U.S. President Donald Trump has his guns trained on China today, but a bigger war is brewing at the World Trade Organization — where the future of the global trade system is at stake. For the past two years, the United States has blocked new appointments to the WTO's Appellate Body, the organization's de facto supreme court over trade disputes. And unless new appointments are made by Dec. 10, 2019, the body's membership will fall below the number needed to rule on cases.
In effect, the United States is threatening to sideline the WTO's crowning achievement — a strong dispute-resolution mechanism — giving the rest of the world just one year to offer concessions on reform to the United States, to seek other options or to face a world where the mechanism disintegrates. With the ascendance of a new global power — China — the Trump administration may have already decided that this trade tool, a relic of the Cold War era, isn't worth upgrading.
U.S. President Donald Trump has launched trade assaults on China and others, and 2019 is shaping up to be a critical year for the World Trade Organization. The body will discuss some of its most important cases ever, while the United States is threatening to obstruct the body's crowning achievement, the dispute settlement process, which could grind to a halt by the end of next year.
A Victim of Its Own Success?
The current U.S. administration might be at odds with the WTO today, but the body itself was the product of more than 40 years of U.S. pressure on the international community. At the Bretton Woods Conference in 1944, delegates proposed the creation of three institutions to lay the foundation of a rules-based global system to counter the Soviet-led East bloc. Two of those institutions, the International Monetary Fund and the World Bank, remain in existence, but the third — the International Trade Organization — never materialized because U.S. proponents of its establishment couldn't force its charter through the U.S. Senate. In its place, policymakers created the General Agreement on Tariffs and Trade (GATT) to govern trade.
For the United States, a land that derided countries that did not promote free market ideals, the benefits of a rules-based trading order were clear. Essentially, the United States promised other countries access to its market, the most important one for exporters around the world, if they would agree to play by Washington's rules. The problem, however, was enforcement. Although GATT reduced tariffs, it failed to decrease non-trade barriers, including regulations and standards, and suffered from a weak dispute-settlement function. Aggrieved countries could trigger the dispute resolution mechanism, but any decision by the resultant independent panel would only go into effect after the entire GATT council unanimously approved the ruling — an unlikely prospect given that the defendant country could veto the panel's findings. Unsurprisingly, the result was a mechanism that was slow, inefficient and powerless to resolve major disputes.
The United States pushed to strengthen this function, but angst surrounding growing imports and a sluggish domestic manufacturing sector pushed it to take matters into its own hands in the 1980s. After seven years of negotiations and U.S. pressure, the Uruguay Round of multilateral trade talks finally created the WTO in 1995 — five decades after the birth of the World Bank and the IMF.
And unlike GATT, the WTO also boasted a powerful dispute-settlement mechanism, the Dispute Settlement Understanding. Instead of the unanimous approval of a panel's decisions on trade disputes, the new WTO stipulated the adoption of all rulings unless every member agreed to reject a panel report — a clause that effectively guaranteed the approval of a panel's findings. The Uruguay Round also established the Appellate Body, a council whose seven members would be appointed, on a consensus basis, by WTO members every four years to review the legal interpretations of the organization's panels.
Although Washington wanted to create a powerful organization to govern global trade rules, it did not want the body to effectively supersede the United States as the pre-eminent entity setting those rules.
Ever since, however, the United States has shifted away from backing a powerful dispute mechanism — going so far as to lambaste it. Although Washington wanted to create a powerful organization to govern global trade rules, it did not want the body to effectively supersede the United States as the pre-eminent entity setting those rules. The United States has argued that the Appellate Body has exceeded its mandate and failed to follow the rules established during the Uruguay Round. It has also complained that the Appellate Body uses previous decisions as precedents in future cases, effectively creating new rules that WTO members have never approved. Moreover, Washington has alleged that the settlement mechanism has curtailed the United States' ability to challenge other countries' practices, including their use of state-owned enterprises (SOE), through its interpretations of WTO rules.
The Challenge of China
The WTO emerged amid the collapse of the Soviet Union. It was a product of the Cold War and also came to represent the new liberal world order, at least for trade matters. As my colleague Rodger Baker has noted, such a world was never inevitable. And as China soon superseded even the Soviet Union in challenging the United States economically, Washington quickly learned that its Cold War-era creation was ineffective at countering Beijing, which many complain is ignoring the rules that it promised to follow when it joined the WTO in 2001.
The most glaring example of the lack of U.S. success was a case it lodged against China's SOEs. Washington argued that China's SOE banks constituted "public bodies," meaning that the cheap loans they provided to enterprises were tantamount to subsidies. The United States, however, lost the case in 2014, when the WTO panel ruled that the Chinese government's mere ownership of a controlling stake did not make the banks a public body. Instead, the panel told the United States that it had to prove that the SOEs were performing government functions.
The most seminal case now on the docket — and perhaps the most important case for the future of the WTO — is whether or not the United States (and others) can continue to classify China as a nonmarket economy. A preliminary decision on one relevant case involving the European Union and China could come in early 2019. If the WTO rules in China's favor, it would threaten Washington's ability to counter Beijing's trade practices through anti-dumping and countervailing duties, because WTO rules make it easier for the United States and others to prevent nonmarket economies from engaging in dumping. Such a ruling, naturally, would only harden U.S. resolve to work outside the WTO to target China.
The Trump Effect and U.S. Goals
As the United States complains that the Appellate Body is overstepping its bounds — and Beijing and Washington hurtle toward an economic collision — it was inevitable that U.S. leaders would take a long look at the global trading system and seek ways of reforming it to counter China. Although the underlying trend may last beyond his presidency, Trump has outshone all others in his aggression against the WTO, threatening to withdraw from the organization.
Realistically, a U.S. withdrawal is not in the cards: Doing so would result in severe economic hardship at home while, more importantly, the act that conferred U.S. ascension to the WTO explicitly gives Congress a chance to overrule the executive. Nevertheless, the current U.S. administration will continue to ignore the body and attempt to undermine it. As far as Trump is concerned, the settlement mechanism is hampering his preferred negotiating style: implement tariffs — or at least threaten to do so — to force concessions from his trading partner. In essence, U.S. Trade Representative Robert Lighthizer, Trump and the protectionists in the White House view GATT as a golden age in which the United States could throw its economic weight around to get what it wanted from others, whether friend of foe.
The ideological argument from the current administration may be unique to Trump, but the other U.S. demands — namely, to amend WTO working rules and procedures to weaken the settlement mechanism, as well as implement better enforcement mechanisms and rules to counter nonmarket economies like China — are likely to outlast the 45th president.
Looking beyond Trump, the United States must strategically reform the WTO so it can better challenge China. As the SOE ruling shows, the WTO has weakened the U.S. ability to challenge China. America will almost certainly feel a need to resort to other mechanisms beyond the one provided by the WTO to apply enough pressure on China — and the global trading system — to achieve what it wants.
As far as Trump is concerned, the dispute settlement mechanism is hampering his preferred negotiating style: implement tariffs — or at least threaten to do so — to force concessions from his trading partner.
The Search for Appeasing Reforms
The Trump administration's aggressive unilateralism and threats against the WTO have prompted major global economies to enact concrete reforms to appease the United States and salvage the global trade body. The European Union and Canada have both submitted proposals for change that address some of the United States' concerns on developing countries, nonmarket economies, and working rules and procedures, as well as enforcement and monitoring. Brussels has called for tighter regulations, so WTO rules will apply to SOEs, as well as clarifications on the definition of a "public body" — the crucial point that sealed the U.S. loss in the China SOE case.
It should be no surprise that Western countries are backing some of these proposals. From a strategic point of view, they have the same grievances against China and developing countries as the United States. But in order to reform the WTO, the European Union, Canada and other like-minded countries need others to come on board. After all, the changes will require a strong consensus, and China will find plenty of allies in the developing world to counter them.
But despite their agreement on certain issues, the United States and its allies remain far apart on the topic that matters most to the Trump administration: the Appellate Body. The European Union has proposed measures to strengthen the WTO Secretariat and the Appellate Body, as well as expand the jurisdiction of the latter, but this is a non-starter in Washington. "Our view is that (the EU proposal) means less accountability for the Appellate Body," U.S. WTO Ambassador Dennis Shea said. "We cannot support something that makes the Appellate Body less accountable."
Simply put, no one is in a position to compel the United States to reverse its pressure on the Appellate Body, which currently has just three members. At best, the Trump administration might be willing to give the body a stay of execution in December 2019 by agreeing to the appointment of two new members when the terms of two current ones end. But it could maintain the pressure on the body by threatening to withhold its support for another appointment when the term of the other current member ends in November 2020. By then, however, the administration could decide that the current consensus system is too slow and too broken to achieve internal reform, meaning the United States might need to demolish the Appellate Body in order to reform it.
Some have proposed ways to circumvent the U.S. gridlock, but none has won widespread support. One proposal would permit countries to use WTO Article 25, which covers a variety of international arbitration processes to settle disputes, but it would not oblige them — namely, the United States — to do so. Under another proposal, the WTO would amend the working rules of the Appellate Body so it could not assume more cases when it does not have a full complement of members to rule on issues. This would effectively sideline the Appellate Body and prevent it from reviewing WTO panel decisions, meaning rulings would go straight to the organization's general body — where they would pass unless they were unanimously rejected. Ultimately, the WTO would incite even more U.S. aggression if it changed its rules to avoid Washington's obstructions.
Eventually, the dispute settlement process is likely to grind to a halt, yet this does not mean that the global trading order will collapse overnight. Upon entering the WTO, countries made concessions, such as relatively low tariffs and promises to refrain from export subsidies, that would technically continue even after the dispute settlement process collapses. But its destruction would eventually allow larger countries such as the United States, as well as China, to bully smaller countries on trade. Over time, this will almost certainly lead to proposals for more holistic reform of the global trading order, even if a new agreement includes far fewer of the current 164 members.
Given the Trump administration's disdain for multilateral trade deals, his government is unlikely to pick up the pieces of a broken WTO. But just because the United States feels the system is unworkable does not mean that Washington will never return to a rules-based system. In the end, a system grounded in rules might offer the United States its best chance of challenging China in the current global order. At present, the WTO lacks the correct rules Washington needs to suitably counter Beijing — meaning the U.S. trade tussle with China will cause trade ripples around the world for years to come.