Foreign Trade Zones, Bonded Warehouses and Free Trade Agreements: Lowering Your “Landed Costs”

FTZ The Port of Melbourne has announced major investments to expand terminal operations at Webb Dock East.

Foreign Trade Zones, Free Trade Agreements, Global Trade Daily, International Trade

Foreign Trade Zones, Bonded Warehouses and Free Trade Agreements: Lowering Your “Landed Costs”

April 12th, 2022 Thomas Cook Leave a comment

Foreign Trade Zones

FTZ’s have been an excellent source for lowering “landed costs” in face of increasing freight costs and long delays in the global supply chain, over the last two years due to the Pandemic and that impact which is now lasting well into 2022.

The primary reasons for considering FTZ’s in your global supply chain are:
– Ease of moving freight to and from the borders between trading countries
– Reduction or elimination of duties, taxes and other import/export costs
– Financial incentives on a local level
– Lowers the “landed costs” in your import/export business model
– Provides financial incentives that translates to lower operating costs in your import and export transactions

There are other advantages that may be unique to geographic location and industry verticals.

The automotive industry which is dominated by foreign competition has been one of the major industry verticals to capitalize on FTZ’s here in the United States, as well as many countries abroad.

The basic FTZ model allows a company to manufacture or assemble finished products in a country abroad utilizing local labor for the specific purpose of reducing landed cost.

For example, a German car manufacturer sells a car in the U.S. for $50,000. Duties and taxes can add another $1500 to the landed cost.

Through the utilization of a FTZ strategically placed here in the United States. That German car manufacturer could import parts from Germany and utilize U.S labor to work in their U.S. factory.

Upon entry into the U.S. FTZ, duties and taxes on the parts are deferred. Upon assembly completion, the car leaves the FTZ for ultimate sale and that is when the deferred portion of the tax and duties are paid. If labor costs make up 50% of the $50,000 value, … only $25,000 is applicable to duty and tax.

This model (simplified by design for this article) reduces the “landed cost” by approximately $750.00 per vehicle. Compare this against 200,000 units and the savings could amount to over $150,000,000.00 annually.

There are numerous other benefits to FTZ’s that would need to be considered in any business model assessment.

In the above FTZ model, the utilization is assembly and manufacturing. More recent options allow high volume importers to have their goods pass through FTZ’s as they transit from the gateway through to their warehouses and distribution facilities.

This step allows a “weekly manifest clearance” which reduces entry fees and Merchandise Processing Fees (MPF) creating a significant financial savings impacting landed cost.

Consulting companies can help companies assess the benefits of an FTZ and weigh them against the costs and challenges to make it happen.

Bonded Warehouses

Another option, similar to but different from a FTZ is the “Bonded Warehouse”. Bonded warehouses are a supply chain option which allows importers and exporters to temporarily hold freight where the import is deferred along with duties, taxes and other import costs, until such time the goods enter the country or are exported from that country.

For example, let’s take a Cleveland based electronics distributor importing consumer music products from Asia, totaling over 200m annually with an average duty rate of 4.5 %. Approximately 20% of the products are then re-exported to Canada, the Caribbean and Latin America.

Under their current supply chain model, they utilize CBP’s drawback program to obtain up to 99% of the duties and taxes for those exports, totaling 1.8m annually. While drawback is a great program, it can be arduous and costly to manage and takes time to receive the refund of duties.

As an alternative, the distributor can apply to CBP to make their warehousing facility a bonded location. This will defer the duties and taxes to goods entering the warehouse to the point in time they are extracted from the facility.

Additionally, the 20% of the goods that are re-exported come in and leave the USA in bond and no duties or taxes are obligated to be paid providing significant savings in supply chain costs.

Bonded warehouses provide additional benefits, but the operations permitted in a bonded warehouse are limited so sorting, weighing and repacking. If the goods enter the warehouse as a widget, they must leave as a widget.

For Bonded versus FTZ … four steps must be completed to decide which may present the best option to the principal company.

These four steps allow a detailed assessment of the options, the benefits and challenges, a ROI, an operational overview … followed by implementation.

The process can take from 60-180 Days and will have costs involved in all the steps that are typically outweighed from the residual and ongoing financial benefits.

Free Trade Agreements (FTA’s)

FTA’s offer numerous advantages to both importers and exporters. Currently the U.S. participates in over thirteen agreements with numerous ones pending. The most well-known FTA is USMCA (Previously called NAFTA), which has consistently provided overwhelming ROI to Canada, Mexico and the United States.

When the three participating countries … USA, Canada and Mexico trade with one another there is a serious reduction of duties and taxes on qualified goods and merchandise.

The most advantageous benefit in the FTA’s is the free movement of goods between participating countries where duties and taxes are reduced or eliminated.

“Near Sourcing” is the recent phenomenon in global trade where trade is coming back to the USA or our USMCA partners. FTA’s provide a more level playing field, particularly against lower Asian based sourcing models.

Lower freight costs, reduced lead times and elimination of duties and taxes can very easily make manufacturing in Mexico or in a USA based FTZ … a much more competitive option, thereby leveraging critical logistics business model options.

Mexico enjoys a “Maquiladora Program” which greatly enhances USMCA benefits where manufacturing and assembly is done in Mexico for goods which will eventually be shipped to the USA.

Other countries such as but not limited to:

Australia Bahrain

Canada Chile
Colombia Costa Rica
Dominican Republic El Salvador
Guatemala Honduras
Israel Jordan
Korea Mexico
Morocco Nicaragua
Oman Panama
Peru Singapore

When searching out trading partners as sourcing or selling options … Free Trade Agreement Countries can provide competitive advantage to the buyers and sellers.

As political problems increase with China and disruptions in trade happen now with what we have with Russia … it makes the case for American Companies to buy and sell from trading partners where there are more favorable and sustainable working environments … and that can be leveraged to each party’s advantage.

inflation "made in Ukrainian" product imported into Israel, is that the product is manufactured in the territory of Ukraine.

Archives, EU Trade, Global Trade Daily, News, War

The Impact of the War in Ukraine on the Free Trade Agreements with Israel and the EU

April 11th, 2022 Omer Wagner Leave a comment

As is well known, the war between Russia and Ukraine affects a wide range of areas, both security and economic.

This new war situation created, may also affect aspects related to imports and exports between Israel and Ukraine, aspects of customs duties, and other import taxes.

Israel and Ukraine have signed in 2019 a Free Trade Agreement (FTA), and entered into force in January 2021 (1).

Under the FTA, the imposition of customs duties on the movement of goods between countries was abolished, in relation to most types of products, mainly industrial, and the reduction of customs duties on agricultural products.

The main products that Israel imports from Ukraine are agricultural products and food products, metals and machinery (2).
One of the basic conditions in the FTA for granting a customs exemption for a “made in Ukrainian” product imported into Israel, is that the product is manufactured in the territory
of Ukraine.

The FTA defines in Article 1.2(w)(1), that the territory of Ukraine, is:
“…the land territory, internal waters, and territorial sea of Ukraine and the airspace above them and the exclusive (maritime) economic zone and continental shelf, over which Ukraine exercise sovereign rights and jurisdiction in accordance with its national laws in force and international law…”

The new war situation that has arisen may intrigue the interesting legal question of: What is the origin of a product manufactured in the territories of eastern Ukraine, that are de-facto, under the control of Russia.

That is, whether for the purposes of the FTA with Israel, such a product remains a “Made in Ukriane” product, or not.
This is not an academic question, but a question that may directly affect the question of whether the product will be subject to customs duty on imports to Israel, or not.

It is important to note that there is no FTA between Israel and Russia, and therefore products made in Russia, imported into Israel, are usually subject to customs duties upon importation.
Israel has been negotiating with the Eurasian Economic Union (Russia, Belarus, Kazakhstan, Armenia, Kyrgyzstan) for several years to sign a FTA, but the talks have not yielded to an agreement yet.

For example, ketchup imported from Russia to Israel is subjected to a 12% customs duty, and if imported from Ukraine, is subjected to a reduced duty rate of about 8.5%. Imports of electric motors from Russia are subject to 12% customs duty and from Ukraine to Israel is
exempted, and there are many more examples.

Apart from Israel, Ukraine has other FTA, for example, with Canada and the EU countries, and also in these agreements a basic condition for granting a customs exemption for a product made in Ukraine is that it creates in Ukrainian territory.

The EU, by the way, has already hastened to issue a notice on February 23 rd , 2022 stating that products arriving from the Donetsk and Lugansk territories in Ukraine will not enjoy a
customs benefit when entering the EU, due to difficulty in verifying the Ukrainian origin of the product (3).

Needless to say, this is not the first time there has been a territorial dispute over certain territories in the world, and any such dispute usually has one effect or another on trade relations between countries.

For example, in this context it is interesting to note that the European Union, which has had a FTA with the State of Israel since 1995, previously declared that the territories of Judea and Samaria (the west bank), including territories from Modi’in-Maccabim-Reut, and the Golan Heights (north of Israel, near Syria), would not be considered as the State of Israel for the FTA purposes. Therefore, according to the EUs decision, a product manufactured in these territories will not enjoy a customs benefit upon entering the EU.

This case even came to a decision in the European Court of Justice, which ruled that products manufactured by Soda Club in Mishor Adumim (near Jerusalem) would not enjoy a customs benefit when
entering Germany. Contrary to this, when it comes to other territorial disputes, such as Turkish Cyprus, or the Falkland Islands (dispute between Britain and Argentina), no similar declarations have been made.

In my opinion, the State of Israel will not be interested in undermining trade relations with Ukraine or Russia, and therefore will not issue declarations regarding the disputed territories of east Ukraine.

Free Trade Agreements, Global Trade Daily, International Trade

African Free Trade Area Presents Opportunity and Obstacles Ahead

October 1st, 2021 Afke Zeilstra Leave a comment

The African continent is on the cusp of long-term economic opportunity thanks to the inception of the African Continental Free Trade Area (AfCFTA), which came into effect in January 2021. The AfCFTA could boost Africa’s growth potential as the agreement intends to liberalize trade across Africa over the next few years. It provides optimism for a region that has been hit hard by the pandemic.

The impact of the pandemic has been uneven across African economies, with some suffering from severe economic contractions, while others managed to record small growth rates. The post-pandemic outlook differs from country-to-country, but most are subject to high uncertainty due to the rise in infections and the slow vaccination process. In the long run, the AfCFTA could be pivotal in Africa’s growth potential as the agreement foresees fundamental freedom of trade in Africa in the next few years.

The agreement has the potential to accelerate African growth rates after the negative impact of the COVID-19 pandemic, according to a recent economic outlook report for the Sub-Saharan Africa (SSA) region from trade credit insurer Atradius.

Early optics reveal uneven results

While long-term results of the implementation of the AfCFTA, the immediate optics are not looking promising for most countries. Some challenges have to be overcome before the AfCFTA is successfully implemented and countries can reap the benefits. In the short run, protectionist tendencies, insufficient capacity to expand cross-border infrastructure, political instability and weak government finances, among other things hinder a full implementation of the agreement.

The AfCFTA’s full implementation has a long way to go, with several countries needing to first establish the necessary customs infrastructure and required procedures to trade. Countries that already have action plans and customs procedures in place, as well as relatively low barriers to trade with other African countries, will likely see success early on. So far, only Egypt, Ghana and South Africa have accomplished the necessary customs infrastructure. Countries that are likely to benefit the most are those with relatively open and diversified economies and well-established trade links, like South Africa. This also applies to other regional trading hubs such as Kenya, Senegal and Cote d’Ivoire.

Economies emerge from harsh COVID effects

Last year’s economic contraction of 1% was the lowest ever witnessed in the region and was stark in comparison to average annual growth of 4.3% since 2010. COVID-19 hit African countries with a drop in trade, lower commodity prices, fewer tourist arrivals, lower remittances and lower foreign investments. Additionally, many countries introduced strict lockdowns in the beginning of the pandemic that hurt domestic economic activity.

Thankfully, 2021 has seen a recovery in the global economy and higher commodity prices, supporting the economic recovery in Africa. Economic growth is expected to reach 1.3% this year. A recovery that is quite moderate, especially in comparison to other regions in the world. Reasons for this are the limited room for government support and the slow vaccine distribution. Similar to other parts of the world, many African governments supported their economies resulting in high budget deficits and an increase in public debt. Now, many face high debt levels that will limit further support and even constrain public investments over the next few years. Therefore, many countries are not expected to return to their pre-pandemic growth figures. The economic outlook is also uncertain due the continued spread of COVID-19 coupled with the slow vaccination process.

Uneven recovery underway for Sub-Saharan Africa

While there is an economic recovery underway for SSA, it will be slow and mostly uneven throughout the region. Oil exporting countries, hit hard by the pandemic, like Nigeria and Angola, will see a particularly slow recovery. Small island economies dependent on tourism, like Mauritius, which recorded deep recessions last year will likely see one of the highest economic growth figures in Africa this year. However, this is still uncertain, as it depends on the expected gradual recovery in tourism.

The more diversified economies fared relatively well through the pandemic and will have a strong economic recovery. Countries such as Kenya, Ghana and Côte d’Ivoire recorded a small contraction or even a positive economic growth last year and are among the top performers.

Opportunities for the region could be on the horizon in the form of the African Continental Free Trade Area (AfCFTA). Although in the short term there is much to overcome, once it reaches full implementation on the longer term, it is set to benefit several African economies.

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Afke Zeilstra is a senior economist for Atradius

Archives, Global Trade Daily, Imports/Exports

40% OF AMERICANS SAY THEY WON’T BUY “MADE IN CHINA,” DO THEY MEAN IT?

November 25th, 2020 Christine McDaniel Leave a comment

In a survey back in May, more than 1,000 American adults, 40 percent said, “I will not purchase products made in China.” And for the first time since 2002, China is no longer consistently our top source of imports. Are we putting our money where our mouths are?

Here’s a thought experiment.

Imports are approximately 15 percent of total U.S. consumption. China’s share of U.S. imports is about 21 percent, so our imports from China represent 3.15 percent of GDP. Forty percent of that is 1.26 percent. In a straight calculation, if 40 percent of our imports from China disappeared, then 1.26 percent of GDP would also disappear.

Of course, it’s not so straightforward. More realistically, those American consumers and producers who are trying to stop buying from China have some decisions to make. Do I buy imported items from another country or can they instead be made here at home, albeit likely at greater expense? Am I willing to pay more?

Ripple Effect of U.S. Imports From China

There are also indirect effects. Data from the Organization for Economic Cooperation and Development show that 15.5 percent of our exports are produced or manufactured using foreign components. Of course some of that is from China and would have to be sourced differently, possibly at greater expense.

And in other potential knock-on effects, what if China, in turn, stopped buying from us overnight? China’s share of U.S. exports is 7.2 percent and the U.S. export share of GDP is 12.2 percent. Such a sea change could affect close to one percent of our GDP. American exporters would have to find buyers in other export markets (albeit potentially at a lower price because if buyers in other countries were willing to pay more than China, we’d be selling there already instead).

So the question is, can we believe those 1,000 adults in the survey who say they won’t buy “Made in China”? There is a well-known response bias in surveys that occurs when survey respondents are emotive about the subject. In other words, people often say one thing but do another.

American views on China have been steadily declining for a few years and have further deteriorated with the backlash over the COVID-19 pandemic. But if history is our guide, we should not expect people to pay much extra to shun Chinese-made goods. Shoppers are price sensitive, especially lower-income consumers. And as we climb out of our pandemic-induced economic hole, Americans will be shopping for deals.

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Christine McDaniel a former senior economist with the White House Council of Economic Advisers and deputy assistant Treasury secretary for economic policy, is a senior research fellow with the Mercatus Center at George Mason University.

This article originally appeared on TradeVistas.org. Republished with permission.

Free Trade Agreements, Global Trade Daily, International Trade

Out of Asia: Promise from Pandemic of a Manufacturing Renaissance in North America (Part 3)

November 18th, 2020 George Y. Gonzalez and Jesus Alcocer, Haynes and Boone Leave a comment

In their first two installments (which you can view here and here), George Y. Gonzalez and Jesus Alcocer respond to the gaps exposed in the supply chain by the pandemic by proposing a shift away from overreliance on China and a shift towards reshoring manufacturing closer to home. In their final installment, they will explore how the potential cost of reshoring out of Asia to North America could be lessened if capacity is relocated to Mexico, a natural alternative. Wrapping up their discussion, they will also examine how Houston may serve as a central hub for cross-national manufacturing and trade.

Mexico Has Also Been a Beneficiary of This Shift Out of China

Mexico has benefited from this rearrangement almost as much as Vietnam. According to A.T. Kearney, manufacturing imports from Mexico rose $13 billion to $20 billion in 2019. Thanks to this climb, the U.S. now imports 42 cents from Mexico for every dollar it purchased from LCAs, up from 37 cents during the past seven years. This pattern has also extended into 2020. In the first quarter of this year, imports in maintenance and repair, construction, and insurance sectors all grew in the triple digits, while imports of information and communications technology products (“ICT”) grew 20% year-on-year.

The trade relationship between the two North American countries has developed in spite of political obstacles. The Trump Administration imposed tariffs on Mexico-produced steel in 2018 but removed those barriers in May 2019. Likewise, Andres Manuel Lopez Obrador, Mexico’s president since 2018, was widely regarded as a nationalist suspicious of international trade. According to the Congressional Research Service, “in the area of foreign policy, President-elect López Obrador generally has maintained that the best foreign policy is a strong domestic policy.… Some observers feared that López Obrador might roll back Mexico’s market-friendly reforms and adopt a more isolationist foreign policy.” Against these inauspicious circumstances, bilateral trade has grown steadily since 2016. Mexico surpassed Canada as the U.S.’s largest trade partner in 2019. In 2013, Canada exported 8.3% more to the United States than Mexico. Now the order has reversed, with Mexico exporting .5% more than Canada into the U.S.

Growing imports can be partly explained by a hike in U.S. FDI in Mexico, which grew approximately 5.2% between 2018 and 2019 to $100.89 billion. Investment in primary and prefabricated metals manufacturing close to doubled from 2015 to 2019 to close to $2.27 billion, while FDI in machinery manufacturing grew about 25% during that same period. These are some of the industries where U.S. FDI in China has dropped most sharply, as explained above. Rising FDI stock was driven by waves of U.S. companies establishing a base or increasing their footprint in Mexico, following the market-oriented reforms in that country in the last decade. According to A.T. Kearney, by 2016 more than half of U.S. companies with manufacturing operations in Mexico had relocated production therefrom places such as China to supply the U.S. market.

Moreover, according to the Boston Consulting Group, some major Chinese consumer electronics manufactures have been adding capacity in Mexico to serve demand in Latin America. This broadly corresponds to the Chamber survey referenced above, which indicates that while LACs are still the top relocation choice for U.S. firms, North America is an increasingly popular option. Close to 17% of the firms dislocating their operations from China in 2020 indicated they would move that capacity to Mexico or Canada, up from 10% in 2019. An additional 22% reported they would move it to the U.S., up from 17% in 2019.

Mexico as a Natural Alternative

Mexico is already the U.S.’s largest trading partner, as well as the manufacturing base for a substantial part of its products. Last year, Mexico traded $614 billion with the U.S. – surpassing Canada ($612 billion) and China ($558 billion). “Merchandise trade between the two countries in 2018 was six times higher (in nominal terms) than in 1993, the year NAFTA entered into force,” according to the Congressional Research Service. Among the leading U.S. exports to Mexico are “petroleum and coal products ($28.8 billion or 11% of exports to Mexico), motor vehicle parts ($20.2 billion or 8% of exports), computer equipment ($17.4 billion or 7% of exports), and semiconductors and other electronic components ($13.1 billion or 5% of exports).” On the other hand, the top U.S. imports from Mexico in 2018 included “motor vehicles ($64.5 billion or 19% of imports from Mexico), motor vehicle parts ($49.8 billion or 14% of imports), computer equipment ($26.6 billion or 8% of imports), oil and gas ($14.5 billion or 4% of imports), and electrical equipment ($11.9 billion or 3% of imports).”

Increasing the cross-border manufacturing prompted by NAFTA may be the most practical way for the U.S. to eliminate its cost gap with China. “Many economists credit NAFTA with helping U.S. manufacturing industries, especially the U.S. auto industry, become more globally competitive through the development of supply chains in North America. A significant portion of merchandise trade between the U.S. and Mexico occurs in the context of production sharing as manufacturers in each country work together to create goods.” Mexico’s wage growth is on par with Vietnam’s, but Mexico’s productivity is about 5.2 times higher. Mexico’s combination of low labor costs and relatively high productivity result in production costs that are 20-30% lower than in the U.S. (including transportation and associated fees).

Mexico also has an important advantage vis-à-vis China with respect to transportation costs, which account for a significant portion of costs in industries like metals and automotive parts. Shipping a 40-foot container loaded with automotive parts from Shanghai to Los Angeles cost an average of $1,374.03 – $1,518.66 (before taxes and duties) in July 2020. Shipping that same container from Veracruz, in the Gulf of Mexico, to New York, cost $1,102.24 – $1,218.27. Sending that same container by truck from northern Tamaulipas, where a large portion of the country’s manufacturing base is located, to Houston cost an average of $304.11 – $336.12 – four to five times less than shipping it from China. Mexico also maintains a clear edge in delivery time. It takes 75% less time to transport goods to the customer from Mexico than from Asia. Proximity is an essential advantage in industries that are shifting towards highly personalized products, including electronics, automotive, and clothing. The short distance can also be exploited to combine the countries’ supply chains across the border, one of the main drivers of economic growth under NAFTA.

According to the Center for Car Research, between 80 and 90% of U.S. automotive trade is intra-industry, and parts produced in Mexico and the U.S. cross the border up to eight times along the manufacturing process before they are delivered to consumers. In fact, on average, close to 40% of the content of a vehicle produced in Mexico was initially imported from the United States. This tight integration was only achieved after the NAFTA, which allowed producers to spread their supply chain across the border. Before 1993, for example, the vehicles produced in Mexico contained only 5% of parts produced in the U.S

The Effect of the USMCA

NAFTA completely changed the landscape of North America by driving unprecedented integration in the region and generating a dramatic increase in trade and cross-border investment. NAFTA also had an essential role in promoting Mexico’s privatization, where state-owned enterprises represented a substantial part of production until at least 1988. Between 1988 and 1994, 390 Mexican businesses were privatized – close to 63% of large corporations in the country. Telling of Mexico’s explosive development in this era is that before 1988 there was only one billionaire family in Mexico: Monterrey’s Garza Sada, who made their fortune selling beer and steel. In 1994, however, Forbes’s ranks included 24 Mexican billionaires. Between 1993 and 1994 alone, the number of multimillionaires in the country rose by 85%.

The USMCA, which consists of 34 chapters, four annexes, and 14 side letters, will further encourage growth by maintaining the most important aspects of NAFTA: a legal framework with protections for foreign investors and a free-market zone between the three nations. It will also maintain investor-state dispute settlement (ISDS) “between the United States and Mexico for claimants regarding government contracts in the oil, natural gas, power generation, infrastructure, and telecommunications sectors; and maintains U.S.-Mexico ISDS in other sectors provided the claimant exhausts national remedies first.” According to the Congressional Research Service, ratification of the treaty was expected to remove some investors’ unease about domestic policy uncertainty and the international economy. “Longer-term prospects for export-oriented manufacturing, as well as oil production, appear positive,” according to that report. After the elimination of steel tariffs on Mexico and Canada in May of last year, the International Monetary Fund (IMF) estimates that the USMCA will increase trade between the three North American countries by approximately $15 billion.

Among the most significant achievements of the USMCA is that it will accelerate the integration of energy [utilization] on both sides of the U.S.-Mexico border. The treaty maintains NAFTA’s zero tariffs for energy products, which have made Mexico “the No. 1 export market for U.S. natural gas and refined products and the No. 4 export market for upstream oil and gas equipment.” It also locked in Mexico’s historic 2013 energy reform, which allowed foreign investment in oil and gas. Previously, state-owned Pemex was the only company allowed to invest in Mexico’s energy sector, a state of affairs that NAFTA explicitly acknowledged. The USMCA also facilitates the transport of energy products. For example, it allows “hydrocarbons transported through pipelines to qualify as originating, provided that any diluent, regardless of origin, does not constitute more than 40% of the volume of the good.” Lastly, it maintains the automatic export approvals for U.S. liquified natural gas (LNG) that is exported to Mexico or Canada.

Another key feature of the treaty is the customs administration chapter. This section mandates streamlined procedures that lower the time, complexity, and cost of exporting and importing many goods. According to the IMG, “most of the benefits of USMCA would come from trade facilitation measures that modernize and integrate customs procedures to reduce trade costs and border inefficiencies further.” The international organizations indicate these new procedures could lead to “one-tenth of a percent reduction in regional merchandise trade cost.” This section will also boost the trade of low-value products because it raises the value-thresholds for products eligible for tax-free, duty-free, streamlined customs, treatment. Mexico’s $50 limit for tax-free entry has remained the same, but products up to US $117 can now enter duty-free entry through a simplified customs processes. The IMF expects these modifications to benefit small and medium businesses, as well as online retailers. They may also have an impact on manufacturing processes where the value of parts that cross the border is low.

The treaty also strengthens IP protections. Intellectual property is one of the U.S.’s most significant exports, and IP-intensive industries generate 45 million jobs in the U.S., as well as close to $6 trillion dollars per year (38% of the GDP). This is also one of the sectors where the U.S. has enjoyed a significant and consistent trade surplus. According to the Congressional Research Service, “IP-intensive goods and services are an important part of U.S. trade with Canada and Mexico.” Chapter 20 of the USMCA established a committee on IP rights, which will deal with concerns related to trade secrets and patent litigation, as well as a mediator in some IP disputes. The USMCA also extended minimum copyright protection to 70 years, up from 50 years under NAFTA, and retains a minimum of 20 years for patent protections. Moreover, it empowers copyright possessors to “expeditiously” enforce their rights in online settings. Law enforcement officers are also entitled to “stop suspected counterfeit or pirated goods at every phase of entering, exiting, and transiting through the territory of any Party.” Lastly, many violations of copyright and trade secrets, now carry criminal sanctions under the treaty, including cyber theft — even if the perpetrator is a state-owned entity.

The USMCA’s strong IP protection contrasts with the perceived weaknesses of China’s IP regime. In 2018, a U.S. Trade Representative’s investigation indicated that the U.S. government would take actions to curve China’s “forced technology transfer requirements, cyber-theft of U.S. trade secrets, discriminatory licensing requirements, and attempts to acquire U.S. technology to advance its industrial policies.” For instance, U.S. Customs and Border Protection reported stopped $1.2 billion of IP-infringing goods at coming into the U.S., with China being the largest source.

The onset of the COVID-19 pandemic has revamped reported IP violations of Chinese entities in the pharmaceutical industry. The Wuhan Institute of Virology recently applied for a patent of a compound based on Gilead Sciences -produced Remdesivir, which has been hailed as a potential medication for COVID-19 patients. China-based BrightGene Bio-Medical Technology Co. is also in the process of manufacturing a Remdesivir generic. It is worth noting “that Gilead’s patent application in China for Remdesivir use in coronaviruses has been pending since 2016.” The Chinese government has also found a potent tool to promote technology transfer through its antitrust law. “China has required technology transfer in antitrust reviews of foreign firms in China 2025 sectors,” according to the Congressional Research Service.

Finally, the treaty includes new rules that will require Mexico to increase the wages of some of its workers in the automotive industry and to source a larger part of its manufacturing materials within North America. Vehicles must now contain at least 75% of content sourced in North America to be eligible for tariff exemptions. Likewise, it dictates that at least 70% of a producer’s steel and aluminum purchases must originate in North America to be eligible for exemptions and eliminates several loopholes that allowed for transshipments under NAFTA. These sections were aimed in part at encouraging member states to displace Asia as the source of steel, aluminum, and electronic components, according to a professor at the business school of the Tecnológico de Monterrey.

The Mexican government has been in talks with a host of Asian steel producers, including South Korea’s POSCO, Japan’s Nippon Steel Corp, and Mitsubishi Corp, about the possibility of manufacturing steel for the auto sector in Mexico, in order to take advantage of the local content rule, according to Reuters. The news agency also reported that Andres Manuel Lopez Obrador’s administration is enticing Apple to set up manufacturing bases in the country. “These phones don’t have to be produced in China … there is an enormous opportunity to produce them” in Mexico, Economy Minister Graciela Marquez told Reuters.

The Mexico Texas Relationship

The relationship of Mexico with Texas is historical and current. The Lone Star State was part of Mexico until 1836. Today, people of Mexican ancestry account for close to 36.6% of Texas’s residents, and Spanish is spoken in the homes of close to 30% of Texans, according to data from the U.S. Census Bureau. Their economic ties are as strong as their cultural and ethnic ones. Texas accounts for 44.41% of the U.S.’s trade with Mexico, followed by California – which accounts for 11.6%. Mexico is also Texas’s largest foreign trading partner, representing 43.79% of its exports and 35.15% of its imports. China, in contrast, makes up for 8.7% of Texas’s exports, and 14.6% of its imports Texas also carries approximately 72% of all imports by value coming from Mexico to the U.S. Laredo, which received $132 billion in imports from Mexico by truck last year, itself accounts for about 40% of all truck cargo from Mexico into the U.S., according to data from the Department of Transportation.

Mexico and Texas’s heavy trade in oil products and vehicles underscore the robustness of their trade relationship. Oil and bitumen substances corresponded to 21.8% of Texas’s total exports to Mexico in 2017. Texas also accounted for 61.5% of propane and 40.9% natural gas Mexico purchased from the U.S. Likewise, oil represented close to 10% of Mexico’s exports to Texas, which is about 69% of all oil Mexico exports to the U.S. The USMCA, by maintaining zero tariffs in energy products and reinforcing Mexico’s energy reform, will potentiate trade in this area. Mexico exported approximately $5.3 billion worth of vehicles to Texas in 2018, close to 23% of the total value of the vehicles it exported to the U.S. that year. An important part of this trade takes place within the automotive manufacturing process, where energy cost is a critical component.

Can Houston Become North America’s Hong Kong?

Houston is well-positioned to serve as a hub for the growing trade cross-national manufacturing base in the U.S.-Mexico border. Houston serves as a gateway for a substantial portion of foreign trade in the U.S. and is ranked as one of the easiest places to do business in North America. Texas’s ports receive more cargo than any other state at 573 million tons – which accounted for approximately 23% of all waterborne cargo in the U.S. in 2018. Neighboring Louisiana is the second largest with 569 million tons. California, in contrast, carried 249 million tonnes – less than half of Texas’s amount, according to data from the U.S. Army Corps of Engineers.

Houston itself was the largest carrier of international cargo in 2018, at 191 million tons (up 10% year on year). The port of Houston, however, is not the only one in the metropolitan area. The ports of Texas City, Beaumont, Port Artur, and Lake Charles (Louisiana) together account for approximately 508 million tons of water cargo, including 336 million in foreign cargo. This is equivalent to about 20% of the total tonnage of the largest 150 ports of the U.S., as well as 22% of foreign cargo.

In terms of shipping, the city of Houston plays a similar role as Hong Kong does within the China ecosystem. Hong Kong’s port handled 19.6 million TEU in 2018, while China processed approximately 245.6 million TEU, according to the World Bank. Based on this data, Hong Kong accounted for about 8% of container shipping by TEU in China, while the port of Houston accounted for about 10% of U.S. sea cargo by weight. Similarly, when conflated with the nearby ports of Shenzhen and Guangzhou, Hong Kong constitutes about 28% of container trade in China. Houston, along with nearby ports and the Port of Southern Louisiana, accounted for close to 31% of the total cargo by weight in the U.S.

Houston’s role in the U.S.’s overall economy is also similar to Hong Kong’s role in China. The Houston metro area generated approximately $478 billion in 2018 or close to 2.2% of the country’s total. This is analogous to the proportion that Hong Kong contributed to China in 2019. Last year, China’s GDP by purchasing power parity (PPP) was approximately $21.4 trillion ($14.3 trillion in current dollars), while Hong Kong’s stood at $467 billion that same year ($366 billion in current dollars). Hong Kong, therefore, accounted for approximately 2.5% of China’s GDP.

Archives, Global Trade Daily, Imports/Exports, International Trade

NAFTA to USMCA: A Brief Overview of Significant Changes

October 8th, 2020 Kenneth Nunnenkamp and Humberto Padilla Gonzalez, Morgan Lewis Leave a comment

The United States-Mexico-Canada Agreement (USMCA) became effective on July 1, 2020, 26 years after its predecessor, the North America Free Trade Agreement (NAFTA). While NAFTA was originally conceived during the 1980s, the free-trade block did not materialize until the early 1990s, in part as a result of the perceived need to counterbalance the effects of the then–recently created European Union (1993). Mexico was experiencing unprecedented economic growth under the administration of President Salinas de Gortari (1988-1994), an economist and the first non-lawyer elected into the Mexican presidency since 1958, while President Bill Clinton (1993-2001) was driving sustained economy growth in the United States that ultimately led to a US federal budget surplus from 1998 to 2001. Canada, on the other hand, had just elected Prime Minister Jean Chrétien (1993-2003), who had run, at least partly, on a promise to renegotiate NAFTA within six months, as he believed that the new free trade agreement negotiated by then–Prime Minister Brian Mulroney (1984-1993) made too many concessions to the Mexicans and Americans.

In contrast, the USMCA comes into effect in what undoubtedly are unprecedented times in modern history. Although there existed a consensus among member states that the tri-lateral agreement needed an update, no one could have predicted that its successor would be greeted by an economic downturn caused (or accelerated) by a crippling pandemic that has forced an almost complete shutdown of the Mexican and United States economies.

In addition, while the US-Mexico relationship appears relatively strong, the US relationship with Canada has been more strained, marked by intermittent friction between the two countries on a variety of trade-related issues, such as steel tariffs in the United States and dairy tariffs in Canada. Given this backdrop, it is hard to predict how smooth the implementation of the USMCA will be. For example, in late-July hearings in the US House, both parties’ lawmakers exacted promises from the US Trade Representative’s office that it would quickly and aggressively use the USMCA’s enforcement mechanisms, with those representatives revealing that some cases were “ready to go” and would be on file by this autumn.

The general consensus is that the USMCA achieves some notable changes and a number of incremental improvements. A full description of these changes is beyond the scope of this discussion, but the changes that will likely have the greatest impact relate to a few, select industries, and certain procedural changes, including the following:

Domestic Content Rules for Automobiles

Auto content rules were a major issue throughout the USMCA negotiations. The USMCA includes two significant changes to how cars will be made and when they can be declared as made in the United States. First, the USMCA increases to 75% (from 62.5%) the percentage of a vehicle’s parts that must be manufactured in North America. Although the 75% number has garnered most of the attention, the USMCA (as did NAFTA) actually includes different rules: Part content is divided into core, principal, and complementary parts with content requirements of 75%, 65%, and 60%, respectively. The content calculations will also be subject to the USMCA’s rules of origin, which do away with NAFTA’s tracing scheme as well as the concept of “deemed originating.” These changes will affect the automotive supply chain. For example, the USMCA introduces a new rule requiring that 70% of the total steel and aluminum used in an automobile must be sourced from North American suppliers. Combined with the elimination of the tariff shift rules for stamped products, this will require supply chain changes for a number of auto producers.

While there are broader labor rules incorporated into the USMCA, the primary focus is on the agreement’s new requirements that workers earning at least $16 per hour make 40% to 45% of a vehicle’s components.

In keeping with the findings of Section 232 of the Trade Expansion Act of 1962 relating to automobiles, the USMCA incorporates quotas for Canadian and Mexican auto imports. Although the quota is well above current rates, this provision likely will morph into an issue in future years.

Labor Laws

The USMCA includes an array of labor-focused provisions. One example is a requirement that the countries adopt and enforce labor laws consistent with the International Labor Organization. The signatories also agreed to effectively enforce labor laws, and not to waive or derogate from them. The USMCA also requires the countries to: (1) take measures to prohibit the importation of goods produced by forced labor; (2) address violence against workers exercising their labor rights; (3) address sex-based discrimination in the workplace; and (4) ensure that migrant workers are protected under labor laws.

The USMCA also includes an Annex on Worker Representation in Collective Bargaining in Mexico, under which Mexico commits to specific legislative actions to provide for the effective recognition of the right to collectively bargain. To fulfill this commitment, Mexico enacted historic labor reforms on May 1, 2019, and is implementing transformational changes to its labor regime, including new independent institutions for registering unions and collective bargaining agreements and new and impartial labor courts to adjudicate disputes.

The agreement also requires all businesses in Mexico to ensure that they are in compliance with all aspects of the USMCA, including the collective bargaining provisions. The United States and Mexico have established a Facility-Specific, Rapid Response Labor Mechanism (Labor Mechanism) to enforce the collective bargaining obligations through the imposition of remedies, which may include the suspension of the preferential tariff on goods manufactured by a breaching facility. The countries have already begun their appointments to these dispute-resolution bodies, and the US Trade Representative has testified that cases are already being identified for action in the fall of 2020.

Other Notable Changes

While NAFTA had no provisions relating to dairy, the USMCA increases the opportunity for dairy exports to Canada, long a contentious issue between the two countries, making the US Dairy industry a winner in the deal. As Alan Ross of Canadian law firm Borden Ladner Gervais LLP states “Under the new agreement, US dairy farmers receive access to about 3.5% of Canada’s $16 billion annual domestic dairy market. Operationally, Canada will provide new tariff rate quotas exclusively for the United States and eliminate certain milk price classes, changes which have proven unpopular with the Canadian dairy industry.”

Also, the USMCA (1) includes environmental obligations to, among other things, combat wildlife trafficking, address air and marine quality, and protect marine life and, as part of its environmental efforts, the USMCA provides funds for monitoring these environmental efforts; and (2) prohibits customs duties on digital products (i.e., products that are transmitted electronically, such as computer programs, videos, or music). This last issue alone merits further analysis and consideration, as digital taxes become de rigueur in Europe and elsewhere. Finally yet importantly, unlike NAFTA, the USMCA includes a sunset clause. The countries settled on a 16-year term for the deal, with a review to identify and fix problems and a chance to extend the deal after six years.

Monitoring and Enforcement

The signatories countries are to make every endeavor to arrive at a mutually satisfactory resolution of all disputes arising out of the USMCA. However, if they are not able to reach a resolution, Chapter 31 of the USMCA provides the framework for dispute settlement. In it, the parties will first consult with technical experts in the hopes of resolving the dispute. Should that fail, a ministerial panel will review the dispute and submit a final report. If the final report finds that (1) the measure is inconsistent with a party’s obligation; (2) a party has failed to carry out its obligations under the USMCA; or (3) the measure is causing nullification or impairment of the scope, the disputing parties must try to agree on the proper resolution for the dispute within 45 days. If the disputing parties are unable to resolve the dispute within 45 days, the complaining party can suspend the responding party’s benefits of equivalent effect to the dispute.

The USMCA retains the binational panel reviews of unfair trade law matters. These include customs determinations, antidumping and countervailing duty determinations, government procurement, breach of the most-favored-nation treatment for investors (noting that Canada has opted out of the investment provision of the USMCA), and disputes involving public telecommunications services, digital trade, intellectual property, labor rights, and environmental obligations.

In a significant change from NAFTA, the investment chapter (Chapter 14) of the USMCA (1) only applies to the US and Mexico (given Canada’s withdrawal from investor-state dispute settlement regime – ISDS), and (2) narrows the circumstances under which cross-border investors can bring actions under the general rules of ISDS. For instance, the USMCA prevents many US and Mexican investors from asserting claims under the “fair and equitable treatment” standard, which is included in most international investment treaties and is a frequent basis for such claims. Exactly how this will impact cross-border activities remains to be seen.

Generally speaking, Chapter 14 provides access to international arbitration for general investments and covered government contracts subject to satisfaction of certain pre-arbitration conditions and limitations (including the exhaustion of local remedies and certain statutes of limitation). Investors (post—established investment) may seek protection for breach of national treatment and most-favored-nation treatment under the general investments protections. Further, under the government-covered contracts protections, investors in oil and gas production, telecommunications, transportation, certain infrastructure, and power generation may also be entitled to protection under the USMCA. Lastly, it should be noted that (1) the participation of Mexico and Canada in the Trans-Pacific Partnership (otherwise known as the CPTPP) will force all investors to take a fresh look at their options when seeking relief from wrongdoing by another state, and (2) the consent by Canada to ISDS for legacy investment claims will elapse three years after NAFTA’s termination.

As mentioned above, the USMCA also created the Labor Mechanism as a way to deal with labor disputes. In particular, the Labor Mechanism enables the United States and Canada to bring a dispute against a facility in Mexico that they believe is not in compliance with Mexico’s new labor laws. The Labor Mechanism permits the suspension of the preferential tariff as a remedy, the imposition of penalties on goods or services from the violating facility, or the denial of entry of goods from the violating facility.

* * *

While we remain confident that member states are invested in the growth of the North America region as a whole, and the consensus is that the USMCA does address some of the most relevant concerns of the parties to the tri-lateral agreements during the NAFTA years, it will be hard to really measure the USMCA’s true effects (whether positive or adverse) in the short and possibly mid-term given, among other things, the political and economic turmoil that has seen it take its first steps.

Free Trade Agreements, Global Trade Daily, International Trade

THE ANTI-FREE TRADE EFFECT OF ELECTIONS

October 8th, 2020 Alice Calder Leave a comment

Do As I Say?

Trade rarely ranks high for voters in the election booth – so why do we seem to see an uptick in anti-trade sentiment around election time? And does protectionist rhetoric during the campaign season influence politicians’ actual voting behavior on trade?

Evidence, both anecdotal and academic, suggests yes – term length and the electoral calendar play a key role in determining the outcome of votes on trade policy. Members of Congress tend to believe that supporting more protectionist trade policy will increase their chances of re-election. Conversely, without that fear of repercussions at the ballot box, politicians vote in favor of more liberal trade policy.

In the words of economist Dani Rodrik, “no other area of economics displays such a gap between what policymakers practice and what economists preach as does international trade.” There are many examples of normally pro-trade politicians shifting their views around election time.

For example, in the run-up to the 2008 presidential election, Barack Obama attacked NAFTA despite going on to go all-in on free-trade in his presidency. Similarly, in the 2016 Toomey vs. McGinty Pennsylvania Senate race, both formerly free-trade politicians changed their tune to try to appeal to more voters. Beyond the anecdotes, a group of economists has sought to study the pattern over years of trade votes in the United States.

A Study into Economic Policy and Elections

In their 2011 paper “Policymakers’ Horizon and Trade Reforms,” Paola Conconi, Giovanni Facchini, and Maurizio Zanardi attempted to empirically answer the question: Do imminent elections impact the decision-making and voting behavior of elected officials on issues related to trade?

Conconi, Facchini, and Zanardi compared the voting behavior of candidates facing an upcoming re-election contest with those who had a long term ahead of them. Senators are up for election every six years (meaning that every two years, one-third of all seats are up) whereas U.S. House members face election every two years. This vote log provides many data points that show changes in behavior of individuals over time, at different points in the election cycle.

The authors analyzed the individual roll call votes on the final passage of every trade liberalization bill introduced in the U.S. Congress between 1973 and 2005. They considered 29 votes in total, covering 15 trade reform bills. All but one of the bills was approved but with varying margins.

Closer to Re-Election, Free Trade Voting Tendency Drops 10 Percent Points

First, the authors compared House and Senate members. Other studies have shown that House members are generally less likely to support trade liberalization than senators, and the authors’ results align with this. However, the authors found that there is no significant difference in the voting behavior between House members and senators during their last two years before re-election. This suggests that the intercameral difference between the two groups could be explained by their term length, rather than other factors such as constituency size.

Next, they compared different generations of senators, finding that they become more protectionist the closer they get to a re-election campaign. Senators in the last two years of their term are around 10 percentage points less likely to vote in favor of trade liberalization policies than those in their first four years, a significant difference. Interestingly, Banri Ito, in his 2015 paper, used data from the Japanese House of Representatives election in 2012 to find similar results, indicating this is not purely an American phenomenon.

Safe Seat, Retirement or Election Defeat Associated with Free Trade Vote

Their results hold when studying the behavior of the same senator over time or comparing a whole host of controls including campaign contributions, age, gender, and party affiliation. Even those representing constituencies where a majority of their voters should benefit significantly from trade liberalization, such as heavy exporting constituencies, exhibit the same late-term protectionist tendencies.

In contrast, senators who are retiring or who hold very safe seats do not change their behavior as an election nears. Interestingly, two of the votes they tracked occurred in a “lame duck” session (after November elections but before the new senators had taken their seats). In those votes, no defeated senators voted against trade liberalization.

Overall, the Conconi, Facchini, and Zanardi study showed:

-Members of the U.S. House are more anti-trade liberalization than U.S. Senators, but that difference disappears during the last two years of a senator’s term.

-Election proximity reduces representatives’ support for trade.

-The protectionist effect applies both to senators who generally oppose liberalization (Democrats and import-competing constituencies) but also to senators who are generally more pro-trade (Republicans and export-competing constituencies).

-The inter-generational differences disappear for representatives holding safe seats or who are retiring (meaning a return to votes in favor of trade liberalization).

Anecdotal Evidence – Trade and Elections Today

Although far from sufficient to draw any concrete conclusions, anecdotal evidence does appear to corroborate findings from the Conconi, Facchini, and Zanardi study. We can find numerous examples of U.S. politicians changing their views on trade when the re-election stakes are high.

When votes on significant trade deals are on the table, trade has featured in congressional races, but in presidential races, trade is often a footnote or subsumed by debates over the state of the economy broadly. However, Donald Trump’s presidential campaign signified a marked change as he made trade a central part of his platform. In 2016, both Donald Trump and Hilary Clinton took a negative stance on the Trans-Pacific Partnership (TPP), and Trump against NAFTA. Notably, as Secretary of State, Clinton had defended TPP as the “gold standard” of trade agreements, but expressed a different view during election season.

In the 2016 Pennsylvania Senate Race, support of the TPP became an extremely important issue between two politicians with records of trade-liberalization support. Republican Senator Pat Toomey and Democrat rival Katie McGinty both came out against the TPP, despite the former’s career-spanning support of free-trade deals, and the latter’s support of the then newly-signed NAFTA while she served in Bill Clinton’s administration.

Similarly, Republican Ohio Senator Robert Portman, who voted in support of NAFTA in 1993, a series of subsequent trade deals, and served as George W. Bush’s chief trade negotiator, came out against the TPP. Democratic rivals called the announcement an election-year conversion.

Some politicians even admit to changing their views due to the political climate. Rep. Luke Messer (R-IN) who went from supporting various free trade deals with China to opposing them, called his own reversal on the issue a reaction to changing political pressure.

As for the 2020 election, Biden and Trump both cite trade as a critical issue, saying that U.S. trade policy has not been benefiting Americans as it should. Biden seems to have moved away from his past pro-free trade stance, and both candidates are advocating for Buy American policies.

DNC & RNC Platforms

Both the Republican and Democratic parties have taken on a protectionist bent ahead of the 2020 election, and in fact the platforms seem remarkably similar. Both the Democratic and Republican platforms emphasize the need to protect American workers from a competitive international system, with free trade and trade agreements taking a back seat. The Republican party is doubling down on its 2016 goals to punish China and bring outsourced jobs back to the United States, while the Democratic party touts the same goals, but proposes a new solution.

Democratic Party

In the 2020 Democratic Party Platform, any talk of free trade is notably absent, apart from a brief mention of support for the African Continental Free Trade Agreement and promoting free trade in that region. Instead, when trade is mentioned the focus is on China’s unfair trade practices and on the need to protect American workers from the global trading system.

The platform states that “Democrats will pursue a trade policy that puts workers first,” negotiating for labor, human rights, and environmental standards in trade agreements. They cite the COVID-19 pandemic as evidence that the United States has over-relied on global supply chains, but criticize the Trump Administration’s U.S.-China trade war as un-winnable. On the issue of China, the Democratic party plans to take aggressive action against them, and any other country that takes unfair trade action such as dumping, currency manipulation, and unfair subsidizing, as well as theft of U.S. intellectual property. The platform states that tax and trade policies that have encouraged corporations to move manufacturing jobs overseas and avoid taxes will be eliminated. They will “claw back” any public investments or benefits received by a company that shuts down U.S. operations to move abroad.

The DNC’s discussion of “Global Economy and Trade” and “Advancing American Interests” focuses yet again on putting American workers first. They claim that no new trade agreement will be negotiated before first investing in American competitiveness, and existing trade laws and agreements will be aggressively enforced. They plan to work with allies to stand up to China, and negotiate from the strongest possible position. An outline is also given of their stance to fight foreign corruption, and to reign in “misused and overused” sanctions.

Republican Party

The Republican party decided to forgo a traditional platform this year, instead opting to “to enthusiastically support the president’s America-first agenda”. However, the party also agreed to adopt the same platform as in 2016. President Trump has released a list of core priorities for his second-term agenda, two of which – “Jobs” and “End Our Reliance on China” – contain goals directly applicable to issues of trade. Echoing the growing protectionist rhetoric, Trump’s priorities appear to double down and expand on the 2016 platform.

Under the core priority of “Jobs,” Trump vowed to “Enact Fair Trade Deals that Protect American Jobs” and implement “’Made in America’ Tax Credits”, sentiments that match up with Trump’s various executive orders focused on Buy American policies. The 2016 Republican platform recognized the importance of free trade deals: “We envision a worldwide multilateral agreement among nations committed to the principles of open markets, what has been called a ‘Reagan Economic Zone,’ in which free trade will truly be fair trade for all concerned.” The 2020 priorities seem to expand on this policy, stating that free trade is good, but with much more focus on the American worker and American power in the equation.

Another of Trump’s core priorities is to “End Our Reliance on China,” including goals such as “Bring Back 1 Million Manufacturing Jobs from China,” “Tax Credits for Companies that Bring Back Jobs from China,” and “No Federal Contracts for Companies who Outsource to China”. China was mentioned in the 2016 platform too, with the party vowing to take a firm stance that involved retaliation when necessary in order to punish Chinese “currency manipulation, exclusion of U.S. products from government purchases, and subsidization of Chinese companies to thwart American imports.” Perhaps unsurprisingly given global politics, this again appears to be an area of increased focus for the Trump administration looking ahead to a second term.

Protectionist Rhetoric on the Rise

Past studies have found evidence to support the assertion that when faced with an election, politicians are more likely to take a protectionist stance. That trend has continued, or perhaps escalated, over the last 15 years – and if the rhetoric we’re seeing on the 2020 campaign trail is any indication, it seems unlikely to slow down anytime soon.

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Alice Calder received her MA in Applied Economics at GMU. Originally from the UK, where she received her BA in Philosophy and Political Economy from the University of Exeter, living and working internationally sparked her interest in trade issues as well as the intersection of economics and culture.

Archives, Global Trade Daily, International Trade

WHICH WAY IS THE MORAL TRADE COMPASS POINTING? U.S. LOSES WTO ARGUMENT THAT TARIFFS ON CHINA PROTECT U.S. PUBLIC MORALS

October 7th, 2020 Andrea Durkin Leave a comment

Tariffs as a Proxy in a Larger Economic (and Moral?) War

By July 2018, the United States and China had each fired off the first shots in a tariff war that would escalate over the next year (see TradeVistas’ timeline here).

With higher tariffs on $60 billion in its exports to the United States and staring down the barrel of tariffs on another $200 billion, China requested the establishment of a WTO dispute settlement panel. Specifically, China sought for a panel to review whether U.S. tariffs – imposed unilaterally and without WTO authorization – violated the United States’ basic obligations to provide most favored nation treatment to China according to the U.S. schedule of tariff commitments in the WTO.

The dispute was triggered by the issuance of a March 2018 report describing the findings of an investigation by the Office of the U.S. Trade Representative under Section 301 of the Trade Act of 1974 into China’s unfair acquisition of U.S. intellectual property and technologies. In its first line of defense, the United States contends that most of the practices it reviewed as part of this investigation are not covered by existing WTO disciplines and therefore the measures it took (the tariff increases on imported goods from China) are “fundamentally not about WTO rights and obligations.”

Fast forward past the legal proceedings, the WTO panel to hear China’s claim issued its final report to the United States and China in June and it was made public on September 15.

The United States argued that, even if the panel finds it violated its WTO commitments to China, it was justified on the grounds that the tariffs were necessary to protect public morals.

It lost the argument. Here’s how. (Disclaimer: this is not a legal brief but rather a plain reading of the panel report.)

Going on the Moral Offense

USTR did initiate a WTO case against China focused on those practices it determined are covered by WTO disciplines and therefore could be addressed through WTO dispute settlement. But the United States also claims that the bulk of China’s practices contained in the scope of its Section 301 investigation are not addressed by WTO disciplines.

Further, the United States argues that China’s practices such as requirements upon foreign companies to transfer their technologies or license on non-market terms, and cyber-enabled theft, “undermine U.S. norms against theft and coercion and undermine the belief in fair competition and respect for innovation, all of which are key aspects of U.S. culture.” In other words, combatting them is a matter of protecting “public morals”.

First Things First

There’s an order in which a WTO panel considers the constituent parts of a case. In this case brought by China against the United States, the panel first reviewed whether the U.S. measures in question (several tariff increases covering different sets of products from China) were inconsistent with U.S. obligations. If so, the panel considers whether the inconsistency is justified as “necessary to protect U.S. public morals” under Article XX(a) of the General Agreement on Tariffs and Trade 1994 (GATT 1994).

The United States did not refute China’s case that the tariff measures are inconsistent with U.S. market access obligations (under Articles I:1 and II:1(a) and (b)). Therefore, the WTO panel found in favor of China on this point and moved on to consider the U.S. argument that the WTO-inconsistent tariff measures were necessary to protect U.S. public morals, within the meaning of GATT Article XX(a).

Making a Moral Case

Article XX(a) was part of the original GATT 1948 but it was not invoked even once in the subsequent almost 60 years.

It has since been argued by WTO members to justify measures designed to prevent money laundering, organized crime and gambling within a Member’s territory (a dispute between Antigua and the United States over Internet gambling), by China (unsuccessfully) to prevent the distribution of foreign movies and other audio-visual entertainment, and by the European Union to restrict imports of seals and seal products, a case in which the panel accepted that animal welfare falls under public morals but struck down the form of the measure under dispute.

Brazil sought to use the public morals exception to exempt certain domestic companies that produce television equipment from paying taxes as part of its public morals objective of “bridging the digital divide” in Brazil.

The Sum of the Parts

There’s a certain amount of deference given to WTO members to define public morals, which shift in nature and importance within societies over time.

Because the exceptions in Article XX are seen as limited and conditional, the burden lies with the WTO member invoking the exception to prove the measure indeed falls within the scope of the exception.

On the basis of this justification, WTO panels apply several “tests”: Has the WTO member justifying a measure under this exception demonstrated that the measure protects public morals? Is the measure “necessary” to achieve the stated public morals objective? Is the measure being applied in a manner that constitutes “arbitrary or unjustifiable discrimination” within the meaning of Article XX?

In this case, according to the panel, the onus was on the United States to explain how its tariff measures contribute to its public morals objective as well as how the scope of WTO-inconsistent tariffs do not apply beyond what is necessary within the meaning of Article XX(a) of GATT 1994.

A Means to the End

At its core, the United States argued that tariff increases were necessary to induce a change in China’s cost-benefit analysis – in other words, the economic stakes needed to be high enough that China would be convinced to discontinue its alleged technology and intellectual property theft. Tariffs were necessary because previous forms of diplomatic and trade negotiation engagements had demonstrably failed.

The United States also argued that a ban on imports of Chinese products into the United States would represent an overly trade restrictive measure; in contrast, tariff increases are not overly trade restrictive.

Not Necessarily So

Part of the panel’s job is to judge whether the measure is a genuine means to an end. In this case, did the tariffs contribute to the public morals objective and, even if so, were WTO-consistent or less trade-restrictive alternatives available to achieve the same outcome?

Simply saying the tariffs were necessary isn’t a sufficient defense. Some quantitative or qualitative assessment must be presented to form the basis of a conclusion by the panel.

Immoral Goods?

In an interesting and important angle to the case, the European Union argued in a third-party brief that Article XX(a) requires that the risk to public morals manifest itself either in the content of the goods themselves or in the methods in which the goods were obtained or produced – that demonstrating so affords a sufficient nexus between the public morals objective and the measure restraining imports of those products.

Related to this focus on the products ensnared in the measure, China argued that the goods subject to increased tariffs went well beyond the scope of products that “may have” received the benefit of technology transfer or intellectual property theft. In their view, the measure was overly trade-restrictive and not related to protecting public morals.

In its rebuttal, the United States countered that the text of Article XX(a) does not require a direct correlation or “embodiment” between the products subject to the measure and the public morals being protected. Although the tariff measures included Chinese goods that benefit from “unfair and immoral Chinese technology transfer policies,” tariffs on goods not directly involved in these practices were included as well to reach a scope of tariff penalties more broadly commensurate with the estimated overall harm to the U.S. economy of China’s practices.

The United States also found itself defending the use of a common form of public consultation. USTR amended the scope or provided exclusions from the tariffs on the basis of public comments. However, the panel found it unclear how or whether public moral concerns factored into those decisions or whether any such exclusions would “undermine or run counter to the stated U.S. public morals objective.”

Case Not Made

Ultimately, the panel viewed the U.S. explanation for the nexus between the nature of the measure (the specific tariffs applied to specific lists of goods) and the public morals objective as insufficient. The panel ruled against the United States – in other words, the measure did not appear to be “necessary” to achieve the public morals objective.

Having concluded that necessity wasn’t proven, the panel did not compare the U.S. use of tariffs with any alternative measure or assess whether U.S. tariffs on goods from China constituted “arbitrary or unjustifiable discrimination” or “a disguised restriction on international trade”. Case over.

Moral Dilemma

The WTO panel ruling in this case may have no practical effect. The United States could appeal the outcome, but the WTO Appellate Body does not have a sufficient number of appointed members to operate, so if the United States does not agree to adopt the panel decision as it currently stands, the case is stuck in a legal limbo.

Meanwhile, tariffs on goods from China remain, and tariffs on U.S. goods to China remain. If the United States did appeal and lost, the WTO panel could authorize China to retaliate – normally in the form of tariffs. But such authorization would merely formalize the action China has already taken without WTO permission – a hypocritical outcome at best.

More important than the dueling tariffs, the United States is aggrieved that China used the WTO as a shield for its “unfair and trade-distorting technology transfer policies and practices not covered by WTO rules” and that China committed the same WTO offense of applying tariffs on U.S. imports without awaiting the outcome of its case or receiving authorization to do so. That’s having your cake and eating it too.

In concluding comments, the panel observed that the “wider context in which the WTO system currently operates reflects a range of unprecedented global trade tensions,” perhaps an oblique acknowledgement that the issues the United States raised are indeed beyond the reach of current multilateral agreements.

USTR Ambassador Robert Lighthizer thinks so. In a press statement issued the day the WTO panel report went public, Lighthizer said the panel decision, “shows that the WTO provides no remedy for [China’s] misconduct.”

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Andrea Durkin is the Editor-in-Chief of TradeVistas and Founder of Sparkplug, LLC. Ms. Durkin previously served as a U.S. Government trade negotiator and has proudly taught international trade policy and negotiations for the last fifteen years as an Adjunct Professor at Georgetown University’s Master of Science in Foreign Service program.

This article appeared on TradeVistas.org. Republished with permission.

Free Trade Agreements, Global Trade Daily

Free Trade Agreements: Is There a Trade Lane Left Without One?

September 22nd, 2020 Anne van de Heetkamp, VP of Product Management GTC, Descartes Leave a comment

Since the first Free Trade Agreement (FTA) in 1860, a lot has happened. A solid 160 years will do that for you. On the FTA front specifically, the focus has also shifted: what used to be an opportunity for significant duty reduction and, therefore, a more competitive position in the FTA partner’s home market has turned into a tool for faster access to the market and control of a trading relationship. With the applied, weighted, mean duty rates globally down to 2.59% from 8.57% in 1994 (Source: macrotrends.net based on World Trade Organization (WTO) data), the importance of duty rate reduction has been marginalized—so why is there still such a strong movement towards adding more FTAs to an already considerable total worldwide?

Some Recent Developments

Trade agreements are not only about duty rates anymore; the collaboration and facilitation part is just as, if not more, important. That means trading partners make efforts to reduce the paperwork on the trade lane, give priority to incoming shipments, and collaborate on data exchange and simplification of procedures. In today’s economies, these elements are just as crucial as a few duty points. In addition to the facilitation, environmental clauses are included in new FTAs. Got to start somewhere. Customs unions (like the EU) take it one step further—they usually allow for goods to move freely between member states and have a single common tariff for the outside world.

In a similar fashion, the FTA accounts for financial and administrative arrangements that are not limited to duty rates and import documents. In a broader scope, abolishing of export subsidies, transparency with added value calculations, investigative cooperations, etc. are part of the package and simplify the use and verification of FTA claims.

Perhaps not a trend (yet?), but the Pan-Euro-Mediterranean is loosening its Rules of Origin (likely in effect in 2021). Rules of Origin set forth the requirements that need to be met to benefit from FTA arrangements (i.e., qualify for preferential treatment). Typically, Rules of Origin encompass a required tariff shift (i.e., a substantial transformation needs to take place) and/or a value-added component (i.e., the value add of locally sourced parts, materials, labor, etc. needs to exceed a specific threshold). The value-added thresholds have historically been relatively high (60% and up) and loosening those requirements will simply allow more products to qualify, which will give developing countries especially more opportunities to qualify their exports for preferential treatment.

Per the WTO, over 300 Regional Trade Agreements (RTA) are currently in force. This number only reflects agreements that include preferential duty rate schemes, as agreements such as bilateral investment treaties or Joint Commissions would increase this number two- or three-fold. The RTA number includes bilateral/local agreements as well as ‘monster trade pacts’ such as the EU, USMCA or ASEAN – China agreements. It has been a steady growth of FTAs since the 1990s, with a peak in the action between 2003 and 2011. And (see below) there is no end in sight.

What’s Next?

Go big or go home is what the EU is thinking. Agreements are in place with around 40 countries, ratification in progress for agreements with around 30 countries, and agreements with another 20 countries are waiting to be signed. For any countries left behind, it seems that there are ongoing negotiations (e.g., Australia, New Zealand) or plans to negotiate. Don’t despair.

Never-ending speculation on a Trans Atlantic agreement (US – EU) or a Trans-Pacific Partnership (TPP) including the US will not be put to rest until actually completed and in force (the US withdrew from the TPP in 2017). The US currently has 14 FTAs with 20 countries, re-did the USMCA in 2020, and negotiations with Kenya and Taiwan seem to be in the works.

Lastly, with Brexit in its final stages, the UK is also breaking off FTA relationships with EU partners. That means the UK will have to create separate FTAs with these countries. Practically, not all of the EU FTAs will have a UK equivalent by January 1, 2021, and some may never be in place. This means regular (Most Favored Nations – MFN) rates will apply come January 1 unless another preferential program (like the Generalized System of Preferences) applies. But with the UK exit comes an opportunity for Britain to conclude agreements the EU has not been able to pull off. Perhaps a US – UK FTA is nearer than thought. Let’s check the odds on that!

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Anne van de Heetkamp is VP of Product Management and Global Trade Content at Descartes and is an international trade expert with 20+ years of industry experience. Previously he served as Director for global trade compliance/management company, TradeBeam.

Free Trade Agreements, Global Trade Daily, International Trade

WANT PEACE? PROMOTE FREE TRADE.

September 18th, 2020 Julian Adorney Leave a comment

Frédéric Bastiat famously claimed that “if goods don’t cross borders, soldiers will.”

Bastiat argued that free trade between countries could reduce international conflict because trade forges connections between nations and gives each country an incentive to avoid war with its trading partners. If every nation were an economic island, the lack of positive interaction created by trade could leave more room for conflict. Two hundred years after Bastiat, libertarians take this idea as gospel. Unfortunately, not everyone does. But as recent research shows, the historical evidence confirms Bastiat’s famous claim.

To Trade or to Raid

In “Peace through Trade or Free Trade?” professor Patrick J. McDonald, from the University of Texas at Austin, empirically tested whether greater levels of protectionism in a country (tariffs, quotas, etc.) would increase the probability of international conflict in that nation. He used a tool called dyads to analyze every country’s international relations from 1960 until 2000. A dyad is the interaction between one country and another country: German and French relations would be one dyad, German and Russian relations would be a second, French and Australian relations would be a third. He further broke this down into dyad-years; the relations between Germany and France in 1965 would be one dyad-year, the relations between France and Australia in 1973 would be a second, and so on.

Using these dyad-years, McDonald analyzed the behavior of every country in the world for the past 40 years. His analysis showed a negative correlation between free trade and conflict: The more freely a country trades, the fewer wars it engages in. Countries that engage in free trade are less likely to invade and less likely to be invaded.

The Causal Arrow

Of course, this finding might be a matter of confusing correlation for causation. Maybe countries engaging in free trade fight less often for some other reason, like the fact that they tend also to be more democratic. Democratic countries make war less often than empires do. But McDonald controls for these variables. Controlling for a state’s political structure is important, because democracies and republics tend to fight less than authoritarian regimes.

McDonald also controlled for a country’s economic growth, because countries in a recession are more likely to go to war than those in a boom, often in order to distract their people from their economic woes. McDonald even controlled for factors like geographic proximity: It’s easier for Germany and France to fight each other than it is for the United States and China, because troops in the former group only have to cross a shared border.

The takeaway from McDonald’s analysis is that protectionism can actually lead to conflict. McDonald found that a country in the bottom 10 percent for protectionism (meaning it is less protectionist than 90 percent of other countries) is 70 percent less likely to engage in a new conflict (either as invader or as target) than one in the top 10 percent for protectionism.

Protectionism and War

Why does protectionism lead to conflict, and why does free trade help to prevent it? The answers, though well-known to classical liberals, are worth mentioning.

First, trade creates international goodwill. If Chinese and American businessmen trade on a regular basis, both sides benefit. And mutual benefit disposes people to look for the good in each other. Exchange of goods also promotes an exchange of cultures. For decades, Americans saw China as a mysterious country with strange, even hostile values. But in the 21st century, trade between our nations has increased markedly, and both countries know each other a little better now. iPod-wielding Chinese teenagers are like American teenagers, for example. They’re not terribly mysterious. Likewise, the Chinese understand democracy and American consumerism more than they once did. The countries may not find overlap in all of each other’s values, but trade has helped us to at least understand each other.

Trade helps to humanize the people that you trade with. And it’s tougher to want to go to war with your human trading partners than with a country you see only as lines on a map.

Second, trade gives nations an economic incentive to avoid war. If Nation X sells its best steel to Nation Y, and its businessmen reap plenty of profits in exchange, then businessmen on both sides are going to oppose war. This was actually the case with Germany and France right before World War I. Germany sold steel to France, and German businessmen were firmly opposed to war. They only grudgingly came to support it when German ministers told them that the war would only last a few short months. German steel had a strong incentive to oppose war, and if the situation had progressed a little differently—or if the German government had been a little more realistic about the timeline of the war—that incentive might have kept Germany out of World War I.

Third, protectionism promotes hostility. This is why free trade, not just aggregate trade (which could be accompanied by high tariffs and quotas), leads to peace. If the United States imposes a tariff on Japanese automobiles, that tariff hurts Japanese businesses. It creates hostility in Japan toward the United States. Japan might even retaliate with a tariff on U.S. steel, hurting U.S. steel makers and angering our government, which would retaliate with another tariff. Both countries now have an excuse to leverage nationalist feelings to gain support at home; that makes outright war with the other country an easier sell, should it come to that.

In socioeconomic academic circles, this is called the Richardson process of reciprocal and increasing hostilities; the United States harms Japan, which retaliates, causing the United States to retaliate again. History shows that the Richardson process can easily be applied to protectionism. For instance, in the 1930s, industrialized nations raised tariffs and trade barriers; countries eschewed multilateralism and turned inward. These decisions led to rising hostilities, which helped set World War II in motion.

These factors help explain why free trade leads to peace, and protectionism leads to more conflict.

Free Trade and Peace

One final note: McDonald’s analysis shows that taking a country from the top 10 percent for protectionism to the bottom 10 percent will reduce the probability of future conflict by 70 percent. He performed the same analysis for the democracy of a country and showed that taking a country from the top 10 percent (very democratic) to the bottom 10 percent (not democratic) would only reduce conflict by 30 percent.

Democracy is a well-documented deterrent: The more democratic a country becomes, the less likely it is to resort to international conflict. But reducing protectionism, according to McDonald, is more than twice as effective at reducing conflict than becoming more democratic.

Here in the United States, we talk a lot about spreading democracy. We invaded Iraq partly to “spread democracy.” A New York Times op-ed by Professor Dov Ronen of Harvard University claimed that “the United States has been waging an ideological campaign to spread democracy around the world” since 1989. One of the justifications for our international crusade is to make the world a safer place.

Perhaps we should spend a little more time spreading free trade instead. That might really lead to a more peaceful world.

This article was originally published on FEE.org.

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Julian Adorney is a Young Voices contributor. He’s written for FEE, National Review, The Federalist, and blogs at The Empathetic Libertarian.

This article appeared on TradeVistas.org. Republished with permission.

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