Unit 4 - Background & Issues

We focus this week theoretically on three different issues, two of which normally might be discussed in the context of “unfair trade,” but which are subject to additional legal and international economic analysis at a technical level.  The third involves certain outgrowths of the recent US-China decoupling debate, because asserting export or import limitations, also in the name of national security, presumably has an effect on trade in a practical sense even if does not formally address trade law itself.   Bottomline, we are trying to untangle some of the political from the economic arguments, to enlighten our discussions longer term.   To do this, we shift at various points between the legal, security and economic analysis.  You are encouraged to discuss this unit’s materials in your smaller groups, because some of the international economics material will look more like b-school than law school material.  So our joint IMBA degree and undergraduate b-school or economics majors should help to bring along their undergrad engineering and liberal arts colleagues.  They presumably can return the favor at another point in the course.

The first issue in terms of the scope of any “national security” exception is probably best understood as representing the basic dispute whether disagreements falling under the WTO multilateral trading system should be “justiciable” in terms of maintaining a rules-based system, versus moving matters at some point to a higher plane of economic or similar diplomacy.  The practical issue is whether one should effectively cut out adjudication in terms of judges or arbitrators ruling on what the treaty language requires, here specifically the meaning of “essential” security interests (in the US we would normally say “national” security, but for these purposes we shall assume they mean the same thing).  We borrow the familiar language of US constitutional law with “justiciability,” where the concern typically involves a disagreement between co-equal branches of government like Congress and the Executive, which disagreement the Judiciary refuses to resolve.

Here the disagreement would be instead between two states concerning whether the ordinary WTO Agreement obligations should fall away in the face of unilateral national security claims.  And in practical terms, this kind of current dispute was present where the Trump Administration as a negotiating strategy levied or threatened tariffs against individual countries based upon “national security” claims, which it maintains in WTO terms should be “self-judging” (a public international law equivalent of non-justiciability).   The chief US argument offered was that a state's views on its own essential security interests should not be subject to challenge, but the obvious issue then becomes how to deal with seeming weak claims like the position of the Commerce Secretary during the Trump Administration that the import of European sedans threatened "national security").

The problem then becomes whether the US legitimately can legally levy said tariffs and make such claims based upon WTO jurisprudence concerning the proper scope of essential security.  So it provides an early and clear example how differences of opinion manifest themselves concerning whether the international trade system should be a “rules-based system,” versus being more based upon economic diplomacy and negotiations (and recognize that national security claims are still being made not only against China, but most recently also against the EU and Asian allies in conjunction with the IRA legislation's EV tax credit provisions favoring domestic production).  A state could always adopt an aggressive stance/engage in behavior which might arguably breach its treaty obligations as negotiating tactic, but at a certain point the question becomes a tactics versus strategy choice.  If you are consistently violating your treaty obligations, at what point do you effectively abandon the treaty?

The second typically involves claims about “currency manipulation,” but that is probably best understood ultimately as involving ideas about exchange rates as a matter of WTO member countries embracing a liberal economy.  One problem is that floating exchange rates did not exist in 1947 when the GATT Agreement was birthed essentially in parallel to international financial institutions like the IMF, so claiming that true floating exchange rates are necessary to a liberal economy is somewhat ahistorical in economic terms.  The second problem is that even countries with liberal economies often employ the tools of central banking for macroeconomic management of their economies, which might look a lot like “currency manipulation” to the extent it commonly involves managing interest rates and money supply, which themselves affect ultimate currency exchange rates.  The most timely example involves the Federal Reserve apparently embracing non-traditional monetary policy in terms of interest rate or yield curve management in the face of the on-going COVID-19 crisis.  This would be referred to as “financial repression” in economics as taught in the b-school, but has the effect traditionally of keeping interest rates low (and, corresponding, keeping foreign exchange rate performance of the currency weak in the longer term).  The underlying issue may be whether the WTO Treaty ultimately requires a liberal economy anyway, with the argument being conducted over the details of foreign exchange rates.  Pay close attention to current Chinese responses to claims of currency manipulation, and you will see claims about Fed actions manipulating US currency, etc.

Following up initially on the national security and self-judging point (justiciability), we shall look at the language of GATT/WTO Article XXI, as well as the first WTO dispute resolution opinion on national security interpreting the provision (from 2019, involving a dispute between Russia and the Ukraine), as followed by several related WTO dispute resolution proceedings involving the initial outcome of proceedings of various countries challenging tariffs levied on aluminum and steel during the Trump Administration.    Remember that treaties are normally supposed to be interpreted with fairly strict attention to text as a matter of public international law doctrine.  What is your impression as a matter of treaty law, is the “national security” exception about excluding from coverage trade in weapons of war and mass destruction, or is it about maintaining the national manufacturing base?  The question is whether the proper treaty interpretation is that the exception addresses “military” security versus “economic” security, where to draw the line, and why?  Now, what about various grammatical arguments based upon the treaty's text concerning the idea that a state's position on its essential security interests should be non-reviewable/non-justiciable?  How would you now understand President Trump’s claims that he can levy tariffs on Chinese and European steel, aluminum and cars because they threaten US national security?  How exactly do they threaten US national security?

Turning secondarily to the currency manipulation question, we shall examine the 2005 draft Graham-Schumer legislation (S.295, concerning revaluation of China’s currency via imposition of a special 27% tariff), which bipartisan legislation was never enacted, but helped birth a large number of copycat bills concerning currency manipulation over the years, and does articulate its legal basis as GATT/WTO Article XXI.  The Graham-Schumer draft legislation did trigger, however, economists’ attempts to model the effects of such a special 27% tariff on the import of Chinese goods on the US and Chinese economies, which we can examine.  While the Graham-Schumer legislation was never enacted, the Trump tariffs on Chinese goods (currently around 20%, so relatively close to the Graham-Schumer legislation’s currency revaluation 27% tariff) are still in place, so that we can look to the economic modeling of the mooted Graham-Schumer currency revaluation tariff to get a general sense in economic as opposed to political terms of how weaponizing tariffs has actually affected the US and Chinese economies.

Finally, we turn to the issue of what actually causes trade imbalances in economists’ eyes, which involves some attention at a technical level to the current account and trade imbalances (which we alluded too last week in conjunction with GATT/WTO Article XII in our overview of the GATT/WTO Agreement’s text), viewed through the lens of national accounting as international economics exercise.  In practical terms, this is the problem that simply insisting that China, for example, lower its trade imbalance with the US, “or else,” may simply result in “trade diversion.”  In practical terms, if the US were simply to impose a high enough unilateral tariff on Chinese goods to eliminate certain Chinese exports to the US and so the related bilateral trade deficit disappeared, those US purchases of foreign goods may simply move to another foreign exporter (say India, Vietnam, or Mexico), so that the US’s overall trade deficit would stay the same.  What do you think happens if instead the US simply insists that China increase its purchases of US goods, which demand lies at the heart of the Phase 1 US-China Agreement, seeking increases in Chinese purchases of US agricultural products and other goods such as natural gas?  How might trade diversion apply under those circumstances?

Finally, what is at stake, and what likely happens in the on-going US-China decoupling debate, viewing it as a legal and economic matter, rather than something of a political football?  (Meaning what politician wants to be perceived as "soft on China"?)