Are your enemies’ enemies automatically your friends? That question is becoming increasingly difficult to answer when it comes to the global economy, as a United States plan to limit China’s power is driving the EU and the US apart.
Last summer, the US introduced a large-scale investment package to help its own business community. The formal goal of the US is to take a stand under the flag of sustainability and energy policy against China, which as an industrial country has acquired a very dominant position on the world market. The EU thinks so too. But the tool that the US uses is a lot less successful: subsidies for companies that produce in the US.
However, the result of this US Inflation Reduction Act (IRA), a support package of USD 370 billion, is that European companies have also fallen behind compared to their US competitors. And, even more annoying, European-based companies suddenly have a good (financial) reason to consider moving to the other side of the Atlantic thanks to the US support package.
This week, therefore, the European response to Biden’s package came. Brussels is also opening the door to large-scale state support for its own sustainable industry, and is prepared to invest hundreds of billions in this.
The details of the plans have yet to be worked out in the near future, making it difficult to make a precise comparison with the American plans. But it is already clear that it will become easier for EU Member States to subsidize technologies such as batteries, wind turbines, heat pumps and solar panels. To this end, the usually very strict state aid rules are being relaxed.
The European Commission sees these measures as necessary in order not to lag behind the United States. Competition Commissioner Margrethe Vestager said this week to the Financial Times that the IRA, combined with stable, cheap energy prices in the US, could have a “poisoning” effect on some European industries.
At the same time, it is a far-reaching step by the US that could easily form a prelude to a ‘green state aid war’: those with the deepest pockets can, in principle, best entice the business community to invest. Is it the right thing for the European Union to defend itself against American plans in this way? Or should it do something else?
The first companies have already approached national governments in the EU with requests for support in recent months. Many companies with European offices have been threatening to leave the EU for weeks and say they want to make new investments in the United States.
Northvolt flirts with US
Until recently, the Swedish battery manufacturer Northvolt was considered the textbook example of a new European champion: it was at the forefront of building battery factories that should make Europe less dependent on Chinese battery producers.
But at the end of 2022, Northvolt paused plans for a new factory in northern Germany. It is now openly flirting with construction plans in the US, partly due to Biden’s support package. And Northvolt is not alone: various companies, from the Norwegian fertilizer group Yara to the Belgian chemical company Solvay, have already made extensive threats to move to America. Last Thursday, an extensive meeting was also held in the Catshuis between representatives of the Dutch business community and ten ministers. On the agenda: the business climate in the Netherlands.
Seen from a distance, there are enough wholly and half legitimate reasons why the US, and subsequently Europe, have opted for these stimulus packages, says Professor of International Economics and Business Harry Garretsen of the University of Groningen. “Governments want to achieve their climate goals and help companies develop a good market for it.” Moreover, since the pandemic and the war in Ukraine, the world has learned that the hyper-efficient production chains that have emerged in recent decades have their vulnerabilities. According to Garretsen, “a certain degree of deglobalization” is understandable.
The worrying thing, however, is that measures designed to achieve the ‘good goals’ can degenerate into what Garretsen calls ‘ordinary protectionism’. “Biden’s plan is primarily aimed at strengthening the American position against China, but it also has adverse consequences for Europe.” The requirement that a company only receives a subsidy if it actually starts producing in the US is an example of this. “Europe then has to react to that, and things go from bad to worse,” said Garretsen. “Nobody says out loud that there are protectionist aspects in the plans, but it is evident that there are.”
The International Monetary Fund also recently warned of the consequences of this geopolitical fragmentation. On balance, the world would be worse off if everyone retreated to their own continent than if the economic laws of ‘optimal allocation’ could operate. Supranational institutions such as the World Trade Organization are built on this economic law.
According to Steven Brakman, professor of international economics at the University of Groningen, the European Union should have handled the aid issue through the World Trade Organization. There, it could theoretically object to US plans, which would distort the global market, rather than allow itself to be tempted into similar support measures. “It is a boring comment, but I would say: do it in consultation.” Doesn’t that have very little chance of success? “That’s no reason not to try. If you start reacting in an ad hoc way, things will get messy. It is also at the expense of your prosperity. If you have a problem, you have to raise it through the rules.”
However, we should not expect much from the World Trade Organisation, thinks Garretsen. “That institution is paralyzed, and that actually applies to all supranational institutions that we have devised to keep this kind of thing under control. We have started to attach less importance to that.”
Different era
Despite all protectionist comments, it is above all time to be pragmatic, says historian and NRCcolumnist Luuk van Middelaar. He is a member of the Advisory Council on International Affairs and co-authored one last year advice to the cabinet on smart industrial policy. In October, he and others founded the Brussels Institute for Geopolitics think tank.
“Ultimately, this is about relations between China and the US,” he says. “America has realized that China is serious about being the world leader in strategic economic sectors by 2025, from high-tech to greening. It is now doing everything it can to prevent this.” That is the basis behind US trade policy in recent years. “The Biden package also fits in with that trend.”
Europe cannot afford to remain the only one of the world’s three power blocs to support the goals of global free trade, says Van Middelaar – even though everyone knows that this is not the best route from an economic point of view. “The world has changed, we are entering a different era. Europe has to adapt to that.”
In other words: nobody is really happy with the current situation and the support plans, but the Union has to do something. For the time being, Brussels has given the individual member states the scope to give more state aid to green industry: the strict rules are partly suspended.
The risk is not only that the EU and the US will compete with each other, but also between countries within the EU. Think of bidding against each other to acquire a battery factory, or a green steel factory. Large rich countries have an advantage over smaller and poorer countries. It could increase inequality within the Union.
In the end, such a subsidy race for green business is not necessarily an efficient way to go green. “A few years ago, states within the US started fighting over a Tesla factory,” says Inge van den Bijgaart, assistant professor of economics at Utrecht University and specialized in climate policy. “But Tesla was going to build that factory somewhere.” Subsidies from local governments kept getting higher, purely to get that factory in a certain place. Understandable from a local job perspective, but not really necessary in terms of climate. “With that money you might be better off helping poor households to purchase solar panels.”
Much is still unclear about the exact design of the European package, but this also offers opportunities, says Van Middelaar. “The Netherlands has so far resisted both broader state aid rules and direct European subsidies. That’s not wise. The Netherlands should conduct a constructive debate within Europe, take the initiative for a shared European assessment framework about what state aid should meet.” This way you avoid political arbitrariness, private lobbies and the power of the largest treasury.”
The first steps have now been taken on both sides of the ocean. The question is whether this will stop there, or whether this heralds a new phase of protectionism. Brussels already announced at the presentation of the plans that the suspension of state aid rules is a first step. Consideration is also being given to direct Brussels support for the greening of the industry.
It is not so much the current size or the concrete measures that are now cause for concern, says Professor Garretsen. He is particularly concerned that this has started a trend that is difficult to reverse. “It is about the obviousness in which there is now agreement in China, the US and Europe that this is the right way. History shows that you can end up in a race like this, with all the disastrous economic consequences that entails.” The packages now before us are all explicable, even logical and perhaps legitimate, and the rampant globalization also had its drawbacks, says Garretsen. “But we have to be careful that there is no laziness in the reasoning. On balance, this remains the wrong direction.”
In that case, Europe still faces an uncertain economic future. The Brussels think tank Bruegel wrote last week that it is in the EU’s interest to protect the international rules-based system – such as that of the World Trade Organisation. “Without a forum for discussion and a generally accepted rulebook, the board resorts to the smallest denominator, which is the rules of the jungle. In an ungovernable global system, the EU is extremely vulnerable to all those it depends on to secure the resources it lacks.”