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Political
Significance of the Dispute
Proex
The
DSB Panel ruling on Proex as an illegal subsidy has disappointed many
politicians and several Ministries in Brazil. Having designed the Proex
I, and been the leading body responsible for maintaining the subsidy,
the MDIC was most displeased with the ruling. Also disappointed was the
Ministry of Foreign Relations who advocated the purpose of Proex
throughout the duration of the dispute. Both these Ministries have
already dedicated enormous efforts arguing to the DSB Panel that Proex
does not confer a benefit to the buyer through the “financial
contribution”, and thus is not an illegal subsidy.[1] Embraer
uses around 80% of Proex’s budget for its exports, which is
understandable considering that aircraft are extremely costly products
and in turn the credits of its financing terms are also expensive. Proex
is promoted by the BNDES bank because it enables small businesses to
export their products. Indeed, small companies are the primary users of
Proex, after Embraer , amounting to just under US$ 100 million annually. Stakeholders
The
following are the main stakeholders who will be involved in Embraer ’s
strategies to compensate for the restricted Proex, while endeavoring to
put an end to the dispute with the Canadians: The
Ministry of Development, Industry and Commerce (MDIC) The MDIC is responsible
for several issues including: monitoring, orienting, protecting and
regulating industrial development; tourism; industrial property rights
and patent protection rules; and development of foreign trade. The
Ministry was a strong supporter of Proex, playing a key role in its
inception and design in 1991. Subsequently, it was responsible for
redesigning Proex, as requested by the DSB Panel. It was this
Ministry’s responsibility to formulate the conditions of Proex so that
it would satisfy the requirements specified by the Panel in Report
‘WT/DS46/R’. The changes were made after receiving a resolution by
the government’s Monetary Council on 6 December 2000. The Minister is
Mr. Alcides Tápias, an active organizer of several of the current
economic development programs in place. The
MDIC’s responsibilities also involve participation in international
trade negotiations, as well as the implementation of programs and
activities related to foreign trade. Indeed, the Chamber of Foreign
Trade (CAMEX) is part of the Ministry, setting the major policy
decisions on foreign trade for Brazil. The executive of CAMEX, Roberto
Giannetti da Fonseca participated in the design of PROEX, and has been a
strong supporter of this measure, and other export support mechanisms
over the past decade. Another department in this Ministry is the
Secretariat for Foreign Trade (SECEX), responsible for the analytical
work involved in preparing foreign trade policy decisions, including the
formulation of Proex. The Secretariat of Industrial Technology, STI, is
responsible for designing economic policies for the development of
industrial technologies. Also, the National Bank of Economic and Social
Development (BNDES) is located within this Ministry, designing policies
to assist in the development of the economic sectors of Brazil. Ministry
of Science and Technology (MCT)
The Ministry of Science and Technology is responsible for the formulation and implementation of national policies on science and technology. It aims for the improvement of scientific capabilities and knowledge, through training programs, and the development of technology to the benefit of the whole country. Its goal is to create a climate conducive to research and development, and innovation. This may include developing R&D programs jointly run by private and public sector organizations, including universities. The Ministry of Science and Technology have several R&D policies aimed at developing public research institutions for use by the government bodies, private companies or universities. In cooperation with the MDIC, the Ministry helped prepare and pass the law the IT Law with administrative work, promotion and political influence. MDIC designed and implemented the IT Law. The structure of MCT includes several agencies and technical commissions working on specific issues of technology, such as biosafety or nuclear energy. MCT also has an agency responsible for the development of scientific and technological development that manages major research programs and offers grants for scientific research programs around Brazil. The MCT guides the implementation of the IT Law (8.248/91) through the Secretariat of Information Policy (SEPIN). In the field of foreign trade, it has been involved with specific issues, such as e-commerce, lowering tariffs charged upon remittance of profits abroad from technology investments, and foreign technology transfer. The Minister is Mr. Ronaldo Sadenberg. Ministry
of Transportation
The Ministry of Transportation is responsible for all policies related to transportation in Brazil. The Minister is Mr. Jose Henrique de Almeida Souza, who is a strong advocate of privatizing the transportation sectors of Brazil. He was involved in designing the program called “Develop Brazil”, a series of programs to upgrade the transportation infrastructure of Brazil, including international routes to the rest of South America. Ministry of Foreign Relations (Itamaraty) This Ministry is highly engaged in international negotiations, including those relating to trade. They have, and will continue to play an important role in bringing about a solution to the dispute with the Canada. The Minister, Dr. Celso Lafer, has repeatedly stated the need to continue negotiations with Canada over the aircraft subsidies issue, and has also stood firm on maintaining Proex,. He has also stressed the need to clarify to the WTO/DSB the role Proex plays for Brazilian exporters. Canadian
Department of Foreign Affairs and International Trade
The Canadian trade representatives have challenged Proex and campaigned to in an effort to prove the legality of existing Canadian subsidies benefiting its aircraft industries. Their tough stance on Proex reflects the pressure from Bombardier and other parts suppliers who fear the growing competition from the Brazilian rival. The Canadian trade representatives recently challenged the dispute Panel that specified the needed changes in order for Proex to become legally acceptable. Specifically, the Canadian delegation demanded that an additional ‘risk fee’ be charged on all financial transactions through Proex. They claim such risk fees to be standard practice, and point out that such a fee is missing from Proex III. Medium-to-Large
Businesses
It is mostly medium-to-large businesses that invest in research and development in Brazil. Only a minor portion of smaller enterprises in Brazil undertakes R&D due to the difficulties in undertaking R&D activities. Among the difficulties that companies face are: the high levels of bureaucracy, a lack of financial support for investing in such activities, the lack of government programs facilitating the acquisition of technological equipment; as well as the relative deficit of highly-trained technological researchers.[2] Indeed, these are the reasons for the lack of R&D expenditures by Brazilian businesses. However, there is an increasing trend among medium and larger companies to put more efforts into R&D as a way to differentiate themselves in their markets, leading to increased market share and competitive advantages. Exporters
Using Proex
The businesses that presently benefit for Proex will oppose having stricter finance conditions as required by the WTO/DSB. Their main interest is to increase their exports abroad. They will need to be informed of any other alternative form of export credit programs that are developed in the future, as it is a relatively new field for most companies. Most companies only discovered Proex in the late 90’s, even though it became available in 1991. Federation
of Industries
Ministry of Finance Transportation Industry Other Industries State Governors Similarly,
some governors have been arguing against the IT Law because they fear
that their state’s loss of tax revenue has outweighed the economic
benefits. In November of 2000, a group of governors campaigned against
the extension of the IT law. However, their resistance was insufficient
to stop Congress and the President from approving the extension. Analysis
Section
Policy
Analysis
The Ministry of Foreign Relations currently supports further negotiations
with the Canadian government over the aircraft subsidies dispute. In
this case, the policy of diplomatic resolution of international
contentions would be involved in any attempt to solve this trade
dispute. My proposal would require the Brazilian diplomats to continue
their diplomatic efforts with their Canadian counterparts; they would be
encouraging them to restructure their subsidies to the aircraft
industry. This effort will be key to meeting Embraer’s overall
objectives and Brazil’s
foreign trade policy.
The MIDC will see
the restriction on Proex as a reduction in the tools and programs
created to reach its goal of developing the exporting activities of the
nation’s businesses. The Ministry however, has designed other programs
to promote exports, like the loans for exports administered through
BNDES. There are loan programs designed for facilitating exporting by
SME’s administered by BNDES, though they have low funds. My proposal of a tax credit for R&D would allow Embraer’s export performance to continue at the present level in the short-term, and improve in the long-term, while allowing Itamaraty to continue its diplomacy efforts in pushing the dispute forward to a solution. While the proposal will not prevent the required changes set out by the DSB, which the Brazilian trade representatives have been fighting for over 5 years, it will create favorable conditions for companies to develop their technologies and comparative advantages, which in turn increases their chances of exporting their products. How the Tax
Credit Should Work
Following
the standard used by most of the G8 countries, the tax credit given to
R&D investments is deducted from the company’s income tax owed to
the government for the year. Any unused credits may be carried back 3
years or forward 10 years.[4]
This is the case when the tax credit is higher than the income tax owed
for that year. The
R&D tax credit we propose will give a
preferential tax credit (50%) to the transportation industry, and
a lower tax credit (20%) to the other industries. It should be noted
that the following industries would be exempt from the R&D tax bill: o IT sector (including the telecommunications sector): this sector already benefits from the IT Law. It would be unfair for it to receive two tax credits over one type of expenditure. o
Petroleum industry: is still mostly government owned, and
the government’s National Petroleum Agency (ANP), which is responsible
for overseeing the liberalization of the industry, already has specific
R&D programs for private companies purchasing into the industry. Brazil Cost
Over the past decade, the business community and economists have
discovered setbacks caused to business’ international competitiveness
as a result of Brazil’s financial and investment conditions. The term
“Brazil Cost” was coined to refer to the existing conditions that
hinder the efficient performance of a business domestically. Numerous
studies have been conducted illustrating how specific factors of running
a business in Brazil weigh on the production costs. The reasoning is
that the factors of production in most foreign nations are not as high
as in Brazil and so Brazilian companies are at a competitive
disadvantage when competing internationally. Among the factors included
in Brazil Cost are:
There are two goals in
reducing the ‘Brazil Cost’: 1) to reduce the costs associated with
running a business, leading to a more efficient business context and
performance; and, 2) to lower the prices of Brazilian goods to make them
more competitive internationally.
In the opening speech of a conference hosted by the Ministry of
Science and Technology in March 2001, the President of the Institute of
Industrial Development Studies (IEDI), Mr. Eugênio Staub, stated the
problems that inhibit technological development and innovation in
Brazil. According to Staub, these problems included “the small
participation of the private sectors in national investments of
R&D.” and “timid nature of concessions of fiscal incentives
spread across the various sectors.”[5]
Mr. Staub also blames the government for applying financial resources in
the area of science and technology inconsistently, noting that less was
invested in the field between 1998 and 2000 than between 1994 and 1997.
It is therefore clear why the IEDI, the main industrial think-tank in
Brazil sees a tax incentive
for R&D investments in all sectors of the economy as a valuable
resource. Legislation
for tax credits on R&D investments would be a tool to improve the
Brazil’s business climate. Indeed the business environment in Brazil
is not conducive to research and development. There is a lack of
scientists and expert researchers because of the low-level of training
available in the nation’s universities and research institutions, the
result of which has been a low rate of return on R&D investments in
companies, who then choose instead to invest in other activities.
Secondly, there are few Government-led research programs available that
relate specifically to industrial production or business methods. The
burden is placed on businesses; however, the initiative to begin
investing in R&D requires intensive capital and there are few
available resources to support or expedite R&D. In the case of
transportation, the recent push by the Government to privatize some
areas of this industry, called ‘Sistema Nacional de Viação’ (Law
1.176/95), has meant that the private sector will have a large role to
play in improving industry conditions and efficiency. This gives rise to
a strong need for lowering the costs associated with developing new
technologies in the Brazilian transportation industry. The sectors that
would greatly benefit from tax incentives for R&D are the
automotive, railway, aeronautics, and the shipping ports. The government
estimates that it would take US$ 20 billion to restore the road and
railway systems from their existing deteriorated conditions.
Specifically for the ports, another US$ 20 billion was estimated in
order to lower loading and freight costs through modernization of the
current system. In light of budgetary difficulties and the subsequent failure of the Ministry of Science and Technology to properly implement their programs, the tax credit would be an effective alternative to promote R&D investments. Although resources are allocated to the Ministry, allocations fall short upon implementation because project budget allotments do not account for additional administrative costs such as staff, social taxes, taxes and debt coverage costs. Halfway through 2001, the Ministry only managed to apply 3.3% of its budget for 2001, i.e. R$ 17.3 million out of R$519 million. The result is that several of their programs do not have the resources to be implemented, and those that do obtain resources receive only tiny amounts. This leads one to argue that there needs to be another way for the Ministry to implement its R&D facilitation and promotion policies. A tax credit for the private sector would achieve these policies without encountering the budgetary constraints of the Ministry. Commercial
Analysis
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