Posted by on Jul 30, 2018

Rather than just negotiate NAFTA modernization, the United States is trying to use additional illegal tariffs on steel and aluminum, and now WTO litigation, to force Canada to accept its NAFTA position.  The additional tariffs on Canadian aluminum and steel are illegal because they exceed the U.S. WTO and NAFTA bound duty rates (i.e., the highest duty agreed between the Parties) and, thus, violate those Agreements. Canada retaliated against these U.S. tariffs with its own “dollar-for-dollar” tariffs on U.S. imports to rebalance the concessions made in the WTO and NAFTA Agreements which the U.S. additional tariffs have upset.  Canada has also challenged the U.S. decision to impose these additional tariffs at the WTO.  The U.S. has responded with its own request for WTO Dispute Settlement against Canada’s retaliatory duties.  However, the U.S. litigation is futile because the possibility of outright U.S. success is so slim that even a U.S. win would result in any change in Canada’s tariffs.  At the end of this process, the parties will be no further ahead and both will be hurt by this “tit-for-tat” protectionism.

The current U.S. approach to trade appears to be based on the erroneous view that the WTO guarantees equality of outcome rather than equality of opportunities.  This error seems to be why the U.S. Administration focuses on trade flows as a measure of success with trade deficits as evidence of unbalanced trade.  However, the WTO, like all other trade agreements, does not guarantee that exporters or importer will engage in international trade or that they will make a profit.  Instead, trade agreements aim to liberalize trade between the Parties by reducing barriers to trade.  This trade liberalization is reflected in reduced tariff barriers between the partners and controls on non-tariff barriers that could be erected in their place.  Trade liberalization does not mean that all tariffs will be reduced to zero, although that may be an outcome.  Trade liberalization simply moves the parties in that direction through negotiation.  For example, the U.S. claim that Canada has high tariffs of up to 275% on some dairy products is correct.  The U.S. also has high tariffs, such as 350% duties on some manufactured and unmanufactured tobacco products (see for example US HTS tariff item 2401.10.65).  However, these high duties, which are part of the Canadian and U.S. tariff schedules, were part of the WTO process and reflect the balance of concessions agreed at the conclusion of the WTO negotiations.  This balance of concessions represents the equality of opportunity for all exporters and importers operating with the WTO-area.  That is, all traders have an equal opportunity to participate in international trade on the basis of those agreed concessions.

With few exceptions, WTO Members may not apply tariffs on imported goods in excess of their bound tariffs.  The United States is seeking to rely on National Security to justify the imposition of an additional 10% duty on aluminum and an additional 25% duty on steel products that exceed its bound duty rates, but the national security exception should not apply here.

The National Security exception in GATT 1994 Article XXI (the WTO Annex that includes obligations concerning tariffs and trade in goods) provides that nothing in the Agreement shall be construed:

Because National Security is an exception to WTO obligations, it must be interpreted narrowly to ensure that it is only used to the extent necessary to achieve the legitimate security objective.  Actions justified under National Security that are unnecessary must be avoided because they will improperly interfere with trade.

Considering these limited exceptions, the United States will likely attempt to rely on GATT 1994 Article XXI(b)(ii), although it is difficult to see how this exception would apply.  Some could argue that aluminum and steel are key elements required to supply the military, but they are not arms, ammunition or the implements of war and they are not clearly goods or materials used directly or indirectly to supply a military establishment.  Moreover, if steel and aluminum are goods or materials used directly or indirectly to supply a military establishment then what products would not fall into this group?  This type of broad interpretation of the National Security exception would make the exception meaningless because it would allow all WTO Members to disregard WTO obligations at will simply by making a national security claim.

More importantly, comments by senior U.S. officials have made it clear that the additional steel and aluminum duties were not imposed on Canada to protect an essential U.S. security interest.  On June 11, 2018, following the Quebec G7 meeting, President Donald Trump tweeted,

Furthermore, in testimony before the U.S. Senate Finance on June 20, 2018, U.S. Commerce Secretary Wilbur Ross (reported in the June 20, 2018 Washington Trade Daily) confirmed the additional duties were being imposed to force Canada to agreement on a renegotiated NAFTA.

Consequently, President Trump and Commerce Secretary Ross have admitted that the additional duties on steel and aluminum have nothing to do with national security and have only been introduced to try to force Canada to reduce its dairy tariffs (which are part of Canada’s agreed Tariff Schedule) and to force Canada to accept U.S. demands in the NAFTA modernization negotiations.  These objectives are clearly not necessary to protect essential U.S. security interests.

The U.S. will likely continue to argue that it is entitled to rely on the National Security exception to justify its additional duties, and will expect to benefit from the longstanding practice of WTO Members not challenging each other’s national security claims.  However, this practice is a courtesy and not a binding rule of interpretation.  This practice is also based on the assumption that the National Security claim being made is within reason.  In this case, because the U.S. claim is overly broad and is not aimed at an essential security interest the WTO Dispute Settlement Panel hearing the U.S. case should reject it outright.

But let’s assume that the Panel supports the U.S., finding that Canada’s retaliatory duties violate Canada’s WTO obligations by exceeding the bound duty rates in Canada’s Tariff Schedule and finding that the U.S. can rely on the National Security exception to maintain its own additional duty rates on steel and aluminum.  In that case, since the WTO does not impose binding Orders on Member States, the Panel will simply recommend that Canada bring its measures into compliance with WTO obligations.  Rather than eliminate its retaliatory duties, Canada could simply state that its retaliatory duties are necessary to protect its essential security interests and wrap itself in the same National Security exception that the U.S. used in the first place.  The net result is that at the end of this process there would be no change and the U.S. and Canada would continue to maintain additional duties against each other’s products to the benefit of no one.

The U.S. clearly wants greater access to the Canadian market, particularly in dairy, and wants to achieve this by reducing Canadian tariffs.  But the U.S. should seek greater market access through negotiation and should be willing to come to the table ready to negotiate.  The U.S. successfully negotiated greater access to the Canadian dairy market through the Trans Pacific Partnership negotiations and would be enjoying that greater access had it not withdrawn from the negotiations.  As noted above, the U.S. also has its own high tariff barriers in certain areas and the U.S. has a higher weighted applied tariff rate on all products.  The World Bank has determined that the average applied U.S. tariff rate is 1.6% while Canada’s is 0.85%. The U.S. also has a range of non-tariff barriers in place that restrict Canadian access to the U.S. market.  Consequently, there is likely room for both countries to come to a negotiated agreement that modernizes the NAFTA while improving market access.

However, the U.S. cannot step outside the WTO and NAFTA process by imposing additional illegal duties on Canadian products and expect Canada to make concessions to avoid the impact of illegal duties.  If Canada makes concessions in the face of illegal duties, this will likely encourage the U.S. to continue to make additional threats to force additional concessions.  There are no winners in trade wars, and this could get ugly in the short to medium term, but the only way to achieve a lasting agreement is through actual negotiations.  Canada should remain willing to negotiate with the U.S. but remain steadfast and not give in to U.S. threats.