Friends and Olives

It’s been a quiet week in the trade world, so I thought I’d comment on two things that are either small or evergreen. The first one is literally green (as well as black)—the European Union’s complaint against U.S. restrictions on imports of their olives. The United States lost that case, said it would comply, and then was taken back to the World Trade Organization (WTO) because the European Union argued its compliance was inadequate. (I discussed the history of this case in an earlier column.) The United States lost the second time around as well but then told WTO members it would allow the second panel’s report to go into effect. This is good news because it strikes one small blow in favor of complying with WTO decisions even when we don’t like them, which helps strengthen the institution and provides an example for the other members on how to behave. Full compliance will be difficult because doing it right would require amending the statute, which would mean a trade bill, which would mean a cascade of unrelated amendments that would sink the bill. The U.S. acceptance comments were a bit begrudging and cranky, but when has any government ever admitted to doing anything wrong or making a mistake? John F. Kennedy did it after the Bay of Pigs disaster, but it’s an exceedingly rare event. Ironically, if governments admitted their errors more often, it would probably help restore people’s faith in government, acknowledging that our leaders are human and doing the best they can.

Second, I want to take another look at “friend-shoring” (or nearshoring or ally-shoring—choose your term), a frequent topic of CSIS’s Trade Guys podcast. It is the topic du jour in Washington and will remain so for some time as the government and outside stakeholders try to figure out what it means. The first thing to note is that friend-shoring is happening regardless of the government. The UN Center for Trade and Development’s December 2023 Global Trade Update found that levels of bilateral trade between “geopolitically close” nations have been steadily growing in the past year and a half—as opposed to levels between “geopolitically distant” and “geopolitically very distant” countries.

For the United States in particular, you can also see it in our declining two-way trade with China and the replacement of the latter by Mexico as the largest source of U.S. imports. Part of this shift is no doubt circumvention, which can range from outright fraud—products simply being relabeled and reshipped from another country—to Chinese factories locating in Mexico and either manufacturing or assembling there. And that is where friend-shoring becomes messy. International customs rules, as well as U.S. law, treat a product that has been “substantially transformed” in another country as a product of the latter. So, for example, Chinese steel slabs could be shipped to Mexico and are there transformed into wire, sheet, or plate and enter the United States as Mexican products. The issue becomes even more complicated if one looks at manufacturing plants in friendly countries that benefit from Chinese investment but not management or control.

The Inflation Reduction Act (IRA) attempts to deal with this problem with respect to electric vehicles by declaring that a car that contains critical minerals “extracted, processed, or recycled by a foreign entity of concern” will be ineligible for the tax credits the bill offers. In other words, the law tries to force entire supply chains, upstream and downstream, to be located in acceptable countries. That leads to the problem the United States encountered with solar panels—currently, it is somewhere between difficult and impossible to guarantee that our supply chains are that pure. Eventually, if the incentives are large enough, that will change, but in the short and medium term our insistence on removing any trace of China from critical supply chains is slowing down our efforts to reach other goals, like decarbonization and the transition to green technologies. We are pursuing incompatible policy goals, and keeping China out of our supply chains seems to be the one prevailing.

Efforts to resolve that contradiction in the long term by finding “friends” who can produce the critical items we need runs up against another problem—defining who is a friend. The administration’s notion is to look for countries that share U.S. norms and values about the global economy, but that is a fuzzy concept. Do Saudi Arabia and India fit into that? What about Vietnam, a state controlled by its Communist Party but also one with a rapidly growing trade relationship with the United States? Legislation that provides a list or clearer definition is not the best route, as this year’s friend may be the next decade’s adversary, and, in any event, the Biden administration seems more focused on reshoring than on promoting friend-shoring.

Meanwhile, as usual, companies are going about their business making decisions on partnering with foreigners based on their own interests. Some CEOs will hold on to their wallets or purses and wait for clarity from the government, but many will follow the old maxims that it is easier to ask for forgiveness than it is to get permission, and the early bird gets the tax credit. The Biden administration would be wise to speed up both its rulemaking for the IRA and its clarification of how it envisions friend-shoring more broadly, in terms of its geographic breadth as well as its economic breadth—only critical minerals or more. It should also give more thought to how we attract friends, many of whom will be wary about whether our intentions are good for them as well as good for us.

William Reinsch holds the Scholl Chair in International Business at the Center for Strategic and International Studies in Washington, D.C.