US Trade Policy: Method to the Madness?
by Jeffrey J. Schott, Peterson Institute for International Economics
Revised version of paper prepared for the International Affairs Institute
October 11, 2002
© Peterson Institute for International Economics
The Bush administration had a remarkably productive first year in its efforts to launch or reinvigorate international trade initiatives. The Third Summit of the Americas in Quebec City in April 2001 recommitted the 34 democratic nations of the Western Hemisphere to conclude negotiations on a "Free Trade Area of the Americas (FTAA)" by January 2005. Bilateral free trade agreements (FTAs) advanced with Chile and Singapore, with final deals expected by the end of 2002. President Bush met frequently with President Vicente Fox of Mexico to deepen economic integration in North America (though the focus of those initiatives were sharply reoriented after the tragedy of September 11). Transatlantic trade relations improved markedly throughout 2001 as fractious disputes were either resolved (bananas) or managed (Foreign Sales Corporation subsidies and regulations on genetically modified foods). Most importantly, renewed US-EU cooperation provided the requisite leadership for the launch of a new round of multilateral trade negotiations at the Doha Ministerial of the World Trade Organization (WTO) in November 2001.
A few months after the Doha ministerial, however, the promise of new trade liberalization and the new WTO Round was already fading. President Bush imposed new steel import barriers in March 2002 under the "escape clause" of section 201 of US trade law. In May 2002, Congress passed a new farm bill that provides $15-20 billion per year in subsidies to US farmers. And legislation to provide the president the negotiating mandate to pursue the new trade initiatives came perilously close to defeat before passing Congress in late July 2002.
To say the least, US trade policy since Doha has sent confusing signals. Elements of the old-style protectionism commingle with the free market rhetoric of the Bush administration. Critics charge that US officials want others to "do as we say, not as we do." Can the United States really pursue its market-opening initiatives while impeding trade through new subsidies and import restrictions?
This paper assesses how this odd mixture of free trade and protectionism affects the ability of US negotiators to pursue their extensive trade-negotiating ambitions, particularly in the Doha Round. At the mid-point of the Bush administration, there is both good news and bad news. President Bush now has secured from Congress the trade-negotiating mandate denied to his predecessor. But can he use it effectively in the aftermath of his decisions on steel and farm subsidies?
Trade Promotion Authority
Passage of Trade Promotion Authority (TPA) was undoubtedly the crowning achievement of US trade policy in 2002. In my view, TPA is critical to the success of the Bush administration's trade strategy. The legislation restores "fast track" procedures that require the Congress to accept or reject the total results of a trade negotiation as a package, without amendment. What this means is that politically contentious reforms of US trade barriers—which would be untouchable if considered in isolation—could be acceptable to the Congress if the negotiations also produce substantial reforms of foreign trade barriers that benefit major US exporting interests.1 The challenge for US Trade Representative Robert Zoellick will be to produce a deal so good for US farmers and industries that the Congress could not refuse.
But did the Bush administration pay too much for the TPA? That question is hard to answer, since the President was in the market for a lot more than trade legislation. Let me sort through an admittedly complex story to try to explain how TPA emerged from the fractious trade politics of 2002.
The Bush administration faced two related challenges as it worked to secure new trade-negotiating authority from the Congress. The first priority was to strengthen the position of the Republican Party in the Congress—otherwise the President's entire agenda, not just trade, would be at risk. The Republicans did not control the Congress; indeed, they held only a small majority in the House of Representatives and the Democrats held a one-vote majority in the Senate. Many of the policies implemented to aid farmers and steel producers were designed to strengthen the President's political base for the November 2002 congressional elections in hopes of winning majorities in both houses of Congress. The impact on the TPA vote was minor and of secondary consideration. Indeed, after the farm bill was passed the Administration had to scramble to develop new WTO proposals since the new programs seemed to run counter to longstanding US objectives for farm trade reform. In short, immediate political considerations were given priority over efforts to advance major trade negotiations with longer time horizons (e.g., January 2005 for both the FTAA and WTO talks).
The second challenge was to get Congress to pass the requisite legislation. Over the past decade, the traditional bipartisan coalition in support of an open trade policy had unraveled, leaving the Congress sharply divided and highly partisan on trade issues. As a result, it had been unwilling to provide the president with "fast track" trade negotiating authority since 1994. The main battleground was the House, where Democrats had not voted to give new trade authority to their own President Clinton and were even less inclined to support President Bush.
In December 2001, "trade promotion authority", formerly known as "fast track", passed the House of Representatives by a single vote. To counter opposition from most Democratic members, President Bush had to convince almost 90 percent of the Republican caucus to support the bill—an ambitious task given the number of Republicans that represent textile and steel districts. To gain the deciding vote, the Bush Administration agreed—at the last moment during the vote-to claw back textile trade preferences for the Caribbean Basin and Andean countries that would have provided them "parity" with those accorded to Mexico under the North American Free Trade Agreement (NAFTA).
House Republican and White House political officials opted for sharply partisan tactics aimed at coalescing the Republican caucus and minimizing the need to compromise with House Democrats. The strategy worked, barely. The Senate passed by a wide margin an omnibus trade bill in May 2002 in large measure because the legislation packaged together the TPA with programs supported by Democrats such as Trade Adjustment Assistance (tripling benefits for displaced workers), and renewal of the Generalized System of Preferences and the Andean Trade Preferences Act. After a long delay, a House-Senate conference reconciled the differing bills, which subsequently passed the House (by a 3-vote margin) and Senate in late July 2002.2
The TPA applies for three years with a possible two-year extension. It is designed to meet the current deadlines for the conclusion of the Doha Round and the FTAA. If those talks are extended, as is increasingly likely, TPA would still be available until July 1, 2007, if Congress does not disapprove the extension by June 2005.
Importantly, the TPA will not constrain US officials from negotiating on any topic or liberalizing any US trade barrier. To be sure, there are onerous consultation and reporting requirements on the most politically sensitive issues—but such consultations are needed in any event to help build political support for the eventual agreement. The one provision in the Senate bill (the Dayton-Craig amendment) that would have limited the usefulness of the TPA by excluding changes in US unfair trade laws from the "fast track" procedures was deleted under threat of a presidential veto of the entire legislation.
In sum, the TPA legislation provides President Bush a "green light" to proceed with his ambitious trade agenda and the "fast track" procedures to ratify and implement the results into US law. Critics charge, however, that the legislation was a Pyrrhic victory, since the congressional vote came only after the president adopted new trade-distorting measures that could make it harder to put a big trade deal together. Did the new trade authority come at too high a price (in terms of new US trade restrictions) and with too many strings attached? The following sections summarize the new US actions and their costs and consequences for the Doha Round.
Pork and Beams Protectionism: How Much? How Bad?
In the first half of 2002, politics trumped economics with regard to US trade policy decisions. Commitments to liberalize trade in the second half of the decade were juxtaposed by actions that increased trade restrictions over the near to medium term. The two most notable examples were the new US farm bill, in which the Congress authorized massive subsidies for American farmers, and the President's decision to impose hefty tariffs on imported steel. Other actions included the latest iteration of US antidumping and countervailing duties on softwood lumber, an issue that has inflamed US-Canada relations for the past two decades, and the withdrawal of textile trade preferences noted above.
How protectionist are these actions? As with many trade policy measures, the devil is in the details. Both the new farm bill and the steel import safeguards protect US producers through complex schemes of subsidy and import restraint. But the "details" of the farm bill are more devilish and enduring. By contrast, the steel safeguards are temporary and exclude significant volumes of trade (particularly from NAFTA partners and developing countries).
The US Farm Security and Rural Investment Act of 2002
The new US farm bill was passed by the Congress and signed by President Bush on May 13, 2002. Its programs are effective for 6 "crop years" (i.e., until CY2008), with annual costs estimated in the range of $15-$20 billion. Some of the "new" subsidies are similar to former programs in place prior to the 1996 "Freedom to Farm" Act, which the new bill replaces. Tariff-rate quotas are maintained for sugar; peanut quotas are replaced by a set of price support subsidies.
What's wrong with the US Farm Bill?
First, it's too expensive. The 10-year budget cost of the farm programs is estimated at about $180 billion. The Bush administration argues that the bill simply continues spending at the same levels as the past four years; however, past totals included supplemental appropriations designed to compensate for El Nino-related droughts and floods. Now farm state legislators don't have to legislate emergency relief for their farmers-it's built into the permanent program, rain or shine.
Second, the bill introduces "countercyclical income support payments" or CCPs. In brief, CCPs essentially top up farm income when prices for most field crops fall below target prices set by the legislation. They thus encourage farmers to plant more since Uncle Sam assumes the risk if higher production depresses prices. To be sure, the new subsidies should not yield sharp price drops from current levels, but the new policies are likely to suppress substantial increases in world prices.
Third, the new US programs risk breaching US farm subsidy commitments in the future, even though current payments in 2002 probably will be consistent with WTO obligations. The Food and Agriculture Policy Research Institute (FAPRI)—the best independent analysts of the bill—predicts that there will be about a 1-in-4 chance this year that US trade—distorting subsidies (so-called "amber box") will exceed the maximum level ($19.1 billion) the United States committed to in the Uruguay Round.3 But like most things in farming, the final count will depend on the weather—and changes in world food prices.
That said, the farm bill does include a so-called "circuit breaker" that allows the US Secretary of Agriculture to adjust subsidies "to the maximum extent practicable" to meet WTO obligations. As a practical matter, however, the circuit breaker is unworkable, for several reasons. First, it is hard to imagine the US Secretary of Agriculture (1) cutting subsidies in advance, especially while farm prices and incomes are falling; or (2) cutting subsidies ex post and retroactively to meet self-assessed WTO violations. Second, it is hard to know when US farm payments are approaching the WTO thresholds, since the amount of the subsidies varies with current price movements. Moreover, the United States only notifies the value of its domestic subsidies to the WTO well after the payments have been made, so it would be difficult for other WTO members to complain before violations have occurred. More likely, the United States will probably wait for formal WTO complaints against its practices, and subsequent rulings from WTO panels a year or more later, and then use the circuit-breaker authority to implement the rulings of WTO panels.
US Steel Import Duties
The Bush administration initiated a safeguards investigation on steel imports in June 2001. The case initially covered 36.4 million short tons (based on CY2000 imports). On October 22, 2001, the US International Trade Commission found injury in 12 product categories in which US imports totaled 27 million tons in CY2000. On March 5, 2002, President Bush imposed temporary duties for three years for 10 of the 12 product categories, effective two weeks later. Flat and most bar steel products face a 30 percent tariff in the first year, which is to be phased down by 6 percent per year. Steel slab imports are subject to a tariff-rate quota; imports face a 30 percent tariff, but only after volumes by country exceed CY2000 levels. Tubular and stainless products face tariffs ranging from 8 to 15 percent in the first year, which generally will be phased down by 3 percent per year. All shipments from Canada and Mexico were exempted from the measures consistent with NAFTA obligations.
As noted above, the decision to impose import duties on steel turned primarily on electoral considerations. Indeed, new protection was basically preordained when the President agreed to "self-initiate" the safeguards case. Having done so, it would have been difficult not to act. Given this political imperative, an effort was made to minimize as much as possible the economic cost to the United States and its trading partners and to minimize the political cost to US trade relations and to the world trading system. To that end, most developing countries were exempted from the steel restrictions; the primary impact was on the European Union, Taiwan, South Korea, Japan, and China. In addition, US officials announced a series of product exceptions to the steel safeguards that exempted more than 3 million metric tons, or about 25 percent of the products initially covered by the measures imposed in March 2002. As a result, many countries were not significantly affected at the onset of the US actions because they had been either exempted as developing countries or granted special product exceptions. That is not the best way to run a rules-based system, but it has minimized the global economic impact of the steel restrictions to a significant extent.
What's wrong with the US steel safeguards?
First, the steel tariffs were ill-timed and expensive. Supplies in the US market were already tightening by the time the tariffs were imposed for several reasons:
Economics 101 teaches that if demand increases and supply falls, the price will go up. It has. The price of all steel sold in the United States has increased markedly. For example, the spot-market price of a ton of hot-rolled sheet rose from $210 in December 2001 to about $400 by mid-summer 2002. Ironically, the price spikes are so large that some foreign producers have been able to cover the 30 percent levy and still profit from sales in the US market!
Second, several countries have threatened to retaliate against US exports. For example, the European Union has constructed a retaliation "hit list" that targets more than $300 million in US exports for penalty duties—but so far has deferred implementing any countermeasures. Such restraint is judicious: retaliation against the US safeguards is arguably illegal prior to a WTO ruling and could provoke a new round of countermeasures and/or a new cycle of litigation. The WTO established a panel to investigate the matter on June 3, 2002, but is not expected to issue a ruling until Spring 2003 at the earliest.
Third, the more serious and immediate problem stems from the fact that a number of countries have emulated the US safeguards-purportedly to block shipments deflected from the US market from disrupting their own industries. The European Union, Canada, China, the Czech Republic, and Poland invoked provisional safeguards on steel soon after the US measures went into effect. In addition, Malaysia, Mexico, and Venezuela deployed what I call "free safeguard measures" by increasing their steel tariffs to levels at or under their WTO bindings. Given the scope of the exceptions to the US steel restrictions, it is hard to see the justification for such measures—except to provide protection for domestic industry. In short, the most prevalent and costly response to the US steel restrictions has been emulation of the US actions.
Reculer Pour Mieux Sauter?
Raising trade barriers before or soon after the start of trade talks is not unprecedented, but it does complicate the negotiating process. Sometimes such actions are a necessary prerequisite to moving forward in trade negotiations—if the trade intervention secures domestic support for the broader trade initiative. Passage of TPA is a positive sign, although the close vote underscores the deep divisions that prevail in Congress on trade policy issues and that will have to be overcome when a new trade pact is brought home. Whether the US actions on farm subsidies and steel will, over time, propel rather than obstruct new trade reforms thus is still an open question.
To their credit, US trade officials continue to press vigorously bilateral, regional, and multilateral trade negotiations aimed at reducing barriers to trade around the world. However, most of these talks are still at an early stage; US demarches have focused on requests for reform by other countries and not what the United States will offer in return. At some point, and probably before the next WTO ministerial in Cancun, Mexico in September 2003, the United States will have to put some of its own trade restrictions on the negotiating table.
Compared to other countries, the US market is generally open to trade. As a result of the eight previous rounds of GATT negotiations, average tariffs on farm and industrial products are low and non-tariff barriers are scattered and relatively benign. In the few cases where US trade restrictions remain, however, they are significant and protect politically powerful interests. Therein lies the challenge for US trade officials: the remaining US negotiating chips are big-ticket items and will require large concessions from US trading partners to convince the US Congress to change existing practices. That is why "fast track" trade authority is so critical.
Can the Doha Round deliver a big package of market access reforms? In part, success will turn on the response of the European Union to the US actions and US proposals; in part, success will require both trading powers to open their markets to the competitive suppliers from developing countries. At this early juncture, the outlook is guarded, for several reasons.
First, managing transatlantic trade relations has become more difficult in the wake of the new US trade restrictions and the challenges to agricultural reform posed by EU enlargement. The new US steel protection hits EU exporters harder than anyone else, affecting several million tons of annual shipments to the US market. EU officials claim the US action is illegal under WTO rules and that it has the right to retaliate immediately to redress the balance of WTO concessions. EU Trade Commissioner Pascal Lamy is under strong domestic pressure to do so, particularly since he has avoided action to date against another US program—the FSC subsidies—that already has been found to violate WTO rules.
In August 2002, WTO arbiters authorized the European Union to impose penalty duties on $4 billion of imports from the United States as retaliation for the WTO violation. The size of the retaliation bill is far too large to implement fully without inflicting substantial damage to the European economy as well as transatlantic relations. At most, I would expect EU retaliation to be applied to no more than $100 million or so of US exports, or about the same amount of trade currently covered by US retaliation against EU exports in the beef hormones case. The EU rationale for such measures would be "to keep their feet to the fire" while efforts proceed to bring US laws into conformity with WTO obligations. But clearly EU retaliation would also aim to sate the demands of protectionist lobbies in Europe-again emulating the US experience.
Of course, it would be better for all countries to avoid this cycle of retaliation; instead the United States should offer compensation, preferably by removing its own retaliatory duties against EU exporters. While such a response makes good economic sense, unfortunately the politics of the issues don't mix on either side of the Atlantic.
Steel presents the key short-term problem. The more enduring problem for transatlantic trade relations and for the Doha Round arises from the US farm bill. The new US subsidies don't have a dramatic impact on EU farmers like the steel action has on EU producers. But the reorientation of US policy away from market-driven policies could complicate efforts by European officials to reform their own trade-distorting subsidies under the Common Agricultural Policy. Ironically, these are the very subsidies that the United States has been complaining about for decades, and still hopes to winnow down in the Doha Round.
Overall, the new US farm subsidies raise the stakes in the Doha Round negotiations. It will be harder to wean US farmers off their new programs without substantial cuts in European farm subsidies and protection; in other words, absent a big WTO reform package, and with higher subsidies, US farmers will find the status quo more palatable than under the old farm regime.
Under the previous farm bill, the value of domestic farm subsidies, as counted for WTO purposes, were substantially below the maximum prescribed under US commitments in the WTO—so US negotiators had lots of room to commit to sharp reductions in the US ceiling for the "amber box" trade—distorting subsidies without actually reducing current US programs. The new bill raises US subsidies closer to that maximum level, so it will be hard to cut too much without reversing the policy changes incorporated in the 2002 legislation.5
Interestingly, the ink was barely dry on the US farm bill when US trade negotiators tabled a bold and controversial farm reform proposal in the WTO in July 2002. The US proposal covers all aspects of the agricultural agenda in the WTO-and seeks the phased elimination of export subsidies, deep cuts in farm tariffs according to a tariff harmonization formula that sets a ceiling of 25 percent, significant cuts in current levels of domestic subsidies, and broad expansion of tariff-rate quotas. If fully adopted, the proposed WTO deal could lead inter alia to perhaps a one-third cut in US domestic subsidies and a sharp increase in US sugar quotas. But it would require far deeper cuts in European domestic and export subsidies, tariffs, and quotas.
To be sure, the United States would have to rewrite its farm bill to implement a big Doha Round package of farm reforms. Such legislative reform could take two related tracks. First, changes could be included in legislation implementing the Doha Round under TPA procedures. Second, changes could be written into the 2008 Farm Bill, since by the time the WTO negotiations conclude, and the initial stages of a phased liberalization are begun, the Congress will be drafting the next farm bill. Either way, the sharp cuts in US programs probably only can be sold to Congress if the Doha Round produces a substantial narrowing in the gap between farm subsidies provided by the European Union and those by the United States.
While the initial US proposal is likely to be significantly modified in the course of the negotiations, achieving a big result in agriculture is critical to the success of the Doha Round. For developed and developing countries alike, agriculture is the linchpin of the Doha Round and large cuts in the current level of farm subsidies will be needed to craft a big package of market access reforms. If US and EU farm reforms are limited, then other countries likely will offer less not only on agriculture but also on industrial tariffs and quotas.
Such a result would have serious implications for the Doha Round. On top of the US resistance to cut high US tariffs on textiles, clothing, and footwear, failure to cut back the new farm subsidies would make it look like the United States was trying to limit reform on most items of interest to developing countries. Those countries will surely respond in kind. Remember, the Doha Round is part of the broad-based Doha Development Agenda. If the trade deal doesn't adequately address the needs of developing countries, the negotiations are likely to fail.
Why? Like its predecessor, the agreements negotiated in the Doha Round will be treated as a "single undertaking." Single undertaking is WTO-speak for an all-or-nothing deal. There won't be acceptance of any of the agreements negotiated in the Doha Round unless there is acceptance of everything in the negotiating package.
In the Uruguay Round, developing countries complained that they got roped into a number of agreements like intellectual property that they did not fully understand, or even if they did understand were not in a position to fully implement. At that time, they could not afford to say no to the Uruguay Round deal because, overall, it would strengthen the rules-based trading system from which—as the weaker powers—they benefit the most.
Ironically, due to the success of the Uruguay Round accords and the establishment of the WTO, the single undertaking now works to the advantage of the developing countries. If the industrial countries want the developing countries to agree to substantial opening of their markets, and to extend WTO disciplines to new issues like investment, competition policy, and the environment, they must put their own restrictions on the negotiating table.
In fact, WTO members explicitly committed in the Doha Declaration to liberalize restrictions that adversely affect the trade of developing countries. Paragraph 16 of the Doha Declaration commits "to reduce or as appropriate eliminate tariffs, including the reduction or elimination of tariff peaks, high tariffs, and tariff escalation, as well as non-tariff barriers, in particular on products of export interest to developing countries." Moreover, WTO agreements should afford the opportunity for developing countries to undertake "less than full reciprocity in reduction commitments." This latter clause has been interpreted, incorrectly in my view, to mean that developing countries can have a "free ride" in the market access talks. Such a view neither comports with the negotiating interests of the United States and European Union-who would not and could not accept a deal which excludes liberalization by those countries—or the economic development interests of the developing countries themselves. Rather, the clause merely reiterates standard practice in the WTO, namely that developing countries commit to market access reforms to the extent practicable given their level of development and are accorded a longer transition period to implement those reforms.
The immediate challenge for the Cancun WTO Ministerial in September 2003 is to ensure that market access negotiations are on track and hold the promise of significant liberalization of trade barriers by both the major trading powers and the developing countries. In particular, the United States and the European Union need to demonstrate their willingness to negotiate substantial market access reforms on both industrial and agricultural products of interest to developing countries. Passage of TPA and new US farm proposals are welcome first steps. Such progress needs to be complemented by resolution of problems related to the implementation of the Uruguay Round accords, and at least interim reforms of the WTO dispute settlement understanding. Progress on the market access concerns of developing countries should, in turn, allow the formal launch of negotiations on the Singapore issues, so that the entire Doha agenda can move forward.
Reducing trade barriers protecting industrial country markets would provide a substantial contribution to economic development in developing countries. Of course, the protection that remains in the United States and Europe has survived eight previous rounds of trade negotiations and is well entrenched with powerful political supporters. It will take some courageous action to develop sufficient political backing to implement the necessary reforms-even partial reforms taken in incremental steps. The new protection in the United States has made that task more difficult, but no less urgent.
1. In the Tokyo Round, for example, the United States agreed to reform another "untouchable" (in this case, adding an injury test in its countervailing duty law) in return for strong new disciplines on foreign export subsidies and other reforms.
2. The final bill also restored many of the textile trade benefits for Caribbean and Andean countries that had been cut back earlier.
3. Presentation by Robert E. Young II, 20 August 2002, http://www.fapri.missouri.edu.
4. Data reported by the American Iron and Steel Institute.
5. For a detailed examination of the new law, with a side-by-side comparison with the former programs, see http://www.ers.usda.gov/Features/FarmBill/Analysis.