Reliance on subsidies a clear change

The government of the United States has adopted a policy aimed at both increasing employment and developing a dominant global position in high-tech clean energy production.

The primary method it is using to achieve this objective is the provision of massive subsidies – in the billions of dollars – for their domestic clean energy sector. Reliance on subsidies is a clear change in America’s traditional industrial strategy.

Historically, developed countries relied primarily on tariffs to advance their key industries. Imposing a tariff on a particular product raises the cost to the purchaser and thereby reduces the level of competition provided by imports to the favoured industry.

An added benefit of tariffs is that it provides a source of income for the government – unless, that is, the tariff is so high as to effectively shut off imports entirely.

There are, however, two problems with relying on tariffs to protect a domestic industry. First, it is difficult to target precisely the optimal amount to charge. If the tariff is set too low, the foreign producer might lower its price and still dominate the domestic market. Second, if the country imposing the tariff is a signatory to various trade treaties, a tariff may well elicit penalties by the exporting nation in the form of retaliatory tariffs or an outright prohibition of imports from the offending country.

Another method is imposing quotas on specific imports. The problem is that there can be unintended consequences. Canada has imposed strict quotas on dairy imports that have greatly raised the Canadian prices of all cheeses, both domestic and foreign.

The use of subsidies may be considered more effective for a number of reasons. First, subsidies can be targeted very precisely by firm and amount. The politicians also love subsidies because they can claim that their efforts on behalf of a local business resulted in the award of the subsidy.

Second, a subsidy can be precisely targeted to all or only some of the components of a given product. For example, batteries used in electric vehicles can be subsidized rather than the whole car.

Third, subsidies do not usually attract the same retaliatory responses by foreign producers of the subsidized product since most trade treaties lack the recognized remedial processes for subsidies that are afforded for tariffs.

Canada, for example, is concerned about substantial subsidies being offered to battery manufactures in the United States to offset the current competition from China and projected battery production in Windsor, Ont.

The expectation of a long-range strategic advantage over China gained from larger production in the U.S., together with the jobs created, make the Americans very reluctant to lessen or eliminate the subsidy because of Canada’s protest.

Finally, the consumer of the subsidized product is not directly affected if the firm obtaining the subsidy is smart enough to realize the advantage of holding the price constant or even lowering it. The subsidy’s cost to the taxpayer is hidden in the funds he or she pays in taxes.

There are also opportunity “costs” imposed by subsidizing the product rather than utilizing the funds for something else (for example, healthcare), but most voters are not entirely aware of the trade-off.

Canada can look forward to an endless and growing level of subsidies being used by the U.S. to solidify its dominance in the high-tech clean energy sector.

Obviously, we cannot hope to match the level of subsidies that the U.S. will be implementing. After all, their GDP is more than 10 times ours.

What then can we do? Or are key sectors doomed to economic stagnation or continuous shrinkage?

What we can do is develop a national set of policies focused on those sectors where we already have an advantage and provide them with the support, both financial and political, they will require to maintain a viable world presence.

And we need to increase our representation in the U.S. to get out the message about how the massive push in subsidy support for American industry can have a deleterious impact on Canada and that the U.S. is inviting retaliatory action by Canada.