Trade Policy

January 5, 2021 12:06PM

American Pharmaceutical Resilience

Shortly after the COVID-19 outbreak began last year, numerous politicians and pundits proclaimed that the pandemic revealed massive vulnerabilities in global supply chains for essential medical goods — vulnerabilities that imperiled Americans’ health and national security and therefore necessitated major government interventions (read: subsidies and protectionism) to bolster U.S. supply chain “resiliency.” Pharmaceuticals, in particular, topped the list of medical goods that required government action, and the alleged threat to American pharmaceutical access — supposedly dependent on China and India — was so dire that the Trump administration fast‐​tracked hundreds of millions of dollars in federal support to domestic producers of drugs and raw materials in order to “reduce reliance on other countries for drugs.”

At the time, I and others noted repeatedly that, while there were some gaps in the public data, the information we had on U.S. pharmaceutical production, R&D, and trade did not indicate a forthcoming pharmaceutical crisis. Now, the nonpartisan United States International Trade Commission has provided additional data in a massive new report on “U.S. industries producing COVID-19 related goods and the supply chain challenges and constraints that impacted the availability of such goods,” which for the most part confirms that our skepticism was warranted.

The report overall reveals a far more complicated and benign picture of the medical goods situation in the United States — one characterized by unprecedented supply and demand shocks, as well as substantial domestic resources (especially for pharmaceuticals, medical devices, and N95 masks), quickly‐​adapting domestic and international supply chains, and beneficial global specialization and cooperation. It’s a great resource for those interested in manufacturing issues, and should help to inform the broader debate in Washington about the pandemic, supply chain resiliency, and national security.

The report also should temper specific concerns about the pharmaceutical supply chain, which the USITC finds worked quite well during the once‐​in‐​a‐​generation pandemic due in part to its globalized business model (emphasis mine):

The United States has a large, geographically diverse pharmaceutical industry with established supply chains that proved resilient during the first half of 2020. The flexibility and number of manufacturing sites inherent in the global footprint of the pharmaceutical sector allowed firms to respond relatively quickly to demand and deliver additional medicines to aid in the response to the pandemic… The U.S. industry, which comprises companies ranging from large multinational firms to small and medium‐​sized firms (SMEs), was operating at almost full capacity in the second quarter of 2020 to meet demand. These supplies were delivered via the existing wholesale distribution network.…

The Commission’s report also details the immense size and scope of the U.S. pharmaceutical industry (which has supposedly shriveled due to globalization) — nearly 5,000 establishments spanning numerous states and all stages of production (upstream, downstream, and “fill and finish”); increasing shipments that reached $268.7 billion in 2019; and an expanding workforce that hit 310,000 workers in early 2020. The report further notes that U.S. manufacturers responded to the pandemic by substantially increasing pharmaceutical shipments (even while bringing new COVID-19 products to the market) because they maintained their own “emergency plans” to utilize significant available inventories, different production sites, or contract manufacturers. Finally, the USITC report shows that some of the industry’s resilience has stemmed from its diverse foreign sourcing of raw materials and finished products, while noting that China and India are significant (but not dominant) suppliers — essentially confirming my analysis of the import data earlier this year.

For those (like me) who have been fascinated by the COVID-19 vaccine rollout in the United States, the USITC’s conclusions about the pharmaceutical supply chain’s resilience during the pandemic shouldn’t come as much of a surprise: Pfizer, for example, utilized its existing U.S. manufacturing capacity, as well as other domestic and international resources (not to mention lots of immigrants), to test and produce millions of vaccine doses with unprecedented speed. Moderna, meanwhile, has relied on smaller in‐​house facilities and a partnership with a large Swiss pharmaceutical manufacturer, which has production sites in the United States and Switzerland. As a result of these and other multinational efforts, the vaccine bottlenecks we’re now experiencing have been related to government distribution, not private sector production, of finished doses. (Lessons abound.)

Still, the USITC report has a wealth of new data and is especially welcome given the incoming Biden administration’s plans to “rebuild” American pharmaceutical supply chains through top‐​down mandates like the Defense Production Act. Surely, the pandemic has put real strains on Americans’ access to essential medical goods as demand skyrocketed and supply raced to catch up, and it’d be good for the country to get a better handle on the virus and vaccine distribution. But the pharmaceutical supply chains themselves have fared pretty well so far, and there’s little evidence that government could improve them.

December 31, 2020 12:29PM

Market Allocation Would Treat COVID-19 Vaccines Like the Valuable Resource They Are

News reports indicate that COVID-19 vaccinations in the United States are happening more slowly than officials promised and in comparison to other countries. Some health care providers are racing — and some are failing — to administer their stock vaccines before they expire. In one case, more than 500 doses spoiled when an employee removed them from a freezer, allegedly on purpose.

These episodes highlight just some of problems inherent to using government rationing rather than market prices to distribute vaccines.

If manufacturers and retailers could charge, and consumers could pay, whatever they like, distribution of COVID-19 vaccines likely would be more rapid than today and likely none of the existing stock would expire.

Photo by Hakan Nural on Unsplash

Anecdotal reports indicate that some consumers are willing to pay $25,000 to receive the vaccine. If retailers could make thousands or even hundreds of dollars in profit from every dose they sell, they would have the incentive and the ability to invest greater resources in securing the vaccines and distributing them quickly. They would take greater steps to protect the vaccines from sabotage by deranged employees. (The law could also do so, if penalties for destroying the vaccines rose with the market valuation of each dose.) They would hire more personnel (e.g., nurses) at higher‐​than‐​usual wages to organize distribution and/​or to administer the vaccines. They could even train more personnel to administer vaccines — and form a lobby to demand that states suspend government regulations that prevent them from doing so.

If manufacturers could make thousands or even hundreds of dollars in profit from every dose they sell, they would have greater incentive and ability to expand production and produce more vaccines faster.

Would market prices guarantee that vaccines would go to the highest‐​value recipients first? Not at all. But market allocation doesn’t have to be perfect. It just has to outperform the alternative of government rationing.

In an earlier post on government vs. market distribution of COVID-19 vaccines, I wrote, “If the government could allocate vaccines in a way that gets more of them to the highest‐​value recipients than market forces would,” then government distribution would be defensible. But, “To improve on market forces, government must actually know who the highest‐​value recipients are[,] actually be able to allocate vaccines on that basis, [and] not detract from whatever good market forces would do on their own, or…diminish the incentives for pharmaceutical companies to boost production.” That does not appear to be happening.

Government rationing is detracting from the good that market forces would do, and slowing the distribution of COVID-19 vaccines, by diminishing the incentives for speed and security on the part of manufacturers and retailers. In many cases, it is resulting in low‐​value recipients receiving vaccinations before high‐​valued recipients do. It is diminishing the incentives for manufacturers to accelerate production. And in some, cases it is costing lives by allowing vaccines to spoil.

December 29, 2020 9:26AM

Creaking Jones Act Ships Turn to Chinese Shipyards for Maintenance Needs

Jones Act supporters, including the owners of ships operating in the domestic fleet, often claim the law is necessary to thwart China’s maritime ambitions. But it’s unclear how many of them actually believe such rhetoric. Despite professed concerns about China and the need to avoid foreign reliance for U.S. maritime needs, Jones Act shipping companies regularly make use of shipyards outside the United States for repairs, maintenance, and upgrades of their vessels. Including facilities in China.

No operator of Jones Act ships is a more enthusiastic patron of Chinese dry docks than shipping firm Matson, whose vessels have paid more than 50 visits to the state‐​owned COSCO (China Ocean and Shipping Company) shipyard in Nantong for needed work. Indeed, Matson has been such a loyal customer that COSCO hosted senior executives from the U.S. firm last year to celebrate the two companies’ 20‐​year relationship.

And Matson isn’t alone. A vessel owned by Jones Act shipping firm Pasha Hawaii, the Horizon Spirit, recently departed Nantong after nearly 50 days in a local shipyard, suggesting its stay was for more than a mere paint job.

According to maritime attorney Wayne Parker, who served for nearly eight years as in‐​house counsel to Matson and now‐​defunct Horizon Lines, “I never heard of any of our Jones Act‐​qualified container vessels being dry‐​docked, surveyed, or undergoing routine maintenance in U.S. shipyards. This was always done in foreign, usually mainland Chinese, shipyards.”

Although there is nothing objectionable about this from a free trade perspective, the irony and hypocrisy are inescapable. Both Matson and Pasha Hawaii have board of directors positions with the American Maritime Partnership, a leading Jones Act lobbying and advocacy group that frequently asserts the 100‐​year‐​old law serves as a bulwark against China. Yet these same Jones Act companies regularly send ships to the country to save on repair and maintenance costs.

Incredibly, the Jones Act actually helps keep Chinese repair yards humming. While ships plying the world’s oceans are typically scrapped at 15–20 years of age, Jones Act vessels—thanks to a U.S.-build requirement that dramatically raises the cost of buying new ships—are often kept in service until age 40 or beyond. An old fleet means more maintenance—and more business for Chinese shipyards. 

Let’s review what’s going on here. By massively increasing vessel replacement costs through its U.S.-build mandate, the Jones Act promotes the use of older ships requiring more maintenance. Some of this maintenance is then hypocritically performed in Chinese state‐​owned shipyards, a portion of the cost savings from which is then spent on lobbying and advocacy work urging the Jones Act’s retention as a vital tool against China.

You can’t make this up.

Beyond the rankling hypocrisy, this use of Chinese shipyards further illustrates the gaping chasm between the Jones Act’s intended results and reality. The Jones Act has not fostered a vibrant domestic maritime industry or freed the United States from foreign reliance to meet its maritime needs. What it has produced is economic harm, a domestic fleet insufficient to meet U.S. national security needs, and shipyards so uncompetitive that vessels are dispatched to the far side of the Pacific Ocean for repair and maintenance.

This is a case study in the failure of protectionism, and one that should no longer be tolerated.

December 28, 2020 9:37AM

Will the Post‐​Brexit EU-UK Trade Agreement Limit Regulatory Competition?

On Christmas day, the EU and UK released the text of their new Trade and Cooperation Agreement. It still needs to be cleaned up by having the lawyers go over each word with a fine‐​toothed comb, but with this agreement, the post‐​Brexit trade relationship between the EU and UK is now mostly spelled out.

There’s a lot to digest in this text, and I won’t try to do it all in this one blog post. Instead, I want to focus on one particular point that has received a good deal of attention: The “level playing field” relating to regulation in the EU and UK. In a nutshell, the level playing field is about concerns from the EU that the UK will use its newfound regulatory independence to lessen its regulation of various sectors of the economy so as to give UK producers a competitive advantage over their European counterparts. (To be clear, under the rules as written, things could go the other direction too — the UK could be upset about EU regulations).

Are such changes to UK regulation likely to happen? I really have no idea, and British politicians probably don’t know yet either. I hear talk from some Brits about deregulating and I hear talk from other Brits about ratcheting up regulations. I’m not sure which way this is all headed.

But now we know what the EU-UK trade agreement says about the possibility of regulatory changes, and the level playing field parts are a little worrying. I put forward some specific comments and questions on the level playing field provisions here, but to offer a broader take, I would say the following. On paper, what these provisions do is let one party to the agreement impose “rebalancing measures” whenever the other party “regresses” in the following policy areas: “labour and social, environmental or climate protection, or with respect to subsidy control.” So, as a simple example, if the UK were to ease up on environmental regulations in its auto industry (not that I think they are planning to), the EU could impose tariffs — which are one possible rebalancing measure — in response.

Now, it’s not actually as simple as that, because there’s a whole set of criteria to satisfy before tariffs can be imposed. For example, there must be “material impacts on trade or investment between the Parties” that “aris[e] as a result of significant divergences between the Parties in the [policy] areas”; and the rebalancing measures must be “restricted with respect to their scope and duration to what is strictly necessary and proportionate in order to remedy the situation.” I expect that some sort of domestic procedure will be set up for the EU and UK governments to make a determination that these criteria are met. In addition, if a rebalancing measure is proposed, the party that will be subject to that measure can challenge it before a neutral tribunal, arguing that the criteria for imposing it have not been met. For these reasons, in practice it may not be all that easy to impose these measures, and if that’s the case, there won’t be much impact on a government’s regulatory decisions.

Nevertheless, this agreement goes further than any other trade agreement I’ve seen in providing for what look like “trade remedies” for situations where one party changes its regulations in a way that the other party considers to be less strict and somehow unfair. Recall that “trade remedies” typically refers to anti‐​dumping, countervailing duties, and safeguards, which permit the use of extraordinary tariffs under certain conditions. In a sense, the level playing field provisions look like a new category of trade remedies. Given the abuse we have seen with trade remedies over the years, we should be concerned about what might happen here.

It was always risky to go too far with including issues related to regulation in trade agreements. The more you do with regulation there, the harder it gets to control what happens. In some areas, today’s trade agreements require stricter domestic regulations (intellectual property is a good example); in others, they impose constraints on regulations (such as the requirement in most U.S. trade agreements that food safety standards be based on science). Here, we had a situation where there were concerns from the EU over UK intentions about loosening regulations. As a political matter, the level playing field provisions helped smooth the issue over and get this deal done in the specific context of the EU-UK situation.

Now, as I noted above, it may turn out that the provisions don’t have much impact. They are untested and it’s unclear how they will be applied. But it’s also possible that they could serve as an impediment to governments who want to revisit regulations that they believe are not serving their purpose or are excessively burdensome. It’s a mistake to see regulations as a one way ratchet, with more somehow always better. And it’s a mistake to think there is only one appropriate way to regulate, with any deviation considered problematic somehow. If that’s how these level playing field provisions operate in practice, they should not be replicated in future agreements.

December 28, 2020 9:32AM

My 2021 Trade Policy Wish List

If I had to choose a word to describe the trade landscape in 2020, a strong candidate would have to be disruption. The first three quarters of the year witnessed an 8.2 percent drop in the volume of world merchandise trade, compared to last year, and it is still unclear if there will be a deeper plunge as the year draws to a close. But this downward trend, while rapidly accelerated by the pandemic, had already begun in 2019 due to increasing global trade tension. In fact, the World Trade Organization (WTO) estimated a 0.1 percent drop in merchandise trade volume in 2019, with the dollar value of world merchandise exports falling by 3 percent, to the tune of $18.89 trillion USD. While it will take time for us to recover, I offer five practical ideas for trade policy in 2021 that can help ease the economic burden on Americans, repair our fraught relationship with our closest trading partners, and revitalize the rules-based trading system.

Rein in executive authority on trade policy

In just one term, the Trump administration has been responsible for nearly a quarter of all Section 232 investigations initiated since 1962. This statute has allowed him to levy tariffs in the name of national security—such as on steel and aluminum products from our allies. The administration has threatened action on automobile imports as well—as if importing cars is a national security threat. These actions have been overtly protectionist, encouraged cronyism through a lack of transparency, and hurt our economy. Economists Lydia Cox and Kadee Russ estimate that by mid-2019, the rise in input costs due to the Section 232 tariffs led to 75,000 fewer jobs in U.S. manufacturing. As my colleague Scott Lincicome and I argue in a forthcoming paper, the tariffs imposed under Section 232 should be rescinded, and the law reformed to rein in future abuse of presidential power.

But Section 232 is not the only executive branch trade issue. Long before Section 232 became the talk of the town, antidumping policy had been abused, and it has only gotten worse in recent years. As my colleague Dan Ikenson explains, U.S. antidumping laws have “become a commercial weapon used by U.S. companies against other U.S. companies” and “a convenient channel through which domestic firms can saddle their competition (both foreign and domestic) with higher costs and their customers with fewer alternative sources while giving themselves room to raise their own prices, reap higher profits, and reinforce their market power.” It is an issue that is ripe for reform.

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December 21, 2020 12:35PM

Will Mexico’s “Kill Switch” Run Afoul of USMCA Digital Trade Rules?

By Inu Manak and Alfredo Carrillo Obregon

A controversial proposal to block foreign providers of digital services from offering their services in Mexico if they fail to comply with Mexico’s digital tax rules has just been signed into law. The scope of the law is broad enough to encompass a whole host of digital services that individuals and businesses consume everyday—from streaming and dating services to online shopping, and virtually anything that exists in the cloud. The economic costs could also be severe—for example, blocking access to YouTube for a single day would cost the economy $18 million USD. As the world pulls itself up from the economic shock of COVID-19, Mexico’s latest action has the potential to dampen recovery efforts, and also to further strain U.S.-Mexico relations.

On December 8, 2020, President Andrés Manuel López Obrador approved the law despite numerous concerns raised about whether the new measure is in breach of Mexico’s obligations under the U.S-Mexico-Canada Agreement (USMCA). His action marks an open provocation of U.S. business interests, as well as Mexican consumers of foreign digital services. Taking a look at the content of the law, it becomes clear that this issue should be high on the incoming U.S. Trade Representative’s agenda, for it is likely to not only violate the USMCA, but also many core principles of digital trade governance the United States is hoping to replicate in other agreements.

Why does Mexico want the power to block foreign service providers from providing services in Mexico over the internet?

Mexico enacted changes to its value-added and income tax laws as part of the FY2020 budget proposal, which resulted in certain non-resident (foreign) digital service providers becoming liable for paying its value added tax (VAT). In some cases, platforms such as Airbnb would also have to withhold and surrender income taxes. Digital service providers must also comply with a series of administrative requirements, including registering with the Mexican Tax Administration Service (SAT), designating a legal representative and address on Mexican soil, and processing their advanced electronic signature. Since these changes went into effect on June 1, 2020, 48 foreign digital service providers have obtained registry under the SAT.

When these new rules were first proposed in October 2019, the Ministry of Finance began floating what is referred to as the “kill switch” mechanism, a tax enforcement tool that would essentially block Mexican consumers from having online access to digital services from a company that is purported to not be in compliance with Mexican law. For example, say YouTube was not in compliance with the law—the kill switch would allow the Mexican tax authorities to order YouTube to be blocked—if someone in Mexico tried to access the site on her internet browser, the site could not be viewed.

The Ministry of Finance proposed the kill switch as an enforcement tool because it argued that the new tax obligations would not be effective in achieving compliance with the laws on their own. But the mechanism was ultimately struck from the proposed reforms to Mexico’s tax laws, following amendments submitted by deputies from multiple parties. The issue seemed resolved for the time being.

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December 18, 2020 10:53AM

Some Comments on a NY Times Op‐​Ed on the WTO

Yesterday, Farah Stockman of the NY Times editorial board published an op‐​ed on the World Trade Organization entitled “The W.T.O. Is Having a Midlife Crisis.” The WTO is only 25 years old, so I’m not sure “midlife crisis” is accurate, but what really concerns me is the various errors and mischaracterizations throughout the piece. I thought it was worth offering some corrections. Here goes.

The first issue I have is that the piece seems to suggest that “the WTO” itself has a great deal of power. For example, the piece states: “When the W.T.O. was created in 1995 to write the rule book for international trade” (emphasis added); or “The W.T.O. wasn’t just powerful. It was ambitious”; or “People began to complain that the W.T.O. just wasn’t up to the task of regulating the world economy” (emphasis added). I’m not sure what the author had in mind exactly, but these statements could be taken to mean that the WTO’s Director‐​General, or the 625 staff who work in the WTO Secretariat (which I did many years ago), have much more power than they actually do (it’s worth noting that 625 is a pretty small number of employees compared to, say, the World Bank). In reality, virtually all the power over WTO rules is in the hands of the governments who are members of the WTO. Thus, generally speaking, it’s misleading to say “the WTO” did this or did that. The key decisions are made collectively by governments: Governments write the rules, and governments complain when they think other governments are not complying with the rules. And it is certainly not the case that “the WTO” is tasked with “regulating the world economy.” Again, it’s the governments who are in charge here. (The one exception to all this is rulings by WTO dispute settlement bodies, which are discussed a bit below, but keep in mind that these rulings cannot actually force governments to comply. The most they can do is provide authorization for the complaining government to withdraw some of its own trade “concessions,” in order to rebalance the overall trade negotiating bargain and provide an incentive to comply.)

There are also problems in the piece related to mythology about 1990s capitalism. In the 1990s, the piece states, “The United States, the world’s sole superpower, embraced an almost messianic belief in the ability of unfettered capitalism to improve lives around the world.” It is certainly true that many people were pretty high on capitalism in the 1990s, given the experiences with socialism around the world, but capitalism was hardly “unfettered” and the U.S. government was certainly not “messianic” about it at this time. Debates about deregulation and privatization have a real impact, and at times various governments move back and forth on the continuum a bit, in one direction or the other. But regardless of any marginal successes we on the free market side have had, we have never come close to making capitalism “unfettered.” There are plenty of fetters still in place. And the U.S. government was always pretty practical in its approach, advocating for and using subsidies and trade restrictions in areas where it wanted to impose them.

The piece also makes a common error by attributing rules to the WTO that it doesn’t have: “Americans pushed more than 100 nations to join together to create a strong international body to remove barriers to international trade and protect investors” (emphasis added). I’ve been as critical of international rules on protections for foreign investors as anyone, but the WTO, unlike many other trade agreements, does not have such rules. And just to be clear, on trade barriers in general, WTO rules expressly allows governments to maintain plenty of tariffs, subsidies, and product regulations. We are not talking about anything close to total free trade or a single world market here.

Then there are mistakes about how the rules have been applied in WTO disputes, such as this statement: “The W.T.O. has ordered countries to gut programs that encouraged renewable energy and laws that protected workers from unfair foreign competition, as if international commerce were more important than climate change and workers’ rights.”

When the WTO dispute settlement system has heard complaints that particular renewable energy programs violate WTO obligations, it has offered very narrow rulings, not a “gutting.” The violation was not because WTO rules prohibit governments from encouraging renewable energy – they most certainly can and do! Rather, it was because these programs discriminated against foreign companies in favor of domestic companies. There’s a pretty strong argument that an approach using nationality‐​based discrimination is actually bad for renewable energy, because it makes the industry less efficient and the energy more expensive (both at home and in foreign countries, if they copy the approach). And just to be clear, the “unfair foreign competition” at issue in WTO disputes does not directly address workers’ rights. Rather, it is about the so‐​called “trade remedies” — anti‐​dumping, countervailing duties, and safeguards. These laws protect domestic industries from foreign competition, but do not involve labor protections.

Also on WTO disputes, the piece says this: “The W.T.O.’s decision‐​making looked even more questionable after the body turned a blind eye to China’s bad behavior. Its judges ruled against government subsidies for locally produced solar panels in the United States and India, on the grounds that they were unfair to foreign producers. But a smorgasbord of subsidies in China were deemed no problem at all.” To be clear, the rulings on solar panel subsidies did not say you can’t subsidize solar panels; they just said that you can’t offer the subsidies in a way that discriminates against foreign producers. And the subsidies provided by China were not “deemed no problem at all.” Rather, the ruling was that the way the U.S. Department of Commerce calculated the subsidies was in violation of WTO rules. (It’s worth noting here that when governments have brought WTO complaints against China directly, they have been fairly successful.)

Along the same lines, the piece argues as follows: “The world has a historic opportunity to change the direction of international trade rules and carve out more space for countries to experiment with solutions to climate change and income inequality. Countries around the world could use economic stimulus funding to make strategic investments in green energy with subsidies. That’s what Mr. Biden’s Build Back Better plan is all about. But so much of the plan — from subsidies for green energy infrastructure to strong “Buy American” provisions — risks running afoul of W.T.O. rules.”

Putting aside the merits of these policies, when you look closely at WTO rules and their exceptions, it is clear that there is plenty of space “to experiment with solutions to climate change and income inequality.” Where governments get in trouble is when they add protectionist elements to their experimenting. For example, if you want to offer subsidies to consumers to buy an electric car, you will not be in violation of WTO rules. On the other hand, if you offer the subsidies to consumers who buy domestically‐​produced electric cars only, you will probably be in violation. But that finding of violation may actually be useful if your goal is to convince people to buy electric cars, because it means more choices and lower prices for electric car consumers. Adding protectionism to environmental regulations can make these regulations less effective for achieving their objective.

Finally, the piece also throws in this assertion, although it’s not clear how it fits with an op‐​ed on the WTO: “Investment banks pushed for financial deregulation around the world, rolling back laws like Glass‐​Steagall, which kept Wall Street from recklessly gambling away pension funds.” It may be true that investment banks pushed for this, but I’m not sure what that has to do with the WTO. Financial deregulation came about through domestic political efforts, rather than in response to any rules governments negotiated at the WTO.

It’s not necessarily worth a takedown of every piece that gets things wrong, but this one was in the NY Times and therefore I thought some clarifications might be in order. There are plenty of good criticisms to make of the WTO, and I and others make them all the time (e.g., WTO dispute settlement is too slow to be effective, something that the piece notes briefly, but which gets lost amidst all the errors). This piece was a missed opportunity in that regard.