Foreign Relations of the United States, 1964–1968, Volume IX, International Development and Economic Defense Policy; Commodities

243. Memorandum From the Deputy Special Representative for Trade Negotiations (Roth) to the President’s Deputy Special Assistant for National Security Affairs (Bator)¹

Washington, November 13, 1964.

SUBJECT

• Arguments Supporting Reduction in Compensatory Duties on Wool Textiles

As you requested, I am setting out below the economic and legal reasons why a reduction in the compensatory duties on wool textiles should be made if a reduction in the duty on raw wool is made. I am also including that portion of the minutes of the Trade Executive Committee which deals with the question.

Economic Arguments for a Cut in Compensatory Duties on Wool Textiles

Because of the duty imposed on raw wool to protect domestic wool raisers, tariffs on woolen manufactures have been raised by an appropriate amount to compensate for the resulting rise in the domestic cost of raw materials. This “compensatory duty” is intended to maintain the competitive position of the wool processing industry relatively to the costs of its raw materials.

The compensatory duty was originally calculated on the then correct assumption that the industry used 100 percent wool in its products. Since that time there has been a limited substitution of synthetic fibers for wool in the production of wool textiles. The wool textiles industry now turns out a small but significant portion of its product in the form of blends of wool and synthetics.

As a result of the change in the mix of raw materials, a portion of what was originally compensatory protection is now bonus protection. Blended fabrics which are imported are in many cases treated as if they were pure wool for tariff purposes, raising the protection accordingly. Also, the use of blends has meant that costs of production are somewhat lower than if pure wool had been used, and therefore the compensatory tariff barrier is relatively higher than originally intended.

Secretary Hodges’ point is that the proposal to cut the compensatory duty by an amount equivalent to the proposed cut in raw wool duty would reduce the bonus protection and therefore worsen the existing competitive position of some parts of the industry. If wool compensatory duties were cut, producers of blended textiles would gain only to the extent that they used wool in their products. Their total costs of production would not fall as much as the cut in wool duties because they are no longer using only wool.

This is a valid argument. But four points should be considered in weighing the argument:

• First, this increase in protection in the last decade or so was a wholly unintended bonus to the industry. The “water” added to the compensatory protection by the change in the industry’s raw materials mix is in violation of the spirit of the compensatory principle.

• Second, this argument applies only to the users of synthetics whose costs would not fall by the same proportion as the tariff cut. In other words, it applies only to a limited portion of the wool textile industry. It does not apply to producers of wool tops and most yarns, for example. We do not know precisely what proportion of total production of each of the wool products involves synthetics. We do know that synthetics only represent about 15 percent of the raw materials in woolen spinning and worsted combing.

  The argument applies only to the extent that synthetics are used. The mix of raw materials may change after a cut in raw wool tariffs. As wool became cheaper relatively to synthetics, there would be a tendency for more wool to be used. An estimate of the harm done to manufacturers of blends would have to be based on the raw materials mix likely to ensue after the tariff cut, and this mix would probably contain a greater proportion of wool, diminishing the possible harm.

• Third, the bonus protection which might be reduced is extremely small. The average rate of duty on wool products specified in our international agreement is 36 percent, taking into account the volume of trade in each item. Of this, 9 percentage points represent the average compensatory part of the duty. We have agreed not to cut the whole tariff; only a portion of the compensatory duty will be cut if raw wool tariffs are lowered. If we should cut raw wool by 50 percent, for example, and cut the compensatory duty correspondingly, only 4.5 percentage points of protection are at stake.

  But all of the compensatory duty is not “bonus protection”—only a small part of it is, since only a fraction of wool textile production involves synthetics. Suppose that as much as 1/4 of the compensatory duty represents bonus protection, on the average. Of the 4.5 percentage points at stake, this is only a little more than one percentage point. Thus, the bonus protection involved is really miniscule, especially when compared to the international complications which a failure to cut compensatory duties would entail.

• Fourth, if there were no cut in the compensatory duty in line with a possible reduction in the raw wool duty there would be certain special effects within the industry. Some of the major integrated producers purchase raw wool and then process the wool through several stages. A cut in raw wool duty alone would mean the costs of their raw materials would fall. But processed textiles would still be protected at the old level. The independent producers, on the other hand, buy processed wool as their raw materials, and would not gain the benefits of the cut in the raw wool. The large, integrated firms would be able to earn a higher margin, or sell more cheaply than the independent firms. In other words, failure to cut the compensatory duty would particularly hurt the competitive position of the many independent producers spread across the country who use semi-processed materials compared to the large, integrated producers of textiles.

  There would also be no guarantee and little likelihood that all of the benefits of lower raw materials costs would be passed on to apparel manufacturers, and other users of the more highly processed textiles. These later stages of production are where the preponderant share of employment in the wool textile industry lies.

  Cutting the compensatory duty would ensure that the benefits of cheaper raw wool would be passed on to the independent producers and the later stages of production where employment is most at stake.

Legal Arguments for a Cut in Compensatory Duties on Wool Textiles

If the United States should cut the duty on raw wool, it would be under an international obligation to make an equivalent cut in the compensatory part of the duties on wool textiles. For purposes of this memorandum, it is assumed that sheep wool is in question.

In 1947, the United States granted tariff concessions both on several kinds of raw wool and on a number of wool textiles. At the same time, the United States granted an additional concession by agreeing that the relationship between the duties applicable to raw wool and wool textiles would remain constant. The United States did so in a note to that part of its Schedule XX to the GATT which contained the concessions granted on raw wool.

These concessions covered the following four specific kinds of the most prevalent type of raw wool, accounting for over 90% of all raw wool imports:

On the skin	TSUS 306.30
In the grease or washed; not sorted	TSUS 306.31
In the grease or washed; sorted	TSUS 306.32
Scoured	TSUS 306.33

In 1947, the kind of raw wool which is now classified under TSUS 306.31 accounted for over 95% of all the imports of raw wool; at the present time, it still accounts for over 75% of such imports. Accordingly, the note was attached only to the concession on raw wool now classified under TSUS 306.31. In substance, this note provides that, if the duty on TSUS 306.31 is modified, then the specific part of the duty on specified wool textiles shall be adjusted to an amount having the same ratio to the original specific duty as the ratio of the new duty on TSUS 306.31 to the original duty.

While the duty on the kind of raw wool now classified under TSUS 306.31 has remained unchanged since 1947, the number of wool textiles covered by the note has been increased in subsequent trade negotiations. Accordingly, at the present time, if the United States should reduce the duty on TSUS 306.31, it would be obliged to make a similar reduction in the specific or compensatory duty applicable to wool textiles accounting for over 90% of all wool textile imports.

It might be argued that, if the United States reduced the duty on raw wool other than the kind classified under TSUS 306.31, it would not be required to reduce the specific or compensatory duties on the wool textiles which are covered by the note. While this would be a correct literal reading of the note, it would violate the clear purpose of the note. The major exporters of wool textiles to this country were interested in maintaining a constant relationship between the rates of duty on raw wool and on wool textiles. In order to provide for this relationship, it was reasonable that the note be attached to the concession on that kind of raw wool which at the time accounted for virtually all of the raw wool imports. Accordingly, the major exporters of wool textiles would be on strong grounds in challenging any unilateral attempt by the United States to avoid a reduction in compensatory duties on wool textiles by reducing the duty on any of the kinds of raw wool other than that classified under TSUS 306.31.

It is important to note that any such challenge would be made under the pertinent provisions of the GATT and with respect to an amount of trade valued at about $250 million. Accordingly, in trade negotiations, such as the Kennedy Round, under Article XXVIII bis, the major exporters could demand substantial tariff concessions for the failure of the United States to reduce the compensatory duties on wool textiles. They could also withdraw substantial offers which might have been offered to the United States. Alternatively, under Article XXIII, they would be on strong grounds in claiming the nullification or impairment of a concession granted by the United States and in seeking authorization from the members of the GATT to take retaliatory action.

In other words, recognizing that the GATT governs the manner in which the United States treats the obligation contained in the note, any attempt to distinguish between the specific kinds of raw wool in order to avoid that obligation would, in all likelihood, substantially impair our trade and commercial relationship with the major exporters of wool textiles.

William Roth

1. Source: Johnson Library, Bator Papers, Kennedy Round (GATT) May 4, 1964 [2 of 2], Box 11. Secret.