Photo: MARTIN SILVA/AFP via Getty Images
Since I last wrote about the electric vehicle (EV) tax credit at the end of September, the argument about the United States’ Inflation Reduction Act (IRA) has heated up. Today, I want to take a look at the opposition and consider its implications.
My earlier column provided details about the tax credit that I will not repeat here. In brief, the legislation provides a substantial tax credit for EVs that meet a variety of requirements, including high levels of domestic content, final assembly in North America, and no Chinese parts, components, or minerals. It is the last provision that will prove fatal, at least in the short term, until alternative sources of supply and processing can be identified and developed.
South Korea was first up to complain, legitimately so, since its auto manufacturers, doing less assembly in the United States, would be the most harmed. Recently, however, to no one’s surprise, the European Union has become the chief antagonist, threatening not only litigation in the World Trade Organization (WTO) but also to pursue its own “Buy European” legislation. The U.S. counterargument—that the European Union is doing the same thing (in digital trade)—is true but unpersuasive. Telling someone else, in effect, he is as bad as we are, does not excuse our behavior and never persuades the other guy to change his.
Unconvincing though that may be, it does set up a potential negotiation—you stop doing your bad thing, and we’ll stop doing ours. Both sides took the first step towards that last week by setting up a task force cochaired by the U.S. deputy national security advisor and European Commission president Ursula von der Leyen’s chief of staff. (Putting the issue on a separate track also has the potential side benefit of not ruining the next meeting of the Trade and Technology Council scheduled for December 5.)
Despite the promising start, however, the path to settlement will be difficult for two reasons. First, both sides believe they are doing the right thing in their policies, and second, both policies have been embedded into law (the U.S. IRA and the EU Digital Markets Act and Digital Services Act), making the process of unwinding them much more difficult. In the U.S. case, it would mean going back to Congress and asking for an amendment to the law.
There has been some discussion that the tax credit problems can be addressed in the regulations the Treasury Department is writing. Last week, Treasury Secretary Janet Yellen threw cold water on that by noting that the law is clear, and the department is required to follow it. Even so, some of the critics maintain the hope that Treasury will magically invent a waiver that will solve all the problems. (If it does, it will certainly be litigated by those who favor the requirements as written.)
Meanwhile, the threat of WTO litigation remains, and I think I underestimated its significance in my previous column. While an adverse WTO panel decision would not solve anything, since the United States could “appeal into the void,” the decision and our failure to comply with it would do serious damage to the U.S. image as the primary upholder of a rule-of-law based trading system and make it more difficult for the United States to credibly call out other nations for their trade policy shortcomings. All countries are sinners at some level when it comes to trade actions, but the EV tax credit is a particularly big sin in the eyes of the world, made worse by the fact that currently no one, including U.S. producers, can meet its requirements. It also undermines the administration’s insistence that it is committed to consulting multilaterally and acting in concert with our friends and allies. It will likely cause us difficulties the next time we ask these same countries for help on something else, which is inconvenient because we are asking right now on export controls on China. Every administration seems to have to relearn that what goes around, comes around.
Despite the gloomy prognosis, auto manufacturers are not sitting around waiting for the politicians to clean up the mess. Even as they complain, they are busy finding supply chain solutions. It is important to remember that they were doing that anyway. The transition to EVs is not occurring because of the tax credit, The credit will accelerate demand, but the decision to move to electric was taken long before the credit became law, and manufacturers have for several years been busy developing battery supply chains to meet their anticipated needs. The domestic content and anti-China requirements make that more difficult and will slow down the transition to EVs, but they also reinforce the transition that was already underway.
That on-the-ground reality points to a solution—maintain the requirements but give manufacturers more time to meet them. That would leave the administration’s policy intact while giving auto makers a more reasonable timetable. Some may argue that will slow down the transition to EVs, but the existing requirements have already slowed it down by creating a standard that cannot be met. Aligning standards with reality is usually a good move.
Will that satisfy the European Union and other objectors? On principle, no, and the damage to the U.S. image may be irreparable. But it would set out a reasonable path for their manufacturers that will enable them to continue to compete successfully in the U.S. market, and this may be a case where it is best to let pragmatism triumph over principle.
William Reinsch holds the Scholl Chair in International Business at the Center for Strategic and International Studies in Washington, D.C.
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