Victoria G. Schantz

Vs2433a@hotmail.com

© 1999

November 10, 1999

The United States Gives a Little, the European Union Gives A Lot

The corn bounty, it is to be observed, as well as every other bounty upon exportation, imposes two different taxes upon the people; first, the tax which they are obliged to contribute, in order to pay the bounty; and secondly, the tax which arises from the advanced price of the commodity in the home-market, and which, as the whole body of the people are purchasers of corn, must, in this particular commodity, be paid by the whole body of the people.

(Smith, 1776: 508)

Introduction

The export subsidy, or bounty as it is referred by Adam Smith, has existed for many centuries. Created to augment an industry in need of assistance to the market, the export subsidy has become an outdated trade entity in the developed world. As stated above, export subsidies impose a greater hindrance to the exporting nation that must be compensated by their consumer population. As the United States prepares to host the next global round of negotiations for the World Trade Organization (WTO) in Seattle, Washington, it establishes the perfect opportunity to initiate the abolition of all export subsidies from domestic policy books worldwide by eliminating our own trade distorting programs.

Export subsidies are tools used to supplement the producer’s profits from selling a commodity. They are efficient and positive when used to initiate commerce in a developing society. Adam Smith realized their intentions by mentioning that, "bounties were given for the encouragement either of some beginning manufactures, or of such sorts of industry of other kinds as were supposed to deserve particular favor" (Smith, 1776: 450). However, their purpose of origin did not legitimize their existence to Smith.

The problem begins when the society grows dependent upon these additional payments because the market has been so thoroughly distorted that prices are inflated beyond normally affordable means. Producers in other nations can no longer compete with the sale price of the commodity from the subsidized nations. The competition is thereby artificially defeated.

Export subsidies have reached their expiration. It is time for world markets to convince their users of their inherent inefficiency and to proceed into the next millennium with an agenda calling for freer global trading practices.

This process of opening markets and eliminating barriers to trade has already caused quite a stir throughout the WTO’s member nations. In particular, the United States and the European Union (EU) will be at the forefront of the chopping block when it comes the time for discussions regarding agricultural trade.

The U.S. position to the WTO expresses the desire to succeed to a world of freer trade and open markets. A communication from the United States to the WTO, regarding objectives for the 1999 agricultural negotiations, specifies the U.S. commitment to "completely eliminate, and prohibit in the future, all remaining export subsidies" (USTR, Preparations for 1999 Ministerial Conference). The United States cannot expect our competitors to remove their established policies, benefiting their agricultural sector, until we eliminate our own.

History

The battle over export subsidies has its roots in EU-United States’ history. The EU and the United States were originally two of the highest users of export subsidies on products such as grains, oilseeds and dairy products. The EU fell dependent upon these subsidies due to inflated internal pricing. The United States was obliged to retaliate against their policies with the subsidy war of 1985.

Export Enhancement Program

The United States began a policy of retaliation by using the Export Enhancement Program (EEP) as a deterrent towards the European Union’s (EU) exaggerated levels of export subsidies. The war began with the United States Department of Agriculture (USDA) development of the EEP on May 15, 1985, under the authority provided by the Commodity Credit Corporation (CCC) Charter Act of 1948. It was later specifically authorized by the Food Security Act of 1985 (Epstein, 1991: 1). The EEP utilized government-owned surplus agricultural commodities as bonuses to U.S. exporters to reduce the prices of U.S. agricultural commodities in order to compete with foreign subsidized commodities. The program was initiated as a negotiating tool to coerce our competitors, especially the EU, that their practices were distorting markets throughout the world (GAO, 1990: 2).

The EEP meets it target by focusing upon nations which discriminate against U.S. sales with the use of export subsidies for their domestic commodities. The EEP does not promote any commodity that would not have a fair market-share without the use of export promotion. This keeps the lines of trade open although the United States is promoting a policy of exporter assistance. An exporter must apply to the USDA for payment in cash to be received upon approval of their bid for the exporting bonus. Although the CCC allocates final payments, all sales are performed by the private sector before addressing the U.S. government (FAS, 1997).

Smith would have been in favor of the U.S. development of a combat policy to the EU’s export subsidies. Smith was a supporter of trade retaliation. He believed that there had to be a limit to the allowance of a foreign nation’s distorting practices. When speaking of importations he mentioned that "revenge in this case naturally dictates retaliation, and that we should impose the like duties and prohibitions upon the importation of some or all of their manufactures into ours" (Smith, 1776: 467).

The initial EEP program was continually expanding. It continued as a tool to determine the outcome of the approaching round of WTO negotiations. The Uruguay Round was launched under the auspices of the General Agreement on Tariffs and Trade (GATT) in September 1986. Major players in world trade all submitted proposals for the further liberalization of agricultural trade policies (GAO, 1990: 35).

End the Export Enhancement Program

In 1989, the USDA produced an unpublished study of actual effectiveness of export subsidy programs. This study found that a program such as the EEP was likely to increase commodity sales because altered commodity prices would increase import demand (Epstein, 1991: 4). In 1991, leading economists Robert Chambers and Philip Paarlberg argued that export enhancement programs actually produce a negative affect upon real farm incomes. They found that

If the excess demand for the agricultural commodity is inelastic, then farm income in the subsidizing country falls. Further, they contend that the presence of a nonrecourse loan program dampens any impacts either in-kind or cash subsidies might have (Chambers, 1991).

Advocates of export subsidies see the benefits incurred by a theoretical targeted export assistance program. In a market free from outside pressures, bonuses may contribute to enhanced profitability by displacing program costs to the rest of the world. In a world filled with retaliatory measures, export subsidies run the risk of inflating all commodity prices thereby forcing the level of the subsidy well above the stages needed "to exploit differences between the substitution effects and the income effects" (Seitzinger, 1989).

The Export Enhancement Program has run its course. The first objective of the EEP, as listed in the Federal Register on June 7, 1991, was "to discourage unfair trade practices by other countries" (Epstein, 1991: 2). This discouragement has not been successful. Other countries, especially the EU, continue to practice export enhancement programs of their own, assisting their producers to a much greater extreme than any U.S. domestic agricultural program. The United States must develop a new program that does not follow the same form of a policy the nation is trying to eliminate. Supporters may argue that the program is necessary in order to allow our farmers and exporters to compete with our global trading partners, who support their agricultural industry with export subsidy programs. There must be a limit to how far retaliation can continue.

The EEP, originally created as a deterrent to the EU’s domestic subsidy programs, has not accomplished its goal of export subsidy elimination. Adam Smith noted that even retaliatory measures sometimes run their course unsuccessfully. The enforcing nation must realize a failure of purpose and move to a different strategy to accomplish original goals. In continuing distorting trade practices, the U.S. only sustains the animosity felt between the competitor nations. Smith noted that

When there is no probability that any such repeal can be procured, it seems a bad method of compensating the injury done to certain classes of our people, to do another injury ourselves, not only to those classes, but to almost all the other classes of them (Smith, 1776: 468).

The only manner in which to repair U.S. – EU relations over trade policy is to negotiate on equal terms. Criteria for the EEP to review initiative proposals includes a clause which targets the initial purpose of the EEP, to counter competitors’ subsidies by displacing such countries’ subsidized exports in targeted countries (FAS, 1998: 1). This clause completely misses its aim of furthering freer trade policy and opening the world’s markets towards U.S. exports. The only thing it accomplishes is a tighter protectionist policy which inflames producers from abroad, heightening trade tensions. The United States cannot expect the EU to remove a policy which the U.S. follows; albeit in microscopic form.

Uruguay Round Commitments

The previous round of WTO negotiations produced the Uruguay Round Agreement on Agriculture (URAA) which included provisions for the gradual reduction in volume and value of all export subsidies for agricultural commodities over the years 1995 to 2000 (Leetmaa, 1999). Flexibility exists within the URAA, allowing subsidy averaging over the period of implementation. If one year commodity prices escalate, causing a greater dependency upon export subsidy programs, the nation must use the other of the five years to reduce levels of allocations, equaling full compliance reduction averages for the realization period (Leetmaa, 1998: 23).

During the last decade, both the EU and the United States have reduced their export subsidy levels though the EU continues to use this method at an exorbitant rate. The EU’s Agenda 2000 addresses several concerns developed by the URAA. Finalized in March 1999, Agenda 2000 touches upon, but does not atone for, the distortion created by their domestic subsidies. The program will reduce support prices on certain commodities while moving towards a policy of direct payments to compensate the producers for price declines (Kelch, 1999: 12). The EU’s Agenda 2000 gives more priority to the upcoming WTO negotiations. The EU insists that the plan in final form will be their compromise toward the upcoming agricultural negotiations. They believe that "any discussion about further cuts in export subsidies must also involve disciplining U.S. export credit guarantees" (Blumenthal, 1999: 1). Agenda 2000 gives the EU opportunity for bargaining over sensitive agricultural trade issues.

The United States is prepared to meet its commitments within the WTO by the year 2000. Since 1985, the United States has progressively shifted its farm policy towards a stronger market orientated system that naturally reduced subsidy levels. The URAA outlined provisions for restricted domestic support practices, assisting the United States in developing policies independent of agricultural subsidies. The URAA defined export subsidies subject to reductions as

• Direct export payments by governments to firms, industries or producers of agricultural products contingent on export performance
• Sales or gifts of government stocks at prices lower than acquisition prices
• Export payments financed through government action, including payments financed by levies on producers
• Subsidies to reduce export marketing costs, and
• Subsidies on goods incorporated into export products (Leetmaa, 1998: 23).

The United States was able to comply with these measures without much difficulty.

There are contributing factors to the successful compliance of the United States. First, base levels set between the years 1986-88 were exceptionally inflated. Achieving a twenty- percent reduction in these rates was a reasonable objective. The gradual averaging took the brunt of the possible results from immediate support reductions (Nelson, 1997: 27). The Federal Agriculture Improvement and Reform Act of 1996 (FARM Act) further promoted the market-oriented agricultural policies.

1996 FARM Act

The 1996 Act did make significant policy changes directed at filtering existing programs into those that more closely adhered to the global marketplace. The Act redesigned programs which dealt with income support and supply management for commodities such as wheat, corn, grain sorghum, barley, oats, rice and upland cotton (Young, 1996: 1).

The FARM act modified the Agricultural Trade Act of 1978 by altering two main goals of agricultural trade strategy. Instead of

(1) Ensuring U.S. agricultural export growth, (2) efficiently using Federal agricultural export programs, (3) providing food aid and improving the commercial market potential for U.S. agricultural exports in developing countries, and (4) maintaining traditional U.S. markets; (Ackerman, 1996: 37).

the goals now read

Increasing the value of U.S. agricultural exports, (2) increasing the U.S. world market share for agricultural products, (3) increasing the value of U.S. exports of high-value and value-added agricultural products, (4) boosting the U.S. world market share of high-value and value-added products, (5) ensuring to the extent practicable that the United States implements all of its commitments under current trade agreements to increase access for U.S. agricultural commodities, and (6) requiring that, to the extent practicable, the United States use all applicable laws to secure U.S. rights under the Uruguay Round Agreement on Agriculture (Ackerman, 1996: 37).

The United States will be unable to attain goals such as (1) and (2) of the revised act if endless trade disputes continue over principle facts. The more the EU wishes to hinder agricultural profitability in the United States, they are given more reason with programs mirroring their own.

Less government intervention was visualized by downsizing budget allocations towards export subsidy programs, including the EEP. Funding levels allocated towards the EEP through 2002 are as follows: FY 1999, $550 million; FY 2000, $579 million; FY 2001, $478 million; and FY 2002, $478 million (FAS, 1999: 4). Although almost non-existent compared with the EU’s expenditures of approximately $6.4 billion in 1995 towards export subsidies, EEP allocations still comprise a percentage of the U.S. yearly agricultural budget. The United States must realize that a small market-distortion is still a market-distortion. The important stake export subsidies claim in global trade disputes magnifies the minimal levels of U.S. funding.

The United States began to move in the right direction but stopped without realizing their full purpose. The FARM Act attempted to direct domestic farming towards the price-competitive market. The USDA acknowledged that initially, producers may feel the brunt of restructured programs, but eventually the market would take to evening out profits. The United States had confidence in a strong agricultural commodity market to compensate for reductions in support programs.

Farmers were left more volatile to market conditions and took precautionary measures to insure their stocks. They moved towards methods such as

Expanded use of futures and options markets, possibly using new instruments such as yield contracts, or will contract in advance for future sale of their commodities. Other alternatives to manage increased risk include diversification of production, integrated ownership, and crop insurance (Young, 1996: 2).

U.S. agriculture was able to absorb market-oriented changes. It might be better policy to adhere completely to a market strategy rather than partially restructuring while maintaining certain market-distorting practices. The U.S. should have used the 1996 FARM Act to develop a U.S. agricultural policy void of trade-disputing methods such as the export subsidy program.

While the United States is in compliance with WTO standards set by the URAA, we still practice unfair trading policies at a lesser extent. The only completely fair-trade agenda would include a phase out period for distortions such as export subsidies. Reduction is the key, but if the U.S. pledges total abolition, than elimination will accomplish the broader goal. Although the United States takes such a small percentage of total world export subsidies, the policy still remains. In principle, if the U.S. feels it needs to continue programs such as the EEP, it purges any incentive for the EU to eliminate their export subsidy programs.

Preparations for the New Round

The United States of America

The United States Trade Representative, Charlene Barshefsky, is preparing for negotiations to begin at the end of 1999. The launching of the new round in Seattle, Washington will be a window into the future of liberalizing global trade policies. Communication failure during the next month will negatively foreshadow any accomplishments, which the United States feels need to be met.

There are conflicts arising from the manner in which countries want to approach the Seattle agenda. Too many specifics cannot hinder the progress of trade. There must be a compromise in order to move forward towards broader goals. Agricultural discussion will prove to lend a directional force to the proceedings.

The United States outlines sentiment against WTO members who have not achieved their reduction commitments. A communication addresses the issue of circumventing export subsidy commitments to avoid compliance with accepted measures. It expresses a complimentary view to Smith’s opinion that export subsidies should only be used legitimately to enhance government revenue, not "restrict the availability of agricultural products on world markets, particularly in times of short supply" (USTR, Preparations for 1999 Ministerial Conference).

Smith felt that remarkable levels of exportation, although profitable in the short run, would eventually return to injure the domestic economy. Upon expression of possible injury to the home, he remarked that,

The extraordinary exportation of corn, therefore, occasioned by the bounty, not only, in every particular year, diminishes the home, just as much as it extends the foreign market and consumption, but, by restraining the population and industry of the country, its final tendency is to stunt and restrain the gradual extension of the home-market; and thereby, in the long run, rather to diminish, than to augment, the whole market and consumption of corn (Smith, 1776: 509).

The United States continues to establish that export subsidies are not helping either the country who imposes them, or the country they are imposed upon. Prices created from market distortions must be compensated at some level. This coincides exactly with Smith’s idea that,

You do not increase the real wealth, the real revenue either of our farmers or country gentlemen. You do not encourage the growth of corn, because you do not enable them to maintain and employ more labourers in raising it. The nature of things has stamped upon corn a real value which cannot be altered by merely altering its money price (Smith, 1776: 515).

According the to the United States, the EU would create a healthier market economy by the elimination of their export subsidy program. The U.S. Secretary of Agriculture, Dan Glickman, spoke before the Senate Committee on Finance on September 29, 1999 about the U.S. goals for the WTO. He expressed the desire for the total elimination of export subsidies in order to reverse depressed world commodity prices and distorted trade (Glickman, 1999). The Secretary hopes to dispel the myth felt by certain nations who see "agricultural trade not as a win-win situation, but as a zero-sum game where the exporter wins and the importer loses" (Glickman, 1999).

The numbers support the idea that the EU’s distorting policies are most directly inversely affecting the EU citizens. On food alone, the EU consumer spends upwards of 40 percent more than a consumer in the United States

(http://www.econ.ag.gov/briefing/region/europe/polcap.htm, 1999).

The United States must accept their claim in the stake of reducing distorted trade practices, thereby improving economic situations throughout the world. Ambassador Peter Scher, Special Trade Negotiator to the USTR, addressed the Senate Agriculture Committee on September 30, 1999 regarding the U.S. position entering the new round of trade negotiations. The U.S. policy included views which supported agricultural discussion as a top priority for the agenda, signaling the reform of the EU’s Common Agricultural Policy (CAP). Ambassador Scher reiterated sentiments that the EU "is the world’s largest single distortion of agricultural trade (Scher, 1999). He called for the counsel and support of the U.S. government in formulating a solid U.S. position to lead the nation during the next round of negotiations.

Scher explained the development of the U.S. objectives in Geneva, listing our goals for the next round. First and foremost, the U.S. proposes the "complete elimination, and prohibition for the future, all remaining export subsidies as defined in the Agreement on Agriculture" (Scher, 1999).

The Ambassador also discussed methodology for building an international consensus, to promote greater efficiency and success throughout the next round. He expressed the U.S. desire to approach all items of agricultural trade in a single undertaking. Addressing agriculture as an indissoluble package will ensure negotiations to focus respectively upon our policy objectives.

The United States recognizes the complexity of agricultural reform and is striving for cooperation in developing reasonable and binding timetables and goals. The United States prefers to build upon the precedents set by the Uruguay Round on such topics as market access, domestic support and export subsidies (Scher, 1999).

The European Union

In the July 27, 1999 communication from the European Communities (EC) to the WTO on the EC’s approach on agriculture, the main ideas are identified in a slightly different manner. The EC supports a mandate which provides for reductions over the long-term which would precede a fundamental change in agricultural policy, specifically referring to the commitments agreed to under the URAA, and a continual sweep towards fair and market-oriented agricultural trade (WTO, July 1999: 1).

Although being of a similar opinion regarding the eventual adaptation of freer trade practices, the EU is not in concurrence with the desire of the United States to perform a major overhaul of any specific instruments. The EU prefers to retain major changes in agricultural policy in their Agenda 2000 package as it is fully implemented. The EU has communicated the reality of reforming their export subsidy programs though remains firm in requesting attention towards alternative plans and definitions limiting agricultural export credits and food aid credit programs (WTO, July 1999: 2).

The United States sees the next round as essentially a restructuring forum for outdated or harmful trade practices. The reform process must begin immediately. The people of the EU are those being most severely affected by the grotesque imbalance in their trade policies. The consumers of the EU can not continue to be subject to inflated prices on food. The EU has the opportunity to remove or lessen the impact of the currently high tariffs and over sixty billion dollars per year in trade subsidies. Export subsidies alone comprise over six billion dollars annually; taking eighty-five percent of the world’s total (Scher, May 1999).

(Leetmaa, 1998: 22).

The EU is hesitant to make policy-altering commitments to their incredible reliance upon those export subsidies due to domestic commodity prices that overshadow the world market value. In 1998 alone, the EU distributed export subsidies on commodities such as grain, beef, pork, poultry, dairy products, sugar, wine, and fresh and processed fruits and vegetables. URAA reductions were mandated for wheat, coarse grains, pork, beef, and cheese. Dairy escaped by high levels of subsidized exports during the base period (Normile, 1998).

The mandatory reductions imposed by the URAA have put a heavier weight upon the backs of the EU domestic market. Alternatives must be developed to compensate for overproduction.

The EU instigated a reform of their CAP in 1992, when combined with innovations included in the Agenda 2000, has pushed the EU into examining a support policy attributed more towards methods of direct payments (Normile, 1999).

The CAP was created in 1962 to

Increase agricultural productivity, ensure a fair standard of living for the agricultural population, stabilized markets, guarantee regular supplies of agricultural products, and ensure reasonable prices to consumers (Normile, 1999).

The CAP was based on three main principles, one being agricultural price support. The United States would like to see a stronger movement towards direct payments, away from any program dedicated towards export subsidies. Still promoting agriculture, direct payments would not draw away from the market-oriented strategy goal of the next round.

As is, the CAP states that export subsidies may be implemented when the world market price drops below the EU’s market price. The subsidy is paid to assist the exporter to compete in the world market. Contrarily, if the world market price is above that of the EU, exports are subject to an export tax to prevent liquidation of reserves (Normile, 1999).

The further accession of Central and Eastern European countries to the EU places such strains upon the CAP that it is practically impossible that the EU will meet its URAA restraints by the year 2000. The EU proposed their Agenda 2000 in hopes of combating the extraneous need for farther export subsidies (Leetmaa, 1998).

Conclusion

Adam Smith spoke strongly against any and all dependency upon market-distorting policies. Smith was a liberal economist who believed that the power of the market was sufficient to regulate discrepancies between prices over time. Commodity prices did vary in 1776 and continue to do so today based upon levels of production, cost of labor and cost of production. The equality results from the disappearance of inconsistency caused by fluid market prices. Smith commented that

The ordinary of average money price of corn, therefore, may, during so long a period, continue the same or very nearly the same too, and along with it the money price of labour, provided, at least, the society continues, in other respects, in the same or nearly the same condition (Smith, 1776: 54).

If prices are examined year by year, temporary prices will fluctuate with great frequency. If valued over longer periods of time, prices will return to approximate average base levels. This idea provides evidence that trade distorting policies such as export subsidies cause more long term harm than any benefit they promise to reap for the exporting nation.

Following the laws of economics, any program which attempts to affect the laws of the market, does not respect price fluctuations over the long run. Economist Timothy Josling expresses the opinion that although the EU practices programs of extreme levels of export subsidies, U.S. programs of target price policy does not stray beyond market-distorting agricultural policy. Both the United States and the EU adhere to programs that direct commodity pricing away from the normal market prices. The more trade distortion occurs, the further the market will bend to these altering policies (McCalla, 1981: 51).

Josling supports Smith’s argument that market-distorting programs do not merely affect commodity prices but also augment budget pressures to finance support programs. The high costs of export subsidy programs must be absorbed by the consumer population, lowering the value of their purchasing power, driving their economy in a negative direction.

Therefore, in order for the United States to accomplish goals proposed for the next round of WTO negotiations, it must remove trade-distorting programs, such as the EEP from our policy books. The U.S. agriculture community will never enjoy free market access until all nations adhere to free trade policies.

The Third WTO Ministerial Conference will commence on November 30, 1999 in Seattle, Washington. This is the first time that world-wide negotiations will take place on U.S. soil. The United States must use this opportunity to open our markets and ameliorate trade relations with our largest partners, the European Union. If the United States is asking for freer trade, than the United States must initiate the change by attending the next round with a negotiating strategy complete with elimination possibilities for all trade-distorting policies.

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