January 13, 2022

Road to Enforcement: U.S.-Canada Dairy Case May be a Harbinger for Future Continental Trade Disputes

On January 4, 2022, a three-member dispute panel — established per the United States-Mexico-Canada Agreement (USMCA) — announced a significant decision in the ongoing trade dispute between the U.S. and Canada, finding that Canada violated the USMCA by granting preferential tariff treatment to its domestic dairy industry.

Hailed by United States Trade Representative (USTR) Katherine Tai as a “historic win” for the U.S. dairy industry, the panel’s decision is the first of its kind under the USMCA’s “state-to-state” dispute settlement mechanism. Crafted to avoid the procedural hurdles and roadblocks that often precluded dispute resolution under the North American Free Trade Agreement (NAFTA), the USMCA’s new enforcement provisions—and the final outcome of last week’s panel decision — may set the stage for a new era of North American trade enforcement.

Background

The U.S.-Canada dairy dispute arises from Canada’s administration of Tariff Rate Quotas (TRQs), which permit the import of a product(s) at a reduced tariff rate before the imposition of higher tariffs. In other words, once the volume imported goes over the agreed quota, further imported products of that type are charged a higher customs duty.

As it stands, the USMCA allows Canada to maintain TRQs on 14 dairy products, including cheese, milk powders and ice cream. At the core of the dispute is Canada’s decision to allocate 80% or more of its TRQs to “processors” — i.e., those who purchase raw milk from one of Canada’s provincial Milk Marketing Boards (MMB) and then use it to manufacture dairy products.

Formation of Dispute Panel

On December 9, 2020, the U.S. invoked Article 31.4 of the USMCA’s newly crafted dispute settlement mechanism by formally requesting “consultations” with Canada over the allocation of its dairy TRQs. The U.S. argued that Canada is violating multiple commitments under the USMCA through its TRQ allocation system, which, in effect, exclusively reserves TRQs for domestic processors.

After several months of bilateral discussions (both formal and informal), USTR proceeded to invoke — for the first time in the USMCA’s short history — Article 31.6.1 of the USMCA by requesting the establishment of a panel to resolve the dispute. Within 60 days, a three-member panel was established, initiating a nearly six-month process whereby the panel received numerous written and oral submissions from the parties and other non-party stakeholders.

Per the final report, which was preceded by the issuance of an initial report subject to comments from the parties, the panel concluded that Canada’s TRQ allocations did, in fact, violate its commitment under Article 3.A.2.11(b) of the USMCA to not “limit access to an allocation to processors.” While acknowledging Canada’s “significant discretion in how it administers its TRQs,” the panel emphasized that it is Canada’s “exclusive reservation of access” that violates the USMCA.

Canada now has until February 3, 2022, to comply with the decision by redesigning its TRQ system to comply with Article 3.A.2.11(b) or otherwise risk U.S. trade retaliation. Public statements from U.S. and Canadian officials in recent days, however, suggest that compliance is forthcoming.

Broader Implications

In a statement following the decision, Ambassador Tai lauded the panel’s ruling not only as a “historic win” for the U.S. dairy industry, but as fruit borne of the USMCA’s strengthened enforcement provisions. Although NAFTA included a similar “state-to-state” dispute settlement mechanism, the NAFTA also contained procedural provisions that effectively permitted a party to block or stall the appointment of panel members. As a result, aside from a handful of panel-led resolutions in the early days of NAFTA, a complaint initiated under the dispute settlement mechanism was almost certain to result in paralysis.

On Capitol Hill, members on both sides of the political aisle were also quick to heap praise on the effectiveness of the USMCA’s reformed enforcement provisions, with some members urging USTR to “build on this success” by invoking the USMCA’s dispute settlement mechanism to address other U.S. trade concerns, including Mexico’s compliance with the USMCA’s agricultural provisions.

Further signaling the momentum surrounding USMCA enforcement, less than two days following the public announcement of the U.S.-Canada decision, the Mexican government (with public support from Canada) issued a statement formally requesting a dispute settlement panel — this time, in relation to its ongoing dispute with the U.S. related to the USMCA’s rules of origin for automotive vehicles.

For More Information

As 2022 moves into full swing — and the USMCA transitions into its third year of operation — USMCA trade rules and enforcement are expected to remain a topic of intense focus in Washington D.C., Mexico City and Ottawa. If you have any questions regarding the USMCA or other related trade issues, please contact a member of Faegre Drinker's Customs and International Trade Team.

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