Government Intervention in the Steel Industry

The Bush administration announced the imposition of sweeping tariffs of up to 30% on steel imports to the United States for a period of 3 years in March 2002 purportedly to save the ailing steel industry from collapsing. Predictably, the action has invited particularly harsh criticism from the U.S. trade partners that have been directly affected by the tax, i.e., the European Union, Japan, and China. Domestically too, the proponents of a free market economy have been no less critical of the measure, although the U.S. steel industry, in general, has welcomed the move.

This research report will focus on various aspects of the U.S. government’s imposition of steel tariffs. It will discuss the benefits and costs of tariffs in general, and include a history of government’s support of the U.S. steel industry, details of the steel tariff 2002, why it was imposed, and its repercussions, both negative and positive. The paper will also describe the reaction of different countries including the European Union and the Asian countries to the imposition of the tariff, how they would be affected by the tariff, and what counter measures they have taken or can take in retaliation. The long and short-term economic and political impacts of the measure, both at the internationally and domestic levels, will also be explored. This includes the ramifications of such protective tariffs on international trade and on the campaign for globalization and free market economy led by the United States. The views of the World Trade Organization (WTO) on the U.S. move are also discussed.

What are Tariffs?

Tariff, in general, is a tax levied by a government on imports and exports. It is also known as custom duty and in many countries it is a major source of revenue for governments. At times, tariffs are also used as a political and economic policy for the protection of domestic economies and industries against foreign competition by making imported goods costlier than their domestic counterparts.

Reducing Trade Barriers

In the United States, tariffs (import duties) constituted the biggest source of federal revenue until 1913, but account for only a small proportion now. Trade barriers between countries have been reduced significantly after the World War II resulting in significant expansion in world trade. The General Agreement on Tariffs and Trade (GATT) and its successor organization, the World Trade Organization (WTO) as well as custom unions such as the European Union (EU) have been instrumental in reducing tariffs.

Benefits and Costs of Tariffs

Advantages of Low tariffs

The benefits of free trade (and conversely, the disadvantages of tariffs and trade barriers) were first demonstrated by Adam Smith in his monumental work The Wealth of Nations (1776). Smith showed how specialization works to the benefit of both the domestic as well as international trade. The theory is that if individuals (as well as countries) engage in trades and activities in which they are good at and exchange the goods and services thus produced, everyone will be better off.

This concept of increasing wealth by producing goods in which a country has a comparative advantage was later developed by nineteenth century economist, David Ricardo and the famous economist and philosophers John Stuart Mill. These theories have since been practiced by numerous societies and countries to their benefit. The United States, for example, was created to benefit from the mutual strengths of each state. It soon became the richest country in the world by free unrestricted trade between the states of the country. The same benefits of free trade apply when it is practiced among countries.

Decrease in Consumer Prices

Tariff is essentially a consumption tax. When imposed, it adds to the price a consumer pays for a product. Absence of such a tax is of direct benefit to the consumers as they get a commodity or service for the cheapest price produced in another country. This also compels the local industry to improve in order to compete. A pertinent example is the U.S. automobile industry that was forced to drastically improve quality and become more efficient when faced by intense competition from Japanese auto makers in the seventies. In turn the Japanese import their food requirements from cheaper sources like the U.S. In return for their automobiles and electronic goods. The result — both economies benefit.

Economic Growth

Absence of tariffs (or low tariffs) give a wide choice of inputs to businesses which results in improved efficiency, greater innovation, and increased transfer of technology leading to higher growth. Recent real life examples of the dramatic benefits of free trade and reduced tariffs abound. Numerous studies have indicated a direct co-relation between free trade and the growth rates of countries. Economies of Asian ‘tiger’ countries such as Korea, Singapore, Taiwan, and Thailand that followed policies of low tariffs and few trade barriers in the 1990s experienced very high growth rates. Other economies such as India, and Cuba that put up high tariff regimes and protective barriers during the same period, stagnated. One particular statistical study of 70 countries indicates that a 10% increase in tariffs on capital goods would cause the gross domestic product (GDP) to grow by 0.2% less each year.

Other such studies have found a significant co-relation between increase in imports and exports of a country to an increase in its per capita income, which helps reduce poverty. This has been dramatically demonstrated in case of China whose imports and exports leapt up from $21 billion to $441 billion from the time it adopted free trade policies by reducing tariffs in 1978 to 1998. Its per capita income increased by 8% per year during the same period.

Environment

One of the main criticisms of increased trade stimulated by lower tariffs is that it degrades the environment. This could be true to an extent in the initial stages of development of a poor economy. However, experience has consistently shown that a decrease in poverty increases awareness about the environment, and the country or society begins to demand improvement in the quality of their environment. Since these societies (and countries) are now richer than before, they can now afford to improve their environment too. Poverty, more than increased trade, affects environment negatively.

Benefits of Increased Tariffs

Since there are always two sides of a story, there are many advocates of high tariffs and critics of decreased trade barriers. Some of these arguments about the benefits of high tariffs are discussed below:

Infant industries

One of the oldest arguments in favor of high tariffs for protection of domestic industries, is the infant industry argument. The theory contends that when foreign competition is reduced or eliminated by high tariff barriers, the local industry has a chance to develop. After the industry has developed sufficiently, the tariff barriers could be removed. In practice, however, it has been seen that such protected industries never develop sufficiently to be able to stand on their own.

Protecting Employment

It is argued that high tariff protection is necessary to protect employment, especially in periods of recession. This could have a beneficial effect but invites retaliatory measures from other countries. It has also been seen that low tariffs and free trade results in reduced jobs in certain specific areas of the economy, but this is usually compensated by an increased employment in other areas.

National Defense

Another argument in favor of tariff protection is that in times of war and emergencies, dependence on foreign supplies could be disrupted; hence such industries that may be defense oriented should be protected through high tariffs. The argument against this policy is that it is difficult to identify such defense-oriented industries.

Balance of Trade

The protectionist economists argue that free trade results in higher imports and a relatively slower increase in exports giving rise to deficit financing. They cite the trillion-dollar debt incurred by the U.S. during the last few decades of free trade policies and reduced tariffs.

The U.S. Steel Tariffs

When President Bush announced tariffs of 30% on most imports of steel into U.S. In March 2002, it was not the first time that the United States’ government had interfered in the steel industry. Throughout the U.S. history, various administrations have granted benefits to the country’s steel and iron industry through high tariffs and government-sponsored cartels to keep the steel prices above the fair competitive levels.

History of U.S. Steel Tariffs

The first U.S. steel tariff was imposed as far back as 1789 when a 15% duty was imposed on imported nails, 3 times the duty on most other imported goods. Other Tariffs that followed in 1828, 1832, and 1861 — all had provisions for protecting iron and steel products. The influence of the U.S. Steel executives in the government grew after the American Civil War and they used that influence to keep the tariffs high and benefited through government sponsored cartels.

The Great Depression of the 1930s saw the next big push in tariff increase for the steel industry that rose up to 60% duties on certain steel products under the Smoot-Hawlet Tariff of 1930. This was followed by successful lobbying by the steel industry for steel cartels during President Roosevelt’s “New Deal” program.

During World War II, the government policy had turned in favor of labor unions and the U.S. steel industry quickly unionized to win government contracts. After the war, the industry continued to depend on a “trigger price policy” that automatically triggered import quotas whenever the price of imported steel fell below a certain level.

Over the last two centuries, the U.S. steel industry and its lobbyists have used all the arguments in the book, ranging from “infant industry” argument in the nineteenth century to a “senescent industry” argument (i.e., that the industry was old and creaky and “stuck” with outdated equipment) in the post World War II period.

The result of all these protective measures over the years was that the U.S. steel industry has failed to become economically efficient and has lacked innovation to remain competitive, as it has depended on government bailouts. It has also been a laggard in adopting new technology — the Bessemer process in the nineteenth century and the oxygenation process in the twentieth century. The March 2002 Steel Tariff is a green signal to the industry that it can carry on with its bad old ways.

Details of Latest Tariffs

The details of the extent of tariffs imposed on different categories of steel products in the March 2002 U.S. Steel Tariff announcement by President Bush are as follows:

30% tariff on imports of plate, hot-rolled sheet, cold-rolled sheet and coated sheet

30% tariff is to be imposed on imports of tin mill products

30% tariff on imports of hot-rolled bar and cold finished bar

15% tariff on imports of rebar

15% tariff on certain welded tubular products

13% tariff on imports of carbon and alloy fittings and flanges

15% tariff on imports of stainless steel bar

15% tariff on stainless steel rod

8% tariff on stainless steel wire

Imports of steel slabs are to be subject to a tariff rate quota (TRQ), with an in-quota volume of 5.4 million short tons and a 30% tariff on out-of-quota imports

Source: UNCTAD / WTO

Were the Tariffs High Enough?

The March 2002 U.S. tariffs were 10% lower than what the U.S. steel industry had demanded. (The industry had demanded a 40% tariff rate). There was also a demand of a $10 billion bailout for the pension, healthcare and life insurance costs that was not acceded to. However, the tariff of up to 30% on certain categories of steel was higher than those recommended by a majority of the International Trade Commission (ITC) — the body that under American law considers whether domestic industries need help to cope with foreign competition. Hence it is difficult to say whether the tariffs imposed were high enough or too low or of an optimum level. According to the government plan, the bailout is enough to enable the U.S. steel industry to turn around and come out of the present crisis in three years. If past history is an indicative of the future, this is highly unlikely.

Reasons for the Imposition of the Latest Steel Tariffs

The Decline in Steel Industry

The steel industries in the former major steel producers like the U.S.A., Japan, Britain and Germany have been in a slow but steady decline since the early seventies. Over capacity has just been one of the problems facing the industry. Total employment in the major steel producing countries that stood at 2.4 million in 1974 has declined to 900,000 in 2002.

Lower Production Costs

The collapse of the Soviet Union in the early 90s resulted in the emergence of six steel producing countries instead of just one, each having pressing reasons for exporting their product abroad at even cheap prices to earn precious foreign exchange. At the same time, China emerged as the world’s biggest steel producer and found the financial and corporate resources to export its steel to the world market. The bottom line, of course, is that production costs in some countries are less than in others. For example, while it costs $293 to produce a ton of hot rolled coil steel in the U.S., it costs just $212 in the former Soviet Union, and $185 in Brazil. Apart from the lower production costs, the Asian financial crisis of 1997 and the strengthening of the dollar, enabled steel producers from several countries to export steel to the United States at much cheaper prices than the U.S. Steel Industry was able to produce it.

Declining Prices & Legacy Costs

This drove the steel prices down and as shown in the graph below the prices were at ten-year lows in 2001. Thirty-two U.S. steel companies had filed for bankruptcy since 1997 and several others were in serious financial problems. Cheap imports, however, were not the only reason for the U.S. steel companies’ problems — the older integrated steel companies, in particular, are also hampered by legacy costs such as large pension and health care obligations to retired workers. “These obligations have increased the cost for integrated steel producers by anywhere from $20 to $45 per ton,” Thomas Watters, a director in Standard & Poor’s Metals and Mining Corporate Ratings group reports. Companies that have been particularly burdened by such costs include Pennsylvania-based United States Steel Corp. And Indiana-based National Steel Corp.

Cheap Imports: A Scapegoat?

After hearing all the arguments advanced by the U.S. steel industry about the flood of cheap imports and unfair dumping practices from foreign sources, one would expect a big surge in the import figures to the U.S. In the recent past. Surprisingly, this is not so. The U.S. steel imports during last year were 27.4 million tons, down from 34 million tons in 2000. Moreover, imports constitute just one-third of total U.S. steel consumption and its share has not risen (rather declined) in the last few years. This seems to indicate that cheap steel imports into the U.S. are more of a scapegoat rather than the primary reason for the steel industry’s malaise.

Why Tariffs instead of Subsidies?

The answer to this question is two-fold. The first reason is that, traditionally, the agricultural sector has been the beneficiary of subsidies from the government, while the industrial sector (including the steel industry) is supported through tariffs. Secondly, in the wake of increased military spending by the U.S. administration following 9/11, it can ill-afford to increase further spending by giving subsidies. Tariffs would actually increase the government revenues, with the burden being shifted to the consumers who will have to pay higher prices for steel products.

The Repercussions

The imposition of the latest U.S. steel tariffs has international as well as domestic repercussions.

Who Are Most Affected Internationally?

The countries that are likely to be most affected include China, Russia, the European Union, Japan, South Korea and Brazil. Members of the North American Free-Trade Area (NAFTA) — namely Canada and Mexico — remain exempt from the U.S. Steel Tariffs, as are member developing countries of World Trade Organization (WTO). However, Brazil, India, Moldova, Romania, Thailand, Turkey and Venezuela are not excluded from the tariff remedy for certain steel products although they are developing member countries of WTO. The EU, for example, exports 5% of its total production to the U.S. But is afraid that surplus production from Russia and some other Asian countries would find its way to the EU countries. It estimates $2 billion annual loss due to the U.S. tariffs.

China is presently the biggest producer of steel in the world and widely believed to subsidize its steel industry; hence one of the main countries at which the U.S. tariffs was directed. But the fact that it exports only 1% of its steel production to the U.S. means that the impact of the sanction on Chinese economy may not be substantial. There are other more serious implications of the tariff on the U.S.-China economic relations as the U.S. Trade Representative Robert Zoellick found out during a recent trip to China. When the Chinese were asked to open up their market to U.S. goods, they asked Mr. Zoellick: “why they should let in more American goods when the United States has slapped large tariffs on their steel.”

Domestic Effect

U.S. domestic industries such as the car industry, construction, electrical equipment, and heavy engineering are likely to be badly affected by the U.S. Steel Tariffs due to rising prices. Some estimates predict that the tariffs could cost the U.S. consumers $2 to 3 billion a year. In addition, the Consuming Industries Trade Action Coalition says the tariffs will cost more jobs in industries that use steel than they will save, although the U.S. Steel industry, naturally, denies this.

What Is the International Reaction?

Most of the U.S.’s trading partners including the EU, Japan, Korea, and China have lodged formal complaints with the WTO challenging the U.S. Steel Tariffs. The complainants are led by the EU (which feels that it has the most to lose from the U.S. sanctions).

What Can the WTO do?

WTO is the international trade watchdog and has the authority to make a ruling in such cases. It has admitted the complaints and agreed in June 2002 to launch a probe into whether the U.S. Steel Tariffs were legal. The United States had imposed the steel tariffs under a “safeguard” provision of WTO that permits its member countries to impose import restrictions to give temporary protection to an industry that has suffered serious injury as a result of a surge in imports. The WTO procedure calls for formation of an expert panel, which is required to give its ruling within six months, but provision for extended appeal hearings could mean that a final decision may not be forthcoming until end of next year.

The EU feels that it has a very strong case as, in its opinion, an earlier investigation by the U.S. International Trade Commission (which is the basis for President Bush’s decision to slap the steel tariffs) had failed to show that the U.S. Steel industry had suffered setbacks due to a surge in imports.

Tit-for-Tat Tariffs

Apart from the appeals lodged with WTO, the EU has threatened to impose tit-for-tat trade sanctions on the U.S. In retaliation. According to this plan, EU member countries are considering to impose 100% duties on goods worth about $335m, including tariffs on such U.S. exports as citrus fruit and textiles. According to WTO rules such retaliatory measures require its sanctions and the U.S. government feels that such “unilateral, pre-emptive measures” as threatened by the EU are against the international rules.

If these retaliatory tariffs come into effect, they would be a major set-back for the U.S. And both sides would be losers. The EU has set a July 19 deadline for a decision on its threatened sanctions.

U.S. Efforts for a Compromise

In the meantime, in order to head off the EU retaliatory measures, the U.S. is offering limited exemptions from the announced steel tariffs. Washington is also trying to break the EU’s united front by talking bilaterally to some of its closest European allies like Britain and Germany, offering exemptions for some of their high-end steel products.

It has been reported that out of 469 requests for exemptions since early June, 224 have been granted, representing about 700, 000 tons of imported steel (about six percent of the 13.1 million tons of imported steel hit by the new U.S. tariffs).

Politics Behind the Steel Tariffs

According to some analysts, President Bush’s support for the Steel Tariffs has more to do with politics than economics. It is even speculated that had Al Gore promised to impose steel tariffs during his presidential campaign, he would have got the five extra electoral votes he needed for victory by winning the “steel” state of West Virginia.

Such considerations as this year’s elections to the Congress as well as the next Presidential elections of 2004 must have played a crucial part in the President’s decision to impose the tariffs in March. The decision may have been crucial to his chances of retaining the states of Virginia and Ohio and winning Pennsylvania and Michigan in the next elections.

Conclusion

There are always at least two sides to a picture; hence there are arguments both for and against the imposition of the latest tariffs by the U.S. administration on steel imports into the country. However, after a careful study of the issue, it is not difficult to conclude that imposition of the Steel Tariffs was not a very wise decision. The side effects have mostly been far from positive. They range from the highly negative reaction of our trading partners, 20 to 30% price increases for domestic steel products, and most of all — the undermining of the U.S. efforts to get other countries to adopt free trade policies. All these “costs” hardly justify the “benefit” of pampering a highly inefficient industry. The full implications of the tariff imposition are not in yet: the final damage count may even be greater than anticipated.

References

Anderson, William L. “A History of Privileges.” (January, 1999). The Free Market. Retrieved on July 8, 2002 at http://www.mises.org/freemarket_detail.asp?control=43&sortorder=articledate

Anger over steel.” (March 6, 2002). From Economist.com Global Agenda. Retrieved on July 9, 2002 at http://www.economist.com/agenda/displayStory.cfm?Story_ID=1022220

Arnold, James. (March 6, 2002). “Steel Sector Stares into Abyss.” BBC News Online Business Report. Retrieved on July 8, 2002 at http://news.bbc.co.uk/hi/english/business/newsid_1857000/1857914.stm

Bartlett, Bruce. “Suffering Steel Tariff Side Effects.” (April 22, 2002). The Washington Times. Retrieved on July 9, 2002 at http://www.washtimes.com/commentary/20.htm

Buchanan, Michael. “Analysis: Politics of Steel.” (March 6, 2002). BBC News Online: Business. Retrieved on July 8, 2002 at http://news.bbc.co.uk/hi/english/world/americas/newsid_1857000/1857207.stm

Faux, Jeff. “The Case Against Free Trade” by Jeff Faux. Article in Encyclopedia Encarta, 2002.

Q&A: World Steel Dispute.” (March 5, 2002). BBC News Online: Business. Retrieved on July 8, 2002 at http://news.bbc.co.uk/hi/english/business/newsid_1856000/1856752.stm

Tariffs.” Article in Encyclopedia Encarta, 2002.

Taylor, Paul. (May 31, 2002). “U.S. Dangles Steel Tariff Exemptions as EU Seeks More.” Retrieved on July 10, 2002 at http://asia.news.yahoo.com/020531/reuters/asia-107700.html

U.S. Steel Tariffs: Who Gains, Who Loses, and at What Price?” (March 22, 2002). Standard & Poor’s Credit Ratings. Retrieved on July 8, 2002 at http://www.standardandpoors.com/Forum/RatingsCommentaries/CorporateFinance/Articles/031502_steel.html

Utterbeck, Meg. (April 1, 2002). “The New U.S. Steel Tariffs and Their Impact on Steel Consumers.” Construction Weblinks. Retrieved on July 10, 2002 at http://www.constructionweblinks.com/Resources/Industry_Reports__Newsletters/April_1_2002/steel_tarriffs.htm

Vogel, David. “The Case for Free Trade.” Article in Encyclopedia Encarta, 2002.

WTO Launches U.S. Steel Tariff Probe.” (June 3, 2002). BBC News Online: Business. Retrieved on July 10, 2002 at http://news.bbc.co.uk/hi/english/business/newsid_2022000/2022849.stm

Tariffs.” Article in Encyclopedia Encarta, 2002.

Vogel, David. “The Case for Free Trade.” Encyclopedia Encarta, 2002

Summarized from “The Case Against Free Trade” by Jeff Faux. Encyclopedia Encarta, 2002

Anderson, William L. (Jan 1999). “A History of Privileges.”

Anger over steel.” (March 6, 2002). From The Economist Global Agenda.

Arnold, James. (March 6, 2002). “Steel Sector Stares into Abyss.”

U.S. Steel Tariffs: Who Gains, Who Loses, and at What Price?” (March 22, 2002)

Arnold, James. (March 6, 2002). “Steel Sector Stares into Abyss.”

Utterbeck, Meg. (April 1, 2002). “The New U.S. Steel Tariffs and Their Impact on Steel Consumers.”

Bartlett, Bruce. (April 22, 2002). “Suffering Steel Tariff Side Effects.”

Q&A: World Steel Dispute.” (March 5, 2002)

WTO Lauches U.S. Steel Tariff Probe.” (June 3, 2002).

Taylor, Paul. (May 31, 2002). “U.S. Dangles Steel Tariff Exemptions..”

AFP news report (July 9, 2002).

Buchanan, Michael. (March 6, 2002). “Analysis: Politics of Steel.”

US Steel Tariffs