Members, when designing public programmes, were clearly aware of the rules that determined whether a particular programme would amount to an export subsidy.  In its findings, the Appellate Body had developed the test for determining export contingency, and thus the test for determining whether a particular subsidy amounted to a prohibited export subsidy.  The Appellate Body stated that the following question should be asked:  "Is the granting of the  subsidy geared to induce the promotion of future export performance by the recipient?"  Australia hoped that this test, expanding as it did on the guidance provided by the Appellate Body in the "Canada - Aircraft" dispute, would assist Members and panels in their consideration of whether the granting of a subsidy was, in fact, "tied to" anticipated exportation and, further, that the application of this test would not discriminate against small or export-dependent economies.   

Presumably each of these countries has been thinking about how the Appellate Body's new standard would affect their interests, both in defending their own measures and in challenging the measures of other Members.

Farm Subsidies, the U.S. Budget Deficit, and the Doha Round

Former Appellate Body Member Jim Bacchus makes the case for cutting farm subsidies:

The federal budgetary squeeze on agricultural subsidies offers the President and Congress a beckoning opportunity to seize and shape a grand global bargain on international trade. We could trade new cuts in farm subsidies for new markets to create new jobs in other sectors of trade.

Doing so could end the decade-long deadlock in the Doha Development Round of global trade negotiations. Those negotiations linger on life support, with hundreds of billions of dollars in increased trade annually -- and untold new jobs -- at risk if they fail.

...

Why not grasp this chance to defeat at long last the “Frankenstein monster” of farm subsidies? Why not cut our farm subsidies substantially now -- and craft those cuts as a new offer in the Doha round? We can reduce our deficits while also creating more jobs by opening up more foreign markets to more exports of all kinds of U.S. goods and services. 

The policy arguments seem clear and convincing.  The politics are probably more complicated.

Extinguishment of Subsidies: Three Members, Three Opinions

In case there was any doubt that the issue of whether subsidies can be "extinguished" through privatizations or other sales of a company, the three members of the Appellate Body Division in EC - Aircraft set out three separate opinions on the issue: 

726. Although the Members of this Division discussed at length the issue of extinction of subsidies in the context of partial privatizations and private-to-private sales, no common view emerged.  Without prejudice to the further considerations  and findings set out below, each Member of the Division wishes to set out separate views on this issue:

 (a) Noting that the Appellate Body has previously ruled in privatization cases that a full privatization, conducted at arm's length and for fair market value involving a complete or substantial transfer of ownership and control, "extinguishes" prior subsidies, one Member is of the view that this rule does not apply to partial privatizations or to private-to-private sales.

 (b) One Member noted that, as discussed above, the Appellate Body ruled in  US – Countervailing Measures on Certain EC Products that, in the context of Part V of the SCM Agreement, full privatization at arm's length and for fair market value may result in extinguishing the benefit received from the non-recurring financial contribution bestowed upon a state-owned firm.  In response to an argument made by the United States in that case, the Appellate Body observed that privatization at arm's length and for fair market value does not remove the equipment that a state-owned enterprise may have acquired with the financial contribution and that, consequently, the same firm may continue to make the same products with the same equipment.  The Appellate Body agreed with the United States that the utility value of equipment acquired as a result of the financial contribution is not extinguished as a result of a privatization at arm's length and for fair  market value.  However, as the Appellate Body explained, the utility value of such equipment to the newly privatized firm is legally irrelevant for purposes of determining the continued existence of a "benefit" under the  SCM Agreement.  The Appellate Body recalled that it had found in Canada – Aircraft that the value of the benefit under the  SCM Agreement is to be assessed using the marketplace as the basis for comparison.  It follows, therefore, that once a fair market price is paid for the equipment, or more broadly the assets of a company, their market value is redeemed,  regardless of the utility value a firm may derive therefrom.  In response to the argument by the United States that nothing about the company changes as a result of the privatization, the Appellate Body agreed with the panel in  US – Countervailing Measures on Certain EC Products that the new private owners are "profit-maximizers" who will seek to "recoup{} through the privatized company … a market return on the full amount of their investment."  Therefore, the new private owners may no longer benefit from any subsidies received by the company before its privatization.  This Member considers the  rationaleunderlying the Appellate Body's case law on full privatization in the context of Part V of the  SCM Agreement  equally to apply in situations of partial privatization and private-to-private transactions and in the context of Part III of the  SCM Agreement.  However, this Member also notes that, as the Appellate Body emphasized in  US – Countervailing Measures on Certain EC Products, there is "no inflexible rule" that a "benefit" derived from pre-privatization financial contributions expires following privatization at arm's length and for fair-market value.  Rather, as the Appellate Body stated, "{i}t depends on the facts of each case."  An important question in this context is to what extent the partial privatization or private-to-private transactions resulted in a transfer of control to new owners who paid fair market value for shares in the company

(c) One Member of the Division, though affirming the general test that an extinction of benefit is to be determined upon a consideration of all relevant facts, entertains no small measure of doubt that an acquisition of shares, concluded at arm's length and for fair market value, constitutes relevant circumstances warranting the conclusion that an extinction of benefit has taken  place.  A subsidy granted to a recipient company contributes to the net asset value of that company.  The value of that asset permits the recipient to enjoy an enhanced stream of future earnings over the life of the asset.  The asset is the property of the  recipient.  The recipient's shareholders enjoy the right to the dividends that may  be declared by the recipient and to any capital gains that arise from the enhanced earnings attributable to the recipient.  When shares change hands on an arm's-length basis and for fair market value, the buyer pays a price that, in the estimation of the buyer, places a proper value on the future earnings of the recipient.  Those earnings derive from all the assets of the recipient, including the benefit of any subsidy paid to the recipient.  One shareholder may not accurately value or properly manage the assets of the recipient.  Precisely for this reason, sales of shares take place:  the buyer believes that the assets, properly managed, will be worth more over time than the price paid, and the seller believes the opposite.  Time will tell who is correct.  The  central point is that a sale of shares, whether or not it conveys control, transfers rights in the shares to a new owner.  The assets of the company, to which the shares attach, do not change at all.  Nor could it be otherwise, because the buyer would then not acquire the full benefit of the bargain:  the buyer would pay for an asset (the subsidy) that had in the very sales transaction been "extinguished".  Shares in listed companies are traded on stock exchanges with great frequency and without any fear that sales on the market diminish the underlying value of the assets owned by these companies.  The changing price of listed securities reflects the different valuations that  buyers and sellers place upon companies and their underlying assets.  However, nothing about these trades extracts the value of any asset, including the benefit of any subsidy granted.  That subsidy continues to benefit the recipient, even if the ownership of the recipient's shares changes from one day to another.  Given that the Appellate Body in this case does not need to come to any final view on the issue of extinction in the context of a partial privatization or private-to-private sales, these matters do not require more definitive determination.

As I read it, Member 1 wants to keep this whole doctrine narrowed to privatizations; Member 2 buys into the general idea that the benefit of a subsidy can be extinguished through changes of ownership under certain conditions; and Member 3 thinks the benefit continues on regardless of any change in ownership.

Unlike many issues, I don't have strong feelings about this one.  I can see the arguments made by both sides.  Any readers with strong feelings, feel free to offer them in the comments!

The EC - Aircraft Appellate Body Report: The New Export Subsidy Standard

From the report: 

1044. Because anticipated exportation "alone is not proof that the granting of the subsidy is tied tothe anticipation of exportation"2342, the legal standard for  de facto  export contingency under Article 3.1(a) and footnote 4 of the SCM Agreement further requires that there exists a relationship of conditionality between the granting of the subsidy and anticipated exportation.  Where a subsidy is alleged to be "in fact tied to … anticipated exportation", the relationship of conditionality is, unlike in the case of  de jure export contingency, not expressly or by necessary implication provided in the terms of the relevant legal instrument granting the subsidy.  Under such circumstances, we consider that the factual equivalent of such conditionality can be established by recourse to the following test:  is the granting of the subsidy geared to induce the promotion of future export performance by the recipient? 

...

1046. The existence of  de facto export contingency, as set out above, "must be inferred from the total configuration of the facts constituting  and surrounding the granting of the subsidy"2343, which may include the following factors:  (i) the design and structure of the measure granting the subsidy;  (ii) the modalities of operation set out in such a measure;  and (iii) the relevant factual circumstances surrounding the granting of the subsidy that provide the context for understanding the measure's design, structure, and modalities of operation.

1047. Moreover, where relevant evidence exists, the assessment could be based on a comparison between, on the one hand, the ratio of anticipated export and domestic sales of the subsidized product that would come about in consequence of the granting of the subsidy, and, on the other hand, the situation in the absence of the subsidy.  The situation in the absence of the subsidy may be understood on the basis of historical sales of the same product by the recipient in the domestic and export markets before the subsidy was granted.  In the event that there are no historical data untainted by the subsidy, or the subsidized product is a new product for which no historical data exists, the comparison could be made with the performance that a profit-maximizing firm would hypothetically be expected to achieve in the export and domestic markets in the absence of the subsidy.  Where the evidence shows, all other things being equal, that the granting of the subsidy provides an incentive to skew anticipated sales towards exports, in comparison with the historical performance of the recipient or the hypothetical performance of a profit-maximizing firm in the absence of the subsidy, this would be an indication that the granting of the subsidy is in fact tied to anticipated exportation within the meaning of Article 3.1(a) and footnote 4 of the SCM Agreement.   

1048. The following numerical examples illustrate when the granting of a subsidy may, or may not, be geared to induce promotion of future export performance by a recipient.  Assume that a subsidy is designed to allow a recipient to increase its future production by five units.  Assume further that the existing ratio of the recipient's export sales to domestic sales, at the time the subsidy is granted, is 2:3.  The granting of the subsidy will not be tied to anticipated exportation if, all other things being equal, the anticipated ratio of export sales to domestic sales is not greater than the existing ratio.  In other words, if, under the measure granting the subsidy, the recipient would not be expected to export more than two of the additional five units to be produced, then this is indicative of the absence of a tie.  By contrast, the granting of the subsidy would be tied to anticipated exportation if, all other things equal, the recipient is expected to export at least three of the five additional units to be produced.  In other words, the subsidy is designed in such a way that it is expected to skew the recipient's future sales in favour of export sales, even though the recipient may also be expected to increase its domestic sales.

So the key to determining whether there is de facto export contingency is: whether "the granting of the subsidy provides an incentive to skew anticipated sales towards exports, in comparison with the historical performance of the recipient or the hypothetical performance of a profit-maximizing firm in the absence of the subsidy,  ..."

I talked about an "incentive to export" standard here.  Let me just say that after a first reading, I'm impressed by the clarity of the Appellate Body's reasoning, but perhaps in part that is because I agree with it!