Tuesday, December 14, 2010

Big Tax Deal Sets the Stage for Future "Green" Trade Disputes

With over 83 Senators approving of the big Obama-GOP tax compromise and (most) pundits on both sides of the aisle supporting the deal, it's easy to see that, despite liberal histrionics to the contrary, the measure is going to end up as law in the very near future.  And while a free market idealist like me certainly has some gripes with the deal and would have preferred something permanent, paid-for and porkless, it's probably the best that we can expect from the current group of bumbling doofuses on Capitol Hill.  That said, several of the bill's lesser-known elements - in particular the "green" measures added to (allegedly) garner Democrat support - raise some pretty serious concerns on the trade front.  The full text of the legislation (H.R. 4853) is here, and the rundown of the the bill's green pork is in the summary released by Sen. Reid last week:
Biodiesel and renewable diesel. The bill extends through 2011 the $1.00 per gallon production tax credit for biodiesel, as well as the small agri-biodiesel producer credit of 10 cents per gallon. The bill also extends through 2011 the $1.00 per gallon production tax credit for diesel fuel created from biomass.

Refined Coal. The bill extends through 2011 the placed-in-service deadline for qualifying refined coal facilities.

Extension of energy-efficient new homes credit. The bill extends through 2011 the credit for manufacturers of energy-efficient residential homes.

Alternative fuels credit. The bill extends through 2011 the $0.50 per gallon alternative fuel tax credit. The bill does not extend this credit any liquid fuel derived from a pulp or paper manufacturing process (i.e., black liquor).

Extension of special rule for sales of electric transmission property. The bill extends through 2011 the present law deferral of gain on sales of transmission property by vertically integrated electric utilities to FERC-approved independent transmission companies.

Extension of special rule for marginal wells. The bill extends through 2011 the suspension on the taxable income limit for purposes of depleting a marginal oil or gas well.

Section 1603. The bill extends for one year the start-of-construction deadline for the cash grant in lieu of tax credit program, established in Section 1603 of the American Recovery and Reinvestment Act.

Ethanol. The bill extends through 2011 the per-gallon tax credits and outlay payments for ethanol. The bill also extends through 2011 the existing 14.27 cents per liter (54 cents per gallon) tariff on imported ethanol and the related 5.99 cents per liter (22.67 cents per gallon) tariff on ethyl tertiary-butyl ether (ETBE).

Energy-efficient appliances. The bill extends through 2011 and modifies standards for the Section 45M credit for US-based manufacture of energy-efficient clothes washers, dishwashers and refrigerators.

Energy-efficient existing homes. The bill extends the credit under Section 25C of the Code for energy-efficient improvements to existing homes, reinstating the credit as it existed before passage of the American Recovery and Reinvestment Act. Standards for property eligible under 25C are updated to reflect improvements in energy efficiency.

Alternative vehicle refueling property. The bill extends through 2011 the 30% investment tax credit for alternative vehicle refueling property.
Although I'm certainly not a fan of any of these measures, not all of them raise red flags on the trade front.  However, several of them do.  First, there's the biodiesel "blenders" tax credit, which had expired in 2009 and will be extended through 2011 (with retroactive application through all of 2010).  As you'll recall, this bit of green pork has already resulted in the EU's imposition of countervailing duties (CVDs) on US biodiesel exports and a pending copycat investigation in Australia.  And according to the WSJ, the EU is investigating allegations by its domestic biodiesel industry that US exporters are trying to circumvent the CVD order by trans-shipping their products through third countries.  When the tax credit expired, the CVD order was thought to also be on the outs, but now, well, we get more tariffs and trade frictions with the EU, the likely imposition of Australian tariffs, and the potential for other countries to copy the European case, as all that subsidized US biodiesel is inevitably overproduced and diverted to other foreign markets.  Nice.

Speaking of overproduction and foreign market saturation, next up is probably the rottenest piece of green pork in the tax deal: ethanol subsidies and tariffs.  Over the last few weeks, many folks - including Al Gore himself! - have explained just how awful America's ethanol policies are.  They cost a fortune, distort energy markets, increase food prices, encourage cronyism, and actually harm the environment.  (Great video on all of these unintended consequences here.)  Unmentioned in those analyses, however, is the serious risk that the United States' ethanol measures will result in new trade disputes.  First, the ethanol "blender" tax credit is pretty much identical to the biodiesel subsidies that have attracted EU and Australian tariffs, so they're almost certainly eligible for similar CVDs.  According to recent stats, the EU is experiencing record imports of US ethanol, and, as the FT helpfully points out, European producers are getting angry:
The US pumps out a record 37m gallons of ethanol a day, easily surpassing rival Brazil’s sugar-based industry in output.

Producers are running out of places to put this ethanol. The US government mandates 12bn gallons in the fuel supply this year, but a decline in American driving and a 10 per cent cap on how much can be blended into motor fuel has created a glut.

“The domestic market here in the US is essentially saturated. We are looking for a home for the surplus,” says Geoff Cooper at the Renewable Fuels Association, a US trade group.

That home is increasingly abroad. US ethanol exports are more than double those of a year ago, totalling 251m gallons in the nine months through September, government trade data show. The surge comes as rising sugar prices and the real’s appreciation against the dollar made Brazil’s product more expensive.

The export trend puts a spotlight on the government support for ethanol that totalled $7.7bn in 2009, according to the International Energy Agency....

Companies that blend US ethanol with petrol may claim the [45 cent-per-gallon blender’s tax] credit even if the fuel is shipped overseas. Blends of up to 90 per cent ethanol imported in Europe also enjoy customs duties that are €60-€70 lower than the €102 per cu m duty on purer “denatured” ethanol, says Christoph Berg, managing director at consultant F.O. Licht in Hamburg. The US ethanol trade data mask additional volumes hidden in petrol blends.

“There is increasing trade from the US to Europe which is using domestically produced ethanol and blends this ethanol with gasoline, thus being eligible for the [US] tax credit and also being eligible for lower import duties in the European Union. This of course makes quite a profitable operation,” says Mr Berg.

Traders acknowledged using the credit for ethanol blends before it leaves the US. “If the [credit] is not there, the demand for product stays. It just means there are higher prices,” said a senior executive at one US exporter.

But use of the credit threatens to open a rift between the US and the much smaller European ethanol industry, echoing an earlier US-EU dispute over biodiesel.

Rob Vierhout of ePure, a trade association for Europe’s ethanol industry, said: “The European ethanol industry is very concerned about the growing volume of US ethanol exports to Europe. Obviously, the weaker dollar and the blend wall create circumstances that make non-US fuel ethanol markets attractive.”

European government support to ethanol was $2.1bn in 2009, IEA said.

The US also ships ethanol to some major oil exporting countries including Saudi Arabia and the United Arab Emirates. Analysts say in many cases these exports are used as an additive to raise the quality of local petrol stocks....
Ok, let's see.  Subsidized product with a history of trade friction: check!  Glut in the domestic market and surging exports: check check!  Aggreived domestic industry with experience using domestic trade laws: check!  For those of you keeping score at home, that's the ol' trade dispute superfecta.

Furthermore, as I've noted before, Brazil has for years been threatening to challenge the United States' $0.54/gallon tariff on imported sugar ethanol as inconsistent with WTO rules.  It's quite possible that the Brazilians have been waiting to see if these silly tariffs (and subsidies) were going to expire before going through the time and expense of bringing a WTO dispute.  Well, now they know.  And even if Brazil doesn't bring a formal case to the WTO, the brazen US extension of one of the countries' biggest bilateral irritants sure isn't going to engender the cooperative spirit that will be absolutely necessary to conclude the recently-revived Doha Round in 2011, now will it?  Of course, why should our glorious, pork-loving Congress care about a silly little thing like the health of the multilateral trading system?  Blech.

Finally, the tax measure extends two subsidies for US manufacturers of "green" things like solar panels and wind turbines - the "Section 1603 grants" and the "Section 45M credit."  Each of these programs are blatant handouts to US "green" manufacturers, and as I've already discussed at length, the combination of subsidies like these and White House efforts to boost US manufacturing exports are just asking for trade frictions:
Leaving aside the absurdity of a flat-broke nation subsidizing sketchy firms with borrowed money, stories like this have "future trade problem" written all over them. You see, cheap government loans to struggling domestic companies are a common example of an illegal (or "countervailable") subsidy under global trade rules. And, if Solyndra and Tesla survive (a big "if" from the looks of it), their exports to other nations that produce similar solar panels/electric cars would be very vulnerable to national trade remedies cases, just like those EU and Aussie cases against US biofuels. And if those cases result in new tariffs and copycat cases in other markets (a very common occurrence), these companies will lose precious foreign market share and, in some cases, could even go bankrupt entirely unless alternative markets quickly materialize. Big problem.

The US is simultaneously (i) throwing billions of tax dollars at companies like ADM, Cargill, Solyndra and Tesla through various agriculture and energy programs and (ii) pushing these companies' exports through the NEI. As I mentioned months ago, such a combination is a recipe for trade frictions and maybe even a bunch of new investigations of - and eventual tariffs on - US agricultural and "green energy" exports.
Just as I predicted months ago, the still-struggling economy has caused jittery, pork-loving US lawmakers to extend many biofuel and green manufacturing subsidies in the year-end tax deal.  And with US exports surging, only time will tell if the big compromise ends up being an unintended stimulus for trade lawyers around the world.

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