The Inflation Reduction Act’s Climate Provisions Face Likely Incompatibility with WTO Rules.
Photo of a wind turbine at the American Windmill Museum in Lubbock, Texas
By: Lydia Murray, Staff Editor
The Inflation Reduction Act represented the most significant climate investment in United States history, marking major progress for the United States in addressing climate change. However, the investment arrived with some international dissatisfaction, as many countries believe that portions of the Act violate the rules of the World Trade Organization. Some of the provisions of the Act would likely be found as prohibited under WTO law, which would require rescission of the measures, while others would function as actionable subsidies, meaning a country who challenges them would be able to impose countermeasures, limiting the effect of the initial subsidy. This incompatibility of the Act with WTO rules demonstrates the need for WTO reform to better address climate change and environmental goals.
When President Joseph Biden signed the Inflation Reduction Act (“the Act”) into law on August 16, 2022, it represented the largest single investment in climate measures in United States history and, combined with measures already in place, would put the United States on track to reduce greenhouse gas emissions by approximately 40 percent by 2030. Given the limited time remaining to address climate change before the planet reaches unacceptable levels of warming, the Act represented an essential step forward for the United States.
The Act primarily takes the form of spending programs and tax credits that provide incentives to transition to cleaner energy sources as well as funding for such projects. However, given this structure, many of the provisions could face challenges in the World Trade Organization (WTO), where several nations have already threatened such challenges. The WTO governs and implements international agreements on trade. Agreements under the WTO stem from negotiating rounds and typically have unilateral consensus from members. The rules that come from these agreements are enforceable through the WTO’s dispute resolution system, which primarily involves adversarial enforcement actions. The nature of the dispute resolution process means that unless another member implements a challenge, the WTO itself typically will not force an illegal program into compliance on its own. Therefore, for any of the Inflation Reduction Act’s provisions to be found as noncompliant, another member’s challenge would be necessary.
The WTO has heard calls for change in the environmental space for some time, as advocates believe that it does too little to facilitate measures that address climate change and other environmental issues. In the most significant WTO case addressing climate subsidies, the Appellate Body sidestepped the issue, signaling a desire to avoid declaring any green subsidies to be inconsistent with the WTO. This case law has left many uncertainties in the area, while also indicating the WTO’s resistance to ruling against green subsidies. However, the incompatibility between the Inflation Reduction Act and current WTO rules further demonstrates that the divide persists.
The primary area of WTO law that applies to the Act is the Subsidies and Countervailing Measures Agreement (SCM Agreement). The agreement divides subsidies into two categories: prohibited and actionable. Prohibited subsidies are not permitted under WTO rules and therefore require withdrawal by the offending nation. All other subsidies fall into the actionable category, meaning while subsidies are broadly permitted by the WTO, a complaining party has recourse to address injuries caused by subsidies through countervailing measures. The agreement defines a subsidy broadly as a financial contribution by a government or any public body within the territory of a Member which confers a benefit.
Some of the major programs in the Act would likely amount to prohibited subsidies due to use of domestic content requirements. Namely, the Act significantly expands the Production Tax Credit (PTC), Investment Tax Credit (ITC), and electric vehicle tax credits, but makes those expansions subject to domestic content requirements. The PTC and ITC provide major incentives for the production and investment into clean energy creation. Each of these tax credits would likely fit within the definition of a subsidy under WTO law. The structure of the ITC and PTC fairly easily fits within the definition of a subsidy—particularly given the SCM Agreement specifically names tax credits as an example of a subsidy. The electric vehicle tax credits also likely fall within the definition, however the United States could argue that it does not confer a benefit on a specific industry (as is required under the agreement) due to the nature of the credits as consumer facing. Nonetheless, it is likely that if challenged the WTO would find that all three credits amount to prohibited subsidies, thus requiring their rescission.
Many of the remaining provisions within the Act could face WTO challenges as actionable subsidies. If a program meets the definition of a subsidy, another country may challenge it as an actionable subsidy and impose countervailing duties if they can additionally prove that they faced injury to a domestic industry as a result of the subsidy. Such inquiries are highly fact-intensive and therefore difficult to predict, but it is easy to imagine that many of the provisions in the Act would fit the definition of a subsidy (given their nature as tax credits and spending programs) and therefore could be subject to countervailing duties (tariffs aimed at offsetting the impact of the subsidy). The imposition of countervailing duties holds the potential to undermine the effectiveness of green subsidies, detracting from their purpose.
There remains much uncertainty on if and how the Act might face a challenge. The WTO’s dispute resolution system has been in crisis for the past several years, as the United States has blocked the appointments of Appellate Body members. Without the ability to approve appointments, the Appellate Body currently lacks sufficient members to adjudicate any disputes. As a result, cases may be brought to the WTO for initial panel adjudication, but if the losing party exercises their right to appeal to the Appellate Body, that appeal goes into the void, since the Appellate Body cannot actually meet to hear the case. This leaves any case in limbo, as the WTO cannot enforce the panel’s decision while an appeal is pending. This may temporarily protect the Inflation Reduction Act (and similarly situated subsidies) from enforcement of a judgment against it, though using one crisis to address another does not provide a sustainable path forward.
Taken as a whole, the vulnerability of the Inflation Reduction Act to challenges in the WTO demonstrates the ways in which the organization has fallen out of step with international goals. A challenge to the provisions in the Act would demonstrate the tension between the WTO and the international community’s climate goals, as one of the most significant climate investments in history could face scrutiny that could result in a request for rescission or in countervailing measures that would undermine the effectiveness of the Act itself.
Acting alone as an institutional body, there is little the WTO Secretariat or the Appellate Body can do in the face of this likely challenge. The WTO itself is an organization of limited powers and any major changes must come from negotiations and agreement from its members. There is some ability for the Appellate Body to engage in a form of judicial activism, but this has been met with criticism from members in the past and the existing exceptions in the WTO rules do not provide a strong basis to build upon. The most promising path forward in addressing the WTO’s climate problem likely involves a renegotiation to include an exception for green subsidies under the SCM Agreement to insulate them from challenges, as scholars have proposed. In the realm of climate change policy in particular, the case for a policy favoring expansive subsidization of renewable energy and other programs that address climate change has strong economic backing given the nature of the high long-term cost of not addressing climate change combined with the short-term high cost of a transition to renewable energy sources.
The WTO has faced pressure to make more climate-friendly reforms for years and yet has managed to side-step some of its most significant challenges when addressing some of the most difficult questions like its compatibility with green subsidies. While there remains uncertainty in if the Inflation Reduction Act will be challenged in the WTO, how a panel or the Appellate Body would rule of such an issue, and whether the current state of the dispute resolution system would permit a full determination on the matter, if such a challenge does occur, it will bring these issues to the forefront of the WTO once again. The clash between the United States’ most significant climate policy and disfavored WTO law may provide a push toward negotiations, or, at minimum, further demonstrate the prominent issues in the area.
Lydia Murray is a second-year student at Columbia Law School and a Staff member of the Columbia Journal of Transnational Law. She graduated from the University of Michigan in 2019.