Testimony

Counting the Cost of Steel Protection

By Daniel Griswold
February 25, 1999
Subcommittee on Trade
Committee on Ways and Means
United States House of Representatives

First, let me thank Chairman Crane for the leadership he has shown on trade issues, and let me also thank the other members of the committee for allowing the Cato Institute to testify at this afternoon’s hearing.

The difficulties facing the steel industry today are not unique. Increased competition and lower prices are the bane of every industry’s bottom line. Layoffs, falling profits, and industry restructuring can be seen today in the oil industry, where import prices have fallen 40 percent in the last year. Yet just about everyone understands that lower oil prices are good for our economy and that duties on imported oil would drag down living standards and damage our national interest. The same is true for steel protection.

The primary cause of rising steel imports and falling prices during 1998 was the Asian economic crisis, which resulted in (1) a collapse in demand for steel in that region and (2) a realignment of currency values that makes foreign steel much more price-competitive in the United States. In light of those circumstances, it is only natural that that prices fell and that the still vibrant U.S. market pulled in extra imports.

Many other U.S. industries have been hit by the effects of the Asian crisis: Exporters have seen sales slump while import-competing industries have faced stiffer competition at home. There is no reason why the steel industry should receive special treatment at the expense of its customers and American consumers, just because it is experiencing temporarily unfavorable conditions.

The viability of the U.S. domestic steel industry is not threatened by the recent increase in imports. According to Commerce Department figures, imports of steel mill products peaked in the fall of 1998 and have been declining since then. Normal marketplace reactions, compounded by the threat of retroactive antidumping duties, caused December steel imports to fall by one-third compared to November, including a 47 percent plunge in imports from Japan and a 79 percent fall in imports from Russia.

For all of 1998, imports of steel mill products were up 33 percent from 1997, but most of the net increase in imports went to meet strong domestic demand. In terms of tons of steel shipped, the U.S. domestic steel industry had one of its best years ever in 1998. Domestic steel shipments reached 102 million tons last year, down 3 percent from 1997, but still the second highest level of production in the last two decades. Domestic steel production in 1998 was still 20 percent above production in 1989, at the peak of the last expansion. With world steel production falling, U.S. domestic producers actually increased their share of world steel output last year, from 12.3 percent in 1997 to 12.6 percent.

Prospects for the U.S. steel industry remain positive despite current problems. Domestic demand is expected to remain strong, especially in the automotive sector, and exports could pick up in 1999 as demand in East Asia begins to recover. After bottoming out in the fourth quarter of 1998, steel prices are expected to rise in 1999; indeed numerous U.S. mills have announced price hikes in the past few weeks. Despite the recent increase in imports, domestic steel producers continue to supply more than two-thirds of the steel consumed in the United States.

The Futility of Protection

The big steel companies and their unions point to the 10,000 jobs that have been lost in the industry in the last year, but that number needs to be put in perspective. First, total job losses in the steel industry are relatively small when compared to the 2.5 million net new jobs created in the whole U.S. economy in 1998. U.S. economic policy should not be driven by an industry whose job losses in the last year are being overwhelmed by an expanding economy that, during the same period, created nearly that many net new jobs on an average business day.

Second, falling employment in the steel industry is nothing new. Since 1980, the domestic steel industry has shed two-thirds of its production workers. Most of the layoffs in the steel industry have not been caused by imports, but by rising productivity within the industry. In 1980, a ton of domestically produced steel required 10.1 man-hours to produce; today the industry average is 3.9 man-hours. With productivity rising faster than domestic demand, the industry has required fewer workers. The resulting decline in employment has been relentless, with the number of employed steelworkers falling in 15 of the last 18 years. Employment has moved steadily downward whether imports have been rising or falling as a share of domestic supply. For example, imports as a percent of new supply (shipments plus imports) fell from a peak of 26.2 percent in 1984 to a low of 16.7 percent in 1991. Yet during that same period, employment in the steel industry fell by more than 70,000. (See the attached graph.)

Foreign competition has helped to spur this progress in productivity, but the most ferocious competition has come from within our borders, from so-called mini-mills. The more efficient of these smaller mills can produce a ton of steel in under two man hours, and are relentlessly expanding the scope of products they can make. In 1981, mini-mills accounted for 15 percent of U.S. steel production; today they account for nearly half of the steel-making capacity in the United States. With or without protection, the industry will continue to consolidate and shed workers, with production shifting from the larger integrated mills to the smaller, more flexible and efficient mini-mills.

Steadily declining employment has come despite three decades of government import protection. Beginning with import quotas in 1969, protection has been the rule rather than the exception for the steel industry. Quotas were followed in the late 1970s by the Carter administration’s “trigger price” mechanism and then in the 1980s by the Reagan administration’s “voluntary” import quotas. U.S. “fair trade” laws seem to have been written primarily for the steel industry. About a third of the antidumping orders in the last two decades have been directed at imported steel. The latest round of protection - with preliminary antidumping rates ranging from 25 to 71 percent, and a suspension agreement with Russia - threatens a severe disruption in U.S. industry access to needed steel supplies.

The Steel Manufacturers Association, the trade group representing the mini-mill sector, recognizes the futility of protection. According to an official statement, its members “note the deterioration of artificially protected industries and markets. They have seen artificially nurtured industries sink into excessive complacency and stagnation. They believe that competition has fostered a revolution in the U.S. steel industry.” These words are as true today as ever.

Costs to U.S. Economy

Raising barriers against steel imports will impose a real cost on the American economy. Millions of American workers and tens of millions of American consumers will be made worse off so that the domestic steel industry can enjoy temporary benefits. Consumers will pay more than they would otherwise for products made from steel, such as household appliances, trucks, and cars. (The average five-passenger sedan contains $700 worth of steel.) Artificially propping up the domestic cost of steel will only raise the cost of final products to U.S. consumers. If protectionist measures succeed in raising the average price of steel mill products by $50 a ton, Americans will pay the equivalent of a $6 billion tax on the more than 120 million tons of steel they consume each year.

Steel protection will impose a heavy cost on the huge segment of American industry that consumes steel as a major input to its production process. The major steel-using manufacturing sectors - transportation equipment, fabricated metal products, and industrial machinery and equipment - employ a total of 3.5 million production workers. Production workers in manufacturing industries that use steel as a major input outnumber steelworkers by 20 to 1.

A prime example is General Motors Corp., which buys 4.7 million tons of steel directly each year and another 2.5 million tons indirectly through independent suppliers. GM buys most of its steel through long-term contracts, and is thus insulated from short-term price fluctuations, but any price increase caused by protection will eventually filter through when contracts are renegotiated. In a brief filed with the International Trade Commission in October 1998, GM warned that antidumping duties against steel imports could negatively affect its ability to compete in global markets. GM’s domestic operations “become less competitive in the international marketplace to the extent those operations are subjected to costs not incurred by offshore competition, and to the extent that U.S. import barriers impede access to new products and materials being developed offshore, or remove the competitive incentives to develop new products in the United States.”

Another company hurt by steel protection is Caterpillar of Peoria, Ill., which buys 600,000 tons of steel annually to make earth-moving equipment. While three-quarters of Caterpillar’s production facilities are located within the United States, one half of its sales are abroad. Higher steel prices in the domestic market will eventually cause its products to become less price competitive compared to products made in other countries. Sales, profits, and employment will suffer.

One of the largest direct consumers of steel is the construction industry, which accounts for about 35 percent of domestic steel consumption. Duties and tariffs against imported steel will filter through to higher prices for homes and commercial office space. The jobs of thousands of construction workers could be put in jeopardy. When construction and other non-manufacturing industries are included, the total number of employees in steel-using industries dwarfs the number of steelworkers by 40 to 1.

Especially vulnerable to rising import prices are workers in smaller companies that manufacture metal products. These firms typically buy on the spot market rather than on long-term contracts, and are the first to feel the pinch of higher steel prices. Many of them also act as suppliers to larger corporations, and are thus less able to pass along a hike in steel costs in the form of higher prices for their final products. The result of higher domestic steel prices to these companies will be lower sales, declining profits, and fewer jobs created.

If the steel industry succeeds is gaining protection from imported steel, an even larger gap will open between domestic and international prices for steel mill products. This will give an advantage to foreign firms competing against American steel-using industries. Faced with artificially high steel prices at home, Americans will simply buy their steel indirectly by importing more finished products made abroad from steel available at cheaper global prices. If the federal government blocks the import of steel mill products through the front door, steel will come in the back door in the form of automobiles, industrial equipment, machine tools, and other steel-based products.

Besides being economically self-defeating, steel protection would be at odds with America’s foreign policy interests. The best thing America can do to encourage growth and stability in the world economy is to keep our markets open. It makes no sense to hector Japan to stimulate its domestic economy or to underwrite IMF loans to Brazil and Russia while denying producers there the opportunity to earn valuable foreign exchange by selling steel to willing American buyers.

One recent study suggested that restrictions on steel imports will enhance overall U.S. economic welfare. Specifically, the Economic Strategy Institute published a study earlier this month which purports to show that steel dumping, however that term might be defined, reduces U.S. economic well-being, and that antidumping duties are needed to prevent this harm. ESI’s findings rest ultimately on the fact that wages in the steel industry are higher than average and that displaced steel workers frequently are forced to accept lower paying jobs. Thus, according to the ESI study, net U.S. welfare is reduced by dumping that causes job losses in the steel sector; antidumping is good for us because it prevents those job losses.

First, this argument gets causation backwards: it assumes that high-paying jobs are the cause of economic welfare, rather than the consequence of it. If applied across the board, the ESI analysis would mean that public policy generally should protect our high standard of living by discouraging or even outlawing layoffs from high-paying jobs. This is basically the European approach, and its effects are all too visible in low growth and chronic double-digit unemployment.

Second, and more narrowly, the ESI analysis assumes that job losses in the steel sector wouldn’t occur in the absence of low-priced import competition - an assumption refuted by the industry’s steadily declining employment over the past 20 years.

Third, the study fails to adequately account for the offsetting production and employment gains that the lower prices would stimulate in the far larger steel-using sectors. Even if one accepts the study’s methodology, the hypothetical gains from imposing antidumping duties against foreign steel are tiny - less than .005 percent of annual GDP - and not worth the far more real danger that the law will be used for protection.

America’s Unfair “Unfair Trade” Laws

Despite complaints from the big steel mills that Congress and the administration are not doing enough, the system is already stacked in favor of domestic steel producers. U.S. antidumping law has become nothing more than a protectionist weapon for industries feeling the heat of global price competition.

These laws punish foreign producers for engaging in practices that are perfectly legal, and common, in the domestic American market. U.S. firms, including steel makers, routinely sell the same product at different prices in different markets depending on local conditions, or temporarily sell at a loss in order to liquidate inventories and cover fixed costs. Any steel company that lost money in the third or fourth quarters last year was selling its goods at below total average cost and was consequently “dumping” its products on the domestic market according to the definition contained in U.S. law. If every domestic sale was required to be at a “fair” price according to the antidumping law’s definition, most American companies would be vulnerable to government sanction, and U.S. consumers would find far fewer bargains.

It is a misnomer to say that steel is being “dumped” on the U.S. market. Virtually every ton of steel that enters the United States has been ordered by a willing American buyer, often months in advance of its actual delivery. Antidumping duties not only stop foreign producers from selling in the U.S. market; they stop American citizens from buying the type and amount of steel they need at prices that benefit them most as shareholders, workers and consumers.

Proposed Legislation Would Compound the Damage

On top of antidumping protection already in place, an array of new protectionist proposals in Congress threatens U.S. producers’ access to imported steel. None of the offered legislation would increase general economic welfare and much of it would be in violation of U.S. international commitments.

1) H.R. 506/S. 395, Stop Illegal Steel Trade Act, sponsored by Rep. Visclosky and Sen. Rockefeller. This bill would limit steel imports from all nations to 1997 levels on a monthly basis for a period of three years. Although SISTA says that the import limits could be accomplished by “quotas, tariff surcharges, or negotiated enforceable voluntary export restraint agreements, or otherwise,” it is in essence a quota bill that would set strict limits on the volume of foreign steel U.S. companies would be allowed to purchase. SISTA is a clear violation of our institutional obligations under the GATT.

Quotas are one of the most damaging forms of trade restrictions. They redistribute wealth from consumers to domestic producers and to those foreign producers lucky enough to get quota rights, while the U.S. government does not receive tariff revenues. In other words, SISTA would tax U.S. steel users to benefit major steel companies, both here and abroad. Moreover, SISTA would endanger the ability of U.S. steel-using industries to obtain the materials they need. According to calculations by the Precision Metalforming Association, for example, SISTA quota levels would leave U.S. manufacturers nearly 4 million tons short based on 1998 levels of demand.

2) H.R. 502, Fair Steel Trade Act (FASTA), sponsored by Rep. Traficant.

FASTA would impose a 3-month ban on imports of steel and steel products from Japan, Russia, South Korea, and Brazil, in disregard for the needs of American consumers and steel-using industries. A trade ban - even a limited one - would seriously damage private business relationships and undermine the global competitiveness of dynamic U.S. companies. This bill would deprive the U.S. economy of all the gains from steel trade and offer only temporary benefits to domestic steel companies. It would, in short, be a disaster.

3) H.R. 412/S. 261, Trade Fairness Act of 1999, sponsored by Rep. Regula and Sen. Specter. This legislation would create a permit and monitoring program that would require all steel importers to register with the Commerce Department and report information on the cost, quantity, source, and ultimate destination of all steel shipments. The bill authorizes Commerce to collect “reasonable fees and charges” to defray the costs of issuing permits.

More significantly, the bill would amend the Trade Act of 1974 to make an injury finding easier under Section 201. First, it would drop the requirement that imports be a “substantial cause” of serious injury (i.e., “not less than any other cause”) and instead require that imports be only a cause of injury, however insignificant. Second, the bill would detail the factors to be considered by the ITC to determine whether U.S. industry has suffered serious injury.

The Trade Fairness Act is the most subtle of all the current proposals, and thus the most dangerous. Its import-reporting regime, in addition to being an unfair burden that falls only on steel importers, has the potential to choke off beneficial steel trade through paperwork. The Section 201 amendments, however, are its most ominous provision. By making 201 cases much easier for petitioners to win, this bill threatens to open the floodgates of protectionism in the future. It is clearly a step in the wrong direction.

4) Voluntary Export Restraints. The administration is attempting to jawbone foreign governments - especially Japan - into reducing steel exports “voluntarily.” Of course, a VER is in reality an informal quota that is hardly voluntary. Like all quotas, VERs distort the economy and reduce national welfare. The Institute for International Economics has estimated that steel quotas in the 1980s imposed a net loss on the U.S. economy of $6.8 billion a year.

Conclusion

Unfortunately, changes in steel prices are invisible to ordinary Americans. Those changes show up, eventually, in the price of an automobile, or a plane ticket, or rental space in an office building - but the causal connections are complex and subtle. The effect of a tax on foreign steel just doesn’t show up in the average family’s budget in any direct or immediate way. As a result, steel producers are free to equate their interest with the national interest without generating much in the way of grass-roots opposition.

The campaign for steel protectionism thus highlights a classic problem of political economy known as concentrated benefits and dispersed costs. The benefits of restrictions on foreign steel are concentrated in the relatively small steel-producing sector, while the costs are dispersed throughout the entire economy. Steel producers therefore have a very clear and powerful incentive to lobby for protectionism, while most of the rest of us who stand to lose don’t have a big enough or clear enough stake to oppose them with any vigor.

Worldwide economic developments have combined to produce conditions that at present are unfavorable for U.S. steel producers and favorable for American steel users. In such a circumstance, it is not the business of the U.S. government to intervene in the marketplace and favor one U.S. industry at the expense of other U.S. industries. In particular, it makes no sense to penalize the industries that in terms of employment and value-added are of much greater significance to the overall national economy. So if you think an import tax to help out the oil companies sounds like a bad idea, you ought to come to the same conclusion about steel protectionism. Just because the costs are better hidden doesn’t mean they’re not there.

The federal government should not use its power to favor one industry over another, or to confer special benefits on a small but vocal segment of producers at the expense of the nation’s general welfare. Congress should reject calls for steel protection and reform the antidumping law to prevent future abuse.