Sunday, March 28, 2010

Is Schumer-Graham Consistent with WTO Rules?

When Sens. Chuck Schumer (D-Campaigning) and Lindsay Graham (R-Textile Industry) introduced the Currency Exchange Rate Oversight Reform Act of 2010 (S. 3134), one of the bill's big selling points was that, unlike previous currency bills, this one was, like, totally consistent with WTO rules.  For example, here's the United Steelworkers (USW) touting the bill's provisions which rewrite US law to apply countervailing duties (CVDs) on Chinese imports that allegedly benefit from PRC currency policies:
Significantly, the proposed act requires the U.S. Department of Commerce to investigate currency undervaluation as a countervailable subsidy under U.S. trade remedy laws. The USW believes a countervailing duty remedy is the simplest and most appropriate way to remedy the injurious effects of currency subsidies in a manner consistent with World Trade Organization rules.
While it's certainly true that S. 3134 abandons previous versions' most obvious WTO violation - a 27.5% tariff on all Chinese products that would expressly violate US commitments to apply tariffs in a non-discriminatory manner and below certain "bound" levels - it appears that the USW's statements about the new bill's legality are, to put it kindly, overly optimistic.

[OBVIOUS DISCLAIMER: The following is a quick-n-dirty review and in no way represents legal advice from me or my law firm.  Now back to the show.]

The legislation's new "duty" provisions are in Section 110 ("Currency Undervaluation Under Countervailing Duty Law"), and, even though the 27.5% tariff is gone, at least three immediate WTO problems stick out.  First, the legislation explicitly raises WTO concerns regarding the mandatory initiation by the Department of Commerce (DOC) of an investigation to determine whether a nation's currency policies are providing a countervailable subsidy (and thus potentially subject to remedial tariffs).  Section 110 also raises separate WTO concerns related to (1) whether currency policies are a "financial contribution" or "income or price support" by a government, and (2) the "specificity" of any subsidy conferred through such currency policies.  And here's where things get really interesting: the latter two issues, while essential components of any CVD determination, are actually absent from the legislation itself.  I opine below on why such elements could be missing; regardless of the reason, they raise serious legal questions.

Before we get to these issues, however, here's some necessary (and admittedly boring) background about the initiation of a CVD investigation and what constitutes a "countervailable subsidy" under US law.
  • Initiation. Under US law (19 USC 1671a), DOC will initiate an CVD investigation in two circumstances: automatically or by petition. Where initiation is automatic (1671a(a)), DOC will initiate where it "determines, from information available to it, that a formal [CVD] investigation is warranted." For initiation by petition (1671a(b) and (c)), DOC will initiate where: (i) the evidence provided in the petition sufficiently alleges, based on available information, the elements necessary to impose CVDs under US law; and (ii) the petition is filed by or on behalf of the domestic industry. For (ii), "by or on behalf of the domestic industry" means the domestic producers or workers representing (a) 25 percent of the like product's production; or (b) 50 percent of the production of the portion of the industry expressing "support" for the petition.
  • "Countervailable subsidy." There are three types of subsidies that may be countervailed under US law (19 USC 1677): (i) domestic subsidies, (ii) export subsidies and (iii) "import substitution" subsidies. A "subsidy" exists where DOC finds a (i) "financial contribution" or "income or price support within the meaning of Article XVI of GATT 1994" (ii) provided by a government (or entrusted/directed private entity) that (iii) confers a benefit upon the recipient.  That subsidy is only countervailable, however, if it is "specific" to an enterprise/industry.  While domestic subsidies require an express DOC finding of specificity, export subsidies ("a subsidy that is, in law or in fact, contingent upon export performance") and import substitution subsidies ("a subsidy that is contingent upon the use of domestic goods over imported goods") are automatically specific under US law (i.e., DOC need not find that the subsidies are specific to an enterprise/industry).   In these latter cases, however, DOC still must show that a subsidy exists, as per the three factors outlined above.
Now on to S. 3134's CVD provisions.  For the sake of brevity (stop laughing), I'm not going to excerpt all of Section 110, but you can read it here if you're a masochist.

The legislation amends Section 1671a(c) ("Petition determination") to force DOC to initiate a CVD investigation of currency "undervaluation" or "fundamental misalignment" where (i) a petition is filed by an "interested party" alleging the the elements necessary to impose CVDs under US law, and (ii) the petition is accompanied by sufficient information reasonably available to petitioner.  The bill does NOT, however, require that the petition be filed "by or on behalf of the domestic industry."  Thus, any interested party (like a union, perhaps?) can file a currency/CVD petition and DOC must initiate a CVD investigation even if the petitioner represents a tiny fraction of the total domestic industry involved.  Yikes.

Now, this change perhaps could have been intended to create a bizarre "hybrid" of the "automatic" and "by petition" methods of initiation, but because the bill amends 1671a(c), it must be read as a type of initiation by petition, not a type of "automatic" initiation (or some zany new form of initiation).  However, WTO rules - particularly Art. 11.4 of the WTO Subsidies (SCM) Agreement - require an examination of "industry support" where a CVD investigation is initiated by petition (using the same 25%/50% thresholds described in US Law).  Thus, it would appear that S. 3134, if enacted, probably violates Art. 11.4 of the SCM Agreement as such.

The legislation also addresses how to calculate the subsidy "benefit" during once DOC initiates a case and undertakes a CVD investigation.  Nothing overtly problematic in the benefit sections jumps out (although in practice there could be lots of problems, as Dan Ikenson notes here).  On the other hand, Section 110 is absolutely silent on (i) whether currency policy is a "financial contribution by the government" (and thus a "subsidy"); or whether (ii) any such subsidy is specific under US Law.  This is really important because S. 3134 fails to address two of the more challengeable aspects of any Law that would apply CVDs based on currency policy.

The reasons why these two aspects are so "challengeable" are very sound.  Let's consider them separately.

(1) Financial contribution or income/price support.  As noted above, US law requires that a subsidy entail an "income or price support under GATT Art. XVI" or "financial contribution."  The latter is defined in 19 USC 1677(5) as:
(i) the direct transfer of funds, such as grants, loans, and equity infusions, or the potential direct transfer of funds or liabilities, such as loan guarantees, (ii) foregoing or not collecting revenue that is otherwise due, such as granting tax credits or deductions from taxable income, (iii) providing goods or services, other than general infrastructure, or (iv) purchasing goods.
WTO rules (Art. 1 SCM) follow this language pretty closely.   GATT Art. XVI:1 includes as a subsidy "any form of price or income support, which operates directly or indirectly to increase exports from ... its territory."  Given these definitions, it is very questionable whether WTO rules would allow a national currency policy to be deemed a "financial contribution" or an "income or price support" because currency policies don't meet any of these key terms' express criteria.  Indeed, most independent analysts - like this recent CRS Report on the issue - believe that it would be a real stretch to deem currency manipulation a financial contribution.

(2) Specificity and prohibited subsidies.  WTO rules take a slightly different approach from US law regarding specificity and export subsidies or import substitution subsidies.  Article 2.1 of the SCM Agreement defines specificity ("specific to an enterprise or industry or group of enterprises or industries") and sets forth guidelines for specificity as a matter of law or fact.  Article 2.3 adds that "Any subsidy falling under the provisions of Article 3 shall be deemed to be specific."  Under Art. 3 of the SCM Agreement, export subsidies and import substitution subsidies are prohibited outright.  Art. 3.1(a) defines export subsidies as "subsidies contingent, in law or in fact, whether solely or as one of several other conditions, upon export performance, including those illustrated in Annex I."  Art. 3.1(b) defines import substitution subsidies as "subsidies contingent, whether solely or as one of several other conditions, upon the use of domestic over imported goods." Given these definitions, there is clearly a huge question as to how a nation's currency policy is "specific" to an enterprise/industry or a "prohibited subsidy" under WTO rules because a nation's currency is available to all citizens and not contingent upon exportation or import substitution.  (The CRS Report cited above also concurs with this reading.)

Because of the obvious concerns surrounding financial contribution and specificity in any CVD/currency legislation, both of these issues have been raised by critics of such bills' previous iterations.  However, the earlier bills (like S. 1027, introduced by Sens. Sherrod Brown (D-USW) and Debbie Stabenow (D-UAW) in May 2009) typically mandated that currency manipulation (or "misalignment" or "undervaluation" or whatever) expressly constituted a financial contribution, and an automatic export subsidy under US law.  The bills thus obviated the question of how DOC would find financial contribution and specificity, but they raised immediate and explicit WTO concerns under Articles 1 through 3 of the SCM Agreement.  S. 3134, on the other hand, does not address these issues at all and instead just punts the controversial issues to DOC.  And, as noted above, supporters of the bill just-so-happen to be publicly selling the new Schumer/Graham as being more WTO-compatible than past versions.  (How conveeenient!)

Given this background, it seems quite possible that S. 3134's significant omissions were expressly intended by the drafters to (i) avoid immediate scrutiny by the bill's opponents of previous CVD bills' most questionable provisions under WTO rules; (ii) provide the bill's co-sponsors with "cover" should any scrutiny arise; (iii) gain support for the bill among Senate colleagues; and (iv) maybe even delay a formal WTO challenge if the bill ever became US law.

Sneaky sneaky!

I should note that point (iv) here is quite arguable, as a WTO Member could still claim that the bill establishes "measure" that has a "prospective effect" which violates WTO rules (See, e.g., US-Continued Zeroing (AB)).  In particular, a WTO Member would argue that no financial contribution or specificity can possibly exist in the case of the countervailing duty investigations of WTO Members' currency policies that the measure (S. 3134) requires.  Such an approach not only is probably ok under WTO rules, but also is just plain ol' common sense: if I pass a law that targets redheads for taxation and mandates what to do with the "redhead revenues," but doesn't expressly direct the government to collect a tax from redheads, that doesn't mean that the law doesn't tax redheads.  Duh.

However, any such WTO challenge could not be based on the simple letter of the law itself, which merely requires DOC to initiate an investigation and provides a benefit methodology for any such investigation. Thus, one could easily see the bill's drafters purposely leaving the offending financial contribution and specificity provisions out of S. 3134 in order to achieve goals (i) through (iv) above.  But our elected representatives would never do something so surreptitious and misleading, right?


(They're still probably going to run into explicit WTO problems with those mandatory initiation provisions, but those are relatively new additions to the currency bills and definitely not as publicized/scrutinized.)

It is easy to see why the Senators' might want to avoid this scrutiny during debate, and how the lack of express WTO vulnerability on financial contribution and specificity could be a selling point to other Senators. However, shelter from immediate WTO challenge (assuming it happened, which again is far from certain) would also be quite valuable to the S. 3134's supporters, including those unions and domestic companies seeking protection from Chinese imports.  If a WTO Member actually held off on immediately challenging the new law at the WTO, the Member's next "concrete" opportunity would only come after the law is applied - i.e., after DOC had preliminarily determined in a CVD investigation that a countervailable currency subsidy existed by establishing a methodology for financial contribution and specificity.  Given the typical timeframe for drafting a petition and issuing a preliminary determination, DOC's first preliminary determination on currency subsidies could take a year or more from the law's enactment.  In the meantime, the new law's initiation provisions could lead to a flood of new CVD petitions/investigations and thereby immediately affect (read: harm) the commercial behavior of many Chinese exporters.  Thus, domestic petitioners could have a one-year "buffer" between the law's enactment and WTO challenge.  Petitioners would also be able to keep filing petitions for several more years as the original WTO challenge is litigated.  And consumers, of course, would be helpless to stop any of it.  Oh goody.

While this all may sound far-fetched, a very similar scenario actually occurred in the China/CVD/Non-market economy (NME) cases in 2006-07.  Despite the filing of a CVD/NME petition and years of political pressure to begin applying CVDs to "non-market economies," China only brought a formal WTO challenge on the issue after DOC's preliminary determination in the first CVD case (Coated Free Sheet Paper - full disclosure: my firm litigated this case on behalf of the Chinese exporters).  The WTO dispute was dropped when the International Trade Commission issued a negative final determination, but China has since filed another WTO complaint that is currently pending and won't be final (assuming the US appeals) for several more years.  Meanwhile, many other China/CVD petitions have been filed, and many countervailing duties are currently in place against Chinese imports.  Although the China/CVD case differs from the currency matter because US law was totally silent on the matter (as opposed to S. 3134 expressly amending the law), it's possible that the Schumer-Graham drafters were hoping for just such a "delayed" outcome, given (i) the past experience of the bills' drafters with intense criticism about the WTO-inconsistency of their CVD/currency bills; (ii) the S. 3134's blatant omission of any language on financial contribution or specificity; and (iii) the recent experience with the China/CVD cases in the United States.

So there you go.  Isn't US trade remedies politics fun?  Ok, fine, maybe not, but it's still critically important to recognize how professional protectionists like Schumer, Graham and the AFL-CIO try to game the system in order to quietly push their agendas and to mislead the public about the costs and implications of their suggested policies.

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