At a glance
- German Chancellor Scholz and French President Macron argue that the Buy American provisions in the Inflation Reduction Act (IRA) – particularly those affecting the production of electric vehicles – unfairly damage German and French automakers and violate WTO commitments by offering tax cuts and energy benefits to encourage production on US soil.
- European leaders are threatening to retaliate with their own incentive schemes if the US does not weaken the IRA’s Buy American provisions.
- The US agreed to form the EU-US Task Force on the Inflation Reduction Act to discuss the EU’s concerns. The task force will hold its first meetings virtually in early November.
- It is unclear whether the US will be willing to make concessions, given the political popularity and success of the IRA and the EU’s weak negotiating hand.
Issue
Last week saw a new trade war emerging. Yet this time it was not tariffs between the US and China but subsidies between the US and the EU. In an announcement on October 26, French President Macron and German Chancellor Scholz, in rare agreement, argued that the Buy American provisions in the Inflation Reduction Act (IRA), particularly those affecting the production of electric vehicles, create unfair competition for European producers and violate WTO commitments by offering tax cuts and energy benefits to encourage production on US soil. The two European leaders threatened that if the Buy American measures were not dialed back, they would look to establish a similar incentive scheme in the EU, potentially plunging trans-Atlantic trade into a subsidy war.
The Inflation Reduction Act features an array of provisions meant to help the US shift to cleaner energy usage and combat climate change while rebuilding America’s manufacturing sector. Amidst the state aid and tax benefits designed to help small businesses transition to cleaner energy, the Act also includes Buy American incentives that encourage electric automakers to use US-made materials and energy sources. The legislation offers tax breaks for US-based companies that manufacture materials for technologies including wind, solar, carbon capture systems, and electrolyzers. It also offers electric vehicle tax credits for consumers buying new ($7,500 credit) or used ($4,000 credit) electric vehicles manufactured in North America. Macron and Scholz argue that the IRA incentive scheme unfairly favors manufacturing in the US, violating WTO law and damaging major German and French automakers.
The U.S. Response
It is not yet clear what steps the Biden Administration is willing to take to address countries’ critiques of the IRA. South Korea levied similar complaints in early September, even arguing that the electric vehicle incentive structure violated KORUS (the US-Korea Free Trade Agreement). The US reportedly held a review of the electric vehicle incentives following a security meeting between the US, South Korea, and Japan on September 1, but has not yet released any findings or policy changes.
In an October 25th meeting between European Commission President Ursula von der Leyen and US Deputy National Security Adviser Mike Pyle, the US did agree to form an EU-US Taskforce on the Inflation Reduction Act to discuss the EU’s concerns over the IRA. The first meetings of the taskforce will occur virtually this week, but it remains to be seen whether the White House is willing to substantively change the IRA incentives – just last week, Biden enthusiastically toured the construction site of a new computer chip manufacturing facility brought to Syracuse, NY by the IRA’s incentive scheme.
Further uncertainty remains over what changes the Administration is able to make to the IRA without returning to Congress to amend the text of the legislation, but it is unlikely that Biden would risk bringing the IRA back to Congress. Any legislative amendment to the IRA would face an uphill battle after November midterm elections and a lame duck Congress. The bill was originally passed without a single Republican vote after two years of hard negotiations. If the Republicans win control of either chamber of Congress, the pro-union and pro-renewable energy provisions in the IRA could be gutted by the GOP.
Regulations currently being drafted by the US Treasury in consultation with industry present one potential avenue for inserting loopholes for trading partners without going through Congress. The definition of “final assembly,” for example, could potentially include caveats allowing foreign cars to qualify for the tax breaks if they are imported to the US for final assembly. Treasury Secretary Yellen asserts that while her agency will take the concerns of ally nations into account when implementing the IRA, they must nonetheless apply the rules as they are written.
How the E.U. will respond
While European member states agree that the IRA creates unfair competition for European manufacturers, they are divided over how best to respond. In a primetime interview with television channel France 2 following his meeting with Scholz, Macron advocated for the EU to answer with its own Buy Europe Act equipped with its own subsidies to incentivize production in Europe. “You have China that is protecting its industry, the US that is protecting its industry and Europe that is an open house,” Macron said, adding: "[Scholz and I] have a real convergence to move forward on the topic, we had a very good conversation.”
Germany does share France’s concern for the unfair trade practices but disagrees that European subsidies and protectionism are the answer. Citing such changes as chemical manufacturing giant BASF’s recent decision to cut back its operations in Europe due to gas prices six times as high as in the US, German Finance Minister Christian Lindner argues that Europe must strengthen its own competitiveness through corporate tax relief and other measures to make the continent a more attractive investment.
Other EU member states are still calculating the potential damages they face under the IRA – France claims a potential loss in investment of €8 billion if domestic operations relocate to the US – but they have called on Brussels to push for tangible and concrete measures. EU Trade Commissioner Valdis Dombrovskis has agreed that many of the green subsidies provided under the IRA may discriminate against EU automotive, renewables, battery, and energy-intensive industries. The EU has begun the negotiations demanding similar carve-outs for the EU as those created for Canada and Mexico, which expand many of the benefits to manufacturing across North America.
Where is it going?
Companies should continue to follow these developments closely as international distaste for the IRA could quickly spread beyond the EU and spark a larger trade conflict. Further insights will become available following the first virtual meetings of the Task Force in November. Assuming the Biden Administration is willing to make concessions, the IRA could potentially be amended to expand the benefits to green energy products produced in Europe, similar to the provisions that include products manufactured in Mexico or Canada. Adding the EU to these carve-outs would maintain the manufacturing jobs already located in Europe while removing the discriminatory nature of the IRA provisions.
This solution may prove politically appealing considering the EU and US have attempted to present a united front in countering larger geopolitical challenges like Russia’s invasion of the Ukraine and China’s unfair trade practices. Yet, domestic trade interests showcase the limits of strategic collaboration and reinforce arguments in favor of “America First” and European “open strategic autonomy.” The intentional and expeditious work of Bjoern Seibert, the European Commission President’s head of cabinet, and Mike Pyle, US Deputy National Security Adviser, to organize a task force designed to tackle the dispute, minimize the bickering and hostile rhetoric, and create the space to secure a solution indicates a serious attempt to resolve the issue. However, if the US-EU Task Force negotiations fail, this holiday season may feature a trans-Atlantic subsidy war rivaling the decades old Airbus-Boeing dispute, adorned with lengthy WTO filings, disruptive retaliatory tariffs, and confusing subsidy schemes.
