Mutually Assured Trade Devastation

National Newswatch
By Peter Clark
March 2, 2017

Yesterday, President Trump tabled his 2017 Trade Agenda.  If it is put into effect, Canada may find it more difficult to exercise our WTO rights. The United States’ determination to change its tax system — in ways which could seriously impact Canada — makes the WTO challenge system more important than ever.

I am frequently asked how Canada should defend its interests if the anticipated excesses of President Trump’s trade policy will hurt us.  It is clear that new taxes or tariffs at the border of our largest export market or export subsidies on U.S. exports would be devastating for Canada. Canada needs to be able to employ and rely on the rules-based WTO system to defend its rights and export markets.  We should be concerned that President Trump’s trade Svengali Peter Navarro (officially, the head of the President’s National Trade Council) is scheming with the Office of the US Trade Representative (USTR) to avoid WTO disciplines.

Let’s be clear: the United States will be in breach of its WTO obligations if it:

• denies deductibility to imports for income tax purposes;
• introduces tariffs or surcharges on imports; or
• provides income tax credits for rebates to U.S. exports.

Yet, all of these scenarios are apparently being contemplated by the Trump Administration.  Is the U.S. capable of such irresponsible silliness?  Never say never.  We should keep in mind the core supporters President Trump is playing to. They want heads on posts.

However, it is also worth remembering what transpired after President Richard Nixon imposed a broadly based 10% surtax on imports in August 1971. Following universal condemnation and threat of countermeasures, the Nixon Shock was resolved in just a few months.

Canada may not be able to rely on the WTO to protect us.  Why? Because the Trump Administration is unlikely to be swayed by adverse WTO decisions.

If the normal rules that we have been relying on no longer apply, Canada will need to adapt to the law of the jungle. As we are Bambi to the U.S. Godzilla, we will need to be very nimble, strategic and smart.

Future USTR Bob Lighthizer has long been critical of WTO dispute settlement.  He accuses the WTO Appellate Body of re-writing the rules – a task which should be left to negotiators. As a result, the President’s 2017 Trade Agenda could be a horror show in the making.

The Trump Administration appears to be prepared to disregard any rulings it believes challenge U.S. sovereignty.  In the face of this possible onslaught on its authority, WTO Director General Roberto Azevedo did not foreclose the possibility that there might be some flexibility to meet U.S. concerns on tax credits for exports.

It is likely that implementing the President’s 2017 Trade Agenda will be a bumpy roller coaster ride.  It is encouraging that Congress is urging the President not to abandon the rules-based global trading system. Break a leg, Speaker Paul Ryan.

Much of the Trade Agenda seems routine – the same old, same old America first mantras. But what’s new is that the Trump Administration appears to be ready to throw out the baby with the bathwater.

The 2017 Trade Agenda has four key trade priorities for the new Administration:

1. defend U.S. national sovereignty over trade policy;
2. strictly enforce U.S. trade laws;
3. use all possible sources of leverage to encourage other countries to open their markets to U.S. exports of goods and services, and provide adequate and effective protection and enforcement of U.S. intellectual property rights; and
4. negotiate new and better trade deals with countries in key markets around the world.

On NAFTA, Canada is lumped together with Mexico to claim a trade deficit of more than $74 billion.  The American people did not expect this result – so let’s fix it. The Administration will hold its trading partners to higher standards and will not hesitate to use all possible legal means in response to trading partners that continue to engage in unfair activities. Clearly, fairness and unfairness is determined unilaterally by the U.S.

President Trump and Commerce Secretary Wilbur Ross were overheard chatting about using food security measures to bring Japan into line. And, with respect to the infamous 10% surcharge border adjustment tax: ten percent is no big deal, according to POTUS.

The Trade Agenda pledges that the Administration will be more aggressive in tackling unfair trade practices, including by self-initiating trade remedy cases.  I have never encountered a USTR negotiator who did not put out 120% effort. Perhaps the new ringmasters in Washington will force them to jump through different hoops.

There will be resistance and potential pain to U.S. exporters and manufacturers.  Mexican Economy Minister Ildefonso Guajardo has made it clear that if the U.S. proposes increased tariffs, Mexico will walk.  For autos, Mexico’s most important export, the WTO rate is 2.3% – not a great barrier – and without bothersome rules of origin.  Understandably, Mexico sees re-opening of NAFTA tariffs as a Pandora’s Box.

Canada should consider measured responses to any U.S. actions that would run contrary to WTO rules. There will be little point in trying to use WTO dispute settlement.  President Trump’s Trade Agenda makes it clear that this would be a waste of time – meanwhile, Canadian manufacturers, farmers and ranchers would suffer.  President Trump intends to allow 30 days for negotiations.  We should reciprocate.

With $2 billion a day crossing the border, it does not take long for harm to reach devastating proportions.  Canada must be prepared to respond – and U.S. stakeholders must understand they could be in the crosshairs.

The Trump Administration and U.S. exporters must be sensitive to what Canada can do, and they must be made to understand that we are prepared to do it. We need to hope for the best, prepare for the worst and not simply turn the other cheek.

However, we should hope that cooler heads and sober thoughts in Washington will prevail. Retaliation is a mug’s game.  As a medium-sized economy, Canada must rely on the rules, and if there are no rules, its wits.  Canada was able to handle and ultimately win a satisfactory resolution in its Country of Origin Labelling dispute with the U.S. (2008-2015) because:

• a list of potential targets for retaliation was published in the Canada Gazette;
• Ministers and officials ensured that Washington and U.S. exporters to Canada knew we were serious.

Canada does have its own trade arsenal. Any U.S. tax rebate on exports will be an export subsidy prohibited by the WTO.  Countervail duty measures may be imposed without an injury test.  A simple amendment to Section 7.1 of the Special Import Measure Act would add a hair trigger to this weapon.  Canada could employ it to impose a countervailing duty to any or all imports crossing the border.

Canada could impose a “leakage” tax on selected imports from U.S. states which do not have carbon taxes or cap and trade systems.  Carbon taxes are consumption taxes; arguably they could be imposed at the border on terms no less favourable than they are applied to domestic production.

Canada could respond to attacks on its exports under the Royal Prerogative – God Bless the Queen.  The Royal Prerogative includes reserve powers which enable the Crown to act in unprecedented emergencies which are not provided for by constitutional convention or existing law.

No doubt constitutional experts and nervous nellies around the country will debate the pros and cons of using the prerogative to declare a trade war on the U.S.  (In fact, the prerogative may even be used to start a military war).  But I am not recommending an all-out war.  Canadians would be shooting ourselves in our collective feet, one toe at a time.

If a problem arises, and only if it arises, our approach should be to make it clear to U.S. exporters that targets of retaliation will be identified and surtaxes will be imposed in 30 days.  The potential targets (which could be sectors, specific industries or products) must be carefully selected to create maximum concern – by selecting soft underbelly targets, sensitive to influential legislators and their constituents.  Furthermore, it should be made clear that our potential targets would be subject to a carousel approach – changing the items affected annually or periodically.

This is a risky game – indeed, trade retaliation is a mug’s game.  No one wins a trade war, and the smaller combatant is clearly at the greatest risk.  Let us all hope that Canada never needs to adopt such draconian measures – but unless we are prepared to defend our interests, the trade skirmishes will accelerate and intensify.

There have been positive changes in several key planks in President Trump’s election platform. There is some support for tax change in Congress – even for re-balancing NAFTA.  But, for all the tough talk about how the existing trade system disadvantages U.S. exporters, the Republicans will likely have no appetite for being challenged at town hall meetings back home for destroying the lives and livelihoods of their constituents who are affected by targeted retaliation (or by increased prices of imported goods, for that matter).

Motivating U.S. voters and business to resist the folly of President Trump’s Trade Agenda will be based on the public and legislators understanding just how destructive the President’s initiatives would be for everyone in North America.