The United States has traditionally relied on government measures that directly support the expansion of certain economic sectors at the expense of others deemed undesirable due to their proximity to socialist policies. However, in the face of the COVID-19 pandemic, global supply chain disruptions, climate change, and the rise of China, the administration of current U.S. President Joe Biden has embraced support policies by offering substantial incentives for investment in strategically important sectors of the economy.
While some have assumed that U.S. economic policy now mirrors China’s state-dominated policies, which Washington opposed for years, U.S. Trade Representative Katherine Tai asserts that American support policies are “the product of a democratic system governed by the rule of law” and are “designed to operate within a market system to influence corporate behavior.” This has sparked controversy, with critics arguing that such policies promote unfair competition and violate World Trade Organization (WTO) rules, while others see them as necessary in the aftermath of crises and in building a nation’s resilience to threats like climate change and ensuring the stability of vital services.
In this context, a report by two experts in economics and trade policy at the Council on Foreign Relations—Jennifer A. Hillman and Inu Manak—in September 2023, discusses the extent to which rules can prevent or allow the widespread use of industrial support policies by countries seeking to gain advantages in international trade. The report also addresses concerns such as stifling innovation, increasing corporate concentration, wasting taxpayer money, or violating the fundamental rules of the WTO. For instance, state-owned enterprises in China have largely evaded restrictions, and the penalties for violations have been too weak to serve as a real deterrent.
Support Policies:
Industrial policy refers to the efforts made by the government to promote specific industries, which policymakers identify based on certain goals related to national security, economic competitiveness, or fostering emerging industries. These efforts take various forms, such as subsidies, tariffs, regulations, tax incentives, government procurement rules, and credit preferences.
Since the signing of the General Agreement on Tariffs and Trade (GATT) in 1947, through subsequent GATT negotiation rounds and the establishment of the World Trade Organization (WTO), there has been widespread debate between developed and developing countries regarding issues like tariffs, dispute resolution, services, intellectual property rights, agriculture, the environment, support policies, and more. During the Tokyo Round of negotiations (1973–1979), the Subsidies Code was adopted, which included provisions that made export subsidies a violation of the rules. It also introduced a requirement that countries applying countervailing duties must first demonstrate that their domestic industry was harmed by subsidized imports.
However, not all GATT members signed the Subsidies Code. During the Uruguay Round (1986–1993), trade law provisions on subsidies were agreed upon, including the creation of the WTO and the Agreement on Subsidies and Countervailing Measures (SCM). This agreement defined subsidies and outlined notification requirements and supervision processes for support activities. Under WTO rules, a company cannot be considered as receiving a “subsidy” unless the support comes from the government. Article 1 of the SCM Agreement also included “any public body” in addition to the government in its definition of subsidy policies. According to the agreement, financial contributions include direct transfers of funds such as loans, forgone government revenues like tax exemptions, provision of public goods or services, purchase of goods, and other contributions that provide a “benefit” to the recipient.
The challenges posed by support policies to the international trade system are not new. A 2006 report on the relationship between subsidies, trade, and the WTO noted that in 2003, 21 developed countries spent $250 billion on subsidies out of a global total of $350 billion. Globally, the United States, China, and the European Union bear responsibility for more than half of all subsidy measures, raising concerns about global equity, especially in terms of access to technology.
Washington’s Vision:
Since its founding, the United States has heavily relied on technology transfer from Great Britain to modernize its industries. This reliance led Alexander Hamilton, one of the Founding Fathers, to write his 1791 “Report on Manufactures,” in which he called for support for emerging industries that provide the “essentials of national supply,” including “means of livelihood, housing, clothing, and defense.” Hamilton advocated for limited use of “grants” and “subsidies” as forms of “direct and positive encouragement.” He proposed supporting only a small number of new industries such as coal, raw wool, sailcloth, cotton, and glass.
In response to the rise of subsidy policies in the 1960s and 1970s, the U.S. supported international rules. For instance, during the negotiation of the SCM Agreement, the U.S. successfully pushed for the adoption of acceptable provisions to regulate subsidies or countervailing duties based on American laws and practices.
Currently, there is a noticeable bipartisan consensus in the U.S. (between both the Democratic and Republican parties) that existing institutions are insufficient to address global crises like pandemics, climate change, and the rise of China. The previous administration under President Donald Trump adopted an “America First” policy, which included measures like prioritizing domestic production of COVID-19 vaccines or imposing tariffs on billions of dollars’ worth of Chinese imports. Under the Biden administration, these tariffs have largely been maintained and expanded, with the goal of helping the U.S. compete globally against the rising power of China. Current efforts focus on confronting China and combating climate change.
China’s Situation:
Since joining the World Trade Organization (WTO) in 2001, Beijing has pledged that “all state-owned and state-invested enterprises will conduct purchases and sales solely based on commercial considerations.” For several years following China’s accession to the WTO, the Chinese economy began transitioning towards a market economy. However, starting from the mid-2000s, China began a complete turn towards a state-dominated economy led by the Communist Party.
The Council on Foreign Relations report finds that the Subsidies and Countervailing Measures (SCM) Agreement is unclear on whether the subsidies provided in China fall under the prohibited or permissible categories. This is particularly challenging given the need for clear and official government declarations and documentation of actions, which is difficult in an economy like China’s. Even the addition of a requirement in the subsidy law for WTO members to provide annual notifications of all specific subsidies they have granted or maintained has not been adhered to by many countries.
Climate Change:
Alongside the need to transition to clean energy, many countries have resorted to subsidy policies to stimulate and expand green technology development. However, a contradiction has emerged between the necessity of reducing subsidies for industries that hinder climate change mitigation, such as fossil fuels, and encouraging industries that contribute to the spread of renewable energy technologies or carbon removal. The WTO rules do not provide a basis for distinguishing between types of subsidies.
The current U.S. administration has enacted a law aimed at curbing inflation by reducing drug prices, investing in domestic energy production, and boosting clean energy through $370 billion in spending and tax incentives to combat climate change and invest in low-emission energy sources. While some U.S. allies have welcomed these climate measures, they have felt sidelined by provisions that discriminate against imports and prevent them from fully supporting the green transition in the U.S. For example, Americans who choose to buy electric vehicles assembled in Japan, South Korea, or Europe will not qualify for the tax credit.
Continuing Reforms:
The report outlines several recommendations, including that the U.S. should pursue reforms of the current system, such as rewriting subsidy rules to better reflect current political and economic realities, enhancing transparency, and enforcing penalties for non-compliance. Countries should be encouraged to disclose their subsidy policies using the “safe harbor” incentive for properly notified subsidies, and penalties should be enforced against those who fail to provide timely notifications.
Additionally, clear guidelines on what exactly should be notified as a subsidy are crucial, and penalties should be tightened for non-compliance with international subsidy rules. The report also suggests leveraging the European Union’s approach to addressing subsidy rule violations. One WTO committee has found that grants should be fully repaid.
In conclusion, the report notes that critics of the international subsidy system are divided into two camps: one views the current rules as inflexible, limiting government actions to address urgent policy issues, while the other believes the rules are not strict enough to prevent subsidy wars or trade conflicts. The report assumes both views are valid and thus seeks a common ground, especially as major economies increasingly adopt industrial policies to address global concerns like climate change, pandemics, local competitiveness, and supply chain resilience.
The report focuses on three goals: distinguishing between good and bad subsidies, encouraging countries to disclose their subsidies, and improving enforcement through compliance incentives and penalties for non-compliance. The message is that rather than avoiding the WTO, its rules and tools can be better utilized to achieve desired outcomes. Furthermore, the U.S. should lead efforts to reshape global rules to better serve its interests and the changing realities of the international trading system, addressing its dual concerns about competition with China and combating climate change.
Source: Jennifer A. Hillman and Inu Manak. Rethinking International Rules on Subsidies. Council on Foreign Relations Press. 2023.
