Did Trump Just Take an Ax to the US Trade Relationship with Canada?

Chad P. Bown (PIIE)

April 27, 2017
Photo Credit: 
REUTERS/Ben Nelms

On Monday, Commerce Secretary Wilbur Ross announced the United States had found preliminary evidence that Canada was subsidizing exports of softwood lumber. As a result, the United States would begin imposing new 20 percent tariffs on wood imports.

Monday’s announcement raised eyebrows, in part because of President Trump’s controversial decision that the US government would “self-initiate” a separate investigation alleging steel imports were a threat to US national security. It also came on the heels of Trump’s Wisconsin speech, in which he ratcheted up tensions with the north by stating accusingly, “in Canada, some very unfair things have happened to our dairy farmers.”

It’s a cliche to say “it’s complicated” when talking about economic policy issues, but it is also often true. Here are six things you need to know, if you want to understand a complex debate.

1. Canadian lumber producers depend on the US market—and US producers don’t like it

Canada is very reliant on the US market, shipping 75 percent of its total exports to the United States. Its softwood lumber exports are no different. Overall, lumber makes up more than 2 percent of Canada’s total exports to the United States each year and involves thousands of Canadian jobs.

Because much of Canadian lumber is harvested from publicly owned lands, the US logging industry has long claimed that it is competing against unfair imports. Americans accuse the Canadian government of collecting insufficient fees from loggers to cut down trees. They allege that this is an implicit government subsidy that gives Canadian lumber an unjustified advantage, hurting US companies and jobs.

Softwood lumber is ultimately used for many purposes, including flooring and siding for the construction industry. New US trade barriers that limited lumber imports would raise costs for home builders and make it more expensive for US consumers to buy homes.

2. The United States and Canada have been arguing on-and-off about lumber since the 1980s

Since the current application of modern US trade law began in 1980, the United States and Canada have had intermittent periods of rancor and calm involving cross-border trade in softwood lumber.

The United States has started five different countervailing duty investigations into whether subsidized Canadian softwood lumber imports were injuring the US lumber industry. Investigations under this US law began in 1982, 1986, 1991, 2001, and most recently in December 2016. In the two most recent cases, the US industry also alleged that the Canadian lumber was being “dumped”—or sold at unfairly low prices in the US market. Canadian loggers were thus also subject to investigation under US antidumping laws.

The United States has seen roughly 2,000 antidumping and countervailing duty cases since 1980, involving hundreds of different products. The most common result after these investigations is that the United States government applies a new tariff on imports.

It is thus not at all surprising that the first step of the current softwood lumber investigation resulted in a new 20 percent tariff. Indeed, the 20 percent figure was almost the same that the Commerce Department announced in their 2001 investigation of the same products.

3. The Trump administration is shaking up trade relations—but it’s complicated

It’s tempting to see the lumber announcement as linked to Trump’s recent announcement on steel. Nonetheless, there are two important differences.

First, Trump had the government “self-initiate” the steel case—something that has happened in less than 1 percent of such cases. Soft lumber started in the normal way that the other 99 percent have started. The lumber companies and sawmills themselves—from Oregon, Mississippi, Georgia, and numerous other states—came together to ask the government to examine the issue.

Second, the steel case was triggered to great fanfare but under an extremely rarely applied law, claiming that the imports are a threat to US national security. In contrast, the softwood lumber came in under the radar in December 2016; the industry acted under commonly used US laws and had made their complaint before Trump was inaugurated.

4. As usual, the key political question is: Who gets the money?

Even though the United States and Canada have had a free trade agreement in place during most of the period since 1982, very few of those years saw free trade in softwood lumber. Since 1986, it is more accurate to characterize lumber as a “managed” trade relationship.

To see how this works, consider Monday’s announcement of a new 20 percent US tariff on imports. Suppose that the tariff does cause softwood lumber imports from Canada to fall, but not too dramatically—say to around $5 billion worth of lumber. Then a 20 percent import tariff on $5 billion in trade could raise $1 billion in government tax revenue.

Since 1986, the US-Canada issue has essentially boiled down to: Who gets the $1 billion?

In some episodes, the two sides have come established a “softwood lumber agreement” in which the Canadian government imposes an export tax to limit the sales of Canadian lumber firms. If that tax is 20 percent and trade is limited to $5 billion, the Canadian government collects the $1 billion in revenue.

In periods when there is no agreement, and the United States imposes an antidumping or countervailing duty, the US government collects the $1 billion. And sometimes there has been a mixed outcome; the two governments design a policy in which they agree to share the revenue.

In Econ 101 terms, that $1 billion is what trade economists call the “quota rents.” Canada and the United States have fought over this historically, and are likely starting to fight about it again.

5. Trump may be looking for leverage on NAFTA—but Canada can work the system, too

The imposition of countervailing duties may provide the Trump administration with some short-term leverage. This could be useful if they decide to trigger a renegotiation of the North American Free Trade Agreement (NAFTA) with Mexico and Canada.

The importance of softwood lumber to the Canadian economy—and the attractiveness of the potential $1 billion of revenue from the “quota rents”—could be a bargaining chip to obtain something else in the negotiations, such as a better system for managing conflict in dairy trade.

At the same time, Canada won’t sit back idly. When the United States imposed countervailing duties in 1991 and again in 2001, Ottawa responded by filing formal trade disputes against the United States through NAFTA, the World Trade Organization (WTO), and the General Agreement on Tariffs and Trade—the WTO’s predecessor.

If the United States continues to apply antidumping and countervailing duties this time around, Canada is also likely to trigger a WTO dispute. Canada could, in turn, be authorized to retaliate against US exports. Ottawa has used the WTO to get results in the past—over issues like trade in cows and pigs—when Canada turned to international assistance to get the United States to follow the rules.

6. The announcement itself was unusual in ways that could hurt the United States

Monday’s announcement was highly unusual, because Commerce Secretary Ross was publicizing a relatively routine matter. The Commerce Department typically makes about 50 of these announcements a year with very little publicity or attention paid to them.

There are political reasons the United States treats these as a matter of routine. Monday’s notice was based on a typical investigation under US countervailing duty law. These involve career staff at the Department of Commerce making extraordinarily technical determinations. The decisions are supposed to be based on a technocratic application of US trade law, not on politics.

One reason these decisions are usually insulated from politics is that US government lawyers—from the US Trade Representative’s office—frequently must defend them at the WTO under formal dispute settlement proceedings. Their defense relies on the argument that Commerce makes decisions based on US law and not politics.

One interpretation of the softwood lumber announcement is that the Trump administration is seeking political “credit” for a technical trade policy decision that would likely have resulted in the same outcome, regardless of who was sitting in the Oval Office. This may be a short-term win for the Trump administration. However, making political hay from a technocratic measure may have long-term repercussions if the US policy is ultimately challenged at the WTO, where opponents can argue that it was based on politics rather than sound logic.

For better or worse, Monday’s announcement was just the start of what is now Trump’s softwood lumber challenge.