The World Trade Organisation (WTO) is today due to deliver its final ruling on the long-running spat between the US and the EU over US tax privileges for exporters. The WTO Appellate Body will rule on an appeal by the US against a pro-EU decision announced last summer which struck down the replacement tax regime installed by the US after a previous regime was ruled unlawful.
With considerable difficulty, the US had passed legislation in November 2000, known as the Extraterritorial Income Exclusion Act (ETI), designed to bring the US into compliance with the WTO. The 2000 legislation, which was rushed through Congress literally days before it was suspended for elections, effectively repatriated the tax break, amounting to about 15% of applicable income taxes, which had previously operated through offshore sales subsidiaries, and extended it to a wider range of exporters, in an attempt to make it appear less discriminatory. But the WTO didn't agree.
The US maintains that the subsidy is an equivalent to rebates from Value Added Tax (VAT) given to European companies for products exported outside Europe, which gives an advantage between 15% and 27% to EU exporters, depending on the country of origin.
No-one is expecting the WTO to rule in favour of the US, although it is possible that the ruling will contain some nuanced language which might open the way to a solution. If the US loses, as expected, the Bush administration could file a complaint against the European tax system in the WTO, the two sides could reach a compromise solution in a deal linked to the solution of other, pending trade disputes, or Congress could overhaul the US tax system once again, although there is thought to be little appetite for that in Washington.
The value of the disputed tax breaks is held to be in excess of $4bn annually, and after a ruling in its favour the next step for the EU, if it wants to pursue the case, would be to propose a list of US exports against which it would be permitted to impose retaliatory tariffs. The WTO then has until April to approve the list, and set the total value of tariffs that may be applied.
Some work however has been done in Congress which could point the way towards a legislative solution for the US. Shortly before Christmas, Senate Finance Committee Chairman Max Baucus, (D - Mont.) said at a briefing that a bipartisan group of House and Senate members were in the final stages of writing matching bills that aim to simplify US international tax policy. Congressmen at the briefing said they plan to simplify and reform international tax policy in order to make US multinational companies more competitive abroad.
House Ways and Means Committee members Amo Houghton, R-N.Y., Sander M. Levin, D-Mich., and Sam Johnson, R-Texas, were planning to spend December 20 putting the final touches on 30 provisions designed to eliminate tax complexity and barriers to international competitiveness. "It's the right thing to do; we've got to get at this thing now," Houghton said.
It remains to be seen whether Congress, in its log-jammed state, will be able to achieve a consensus on this issue before April. Meanwhile, management of the dispute will fall into the hands of Robert Zoellick, US trade representative, and Pascal Lamy, European Union trade commissioner. These two have worked hard in the last year to calm down a series of transatlantic trade battles; but the 'foreign sales corporation' issue may be beyond their powers.
Mr Zoellick has said that if retaliation goes ahead, it will unleash "a nuclear weapon on the trading system" and severely damage companies on both sides of the Atlantic. But the EU has made clear it intends to extract the maximum negotiating advantage from a favourable ruling: one reason is that it is determined to force the US to comply with other WTO rulings against it on its anti-dumping, copyright and trademark laws. Also, the US administration has been forced to agree to some highly protectionist measures in Congress in order to secure 'fast track' trade negotiating authority for the President, and any one of these could be the spark that sets off a really serious transatlantic trade war. For instance, Mr Bush is threatening to impose stiff tariffs on steel imports in the next few weeks.
Most observers think that Zoellick and Lamy, if allowed enough negotiating space by their respective administrations, will successfully manage the dispute; but the danger is that hotheads in Congress or Brussels will seize on the issue in order to make political capital, and that this will lead to an all-out trade confrontation.
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