Nice Global Economy. Shame If Anything Happened To It

To understand the reaction to a decision like President Donald Trump’s new steel tariffs, you need at least two levels of analysis: You need to understand the way governments normally work: how countries fight it out over trade policy, as they do every day. In this case, tariffs aimed in principle at China have provoked threats of retaliation from the Europeans and other American trading partners. But you also need to understand how a decision like this might work in the abnormal Trump era. A simple move like creating a tariff may be a piece of a much bigger strategy aimed at changing the way countries everywhere trade.

In today’s issue, you’ll get both levels of analysis. Abdallah Fayyad writes about how countries normally intervene to fight out trade disputes. And I write about what happens if we go beyond the normal, and start challenging the rules that usually regulate trade.

—Matt Peterson

The Normal Analysis: How Trade Disputes Work

When Trump announced he was planning steel and aluminum tariffs, other countries immediately threatened to retaliate against key American products. That’s a typical move during a trade dispute. (PS. Need a refresher on the tariffs? Here you go.)

The Europeans were ready for Donald Trump. The day after Trump made his announcement, Jean-Claude Juncker, the president of the European Commission, took the stage with a list of retaliatory sanctions. If Trump protected U.S. steel and aluminum, the European Union could restrict American goods like Harley-Davidson motorcycles and Kentucky bourbon.

Choose your targets: Motorcycles and whiskey, in this scenario, wouldn’t be random casualties of a trade war, but specific targets designed to influence American policy. By naming individual American companies, the Europeans are nudging two people in particular: Paul Ryan, whose congressional district is home to Harley-Davidson, and Mitch McConnell, Kentucky’s senior senator. “It’s routine for countries to pick and choose the kinds of sanctions they will apply depending on where key decision makers and industries are geographically,” said Jim Bacchus, the former chairman of the World Trade Organization’s highest court (which we’ll get to in a minute). “It simply gives them more leverage in getting the country—in this case the United States—to go ahead and comply with WTO rules.” And the U.S. does it too, he added.
In the late 1990s, the EU and the U.S. engaged in a trade dispute over the EU’s decision to limit American beef imports by banning hormone-treated meat, and the U.S. retaliated by targeting goods from countries that supported the ban, like Roquefort cheese from France and tomatoes from Italy.
Negotiation before retaliation: Threats of economic sanctions rarely lead to real sanctions among WTO partners. “If you’re at the stage of retaliation, you’re at the stage where negotiations have broken down and you are clearly in an adversarial dispute,” said Jennifer Hillman, a law professor at Georgetown University. “Normally, trade disputes don’t end up there, but this has happened in the past.”
Work the refs: The Europeans are threatening to retaliate because they believe Trump’s tariffs would be illegal. That means they may go beyond public threats, taking their case to the judicial bodies of the World Trade Organization. Its highest court—the Appellate Body—helps resolve whether countries damaged by trade policy can legally retaliate if they are not compensated in due time.

In the end, the EU’s tactic of threatening restrictions on iconic American brands is not out of step with the long history of trade disputes, and it’s mostly an attempt to stop the United States from engaging in a trade war. But when we do see allies making these kinds of threats, it’s safe to assume that somewhere along the way, something certainly went wrong.

—Abdallah Fayyad

The Abnormal Analysis: What if Trump Fights the Whole Trade System?

That’s what happens when trade disputes go through the normal channels. But the Trump administration has been anything but normal. What happens if the U.S. decides it doesn’t want to cooperate with the global trading system and starts to withdraw, in whole or in part, from the WTO?

The WTO has gained 164 members since its creation in 1994. A wholesale American withdrawal would be like 164 Brexits, generating massive uncertainty as businesses scramble to figure out what rules they’re playing by. One conservative estimate holds that the United States would lose 5 million jobs.

What was was unthinkable is now being openly contemplated. Trump’s senior trade official, Robert Lighthizer, is a prominent critic of the WTO. Under his tenure, the U.S. has already slowed down its participation in the organization. The Trump administration is also blocking appointments to the WTO’s Appellate Body. Like the Senate blocking nominations to the Supreme Court, if there are not enough judges on the Appellate Body, the WTO’s dispute system could grind to a halt.

Dispute settlement is the crown jewel of the trading system

The creation of a neutral body to arbitrate countries’ trade disputes was no mean feat. “Given world history, it is remarkable that the U.S. and China, and the E.U. and Russia, today resolve their trade disputes through agreed rules applied by an independent body, minimizing the risk that disagreements would seriously undermine trade,” wrote a trio of scholars in the Washington Post last year.

I called up one of those scholars, Gregory Shaffer, a law professor at the University of California Irvine, to ask what’s at stake in this dispute. He said it’s not just a threat to the global trading system, but a threat to the rule of law.

The WTO is a legalistic place, said Shaffer. “Of course, law is good if the legal rules are what you want. And that’s basically the way the U.S. viewed it when it created the institution. But once other countries learn how to use the law against the powerful, then the powerful start thinking maybe the law isn’t such a great thing.”

Trade law has long been America’s friend

This was Shaffer’s key point in our conversation: The U.S. has drawn great benefits from being the WTO’s primary maker. “The U.S. actually has the highest win rate in the WTO of all major countries,” he added.

Settling disputes within the system has another important effect, said Christina Davis, a professor of politics and international affairs at Princeton University: settling the law for good means you don’t have to keep fighting the same battles. “If you have a strong legal system, then everyone follows the law in advance,” she said.

Those precedents help governments deal with their constituents, said Davis. “Think about the flood of industries that are all saying, look, someone is stopping my exports or I'm suffering because of too many imports,” she explained. The existence of a neutral arbitrator lets the government say, “Well, I hear you've got this problem, but you know, 164 countries agree to these rules. And those rules don't embrace that problem. So we're not going to be able to protect you.”

In this international legal system, a violation by one member is treated as a violation against all the others. Imagine a case against China (the U.S. has filed many). “When the U.S. wins the ruling against China,” Davis hypothesized, "if China were to just disregard that ruling, it would be speaking out against 164 countries. Whereas if the U.S. wants to challenge the same Chinese policy with a unilateral measure, instead of China standing alone, there'll be a lot of countries that will be worried about the U.S. appointing itself as the police, judge, and jury.”

The Trump team thinks the balance of power is changing

China’s rapid growth and economic aggression could threaten U.S. dominance in the WTO. This is Lighthizer’s argument, in part: that China will be able to use the rules to its advantage. The WTO, he warned last year, was “not designed to successfully manage mercantilism on this scale.”

The greatest danger to the trading system is that Lighthizer may be right. This latest move by the Trump administration, coupled with a separate demand from China, will severely test the WTO’s judicial system. Trump’s new tariffs are justified on the basis of a never-before-used national-security clause. If the WTO approves Trump’s tariffs on those grounds, there is little stopping other countries from protecting their industries on national-security grounds. If not, the U.S. may refuse to recognize the ruling.

At the same time, China is demanding to be recognized as a market economy. The U.S. has refused to allow this, because the change would make some U.S. trade defenses illegal. If China wins, the U.S. might withdraw. These kinds of high-stakes, binary choices are difficult for judicial systems like that of the WTO’s to process, said Davis. And the danger to the system is heightened when one of the sides doesn’t necessarily believe in the system to begin with. While another U.S. administration might use the loss of a major case as reason to reform the system, Trump may see it as pretext to further undermine it.

—Matt Peterson

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