Burning Rubber: Proposed Duties on Chinese Tires Whiff of Senseless Protectionism

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Introduction

Although the stew that is the U.S.-China trade relationship hasthe potential to reach a full boil, it has been on a low simmersince before the start of the financial crisis and subsequentglobal economic slowdown. Despite pork bans, poultry bans, a steadystream of antidumping and countervailing duty investigations,dispute settlement judgments from the World Trade Organization,accusations of currency manipulation, admonitions regarding China'sdependence on export-led growth, and China's concerns about theimpact of profligate U.S. government spending on its U.S. debtholdings, the relationship has held up fairly well.

But that could all change quickly. By September 17 PresidentObama is required to render a decision in a potentially combustiblecase concerning automobile tire imports from China. Pursuant to apetition filed by the United Steelworkers of America under Section421 of the Trade Act of 1974-known colloquially as the"China-Specific Safeguard"-the U.S. International Trade Commissionhas already recommended that Obama impose duties of 55 percent onimports of consumer tires from China. Under the law, the presidentcan adopt, modify, or reject that recommendation.

Although this may sound like just another day in Washington,Obama's decision will be consequential. It will help clarify hisadministration's heretofore opaque tradepolicy objectives. It willset the tone for U.S.-China trade relations for the foreseeablefuture. And it will affect broader international trade relations,for better or for worse, as America honors or disavows its pledgeto the Group of 20 nations to avoid new protectionist measures.

Under the statute, the president has discretion to deny import"relief" if he determines that such restrictions would have anadverse impact on the U.S. economy that is clearly greater than itsbenefits, or if he determines that such relief would cause seriousharm to the national security of the United States. The firstcondition is met overwhelmingly. And, for good measure, there is avery strong argument that the second is met, too.

But at the end of the day the president is a politician, who ispresumed to owe Big Labor for his election last November. Will thepresident do what is overwhelmingly in the best interest of thecountry? Or will he do what he thinks is best for himselfpolitically? This paper provides some law and case background andthen summarizes why the president should reject the recommendationsof the USITC and deny import restrictions altogether.

The Section 421 Statute and a Brief History

Section 421 of the Trade Act of 1974, as amended, is a specialstatute that applies only to imports from China. It became U.S. lawas a condition of China's accession to the World Trade Organizationin 2001. The provision aimed to assuage fears about Chinesecompetition by establishing a special "safeguard" to deal withincreased imports from China for the first 12 years after China'sentry into the WTO.1 The law will expire at the end of 2013.

The broader U.S. "safeguard" law, Section 201 of the Trade Actof 1974, authorizes the imposition of temporary trade barriersagainst increased imports that are a "substantial cause" of"serious injury" to American producers. The China-specificsafeguard of Section 421, by contrast, sets a lower threshold forimposing trade restrictions. Specifically, the statuteprovides:

If a product of the People's Republic of China is being importedinto the United States in such increased quantities or under suchconditions as to cause or threaten to cause market disruption tothe domestic producers of a like or directly competitive product,the President shall, in accordance with the provisions of thissection, proclaim increased duties or other import restrictionswith respect to such product, to the extent and for such period asthe President considers necessary to prevent or remedy the marketdisruption.2

Under the statute, "market disruption" exists "whenever importsof an article like or directly competitive with an article producedby a domestic industry are increasing rapidly, either absolutely orrelatively, so as to be a significant cause of material injury, orthreat of material injury, to the domestic industry."3 And the term "significantcause" refers to "a cause which contributes significantly to thematerial injury of the domestic industry, but need not be equal toor greater than any other cause."4

If the ITC renders an affirmative finding (which is decided bymajority vote) or if there is an even split among commissioners,the affirming commissioners must submit recommendations for reliefto the president and the U.S. Trade Representative within 20 daysof the determination. The USTR then has 55 days to advise thepresident about the ITC's findings-a period during which it musthold hearings on the matter and solicit views from importers,exporters, and other interested parties. It is also authorized topursue negotiations to address the underlying market disruptionwith the Chinese government during this period.

Unless an agreeable settlement is reached, the president mustannounce import relief by the 150th day after the petition's filingunless he determines that "provision of such relief is not in thenational economic interest of the United States or, inextraordinary cases, that the taking of action . . . would causeserious harm to the national security of the UnitedStates."5 If thepresident chooses to grant import relief, it must become effectivewithin 15 days of his decision.

It is also important to appreciate what Section 421 is not. Itis not an "unfair trade" statute. Unlike the antidumping andcountervailing duty laws, a Section 421 case does not includeallegations of prices at less than fair value or prices thatbenefit from countervailable government subsidies. The evidentiarythreshold is much lower. All that is alleged-and all that has to beestablished-in a 421 petition is that imports from China areincreasing in such a manner as to be a cause of market disruption(or threat thereof) to the domestic industry.

Section 421 is not intended to remedy any wrongdoing on the partof Chinese exporters, but is intended rather to give U.S. producersthe opportunity to holler "time out!" as they catch their breath,assess prospects, and attempt to adjust to a new level ofcompetition. Of course there are huge costs to this kind ofintervention in the marketplace, thus the president is granteddiscretion, under the law, to deny relief if he determines that thecosts to the broader economy clearly exceed any benefits to thepetitioning industry. While such discretion provides some comfortthat the law's relaxed evidentiary standards won't be routinelyabused by domestic interests seeking to stifle competition, thereare no guarantees that the president's discretion will be basedexclusively on considerations of the national economic interest. Ifthere were, it would be nearly impossible to conjure a scenario inwhich the concentrated, temporary benefits to a specific industryreceiving protection were not overwhelmed by the costs of thatprotection on the broader economy. Political considerations alwaysinfluence decisions that lead to protection.

During the Bush administration (the first administration underwhich the law was in effect), there were six Section 421 casesfiled by domestic parties, and in four of those the ITC foundmarket disruption and recommended import restrictions. In each ofthose four cases, President Bush exercised his discretion to denyrelief. Thus, trade restrictions have never been imposed under thisstatute.

Some Specifics of the Tires Case

The tires case is noteworthy in several respects, starting withthe fact that it is the first Section 421 case initiated during theObama administration. Petitioners came to regard the law as a deadletter under President Bush, but have been anxious to test itsviability under a new president, who promised last year to decideSection 421 cases "on their merits, not on the basis of anideological rejection of import relief like that of the currentadministration."17

The petition in the tires case was filed by the United Steel,Paper and Forestry, Rubber, Manufacturing, Energy, AlliedIndustrial and Service Workers International Union-the United SteelWorkers, for short-on behalf of workers in the U.S. tire industry.However, the USW represents workers accounting for only 47 percentof U.S. tire production capacity, so most workers in the industryare not officially supporting the petition.7 Furthermore, this is the first 421 casethat does not have a domestic producer as the petitioner. Out ofthe 10 firms determined to comprise the entire domestic tireindustry, none supports the union's petition for import restraints.Thus, this case, initiated on behalf of no producers and less thanhalf of the industry's workers, and given the acrimony it hasengendered within the U.S. tire-supply chain, is probably not thekind of case that President Obama idealized when he promised todecide these issues "on their merits."

In reaching its affirmative conclusion of market disruption inJune 2009, the USITC cited the 215-percent increase in the volumeof tire imports from China between 2004 and 2008 as a cause ofmaterial injury to the domestic industry. The conclusion ofmaterial injury was based on evidence of declining industrycapacity, production, shipments, employment, wages, and financialresults.8

The argument put forward by respondents in the case (i.e.,various producers, exporters, and importers) during the ITCproceeding, which was ultimately rejected in the majority'sdetermination, is that tire production is stratified among threequality "tiers," and that competition across tiers is mitigated.Most of the increase in imports from China was of the lowest tier,while most of the tires produced in the United States are of thetop two tiers.

Furthermore, 7 of the 10 U.S. tire producers also manufacturetires in China, as well as in other countries.9 And of those 7 firms, 4-Goodyear,Michelin, Cooper, and Bridgestone-account for almost 90 percent ofU.S. production. Thus, the change in composition of domestic andimported tires in the U.S. market is a function of the decisions ofthese U.S. producers. And it was a deliberate decision of U.S.producers to reduce production of Tier-3 tires-the lowest-end,lowest-profit-margin tires-at their U.S. plants, and increasesourcing of that tier in China and elsewhere, where lowerproduction costs enable the realization of some profit, which inturn helps support continued production of Tier-1 and Tier-2 tiresin the United States. Thus, the declining employment, production,capacity, and shipments are all attributable to intentional,conscious planning on the part of profit-maximizing firms.

For a law that is characterized by its champions as a tool tosupport our producers vis-à-vis Chinese producers and toensure a level playing field, this test case for Obama pitsAmerican workers against American producers, and American workersagainst American workers. By going after Chinese producers,petitioners ensnare their own employers, as well as fellow Americanworkers, organized or otherwise. Although the lightning rod isChina (with all of the negative perceptions that have beencultivated about its trade practices), this case has little to dowith China per se, and everything to do with organized laborbegrudging U.S. producers for pursuing profit- maximizingstrategies in a globalized world. In seeking sanctions, petitionersare asking Obama to indict globalization.

Whom Will Protectionism Help, and How

Duties on imports of tires from China are more likely to lead togreater production in other developing countries than to greaterproduction in the United States. U.S. producers have chosen tooutsource production of their lower-tier tires to China becauseproducing those tires in that location makes the most senseeconomically. But raising the costs of producing in China byimposing trade restrictions would not make U.S. production moreattractive. It would not bring back U.S. jobs. It would makeIndonesian or Mexican or Brazilian production more attractive, andwould likely divert jobs from China to those countries.

According to data compiled by the ITC staff, the average unitprice (based on the customs value) of a tire imported from China in2008 was $38.98.10 A 55-percent tariff would drive up the unitvalue to $60.42. But, in 2008, U.S. producers sold 159 milliontires, valued at $11 billion, for an average price of$68.60.11Factoring in mark-up of the Chinese price, it is reasonable toconclude that prices of American- and Chinese-produced tires mightretail for about the same price. But that outcome is highlyunlikely to be incentive enough for globalized tire producers todivert production from China to the United States. Instead,producers are much more likely to shift production to Mexico,Brazil, or Indonesia, where the unit prices in 2008 (based oncustoms value) were $56.26, $48.93, and $32.10,respectively.12

Furthermore, the ITC's recommended remedy would be in place forthree years. The statute expires in four years. What kinds ofchanges should be expected during the interim that would make theUnited States a more cost-effective place to produce Tier-3 tires,or any tires for that matter? There are no changes-short oftechnological advances that raise productivity and reduce thedemand for labor-that could make the United States a better placeto produce tires. But this case is about jobs and nothing else, soeven that outcome wouldn't satisfy petitioners. Three years of"relief" will do nothing but perhaps defer the day of reckoning,while imposing heavy costs on the rest of the economy, taxing ourrelationship with China, and further sullying America'sinternational standing.

Adverse Economic Impact Is Clearly Greater Than anyBenefits

Formal economic models, testimony, anecdotes fromrepresentatives of industries in the tire-supply chain, and commonsense analysis all reveal an excessive cost burden on the economyfrom the proposed remedy of 55-percent duties in year one;45-percent duties in year two, and; 35- percent duties in yearthree.

In their dissenting opinion, ITC Vice Chairman Daniel R. Pearsonand Commissioner Deanna Tanner Okun concluded:

[W]e find that imposing a trade-restrictive quota ortariff on the subject imports will be far more likely to causemarket disruption than to alleviate it for domestic producers whohave already undertaken significant strategic adjustments to adaptto a changing global market.13

Indeed, economist Thomas Prusa estimates that "the tiremanufacturing industry will experience little to no job creation asa result of the tariff. Under the best-case scenario more than adozen jobs will be lost for every job protected." Prusa estimates anet loss of at least 25,000 U.S. jobs if the recommended tariff isimposed. Under the best case, Prusa finds that higher prices andother inefficiencies stemming from the proposed remedies would sapU.S. consumers of $600 to $700 million per year, translating to anannual cost of $300,000 for every job "protected" in the tireindustry.14

According to a statement of the U.S. Tire Industry Association,which represents all segments of the tire industry, including thosethat manufacture, repair, recycle, sell, service, or use new orretreaded tires, and also those suppliers or individuals whofurnish equipment, material, or services to the industry:

Our members, by directly importing or contracting withsuppliers, are meeting the demands of a segment of the tireconsumer market for lower-cost tires. No manufacturing uptick wouldsatisfy this product segment, but instead could create a need forproduct allocation, resulting in shortages and outages. In the bestof times, such occurrences are troubling, but in today's climate,this could inflict severe financial harm on many retailers and onthe motoring public.15

Consumer groups and other organizations have also expressedsafety concerns about the impact of higher-priced tires onincreasingly-pinched consumers. The likelihood that an increasingnumber of consumers will forego the replacement of old and worn-outtires presents a whole new category of risk and costs that aredifficult to quantify economically.

If President Obama imposes trade restrictions in thiscase-regardless of whether those restrictions are as severe as theITC's recommendation or if they are milder-the United States willhave blatantly violated its commitment to the G-20 earlier thisyear to avoid new invocations of protectionism. That would be acolossal mistake that simultaneously undermines U.S. credibility ontrade and invites other governments to indulge their ownprotectionist lobbies. The consequences for world trade could besevere. There should be no doubt that the demonstration effectwould not only influence other governments toward intervention, butwould also encourage other U.S. interests to pursue their ownprotection under Section 421.

The fact that President Bush rejected the ITC's recommendationsto impose restrictions four times reinforces the perspective heldby the Chinese government that the imposition of trade restrictionsunder Section 421 is firmly a matter of presidential discretion.Unlike antidumping or countervailing duties, which run on statutoryautopilot without requiring the president's attention or consent,Section 421 explicitly requires the attention and participation ofthe U.S. president. In other words, although there are over 90outstanding U.S. antidumping and countervailing duty orders againstvarious Chinese products, none of them is considered to reflect thedirect wishes of the U.S. president, and thus none of them rise tothe level of a potentially explosive trade dispute.

Technically, if the United States imposes restrictions underSection 421, the Chinese are not entitled to formally retaliate.But that's cold comfort when it's quite obvious that traderestraints under Section 421 will no doubt be considered by theChinese to be a directive of the U.S. president, and thus theoffense taken and the consequences wrought could be profound. U.S.industries across the manufacturing spectrum have written toPresident Obama, urging him not to impose restraints in this casefor fear that they will bear the brunt of the costs through lostexport sales. This is a real possibility.

As to the question of national security, the prospect of aspiraling trade war with China, if duties are levied andretaliation ensues, will strain the commercial ties that have beensuccessfully cultivated over the past few decades and will increasethe risk that China becomes less helpful on crucial matters of U.S.foreign and security policy.

Conclusion

Through the first eight months of his tenure, the president hasavoided making any decisions of consequence on matters of tradepolicy. While his actions have not been conclusively protectionist,his tepid rhetorical endorsements of trade and his conditionalrepudiations of protectionism have sown doubts at home and abroadabout the direction of U.S. trade policy. A decision to rejecttrade restraints in the tires case would be reassuring to a worldthat is struggling to grow out of recession.

The stakes appear to be much higher for Obama than they were forBush. The unions feel that they have earned the president's supportand are more emboldened in their position now than in the past.Bush didn't win the near-unanimous support of organized laborleaders in his elections, as Obama did. Nor did Bush promise to gettough on Chinese trade practices, as Obama did. Instead, Bush setthe precedent of denying relief-and he did it four times.

The USITC's recommendation of a 55-percent tariff is a remedyfar more restrictive than the quota sought by the USW. Thepresident, then, may be tempted to offer what he might think is acompromise solution, of lower duties or a tariff-rate quota. Butthe costs of any protectionism at this time and under thesecircumstances could unleash a protectionist backlash in the UnitedStates and around the world. It would be far less costly for thepresident to reject trade restraints altogether and to capitalizeon his earned credibility by moving the trade agenda forward.

Notes

1 DanielIkenson, "Bull in a China Shop: Assessing the First Section 421Trade Case," Cato Free Trade Bulletin no. 2, January 1, 2003,p.1.

2 19 U.S.C.§ 2451(a).

3 19 U.S.C.§ 2451(c)(1).

4 19 U.S.C.§ 2451(c)(2).

5 19 U.S.C.§ 2451(k)(1). Note that in cases in which the ITC is evenlysplit, the president has complete discretion about whether or notto accept the affirming commissioners' recommendations forrelief.

6 Barack Obama(letter to Cass Johnson, President of the National Council ofTextile Organizations, October 24, 2008),http://www.ncto.org/newsroom/pr20081029.pdf.

7 U.S.International Trade Commission, Certain Passenger Vehicle andLight Truck Tires from China, Investigations No. TA- 421-7,Publication 4085, July 2009, p. I-14.

8 For a fulldiscussion of the statutory questions of increasing imports,material injury, and causation, see USITC, Certain PassengerVehicle and Light Truck Tires from China, pp. 11-29.

9 Thosecompanies are Toyo, Yokohama, Pirelli, Michelin, Goodyear, Cooper,and Bridgestone. USITC, p. IV-3.

10 USITC,Table IV-4, p. IV-10.

11 Ibid.,Table III-5, p. III-13.

12 Ibid.,Table II-1, p. II-4.

13 Ibid.,p.45.

14 Thomas J.Prusa, "Estimated Economic Effects of the Proposed Import Tariff onPassenger Vehicle and Light Truck Tires from China," AmericanCoalition for Free Trade in Tires (submission to the InternationalTrade Commission, July 26, 2009).

15 TireIndustry Association (position statement, June 17, 2009),http://www.tireindustry.org/pdf/news_archives/pressrelease061709.pdf.