You’ve heard about banks that are too big to fail. The same characterization could apply to the titans of the civil aviation sector: Airbus and Boeing.
Neither company is having an enjoyable 2020. The global COVID-19 pandemic has caused a sharp decline in air travel, with passenger counts plummeting by 60 percent this year. That’s not surprising when you consider how travelers are crammed into those tiny airline seats like sardines packed in a tin can. Business class delivers a bit more physical separation, but your lungs are still sucking in recirculated air. Supposedly a plane’s air filtration system limits the spread of viral pathogens. At least flight attendants aren’t dropping dead in large numbers, which is some kind of endorsement of the system’s efficacy.
It’s anyone’s guess when air travel will normalize, given the number of countries imposing lockdowns and travel restrictions. The ripple effects extend well beyond the carriers to the aviation supply chain. Boeing was struggling even before COVID-19 hit with the grounding of its 737 Max fleet after a pair of air disasters in Indonesia and Ethiopia. That fiasco, combined with a pandemic-induced fall in new orders, has caused Boeing to burn through cash at the rate of $5 billion per quarter over the first half of the year. Boeing’s share price has dropped more than 50 percent since January 1.
Meanwhile, Airbus delivered only 196 commercial jets to customers during the first six months of the year. That’s about half of the company’s sales volume for the same period in 2019. Airbus also announced plans to shed 15,000 workers over the next 15 months — roughly 10 percent of its global workforce. Most of the layoffs will affect the company’s European employees, though Airbus also has U.S. subsidiaries, with facilities and staff in Alabama and Kansas.
The global marketplace for large civil aircraft is a classic duopoly, with massive barriers to entry. There are no start-up shops run by 20-somethings in hoodies when it comes to manufacturing a jet airliner capable of hauling hundreds of passengers on intercontinental flights. Surely each side’s government backer would intervene with financial supports if the firm’s financial situation became truly dire. Out of necessity, this is one area in which EU state aid rules are conveniently dismissed.
How easily we overlook market distortions when they work to the favor of our national champions and contribute to domestic job creation. Call it corporate welfare. In fact, the Office of the U.S. TradeRepresentative (USTR) has done just that.1 One might argue that such public assistance is an indispensable element of being engaged in the large civil aircraft business. Level playing fields are for suckers.
Will Airbus and Boeing get bailed out with public funds? The rescue is likely to take an indirect form, with financial assistance directed at the airlines. They can then get back to placing orders for new planes. Here’s the catch: Public financial support for Airbus and Boeing has been going on for years, as evidenced by European and U.S. WTO challenges. In dollar terms, these two cases rank among the top awards the WTO has granted.
The latest chapter in the saga arrived on October 13, when a WTO arbitration team authorized the imposition of $3.9 billion in tariffs on U.S. exports to compensate for Boeing’s improper tax subsidies.2 The announcement came roughly a year after the WTO authorized $7.5 billion in tariffs on EU exports to compensate for Airbus’s illegal launch aid.3
With these WTO cases finally concluded, you’d think the two sides would be able to gauge their relative positions and negotiate a settlement that brings an end to taxes that unnecessarily hurt consumers in each region. That would be optimistic. There remains plenty for the two sides to disagree about, such as the extent to which the offending subsidies have been fully rescinded. More on that later. Naturally, electoral politics hold sway over any bilateral trade negotiations — though it’s unclear whether a Biden administration would be much different when it comes to looking out for an employer the size of Boeing. Trade disputes of this magnitude tend to carry over from one administration to the next.
Mind Your Subsidies
The EU complaint against Boeing started in 2005, a year after the United States brought its own complaint against Airbus. The timing is not coincidental. That’s what EU officials mean when they claim they didn’t initiate the trade spat and are merely responding to U.S. litigiousness. Easy for them to say because it wasn’t their market share that was gradually being eaten away with the help of dubious launch aid. Criticizing the United States for being first to arrive at the docket office belies what was really going on. The nature of a trade complaint is to seek compensatory countermeasures, not protectionism.
It took years for the Boeing case to wind its way through the WTO’s procedural hoops, including the Dispute Settlement Body and Appellate Body. You may have read that the WTO Appellate Body is no longer operational because of the attrition of sitting judges and the Trump administration’s refusal to allow for the appointment of successors.4 While true, that paralysis doesn’t affect the Boeing case, because the Appellate Body wrapped up its work in March 2019.
The EU case against Boeing was multifaceted, citing 10 separate grievances that allegedly violated the WTO Agreement on Subsidies and Countervailing Measures:
Tax and nontax incentives provided by Washington state and local municipalities (Everett) to support Boeing’s assembly facility.
Property tax and sales tax breaks provided by Kansas and local municipalities (Wichita), as well as interest payments on state development bonds.
Tax and nontax incentives provided by Illinois and local municipalities (Chicago and Cook County) to support relocation of Boeing’s headquarters.
Payments and access to government facilities provided by NASA, as well as equipment and employees provided by NASA under research and development programs.
Payments and access to government facilities provided by the Department of Defense, as well as equipment and employees provided by the DOD under research, development, testing, and evaluation programs.
Payments and access to government facilities provided by the Department of Commerce under joint ventures and consortia.
Waivers and transfers of intellectual property rights under NASA and DOD contracts.
Bid and proposal reimbursements under NASA and DOD independent research and development contracts.
Worker training grants provided by the Department of Labor, specifically related to the Boeing 787 series aircraft.
Tax breaks relating to the Foreign Sales Corporation and Extraterritorial Income Exclusion Act.
The EU estimated the value of these subsidies at $19 billion over the period from 1989 to 2006. The NASA subsidies alone were scored at $10 billion. You might be thinking the Foreign Sales Corporation and Extraterritorial Income Exclusion Act claims are old and cold. Each of those regimes was designed to deliver export-contingent tax incentives to U.S. manufacturers, inspired by the border adjustment available under European VAT regimes. Each was the subject of a separate (and successful) WTO challenge raised by the EU.
There’s a lot of material to unpack in the EU’s list of grievances. To simplify matters, the Appellate Body adopted a report in March 2012 that agreed with many of the EU’s assertions against Boeing. However, it measured the resulting damages at only $5.3 billion, a fraction of the amount originally sought. This resulted in further rounds of appeals regarding the scope of the WTO’s jurisdiction, the extent to which the United States had taken steps toward remedial compliance as to pre-2007 subsidies, and post-2006 activities that arose after the original complaint was brought.5
The remaining bundle of unresolved issues came before the Appellate Body again in 2017, with a different composition of judges. This resulted in the rejection of most of the EU’s remaining claims except for the tax incentives delivered by Washington state. Last month’s arbitration report determined the level of commensurate damages at $3.99 billion per year. EU Trade Commissioner Valdis Dombrovskis indicated he was willing to proceed with imposing sanctions on a wide range of U.S. products, but preferred an amicable solution in which both sides refrained from implementing further trade barriers.6
What did Washington state do that was so wrong? It bent over backward to lure Boeing into investing in the local economy, in a process that Gov. Jay Inslee (D) has likened to a “mugging.”7 The state imposes a business and occupancy tax at a standard rate of 0.484 percent. In the case of Boeing the business and occupancy tax rate was reduced, effective from 2003, to 0.29 percent as part of an economic incentive program relating to the company’s 787 Dreamliner aircraft, which is assembled in Everett, just north of Seattle. The preferential rate saves the company $100 million per year and was originally scheduled to remain in place until 2024. In 2013 the state agreed to extend the tax incentive through 2040. This spring Inslee signed a bill eliminating the tax preference altogether.8 Boeing supported the legislation, mindful of the adverse WTO ruling it was facing. More recently, the company announced plans to shift production of the 787 series aircraft from Washington to South Carolina.9 Funny how the jobs evaporate once the $100 million tax break goes away.
No Easy Resolution
The easiest way to gauge the situation is to compare the bottom-line numbers in the Boeing and Airbus cases. Last year the WTO authorized the United States to impose $7.5 billion in trade sanctions on EU products. These tariffs are up and running, in the form of a 10 percent tariff on goods related to the aviation sector plus a 25 percent tariff on goods in unrelated sectors. The most heavily targeted EU goods originate from the four countries most closely tied to Airbus subsidies: France, Germany, Spain, and the United Kingdom.10 The EU now has the authority to retaliate against U.S. goods, subject to a lower cap.
It would be tempting for EU and U.S. officials to let these cases cancel each other out, and then focus their efforts on normalizing the way each side treats its aviation sectors going forward.11 But not so fast. The thing preventing such a clean resolution should be familiar to any tax attorney who has worked on a like-kind exchange; the parties need to deal with the boot. Here, the boot takes the form of the roughly $3.5 billion gap in the size of the WTO awards. You wouldn’t trade a $7.5 billion asset for a $4 billion asset, would you? Neither would the USTR.
Thus far, EU officials have made three offers to get the combined aircraft-related tariffs eliminated. None of the offers was acceptable to the United States. USTR Robert Lighthizer briefly commented on the negotiations over the summer during an online webinar hosted by Chatham House, the London-based think tank. Lighthizer noted that boot was the problem, observing the two sides “don’t have the same number” in mind.12
The problem is that U.S. tariffs arising from the Airbus dispute have been in place for a full year, while the EU tariffs arising from the Boeing case were just authorized and haven’t been applied yet. The EU effectively wants credit for tariffs already imposed on their exports over the last 12 months, meaning the amount of the boot payment would be correspondingly reduced. The USTR sees no reason to accept such a steep discount, or any at all, given that the out-of-pocket costs of the Airbus tariffs were born by U.S. consumers.
You guessed it — we’re back to arguing over who pays the price when imports are taxed. Sounds familiar, doesn’t it?
The USTR routinely argues that foreigners predominantly pay our tariffs via reduced demand (especially when the foreigner happens to be somebody in China). However, when negotiating boot, the USTR seems to be saying that U.S. consumers are the ones who pay for tariffs via higher prices. If that sounds hypocritical, I suggest you think of it as selective reasoning. Both views are technically correct — a perspective that’s conceptually consistent with the Ricardian view that trade liberalization is a win-win scenario. The corollary is that imposition of tariffs is a lose-lose scenario. That said, explaining non-zero-sum games to the public at large is a delicate dance for trade officials. It’s easier to fall back on the half-truth that foreigners bear the cost.
Europeans think the U.S. election is an opportunity to hit the reset button on diplomatic engagement with Washington, D.C. They’re generally correct, but not much will change regarding the economic interests at play in the large civil aircraft sector. There’s no scenario in which Airbus and Boeing don’t continue their contest for market share; they’ll just need to find different ways of dragging their government backers into the skirmish.
FOOTNOTES
1 A statement appearing on the USTR website notes the WTO’s October 2019 Airbus ruling as follows: “Today’s decision demonstrates that massive EU corporate welfare has cost American aerospace companies hundreds of billions of dollars in lost revenue over the nearly 15 years of litigation.” In other words, corporate welfare works exactly as intended until the WTO rulebook causes it to be shut down. This makes one ponder why the USTR is so keen to defang the WTO framework, as it seems to operate to our national benefit, albeit at a snail’s pace.
2 For related coverage, see Sarah Paez, “Le Maire Backs EU Sanctions Against U.S. in Airbus-Boeing Conflict,” Tax Notes Int’l, Oct. 26, 2020, p. 545.
3 Robert Goulder, “The WTO and Airbus: Why Are These Tariffs Different?” Tax Notes Int’l, Oct. 14, 2019, p. 189.
4 Goulder, “How (and Why) the United States Paralyzed the WTO,” Tax Notes Int’l, Dec. 9, 2019, p. 947.
5 See WTO, Dispute Settlement Unit, Case DS353: United States — Measures Affecting Trade in Large Civil Aircraft — Second Complaint (Oct. 26, 2020).
6 See Annagabriella Colón, “WTO Backs Heavy EU Tariffs on U.S. Imports in Boeing Spat,” Tax Notes Int’l, Nov. 2, 2020, p. 698.
7 See Amy Hamilton, “Legal Challenges Expected Against State Tax Incentive Deals,” Tax Notes Today State, Oct. 2, 2020.
8 Paul Jones, “Governor Signs Boeing Tax Rate Increase,” Tax Notes State, Mar. 30, 2020, p. 1183.
9 Lauren Loricchio, “Boeing to Move 787 Production From Washington to South Carolina,” Tax Notes Today State, Oct. 2, 2020.
10 The USTR recently agreed to change the composition of targeted EU exports, removing some Greek and U.K. goods from the list of affected products. The apparent explanation is that Greece was not contributing public funds or tax incentives to Airbus and the United Kingdom will soon be leaving the EU trade and customs union as a result of Brexit.
11 Colón, “EU Official Calls for End to U.S. Tariffs After New Airbus Deal,” Tax Notes Int’l, Aug. 3, 2020, p. 665.
12 See comments of Robert E. Lighthizer at “The Future of the Global Trading System,” Chatham House webinar (July 8, 2020).
END FOOTNOTES