The Financial Times

EU threatens sanctions over US tax breaks

February 13, 2006
By By Alan Beattie in London

The EU said on Monday it would reimpose trade sanctions on the US unless Congress eliminated the last vestiges of a tax break for American exporters which were ruled illegal by the World Trade Organisation.

In the latest episode of a saga that has dragged on for more than eight years, the WTO’s appellate body on Monday ruled that Washington’s attempts to eliminate the tax break had not gone far enough.

The Foreign Sales Corporation (FSC) scheme and its successor, the “extra-territorial income” (ETI) provision, refunded taxes paid by US corporations on earnings from exports. In a case that began in 1997, the WTO ruled it illegal and authorised the EU to retaliate by restricting $4bn-worth of trade, the largest award in the WTO’s history. The EU began to impose sanctions in March 2004, suspending them in January 2005 pending a US appeal.

Peter Mandelson, EU trade commissioner, said on Monday: “The US now has three months to act to avoid the reimposition of retaliatory measures. The EU will not accept a system of tax benefits which give US exporters, including Boeing, an unfair advantage.”

The US-based aerospace manufacturer Boeing is one of the main beneficiaries of the legislation. In a separate WTO case, the EU is targeting state subsidies to Boeing in retaliation for a US bid to have European subsidies for Airbus, Boeing’s European rival, ruled illegal.

The WTO said that although Congress had removed most of the tax break, transitional arrangements for its abolition and the “grandfathering” of benefits to US corporations that had already signed contracts remained illegal.

US officials said the EU’s persistence with the case constituted needless provocation.

“Congress has repealed the FSC and the ETI, and prolonging this dispute will not serve to foster harmonious transatlantic relations,” said Neena Moorjani, a spokesperson for Rob Portman, the US trade representative.

Trade experts and lobbyists said the threat of sanctions was more likely to be a bargaining chip in the Airbus-Boeing dispute, which the EU still wants to resolve through negotiation rather than litigation, or through a full-blown transatlantic trade war.

“This is unlikely to be a major motivator to Congress to change the law, but it may play a role in the Airbus-Boeing negotiations,” said Todd Malan, president and CEO of the Organization for International Investment, which represents US-based subsidiaries of non-US companies.

Still, the prospect of the EU continuing to levy sanctions on US trade is likely to play badly on Capitol Hill, where protectionism is already on the rise.

“A high-wire act like this risks a backlash in congressional sentiment,” said Gary Hufbauer of the Institute for International Economics in Washington. The EU getting tough about a transition period could encourage the US to do the same back to the EU with the WTO’s recent ruling against European rules on genetically-modified organisms in food, he said.

Stuart Eizenstat, partner at the law firm Covington and Burling and former US deputy Treasury secretary, said the EU’s threat sent out ”entirely the wrong signal” at a time when the EU and US were seeking to push forward the troubled “Doha round” of global trade talks.