US President Donald Trump has methodically pursued most of his campaign promises including those in the trade area. On January 23, 2017, he used his first full weekday in office to sign an executive order pulling the United States out of the Trans-Pacific Partnership (TPP) free trade pact. That pact was finalized in 2012-2013 and covered roughly 40 percent of the world’s economy including Japan, Australia, Canada, and the rapidly growing economies of Vietnam and Malaysia. It was favored by many in the US because it was designed to blunt the influence of China in key Asian markets and to gain US exporters access to a number of markets where the US has had difficulty in the past. In addition to action on the TPP, President Trump made “reciprocal market access” a central point of his overall trade policy in his April 7-8 meetings with Chinese President Xi.
The TPP could be used as a tool to check China’s advances in the funding of its export and infrastructure projects. Between China’s recent efforts to establish the Asian Infrastructure Investment Bank to help finance foreign purchases and the terms which China’s EXIMBANK can offer, US, Japanese, and other Western competitors are at a serious disadvantage in the export finance realm. At another level, there was some thinking that the TPP’s terms could become a template for reforming the current bilateral trade relationship between the US and China. Without question, there is a great deal of criticism of the bilateral trading relationship with China since the US granted China permanent normal trade relations in 2000 following China’s accession into the WTO.
Why TPP for USA?
In a technical sense, the TPP is no different than 20 other free trade agreements to which the US is party except that the TPP is a broad multilateral instrument. Both Canada and Mexico are parties to TPP; however, the terms of the TPP are subservient to NAFTA and to the global WTO Principles. Because of past difficulties in advancing broad based trade policies in the WTO, bilateral and regional free trade agreements have become the primary approach which countries now take to reduce impediments to trade.
The TPP was designed to be one of the largest free trade pacts. Its purpose was to lower both tariffs and non-tariff barriers to trade. It also created an investor-state dispute settlement system that enabled individual companies (versus their governments) to be able to sue a state party to the TPP for violating the terms of the TPP as relates to protecting freedom of individuals to invest in the economies of another state party.
According to the US Trade Representative, the TPP would result in cuts of 18,000 tariffs across-the-board and eliminate tariffs on all US manufactured goods and farm products. There were also new provisions to protect privacy in cross-border transactions involving personal and financial data and provisions were created that would not allow countries to avoid their responsibilities under various international environmental and labor provisions i.e., states could not gain a competitive advantage by evading costly environmental or labor regulations. Lastly, there were provisions to strengthen patent laws and required states to enact and enforce criminal penalties against those engaged in intellectual property piracy.
At a macro level, the Barack Obama Administration was counting on the TPP to help address the longstanding merchandise trade deficits (2016) that the US has with Japan (USD 69 billion), Mexico (USD 63 billion), and Canada (USD 11 billion). It also sought to address the rapidly growing merchandise trade deficit that the US has with Vietnam (USD 31 billion), and sizeable deficits with Singapore (~USD 10 billion per year) and Australia (~USD 15 billion per year). Vietnam, in particular, has become a major venue for US manufacturing because Chinese labor is becoming more expensive and because of the political baggage associated with manufacturing in China and selling in the US market. The TPP was viewed as a way of preventing the Vietnam trade deficit from ballooning.
The Fate of the TPP and Other Trade Matters
Regardless of these potential benefits from the TPP, there was a great popular perception during the US Presidential primaries that all trade pacts were mostly unenforceable since other countries are engaged in widespread cheating and that the TPP was no different. This perception affected the platforms of most of the candidates during the primaries and in the run-up to the general election. As a result, President Trump effectively had no real choice but to withdraw from the TPP. However, recent statements by President Trump’s Commerce Secretary Wilbur Ross and President Trump’s National Economic Council Advisor Gary Cohn (who both has made pro-TPP statements in the past and has hired one of the US’ top TPP negotiators) suggest that some sort of reform of the TPP is not beyond the realm of possibility.
The TPP’s other 11 members have to decide whether the trade agreement is worth salvaging now that the US has withdrawn. States like Vietnam and Japan that have experienced considerable military pressure from Beijing as a result of territorial disputes in the South and East China Seas initially began to wonder whether the US’ “pivot” to Asia is still on the table and whether they will be left to fend off China’s military.
Even though President Trump’s actions vis-à-vis the TPP sent some shock waves, his engagements with Japanese Prime Minister Abe in January-February suggests that neither is walking away from US-Japan security or their bilateral trade relationship. North Korea’s recent antics certainly have strengthened the need for this solidarity. Thus, the TPP may not immediately be in the cards; however, there is evidence emerging from the statements of President Trump and his appointees that some reforms of the TPP will be necessary.
The same can probably be said about NAFTA; although, since NAFTA is already in force its future is much more solid. President Trump’s bilateral discussions with Prime Minister Trudeau of Canada and Mexican President Enrique-Pena Nieto after the Inauguration reaffirmed these bilateral trade relationships, even though President Trump remains highly critical of the agreement to this day. Supportive statements were also made in confirmation hearings for the incoming US Trade Representative Robert Lighthizer on March 14. In those hearings, Lighthizer said that NAFTA was “20 years out of date” and needs to be updated to improve the situation for US manufacturers without jeopardizing the gains it made for US agriculture.
Trump confidant and Commerce Secretary Wilbur Ross struck a similar tone when he participated in a wide-ranging CNBC interview on March 30 to discuss the future of the NAFTA agreement and to respond to claims in the press that the Trump Administration would not be taking a hard line on NAFTA. Ross said that the Administration would be formally seeking consultations with Mexico and Canada concerning NAFTA and seek specific changes in the agreement. Ross did not say that abrogation of NAFTA was being contemplated.
Secretary Ross has provided some insights into the changes he would be seeking in NAFTA that likely can be generalized to all free trade agreements; including the TPP should it be put back into play. Ross that he would seek amendments to allow the Department of Commerce to self-initiate unfair trade complaints and to eliminate the time consuming and often deadly requirement that a sizable percentage of a damaged US industrial sector organize and petition for relief. This is especially important to those US businesses that are harmed by unfair trade but wish to prevent retaliation in overseas markets. Having the Department of Commerce serve as the entity that makes the complaint on behalf of the sector helps to anonymize those complaints.
The weight of evidence suggests that President Trump is signaling US trading partners that he will insist upon trade rules that are reciprocal in terms of providing access to markets.
Ross also said that he would likely be seeking — in NAFTA and other contexts — to eliminate the current preference (often as high as 20 percent on the value of an export) in which foreign exporters from countries that have a value added tax (VAT) system are rebated for the cost of the VAT if an item is exported. The US, which does not have a VAT system, is not allowed to rebate its exporters under the current WTO rules for an equivalent amount of corporate tax that its companies pay on the income which is derived from sales outside of the US. Ross suggests that trading partners should forgo their right to legally make the rebate of VAT to their exporters since the WTO system cannot accommodate a rebating system for US companies given the structure of US tax laws.
In the end, Ross’ suggestion (which is not publicly delineated as of yet) may be a less controversial approach to equalizing taxation of exports at the border than the so-called border adjustment tax proposal that is being discussed in the US Congress. Under the border adjustment tax proposal, US companies would pay much lower overall tax rates but they would no longer be able to deduct the value of imported components into the costs of the goods that they sell in the US. Even though this approach does not dollar-for-dollar match the rebate concept, it would tend to level the playing fields since rebranded imports and domestic products — with a high percentage of imported components — would end up costing more.
Of course, the big major difference between the two approaches is that the US Treasury (not the seller) reaps some of the benefit of this arrangement because it can tax the value of the imported components when the finished product is sold in the US. Given that the border adjustment tax will result in “much higher costs at Walmart,” it is far from certain that this sort of proposal will ever pass political muster.
Another likely issue that Ross will likely tackle is the US system of investigating and taking action against those foreign exporters (and countries) that engage in unfair trading practices. This includes dumping, imposition of non-tariff barriers, mislabeling, permissive attitude towards the theft of US intellectual property, and the use of disguised subsidies. The US steel industry, in particular, has reason to complain because the International Trade Commission (ITC) will be taking upwards of 18 months to complete an investigation into allegations that Chinese steel producers were guilty of theft of trade secrets, price fixing, and a variety of other market distorting practices.
Even if the ITC makes positive findings of illegality after a time consuming investigation, the Commission has limited enforcement powers and the matter can be subject to additional reviews by an administrative law judge and federal court. For US businesses affected by unfair trading practices, in the time it takes for the investigation and appeals, the business will likely have suffered irreparable harm (loss of market share) due to the unfair competition. To the extent there is any recovery against the offending country or foreign company, it is questionable whether monetary recovery will ever be able to compensate the harmed US company beyond the payment of its legal fees in bringing the action in the first place.
The weight of evidence suggests that President Trump is signaling US trading partners that he will insist upon trade rules — in both law and practice — that are reciprocal in terms of providing access to markets. President Trump also seems to be clearly signaling that he will use all of his legal authorities including Section 301 of the Trade Act of 1974 to swiftly retaliate — independent of any WTO lawsuits — against any “act, policy, or practice of a foreign government” that either violates a trade agreement or is “unjustified, unreasonable, discriminatory or burdens/restricts US commerce,” with embargoes or punitive tariffs.
President Trump has already sent signals that he is serious about reciprocal trade with China. The first “shot across the bow” at China was contained in a notice in the federal register soliciting comments by May 3, 2017 to seek changes in the WTO agreements which address the preferences that China currently enjoys as a non-market economy in the WTO. This provision is carried forward into US law and essentially gives China a certain amount of immunity against anti-dumping investigations. Obviously, since China’s economy has progressed considerably since its accession into the WTO system 17 years ago, one can reasonably ask the Chinese government is still able to operate subsidized state owned enterprises that compete abroad in international trade.
The second “shot” came at the recent meetings between President Trump and Chinese President Xi. Both sides reported that trade and economic cooperation was in the interests of both countries. But the Wall Street Journal on April 9 and April 12 reported that the meetings between President Trump and President Xi on April 7-8 resulted in a “100 day plan” to noticeably reduce the bilateral trade deficit and increase total trade. How exactly this will be accomplished is anyone’s guess since the current economic headwinds suggest that the bilateral trade deficit will probably widen because of the continued weakness of the RMB against the dollar will depress Chinese demand for US imports.
If China, for example, has not negotiated an acceptable plan with the US in next 100 days to address complaints of unfair trading practices and the large trade deficit, it is not beyond the realm of possibility that President Trump will make announcements that he will use his 301 Authority to induce compliance. Quick action against selected imports would likely be the first step. To avoid direct conflict with US legal commitments under the WTO agreements, President Trump may also seek to negotiate broad-based Voluntary Restraint Agreements (VRA) with China covering specific sectors in lieu of imposing VRAs that were used successfully in the early 1980s by President Ronald Reagan to protect the US auto industry from Japanese car manufacturers.
Regarding NAFTA and the TPP, Wilbur Ross seems to have provided the most insights into what is next for trade agreements: “We feel that any of the provisions in TPP, that Mexico and Canada already agreed to, should be the starting point. We certainly don’t intend to lose ground from any provisions that they’ve already agreed to … if anything … our intention is to push them further at least the same [as TPP]… TPP made some progress … there’s a need and room for more progress.”
It is instructive that in addition to Wilbur Ross and Gary Cohn, Vice President Mike Pence and Treasury Secretary Steven Mnuchin endorsed free trade principles in their past jobs. Consequently, it is reasonable to anticipate that the Administration will be seeking to leverage the strongest bargaining chip in the US arsenal — access into the world’s richest market — in order to induce compliance with existing agreements and to dismantle preferences that other countries enjoy (like the preferences for state-owned enterprises). Repudiating trade agreements like NAFTA or eschewing the TPP, in some form, for countries with which the US has a trade deficit like Vietnam, Japan, or Australia, does not seem to be a priority because of the years it would take to put new agreements in place. Fixing the existing agreements to improve the trade imbalances seems to be President Trump’s best play if time is of the essence.
Experts in international trade policy will appreciate that Ross is likely the first person occupying his office that truly understands how other countries have been able to “game” the system to their own advantage and that the US system of investigating and retaliating against unfair trade is ponderous and cumbersome. Put another way, most trade agreements are not facially defective. Most of the blame rests on the way that the US taxes its multinational companies and investigates and prosecutes international trade violators.
Ross also understands that there is no reason to demonize other countries for exploiting weaknesses in the US system. This is rational business behavior by foreign countries and competitors and it serves no useful purpose to equate exploitation of loopholes in trade agreements and lax enforcement with a nuclear attack on the US. As things unfold, it is likely that President Trump’s focus will shift towards modest changes in these agreements to eliminate inequalities. However, we can expect large changes in the way that the US domestically investigates and holds violators accountable to the terms of the existing deals. This is both within the power of the Executive Branch and something that President Trump is highly motivated to do.
The views expressed in this paper are those of the author alone and do not represent the views of CNA or any of its sponsors.