Another WTO Aircraft Battle?

By | July 20, 2016

According to the media, the Brazilian aircraft manufacturer Embraer is threatening another WTO case against Bombardier, challenging the $1 billion equity infusion provided for the C Series by the Quebec government and, possibly, another $1 billion under consideration from the Feds.

The following are some initial impressions from reading these recent reports.

Only Brazil Can Bring a Case to the WTO

First, Embraer itself can’t bring a case to the WTO. Only the Brazilian government can do that. Still, one suspects that Embraer executives wouldn’t be rattling sabres like this unless they had some solid assurances from the Brazilian government about a possible WTO complaint.

We’re probably a long way from an actual case being filed. Even so, statements like this indicate there’s fire where the smoke is.

The second point is a corollary of the first. If Brazil does launch a WTO dispute, it would be against Canada, not Bombardier. Canada would be the respondent, even if the money was provided by Québec.

That’s because Canada alone is a member of the WTO: as sub-federal units, the provinces are not. On the international plane, Canada at large is the responsible party. But WTO cases can still be filed against Canada for actions by the provinces.

These Cases Are Highly Political

Forget the niceties of trade law. WTO cases are always based on a country’s strategic interests. In this case, challenging Canada would be a signal to the world that Brazil will go to great lengths to defend its own geopolitical and commercial reach.

Should Brazil file a case against Canada, the Canadian government will certainly respond with a complaint against Brazil. Embraer is subsidized to the hilt by the Brazilian government. That’s a risk Brazil may be prepared to take, betting on the possibility that a WTO case will put a damper on Bombardier’s global sales activities.

Is It A Subsidy?

To succeed at the WTO, Brazil would have to demonstrate that the equity purchase by Québec or Canada is indeed a subsidy under the WTO Subsidies and Countervailing Measures (SCM) Agreement.

Most illegal subsidies are in the form of grants, tax concessions or concessionary loans given by governments. We don’t have that in the Bombardier case.

True, equity infusions are possible subsidies under the SCM Agreement’s definition. But the Agreement also stipulates that a benefit must be received by the equity provider that wouldn’t otherwise be there if the government hadn’t acted.

So the first question will be whether the equity purchased by the Quebec or Federal governments is a benefit to Bombardier as opposed to what it would have been if Bombardier has raised the cash on the market.

Any benefit wouldn’t be the total $1 billion (or whatever the total value of the infusion by both levels of government). The benefit would be the difference between the value of the equity infusion by the government versus what a private investor would have paid.

Equity infusions aren’t like recurring tax concessions or annual grants, for example. As a one-time cash infusion, assuming there is one, its value would be amortized over the life of the C Series program and applied to each aircraft sold.

So, even if the first number of hurdles facing Brazil could be overcome, the extent to which the $1 billion in equity is a benefit over the course of the project will have to be calculated.

Has Brazil or Embraer Been Materially Injured?

Assuming the case went so far as a Brazilian victory, Brazil’s rights against Canada would be circumscribed by the impact that benefit had on Brazil’s trade interests. Subsidies are not actionable under the SCM Agreement unless they cause serious prejudice to another WTO member or material injury the domestic industry of that member.

That requires Brazil to show that the equity purchased by Canadian governments has been the direct cause of damage to Embraer – by either taking sales from Embraer or by causing significant price reductions to Embraer’s own aircraft sales.

The point is it’s not a matter of simply alleging that a subsidy exists. There has to be injury to the complainant’s trade interests, meaning not only a direct causal connection between the subsidy and the alleged injury, but injury to the same or directly competitive product.

If lost sales or price reductions are the result of other factors, there is no such causal connection.

And whether any of these “serious prejudice” effects exist can only be shown if the alleged prejudice involves Brazilian like products.

It’s true that, at first blush, Bombardier’s CS-100 and CS-300 occupy much of the same commercial space in the industry as the Embraer E195, in either its 100 or its 124 passenger configurations.

However, with the major technological advances in the C Series, including its high percentage of sophisticated composite materials and the improved Pratt & Whitney PW1500G geared turbofan engines, there’s an argument that the E195 and the C Series are not like products. i.e., not directly substitutable in the market. If that can be shown, Brazil would not be able to sustain its WTO case.

A Long Way to Go

The obvious conclusion – there’s a long, long way to go before anything is settled through WTO litigation. In the Canada-Brazil aircraft battles two decades ago, there was an eventual standoff and in the end, neither government retaliated. The cases were settled with changes to each sides’ government loan programs.

The difference in the Bombardier case this time is that we’re not dealing with government grants or loans but with equity infusions, a different beast altogether,

With this history as a guide, should Brazil proceed and file a case, we can expect five years of WTO litigation. Whether that will have any effect on the C Series and its sales prospects is highly unlikely.