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Most Favoured Nation: Why Does The US Hate Digital Trade?
Welcome to the 115th edition of Most Favoured Nation. This week’s edition is free for all to read. If you enjoy reading Most Favoured Nation, please consider becoming a paid subscriber.
All politics is ultimately domestic. Everyone in trade policy gets this, even if it is annoying. But the really annoying thing with US trade policy at the moment is that its proponents keep trying to pretend its protectionist measures have a higher purpose.
Take the US negotiations with the EU for a Global Agreement on Sustainable Steel and Aluminium (GSA). As per Alan Beattie’s excellent Trade Secrets column, everyone knows that the US administration doesn’t really care about the “Sustainable” element and is mainly trying to win votes in Ohio.
And, reluctantly, much of the world will go along with US annoyingness — to a point. The EU, for example, will humour the US on the GSA, but will not go so far as to be made complicit. (By which I mean, if it has to play along, the EU wants to do so in a way that allows it to argue its measures are compatible with the EU’s WTO obligations, whereas the US wants a rule-breaking buddy.)
Anyhow, US domestic politics have struck again.
This week, the US announced it is dropping its support of rules allowing the free cross-border data flows, prohibiting national requirements for data localisation, and prohibiting the forced transfer of software source code in the context of the WTO e-commerce negotiations.
As ECIPE’s Hosuk Lee-Makiyama noted on Twitter, this decision means, at least on this issue, the US is aligning itself with China in opposition to EU, Japan, Singapore, Australia and New Zealand [Ed: Also the UK].
We may as well start with the real reason: to appease the Left of Biden’s party and Elizabeth Warren in particular.
Senator Warren said:
Big Tech lobbyists are trying to use trade deals to undermine the Biden administration’s efforts to promote competition, and it’s welcome news that [USTR] Ambassador Tai is rejecting that effort at the WTO
ITIF’s Nigel Cory has written a good thread outlining why this argument is disingenuous. In summary, it is largely displacement activity — the US can regulate how it likes (with some obligations to, for example, treat domestic and foreign firms equally), it just hasn’t because there’s no consensus on how to regulate a lot of these things.
I would also add that these criticisms ignore the fact that US [and everyone else’s] digital trade commitments come quite heavily caveated. Take the USMCA provisions on source code. Yes, it prevents the US, Mexico and Canada from arbitrarily requiring firms to hand over source code as a condition of market entry, but it acknowledges that there are lots of legitimate reasons why a regulator or enforcement agency [see bold] might need to have access:
Article 19.16: Source Code
1. No Party shall require the transfer of, or access to, a source code of software owned by a person of another Party, or to an algorithm expressed in that source code, as a condition for the import, distribution, sale or use of that software, or of products containing that software, in its territory.
2. This Article does not preclude a regulatory body or judicial authority of a Party from requiring a person of another Party to preserve and make available the source code of software, or an algorithm expressed in that source code, to the regulatory body for a specific investigation, inspection, examination, enforcement action, or judicial proceeding,6 subject to safeguards against unauthorized disclosure.
There are also more general national security exemptions and the like which countries can [and do] fall back on. I wrote a whole paper on this for the City of London Corporation, focusing on FTA financial services digital provisions.
But if all you care about is domestic policies with no thought to how your actions impact on your wider international objectives, removing US support for digital provisions in the context of a negotiation (e-commerce) that probably isn’t going anywhere anyway could be conceived as relatively low cost. But it really does require ignoring the first half of the previous sentence, which I’ll discuss further below.
However, we must also acknowledge that the commercial and policy focus on AI has somewhat changed the digital trade discussion, particularly regarding source code.
My basic hypothesis is that up until now, it has been pretty easy for many governments of open economies to sign up to digital trade provisions because they didn’t require any policy change.
For example, the UK just signed up to a load of deals (Australia, New Zealand, CPTPP) with prohibitions on forced data localisation, placing duties on data flows, and forcing firms to hand over source code [with the fun caveat of the New Zealand deal] without any issue because the UK doesn’t do, and has no intention to do, any of those things.
But AI. As we discussed in a previous edition of Most Favoured Nation, we now know that the source code provisions of the EU-UK Trade and Co-operation Agreement did have a minor impact on the design of the EU’s new AI act.
As per a EURACTIV report:
In an internal note dated 9 April 2021, the trade department thanked the digital policy department for having amended the requirements on technical documentation but asked for further changes regarding the conformity assessment of the quality management systems, specifically on the provision related to the external vetting of notified bodies – authorised independent auditors.
The trade department requested that the wording on the provision of the source code should be narrowed down, removing a reference to ‘full’ access and specifying that it would only be provided to assess the conformity of a high-risk system to avoid an excessively broad interpretation.
Similarly, the trade department requested to eliminate the reference to granting ‘full’ access to the source code for a market surveillance authority to assess whether an AI system deemed at high-risk to cause harm complies with the AI Act’s obligations.
At the same time, the trade policy officers asked that the notified body and public authority be bound by confidentiality obligations when a source code is disclosed.
All the requested changes made it into the final draft the European Commission published later that month.
So in this instance, did trade rules impact on domestic regulatory policy? Yes. But did it prevent the EU from regulating, or even regulating in a way that annoys “Big Tech”? Umm, no.
If you break down the changes requested in the example above, it boils down to ensuring the source code sharing provisions are narrowed down a bit so it is only required when necessary and that public bodies shouldn’t then go and publish the source code on the internet.
But yeah, given that previously there was no consequence whatsoever for a government like the US, EU, Japan, UK, etc signing up to digital provisions in FTAs, it’s no surprise that they are now starting to get a bit more scrutiny. I suppose the main point to make about the example above is that the FTA provisions actually improved the proposal by making it more focused.
Back to the main point of this: why is the US’s change of heart annoying? Well, as above, because it’s entirely inward-looking. The wider consequence of the US actions is that it has given implicit permission to governments such as China to adopt (or continue applying) a similar approach. Does the US really want its firms to be required to share source code as a condition of market access to China? Probably not. Has the US got a leg to stand on when it inevitably objects? Now, probably not.
Borderlex and others have reported that the EU’s anti-subsidy probe into imported Chinese electric vehicles will focus on three Chinese-owned manufacturers when calculating the average level of subsidy, risk, and subsequent countervailing tariff. This means it will not be sampling, for example, Tesla and VW, which produce EVs in China and export them to the EU.
Why this approach?
By focusing on the Chinese-owned brands, the EU is hoping/has already identified a high level of subsidy and risk. This would allow it to impose a high countervailing duty based on the sample average. Firms that feel hard done by will then be able to present evidence showing they receive lower subsidies or the like if they want a lower tariff.