US climate plan strains trade ties with allies

WASHINGTON

US. President Joe Biden's landmark climate action plan may have been trailed by billions of dollars in clean energy investment, but its potential to reshape trade lines has strained ties with allies.

The Inflation Reduction Act (IRA), signed into law on Aug. 16 last year, directs some $370 billion in subsidies toward America's energy transition, including tax breaks for U.S.-made electric vehicles and batteries.

But the incentives, which boost American manufacturing after years of offshoring, have triggered fears that they could draw businesses out of other countries.

"This was really the United States coming into the game in a big way," said Joshua Meltzer, senior fellow at the Brookings Institution.

Europe had been subsidizing the development of clean technologies since before the IRA, as had China and others, Meltzer noted.

But Washington's entry "meant that for these subsidies to remain competitive they had to be continued or raised," he said.

The legislation had some "unintended consequences" in constraining trade with key U.S. allies, said Jeffrey Schott, senior fellow at the Peterson Institute for International Economics.

A sticking point was a consumer tax credit of up to $7,500 for the purchase of electric vehicles (EVs) assembled in North America.

To qualify for the full credit, vehicle batteries should also have a percentage of critical minerals sourced from America or countries with which it has free-trade pacts, leaving the European Union and, initially, Japan in the cold.

Canada, which warned about the risks of a subsidy war, has since responded by matching certain IRA incentives with those of its own.

Elsewhere, South Korea's largest automaker Hyundai is hoping to produce U.S.-assembled electric cars eligible for subsidies at a site under construction in Georgia.

Other South Korean companies have forged partnerships with U.S. ones to build assembly lines meeting IRA requirements.

"The IRA would benefit the U.S. through additional output and lower strategic dependence vis-a-vis China," said an analysis by three European Central Bank economists in July.

"The U.S. would gain from positive relocation effects, increasing production by six percent to 30 percent in electrical and optical equipment," the economists said.

This comes mainly at China's expense, and to a smaller degree the EU's, the economists said.

While the relocation involves a relatively small share of total output, losses in specific sectors can be more substantial.

Since the climate law was signed, at least $75 billion in new manufacturing investments has been announced, according to policy analyst Jack Conness of think tank Energy Innovation: Policy and Technology.

IRA green subsidies may be "of similar size" to those available in the EU, but the US clean-tech subsidies are "simpler and less fragmented," said European think tank Bruegel in a report this year.

Such factors could make the U.S. subsidies more attractive to businesses, at a time when Europe also faces rising energy costs following Russia's invasion of Ukraine.