<DOC>
[106th Congress House Hearings]
[From the U.S. Government Printing Office via GPO Access]
[DOCID: f:64306.wais]
DEFENSE OFFSETS: ARE THEY TAKING AWAY OUR JOBS?
=======================================================================
HEARING
before the
SUBCOMMITTEE ON CRIMINAL JUSTICE,
DRUG POLICY, AND HUMAN RESOURCES
of the
COMMITTEE ON
GOVERNMENT REFORM
HOUSE OF REPRESENTATIVES
ONE HUNDRED SIXTH CONGRESS
FIRST SESSION
__________
JUNE 29, 1999
__________
Serial No. 106-114
__________
Printed for the use of the Committee on Government Reform
Available via the World Wide Web: http://www.gpo.gov/congress/house
http://www.house.gov/reform
______
U.S. GOVERNMENT PRINTING OFFICE
64-306 CC WASHINGTON : 2000
COMMITTEE ON GOVERNMENT REFORM
DAN BURTON, Indiana, Chairman
BENJAMIN A. GILMAN, New York HENRY A. WAXMAN, California
CONSTANCE A. MORELLA, Maryland TOM LANTOS, California
CHRISTOPHER SHAYS, Connecticut ROBERT E. WISE, Jr., West Virginia
ILEANA ROS-LEHTINEN, Florida MAJOR R. OWENS, New York
JOHN M. McHUGH, New York EDOLPHUS TOWNS, New York
STEPHEN HORN, California PAUL E. KANJORSKI, Pennsylvania
JOHN L. MICA, Florida PATSY T. MINK, Hawaii
THOMAS M. DAVIS, Virginia CAROLYN B. MALONEY, New York
DAVID M. McINTOSH, Indiana ELEANOR HOLMES NORTON, Washington,
MARK E. SOUDER, Indiana DC
JOE SCARBOROUGH, Florida CHAKA FATTAH, Pennsylvania
STEVEN C. LaTOURETTE, Ohio ELIJAH E. CUMMINGS, Maryland
MARSHALL ``MARK'' SANFORD, South DENNIS J. KUCINICH, Ohio
Carolina ROD R. BLAGOJEVICH, Illinois
BOB BARR, Georgia DANNY K. DAVIS, Illinois
DAN MILLER, Florida JOHN F. TIERNEY, Massachusetts
ASA HUTCHINSON, Arkansas JIM TURNER, Texas
LEE TERRY, Nebraska THOMAS H. ALLEN, Maine
JUDY BIGGERT, Illinois HAROLD E. FORD, Jr., Tennessee
GREG WALDEN, Oregon JANICE D. SCHAKOWSKY, Illinois
DOUG OSE, California ------
PAUL RYAN, Wisconsin BERNARD SANDERS, Vermont
HELEN CHENOWETH, Idaho (Independent)
DAVID VITTER, Louisiana
Kevin Binger, Staff Director
Daniel R. Moll, Deputy Staff Director
David A. Kass, Deputy Counsel and Parliamentarian
Carla J. Martin, Chief Clerk
Phil Schiliro, Minority Staff Director
------
Subcommittee on Criminal Justice, Drug Policy, and Human Resources
JOHN L. MICA, Florida, Chairman
BOB BARR, Georgia PATSY T. MINK, Hawaii
BENJAMIN A. GILMAN, New York EDOLPHUS TOWNS, New York
CHRISTOPHER SHAYS, Connecticut ELIJAH E. CUMMINGS, Maryland
ILEANA ROS-LEHTINEN, Florida DENNIS J. KUCINICH, Ohio
MARK E. SOUDER, Indiana ROD R. BLAGOJEVICH, Illinois
STEVEN C. LaTOURETTE, Ohio JOHN F. TIERNEY, Massachusetts
ASA HUTCHINSON, Arkansas JIM TURNER, Texas
DOUG OSE, California
Ex Officio
DAN BURTON, Indiana HENRY A. WAXMAN, California
Sharon Pinkerton, Deputy Staff Director
Mason Alinger, Professional Staff Member
Andrew Greeley, Clerk
David Rapallo, Minority Counsel
Micheal Yeager, Minority Counsel
C O N T E N T S
----------
Page
Hearing held on June 29, 1999.................................... 1
Statement of:
Feingold, Hon. Russell D., a U.S. Senator from the State of
Wisconsin.................................................. 67
Johnson, Joel, vice president, International, Aerospace
Industries International; Owen Herrnstadt, director,
International Affairs, International Association of
Machinists and Aerospace Workers; and Robert Scott,
International Economist, Economic Policy Institute......... 73
Majak, Roger, Assistant Secretary for Export Administration,
U.S. Department of Commerce; and Alfred Volkman, Deputy
Under Secretary of Defense for Commercial and International
Programs, U.S. Department of Defense....................... 157
Letters, statements, et cetera, submitted for the record by:
Feingold, Hon. Russell D., a U.S. Senator from the State of
Wisconsin, prepared statement of........................... 70
Herrnstadt, Owen, director, International Affairs,
International Association of Machinists and Aerospace
Workers, prepared statement of............................. 122
Johnson, Joel, vice president, International, Aerospace
Industries International, prepared statement of............ 76
Majak, Roger, Assistant Secretary for Export Administration,
U.S. Department of Commerce, prepared statement of......... 161
Mica, Hon. John L., a Representative in Congress from the
State of Florida, prepared statement of.................... 3
Scott, Robert, International Economist, Economic Policy
Institute, prepared statement of........................... 85
Tierney, Hon. John F., a Representative in Congress from the
State of Massachusetts:
Letter dated April 26, 1999.............................. 52
Minority staff report.................................... 7
Prepared statement of.................................... 61
Volkman, Alfred, Deputy Under Secretary of Defense for
Commercial and International Programs, U.S. Department of
Defense, prepared statement of............................. 172
DEFENSE OFFSETS: ARE THEY TAKING AWAY OUR JOBS?
----------
TUESDAY, JUNE 29, 1999
House of Representatives,
Subcommittee on Criminal Justice, Drug Policy, and
Human Resources,
Committee on Government Reform,
Washington, DC.
The subcommittee met, pursuant to notice, at 10 a.m., in
room 2154, Rayburn House Office Building, Hon. John L. Mica
(chairman of the subcommittee) presiding.
Present: Representatives Mica, Gilman, Hutchinson, Ose,
Kucinich, and Tierney.
Staff present: Sharon Pinkerton, deputy staff director;
Steve Dilingham, special counsel; Mason Alinger, professional
staff member; Andrew Greeley, clerk; David Rapallo and Michael
Yeager, minority counsels; and Jean Gosa, minority staff
assistant.
Mr. Mica. Good morning. We will call this meeting of the
House Criminal Justice, Drug Policy, and Human Resources
Subcommittee to order.
I will begin this morning with an opening statement and
then will yield. We have three panels today, we will recognize
them as soon as we finish our opening statements.
This morning the topic of our hearing is defense offsets,
are we giving away our jobs?
Over the past decade, both small and large businesses have
increasingly relied on international trade for growth and job
creation. International factors must be considered when
conducting business for almost every company, from Ford Motor
Co., with its roughly 350,000 employees worldwide, to a small
software company in my district in Florida.
Our focus today falls upon the U.S. aerospace industry, an
industry particularly affected by globalization. Companies like
McDonnell Douglas and Lockheed Martin have led the world in
technological advancements in the defense and aerospace
industries. Such companies have made it possible for the U.S.
aerospace industry to enjoy a trade surplus exceeding $40
billion while the overall U.S. economy faces a record trade
deficit approaching $300 billion.
Recently, the worldwide demand for both defense and
aerospace products has escalated. Many foreign governments are
now officially mandating offsets from U.S. companies to help
alleviate the impact on the foreign country's economy of
contracting out the business to the United States. Offsets can
range from foreign demands that an aerospace company produce at
least part of the product in the foreign country, to obligating
the aerospace company to purchase its office furniture from a
company in the foreign country.
Offsets have gained increasing attention in recent years
because of the controversial impact they may have on the U.S.
economy. More specifically, some labor interests charge that
defense offsets send American jobs overseas.
The argument has also been made that offsets adversely
affect industries completely unrelated to the defense and
aerospace industries.
While on a case-by-case basis, the aerospace industry might
agree that some smaller companies have been injured, they would
also argue that offsets help to keep alive an industry faced
with increasing international competition. By refusing to
negotiate offsets, U.S. companies run the risk of losing the
contracts to international competitors that are willing to
accept the offset requirements.
We are here today to listen to the concerns raised about
offsets in the defense and aerospace industries, and to
determine whether Congress should modify its policy of limited
involvement in offset agreements.
After reading today's testimony, it appears that none of
the witnesses champion the practice of offsets in foreign
military sales. Rather, the issue seems to be whether Congress
needs to change our current policy to protect against the
negative impacts of offset agreements or whether the benefits
of jobs created by the exports outweigh the losses to other
companies.
The panel of experts before us today will discuss whether
offsets adversely impact the U.S. economy, and, if so, what can
be done about it. Currently, the U.S. Government's role
regarding offsets is simply to monitor the offset agreements
and issue a yearly report. Also, when technology transfers are
involved, the necessary licenses are approved.
Several options have been suggested to help alleviate the
impact of offsets. We will hear some of those proposals today,
and also some of the difficulties in implementing those
proposals.
Are offsets detrimental to the U.S. economy? Are American
jobs being sent overseas? Should Congress modify the current
policy of limited involvement? I look forward to hearing from
the experts to help answer some of these questions.
[The prepared statement of Hon. John L. Mica follows:]
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Mr. Mica. At this time I am very pleased to recognize the
gentleman from Massachusetts, who requested this hearing, and I
was pleased to comply. I apologize for the delay. We have had a
couple of other national issues which take precedence, but I
thank him for his interest in the issue, and I would like to
recognize him at this time.
Mr. Tierney. Thank you, Chairman Mica. I thank you for
holding this hearing on defense offsets. You have shown a great
ability to lead in a bipartisan way by acceding to having this
hearing and participating in it.
I also want to thank Senator Feingold for taking the time
out to share with us his experiences in the defense offsets of
his home State of Wisconsin, and I thank our other
distinguished witnesses who will be joining us from the
administration, the defense industry and the labor community.
Most people are, in fact, not familiar with defense
offsets, how they work, why we have them and what they are
intended to do, although many businesses and employees are
impacted, and many are sometimes adversely impacted by their
use. This phenomenon takes place regardless of whether the
business or the worker is actually in the defense industry, as
you will see. For those people out there who are not familiar
with the topic, offsets are the conditions sought by foreign
governments in their negotiations for purchase of U.S. defense
equipment. More often than not, these stipulations require U.S.
manufacturers, as a condition of doing business with these
foreign governments, to transfer taxpayer-funded defense
technologies, in some instances to make direct investments in
foreign companies, to purchase foreign-made components or to
provide other forms of assistance. These offsets or sweeteners
range from direct offsets, such as exporting jobs overseas for
subsequent contracting, to indirect offsets, such as buying
furniture or some other product from foreign manufacturers at
higher prices than those offered by American companies.
I first became interested in defense offsets from listening
to small businesses and contract employees prior to my election
in 1996. In November 1997, a defense contractor located in my
district won a foreign military sales contract to produce 104
military fighter engines for the Korean KTX-2 Advanced Trainer/
Light-Fighter aircraft. This contract was well received locally
by me, the defense contractor, and the men and women who would
be doing the work. However, just a few weeks later, it was
related to me that the defense contractor revealed the other
side of the story to the work force. As a part of the offset
agreement, only the first 25 of the 104 engines would be fully
made in the United States. The next 10 engines would be made
with United States parts, but 100 percent of the engines would
be assembled, inspected and tested in Korea. The final 69
engines under the contract would consist of 70 percent United
States parts, 30 percent Korean parts, and would be completely
assembled, inspected and tested in Korea.
The euphoria quickly faded and turned to disappointment as
we learned these facts. People simply could not understand why
a defense contractor would allow this important engine work to
be performed abroad with foreign components and foreign
workers. But we know now that despite making the finest
military equipment in the world, U.S. defense contractors say
they are forced to make these offset deals with foreign
governments or else run the risk of losing the defense contract
to another foreign country that is willing to agree to such an
arrangement. As we looked into the issue, we learned that some
offset deals are more than 100 percent of the total contract
price.
To learn more about defense offsets, I requested the
minority staff of the Committee on Government Reform look into
these issues and offsets. The result was a report entitled
Foreign Offset Demands in Defense and Civil Aerospace
Transactions. Chairman Mica, at this time I would like to ask
unanimous consent that that report be entered into the record.
Mr. Mica. Without objection, so ordered.
[The information referred to follows:]
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Mr. Tierney. Thank you.
The report includes a number of findings and
recommendations. One finding was that the U.S. offset policy, a
policy now of noninvolvement, is weak. The report recommended
that the U.S. policy be strengthened by establishing a high-
level offsets commission composed of representatives of
government, affected industry sectors, labor, and academia to
review current offset policy and to propose a plan for the
reduction of the detrimental effects of offsets. I have made
available copies of the report.
In addition to the report, I was interested to learn the
views of the executive branch, including the agencies that are
part of the defense offset working groups. Toward that end I
wrote to President Clinton, Secretary of Defense William Cohen,
United States Trade Representative Charlene Barshefsky,
Secretary of Commerce William Daley and Secretary of the
Treasury Robert Rubin urging them to establish, as a primary
goal, international trade negotiations, the elimination of
offsets imposed by foreign governments on defense and civil
aerospace contractors.
From the responses that I received, it seems apparent that
there is no consensus in the executive branch on the adverse
effects of defense offsets. A representative from the
Department of Defense wrote to me that although we agree that
offsets are market-distorting, the net effect of offsets in
trade is unclear. A response from the Office of the U.S. Trade
Representative indicated that although these agreements have
led to increased foreign participation in the manufacture of
U.S. defense equipment, such as aircraft engines, they have
also led to the sale of U.S. equipment to foreign military
agencies that would not otherwise have been purchased.
Secretary Daley and a representative from the Department of
State wrote to me in support of a reduction in the distorting
influence of offsets on trade. Finally, a representative from
the White House informed me of efforts to reach a domestic
consensus on offsets.
Chairman Mica, I would like to request unanimous consent to
submit the agency responses to my letter.
Mr. Mica. Without objection, so ordered.
[The information referred to follows:]
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Mr. Tierney. Thank you. I also believe it would be useful
for the government to have more detailed information on the
particulars of offset agreements. Toward that end, I am pleased
that H.R. 973, the Security Assistance Act, which recently
passed the House, contains additional reporting requirements. I
know, in fact, that the Senator has also made an effort in the
Senate to have those reporting requirements put into law.
Section 204 contains additional reporting requirements on
offsets regarding government-to-government sales and commercial
sales. Specifically, if known on the date of transmittal of
such certification, a description of the offset agreement may
be included in the classified portion of such number
certification. Thus the information would remain confidential
and would not jeopardize American business interests. This is a
positive step toward an effort to obtain additional information
on the specifics of offset agreements.
Mr. Chairman, I strongly believe that we need a national
consensus on offsets and that we should have a firm national
offset policy that allows our defense contractors to sell their
equipment abroad, particularly to our allies, while at the same
time ensuring that American defense workers and small
businesses that do out-source work from these people in the
industry, the manufacturers, to allow them, some of the best
workers in the world, to make sure that they are not sacrificed
in the quest to make the sale and seal the deal.
Again, I want to thank you, Chairman Mica, for examining
further the issues of the offsets, and I want to commend you
and the staff of the subcommittee for holding this hearing
today. Thank you.
[The prepared statement of Hon. John F. Tierney follows:]
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Mr. Mica. I thank the gentleman from Massachusetts and am
pleased to proceed with our first panel. Our first panel
consists of our colleague and distinguished Senator Russell
Feingold from Wisconsin. I believe he is on the Budget, Foreign
Relations Committee, Judiciary and Special Aging Committee in
the Senate. We are so pleased to have you come across and
provide us with your testimony and comments on this important
issue. Welcome, and you are recognized, sir.
STATEMENT OF HON. RUSSELL D. FEINGOLD, A U.S. SENATOR FROM THE
STATE OF WISCONSIN
Senator Feingold. Thank you, Mr. Chairman, for holding this
hearing on the subject, and I want to thank Representative
Tierney for his interest on this subject and his efforts to
stimulate public discussion. He is so devoted to this, when he
and I were stuck on an airplane waiting on the runway for
several hours in Boston, he pursued this subject with me, and
we renewed our commitment to doing this, although I did not
make it to the vote that day. I stayed on the runway for quite
a few hours. I do admire very much how quickly the
Representative has become a major force on this issue, and I
thank him for asking me to be here today.
As you may know, I first became involved in the offsets
issue in February 1993, when I learned that a Wisconsin-based
company, the Beloit Corp., a subsidiary of Harnischfeger
Industries, Inc., had been negatively affected by an apparent
indirect offset arrangement between an aerospace contractor,
the Northrop Corp., and the Government of Finland. Beloit was
one of only three companies in the world that produce this
particular type of large papermaking machine. In its efforts to
sell one of these machines to the International Paper Co.,
Beloit became aware that Northrop had offered International
Paper an incentive payment to select, instead the machine
offered by a Finnish company, Valmet, not the Wisconsin
company. Northrop was promoting the purchase of the Valmet
machinery as part of an agreement that would provide dollar-
for-dollar offset credit on a deal with Finland to purchase 64
F-18 aircraft. This type of payment had the flavor of a
kickback, distorted the practice of free enterprise, and I
think, threatened U.S. jobs.
By lowering its bid, and thereby only barely breaking even
on the contract, to take into account the incentive payment
offered by Northrop, Beloit still did succeed in winning the
contract. Nevertheless, for me, the incident demonstrated the
potential for offset obligations to have an impact on
apparently unrelated domestic industries, as the chairman
mentioned. I became concerned that this could happen anywhere,
in any industry, in the future without being recognized, much
less remedied.
Mr. Chairman, one of the first things I did as a new Member
of the Senate in 1993 was to offer an amendment to the Arms
Export Control Act to prohibit incentive payments in the
provision of an offset credit. I wanted to clarify the
congressional disapproval of an activity that appeared to fall
through the cracks of various existing acts. Neither the Anti-
Kickback Act nor the Foreign Corrupt Practices Act seemed
clearly to address the payment being offered to International
Paper in the Beloit case. My provision, which was enacted into
law in 1994, prohibits the use of third-party incentive
payments to secure offset agreements in any sale that is
subject to the Arms Export Control Act. The measure also
expanded the requirements for congressional notification of the
existence and, to the extent possible, the details of any
offset agreement at the time of notification of a pending arms
sale under the Arms Export Control Act.
Recognizing, too, that not enough information was
available, I also initiated a request for a GAO review of the
use of offsets in defense trade. I believe all of the members
of the subcommittee received a copy of the most recent of the
GAO studies, which is entitled Defense Trade: U.S. Contractors
Employ Diverse Activities to Meet Offset Obligations. This was
released in December 1998. Mr. Chairman, I ask unanimous
consent that the text of that study be entered into the record
following my remarks.
Mr. Mica. Without objection, so ordered.
Senator Feingold. Thank you, Mr. Chairman.
Last year I offered additional language to expand further
the prohibition of incentive payments and enhance the reporting
requirement on offsets to include a description of the offset
with dollar amounts. While my provisions were incorporated in
the Security Assistance Act of 1998 as passed by the Senate
Foreign Relations Committee, the legislation never made it to
the floor. I was pleased, however, to see the House pass
similar, if not identical, language in H.R. 973, which is your
version of the Security Assistance Act of 1999.
Unfortunately, Mr. Chairman, while Congress has tried to
address specific problems encountered by companies in our
States and districts, efforts to date have barely scratched the
surface of the difficult subject of offsets. In fact, neither
the legislative nor the executive branches have a full grasp of
the breadth and complexity of the issue, but I know that all of
us are deeply concerned about the potential impact of the use
of offsets.
I believe we have to focus on several broad issues related
to the current and potential consequences of offsets; first,
the impact on the domestic labor force and defense industrial
base, particularly in the aerospace industries, of the
increasing role of overseas production in the defense
industries; second, the unintended harm to domestic nondefense
industrial sectors as experienced by the Beloit Corp. of
Wisconsin, when defense contractors engage in indirect offset
obligations; third, the broad economic implications of the
globalization of the defense industry; and fourth, the national
security ramifications of joint ventures and growing reliance
on foreign defense contractors, a concern, Mr. Chairman, that
was recently highlighted in the Cox report on China's
technology acquisition.
Mr. Chairman, we must tread carefully and seek a balance
between the need for our defense industry to remain competitive
in world markets and the potential loss of jobs and industrial
capacity down the road due to the transfer of technology and
the encouragement of overseas production capabilities. The
perceived inevitability of globalization is not an excuse for
us to avoid dealing with the hard issues.
I have had the opportunity to review a number of thoughtful
proposals that touch on my concerns about offsets. I think we
all agree that greater transparency and monitoring are
essential to fully understand the offsets issue. In that
context, I believe that there are three key elements to
effective handling of offsets: first, information; second,
discussion; and, third, international cooperation.
First, information. To fully understand the implications of
offsets and the breadth of their impact, we must have more
information on offset agreements, particularly the indirect
offset obligations that are otherwise invisible. Although I
recognize the need to protect the genuine proprietary
information of defense contractors, we must seek greater
transparency in the process through which contractors negotiate
and fulfill offset obligations so that we may better analyze
the possible downstream consequences. While many of us can cite
anecdotal evidence of companies harmed or jobs lost, we have to
develop a more effective mechanism to accurately quantify the
impact of offsets. Unfortunately, the work that has been done
so far is insufficient.
Second, discussion. There needs to be broader public
awareness and debate on the implications of offsets. I believe
this hearing is an important step in that direction. Beyond
these efforts, I support the concept of a national commission
to analyze the implications for our economy and national
security and to recommend potential policy alternatives. A
commission can galvanize concerned parties and demonstrate our
interest in achieving a broad and coherent strategy to combat
the negative effect of offsets.
Finally, international cooperation. With international
dialog and coordination, we can arrive at multilateral
standards for the use of offsets in defense trade agreements.
Whether you believe that offsets are merely an annoying, but
standard business practice or you hold the view that they pose
a major long-term threat to our labor force industries and
national security, I believe it is possible to develop some
common ground for business practices worldwide. Through the
Group of Eight, Wassenaar Arrangement, the World Trade
Organization and other organizations, we have established
multilateral venues designed specifically to deal with
international trade issues. Certainly, one of these venues
could serve as a forum for international cooperation to
consider this global problem.
Mr. Chairman, let me conclude by thanking your subcommittee
for taking on this difficult subject. You have gathered some of
the premier experts in the field for today's hearing, and I
look forward to studying their testimony. I regret that I
cannot stay for the rest of the hearing, but I believe all of
our efforts today will contribute to the promotion of greater
information, discussion and cooperation and help us tackle this
difficult subject that may well be so critical to the future of
American industry, trade and national security. I thank you
very much for your courtesy.
[Note.--The report entitled, ``Defense Trade, U.S.
Contractors Employ Diverse Activities to Meet Offset
Obligations,'' GAO/NSIAD-99-35, may be found in subcommittee
files.]
[The prepared statement of Senator Feingold follows:]
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Mr. Mica. Thank you. We appreciate your leadership on this
important issue and also your efforts to work with our
colleagues on both sides of the Congress, the House and the
Senate, to seek solutions and different approaches so we can
have some of the things that you mentioned in your closing, the
disclosure, the discussion and the international cooperation.
We appreciate that. We realize that you have a time constraint.
Mr. Tierney.
Mr. Tierney. I thank you. I know that you have a time
constraint, and I appreciate very much your participating this
morning.
Mr. Chairman, before I forget, Mr. Kucinich was just here
and asked that his remarks might be placed in the record.
Mr. Mica. Without objection, so ordered.
I am pleased that we have been joined by the gentleman from
New York, the chairman of our International Relations
Committee. Did you have an opening statement?
Mr. Gilman. No, I just want to commend you, Mr. Chairman,
for conducting this hearing in a very timely manner, and I
think it is important that we take a good hard look at these
considerations, and you have got a great panel, and we look
forward to hearing from the panel.
Mr. Mica. I thank the gentleman.
I am pleased now to call our second panel. The second panel
consists of Mr. Joel Johnson, vice president, International,
Aerospace Industries International; Mr. Owen Herrnstadt,
director, International Affairs, International Association of
Machinists and Aerospace Workers; and Dr. Scott, international
economist with the Economic Policy Institute. I am pleased to
welcome all three of these panelists.
If you would stand, please, to be sworn.
[Witnesses sworn.]
Mr. Mica. The witnesses have answered in the affirmative.
I might also tell you, since I don't think that any of you
have testified before our panel before, we run this timer. We
give you 5 minutes and ask that your oral presentations be
limited to that amount of time. By unanimous consent request we
will be pleased to enter into the record any reports that you
want to be part of the record.
With those comments, let me now recognize Mr. Joel Johnson,
vice president, International, of the Aerospace Industries
International. Welcome, and you are recognized.
STATEMENTS OF JOEL JOHNSON, VICE PRESIDENT, INTERNATIONAL,
AEROSPACE INDUSTRIES INTERNATIONAL; OWEN HERRNSTADT, DIRECTOR,
INTERNATIONAL AFFAIRS, INTERNATIONAL ASSOCIATION OF MACHINISTS
AND AEROSPACE WORKERS; AND ROBERT SCOTT, INTERNATIONAL
ECONOMIST, ECONOMIC POLICY INSTITUTE
Mr. Johnson. Thank you. I gather that my mic is working. I
will speak rapidly and in incomplete sentences to keep under my
5 minutes here.
I am testifying this morning on behalf of the Aerospace
Industries Association, which is the trade association that
represents the producers of commercial and military aircraft,
helicopters, missiles, et cetera. A couple of notes about the
aerospace industry. We produced about $140 billion worth of
product in 1998, about 3 percent of the U.S. industrial
manufacturing activity. The industry currently employs about
860,000 Americans.
What is perhaps most remarkable about our industry is its
continuous export performance. In 1998, we exported $64 billion
worth of product. Our imports were $23 billion. That gives us a
net of $41 billion in exports. That is the largest of any
manufacturing sector.
I should point out these exports are critical to our
industry. Ten years ago our total output was about what it was
today in real terms. At that time, the government accounted for
60 percent of purchases of our production, and exports were
about 24 percent. Primarily because of the rapid drop-off in
defense procurement, today the government buys about 30 percent
of our output; exports are 40 percent. All of our growth is in
the export arena. We depend on those exports in order to keep
our employment where it is today.
From an industry perspective, offsets are certainly a
nuisance. Most of us would prefer to compete on the basis of
quality and price of our primary product. That is what we do.
We are not in the consulting, technology transfer, risk capital
or trading business. However, just as in the commercial
aerospace arena you have needed to find imaginative financing
arrangements, in the military arena you need to find
imaginative offset arrangements.
These obviously are not a new invention, but another form
of the age-old practice of barter and countertrade. While they
may be inefficient, I think one does need to step back and
recognize that for every export, someplace, sometime there will
be an import, or you are giving the stuff away, and when you
have an import, somebody in the U.S. economy will be negativity
affected. Overall, however, society benefits. Offsets don't
change basic math. What they do is close the loop in a
reasonably visible fashion.
I should note that offset requirements are not unique to
dealing with overseas customers. When government spends
taxpayer revenue, they often want more than just the product.
In this country, our industries require domestic offsets, e.g.,
setasides, for small businesses, setasides for minority
businesses, and you tend to spread the work around in as many
districts and States as possible. Both informal and formal
offset, in other words, is also true in this country.
Similarly, when foreign governments spend their money, they
want to see some jobs and a piece of the action in their
couintry, even when they spend it overseas for foreign military
products.
Let me jump forward perhaps to save time and note that
there are really five things that we would like to see in
government policy. First and foremost, and I think most people
agree with us, you should not take unilateral measures through
statute or regulation to control offsets, would which simply
transfer jobs to our foreign competitors.
Second, direct offsets, we would agree, should not be
allowed when a purchase is wholly financed by U.S. assistance
on grant terms. Now, I should note that this is almost
irrelevant. Today there are only two countries that receive
grant military assistance, Israel and Egypt.
We certainly would support efforts by the United States to
obtain multilateral accords on disciplining offset practices. I
must admit, however, we are somewhat skeptical of the success
of such efforts, mainly because I am not sure what are will
willing to lay on the table ourselves. When we recently held a
competition for a joint primary training aircraft for the
United States Navy and Air Force, the winner was basically a
Swiss aircraft. That aircraft will be built almost entirely in
the United States, assembled in Wichita, probably 99 percent
U.S. content. I suspect that had the Swiss Parliament said you
can only buy that airplane if it is produced in Switzerland,
the United States Congress would have suggested mildly where
they could go with their demand, and we would wind up with a
United States alternative. That is the real world. If you look
at each of the U.S. DOD procurements, they are almost
invariably all produced by a U.S. prime in the United States,
not because of formal requirements, but that is because the
U.S. system works for exactly the same reasons.
Fourth, in instances where the only competitors for our
foreign contracts are United States firms, the government might
place some useful role in arbitrating and limiting what our
companies offer, but you have got to be very careful that you
don't create foreign competitors or create domestic solutions
to a country's procurement or increase the value, the actual
quality of the offset, which is essentially what happened when
the government stepped in in Korea and limited United States
companies' offset offers. What happened is the quality of the
offset offered went up considerably.
Finally, let's be very careful about how we collect and
publish information on offsets. We don't have a problem sharing
information with the U.S. Government on offsets. What we do
have a problem with is providing a cookbook to our foreign
competitors and to our customers as to what the best current
offers are out there. The largest readers, I suspect, of an
annual Commerce Department report on offsets are foreign
embassies in Washington, DC.
In general, we tend to think that offsets are highly
overrated issues. Let me note, for example, that DOD
procurement went from $100 billion a year to $42 billion a
year. Were DOD procurement at the same level today as it was 10
years ago, we would have 400,000 more workers. There is nothing
in the offset realm that remotely touches on those kinds of
numbers. That is the major impact, and we are not arguing that
we ought to have a larger defense budget, we are arguing take a
look at what is effective, the subcontractor base and the prime
base, it has very little to do with offsets. It has to do with
much larger trends.
In summary, I would say starting with offsets is probably
the wrong starting point. If there are subsectors of our
economy that are in trouble, we ought to find out what is
wrong. My own guess is that you will find it has to do with
underinvestment; it has to do with a variety of things of which
offset may be a symptom, very seldom will be the cause. Thank
you very much, Mr. Chairman.
[The prepared statement of Mr. Johnson follows:]
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Mr. Mica. Mr. Scott, you are recognized.
Mr. Scott. Good morning, Mr. Chairman and members of the
committee. Thank you for inviting me to testify here today.
The future of the industry may differ significantly from
the past, particularly regarding employment. The debate over
the impact of offsets is contentious because of the interplay
of several closely related questions that can be difficult to
disentangle. Over the past decade, this industry has gone
through a massive downsizing, which has been driven by declines
in defense expenditures. In the past, offsets were a relatively
small contributor to the problem. However, defense
restructuring is over. In the future, trade, and offsets in
particular, are likely to be much bigger factors in employment
loss than in the past.
I have prepared several reports on these subjects. The most
recent was published by the National Research Council, and that
is appended to my statement as appendix A. We have updated
several figures from that report, statistical figures, for this
hearing, and I have attached as a separate exhibit B or
appendix B, those updated tables and figures, and I will refer
to several of those by their original figures in my testimony
here today.
Mr. Mica. Without objection we will make both of those a
part of the record.
Mr. Scott. Thank you very much.
Turning specifically to employment, the impacts of offsets,
and in particular total aerospace employment, peaked in 1989,
as Mr. Johnson mentioned. Approximately one-half million jobs
were lost between 1989 and 1995, which was the last trough in
this industry. Employment recovered for a few years, but it
peaked in April 1998, which I think it is important for us to
note today. This is shown in my new figure A, which is included
in the text of the testimony itself.
There are several major reasons why employment declined in
the past. Between 1989 and 1995, there were three major
factors. Decline in defense sales accounted for about half of
the job losses. Outsourcing, which includes the effect of
offsets and all other forms of increasing import of parts and
components, accounts for about 6 to 10 percent of job loss in
that earlier period. And productivity growth accounted for the
rest.
In the past year, the Asian financial crisis has been a
very significant cause of employment loss in the industry.
Economy-wide, we have lost over 440,000 jobs in manufacturing
since April 1998. In aerospace alone, we have lost 29,000 jobs
in this period, as shown in figure A in my testimony.
Offsets contribute to both commercial and military job
losses in the aerospace industry. One important measure of the
impact of outsourcing is the ratio of imported engines and
parts to total aircraft sales. That is, commercial and military
sales. This is shown in figure 4 in my appendix, which you may
want to look at briefly. You will note that shows a very
steadily rising trend of foreign components essentially to U.S.
aircraft sales. It has gone up almost every year for the past
decade. It has doubled in the last 10 years or so, and this
growth ratio has accelerated in the last 3 years. This ratio
essentially is a measure of the foreign content of U.S.
aircraft. It is quite rough, but it is an approximation of that
measure.
Now, in the NRC paper, I estimate the likely threats to
future employment in the industry. To save time, I will just
note that we are going to lose perhaps as many as 45,000 jobs
in the next 15 years or so to outsourcing, perhaps twice that
many to increased foreign competition, principally from Airbus,
for a total loss of about 123,000 jobs, about 15 percent of
employment in the industry.
Let me move quickly to my policy implications section to
save time for discussion.
Given these estimates of future job loss, I think that this
industry is at great competitive risk. I think it is important
for us to craft a policy that includes offsets, but goes beyond
to look at the broader issues of industry competitiveness for
the reasons explained in the NRC paper. Domestic and foreign
producers are caught in what economists refer to as a prisoners
dilemma with respect to offset agreements in particular. When a
foreign customer demands an offset in exchange for a sale,
firms feel they have to comply or risk losing contracts. They
are engaged in a desperate race to the bottom that will
accelerate the transfer of jobs and technology to foreign
producers.
There are several ways to attack this problem. First, I
think the United States and European Union should, on a
bilateral basis, agree to restrict the use of offsets, perhaps
through an extension of something like the Foreign Corrupt
Practices Act.
Second, I think the United States and the E.U. are raising
the stakes in the aerospace battle. We have seen a number of
conflicts in the last year in issues like aircraft noise, new
subsidy programs and so on. I think we may be approaching a
time where we have to consider something like a market share
agreement with the E.U.
Finally, I think we have to expand the treatment of offsets
in the WTO. Currently, government offset requirements are
prohibited. I believe that we also have to restrict firm-to-
firm offset requirements. It is private offset agreements,
because the line between public and private firms has become
extremely blurred, in areas like East Asia and China in
particular, where we are dealing with essentially government-
owned companies. I will close at that point. Thank you very
much.
Mr. Mica. Thank you.
[The prepared statement of Mr. Scott follows:]
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Mr. Mica. We will now hear from Mr. Owen Herrnstadt,
director of international affairs, International Association of
Machinists and Aerospace Workers. Welcome, and you are
recognized.
Mr. Herrnstadt. Thank you very much, Mr. Chairman.
The International Association of Machinists and Aerospace
Workers represents workers in a variety of industries,
obviously aerospace and manufacturing playing a significant
role in our membership. Given the nature of these industries
and the negative effects that offsets are having and will
continue to have on our members in these and other industries,
the IAM has, for several years, been concerned about the use of
offsets by U.S. industry. Accordingly, we are grateful, Mr.
Chairman, for your invitation to appear before you today, and
we are especially grateful for the excellent work that
Congressman John Tierney has done in this area.
Offsets create a serious threat to workers throughout U.S.
industry, particularly workers in the aerospace industry.
Indeed, the transfer of production and technology abroad has
had and will continue to threaten U.S. workers as their jobs
and the production techniques they have developed as workers
move to other countries.
While more information is needed regarding offsets, what we
do know about them is highly disturbing. Indeed, the little
information that we have should raise alarms for anyone who is
interested in maintaining and expanding the success of the U.S.
aerospace industry. Research clearly indicates that offsets
dominate the defense aerospace industry. Research also
indicates that in attempts to satisfy offset demands, U.S.
contractors are becoming more and more creative. More and more
jobs will be sacrificed in the future to offset demands by
other countries. In addition, studies have concluded that
offsets have contributed to the ability of other countries to
establish their own industries which in turn compete with U.S.
companies, and this trend will become more problematic in the
future.
Finally, in addition to employment issues, as Senator
Feingold mentioned at the outset, offsets also raise serious
concerns about our national security. Let me briefly explain
some of these points.
First of all, as we all know, offsets are direct in nature,
indirect in nature, and I will add a third category, voluntary
at times, as more and more companies voluntarily look for
marketing schemes. They are extensive. The Bureau of Export
Administration reports that an overwhelming number of offsets
involve aerospace products, and they are growing.
While we know that offsets are extensive, we also know that
inadequate reporting requirements concerning offsets and all of
their variations prevent us from knowing exactly how widespread
they are.
Aerospace workers have suffered huge job losses over the
past several years. As reported many years ago, in work done by
my colleague on this panel, Rob Scott, between 1989 and 1995,
over 500,000 jobs were lost in the U.S. aerospace industry, and
1 million jobs were lost in related industries. The AIA's own
statistics report that in 1989, 153,500 workers were employed
in the production of aircraft engines and parts, but by 1998
the numbers of aerospace workers in that category had dropped
to 103,500.
Estimates predict that over 200,000 jobs in the U.S.
aerospace and related industries will be lost in the future,
with offsets accounting for several thousand of these jobs
directly related. To make matters worse, these estimates don't
reflect all of the indirect offsets, all of the unrelated
industries that Senator Feingold mentioned during his
testimony, as well as all of the convoluted voluntary marketing
schemes that are taking place.
Of course, there are many reasons for the job losses that
have occurred and will occur. However, given the importance of
the U.S. aerospace and related industries to the Nation's
economy, the staggering job losses that workers have suffered
and the significant job losses that economists predict they
will suffer, any factor that could prevent or mitigate these
losses should be carefully examined. Offset policy is a key
factor that could help limit losses and should be made a
priority.
Let me refer to my statement to refer to industries that
have suffered a decline in offsets and ask the question, ``will
the U.S. aerospace industry follow suit?'' Without a national
comprehensive policy on this issue, that could happen, and that
is why the IAM has urged government, for several years now, to
initiate a national comprehensive policy on this issue; to
establish a permanent review committee that would be made up of
members of labor, academia, government and, of course, industry
to discuss these issues, to figure out ways we can look at
outsourcing, subcontracting, tech transfer, production
transfers, licensing procurement, research and development and,
of course, information gathering; and also to advise on
multilateral and bilateral negotiations regarding offsets,
particularly with the World Trade Organization and other
international arenas.
Calling offsets a nuisance is unacceptable to the thousands
of U.S. workers, their families and the communities where they
live that have suffered from these losses. We need to take
action now as a government. It is government's responsibility.
Thank you.
Mr. Mica. Thank you for your testimony.
[The prepared statement of Mr. Herrnstadt follows:]
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Mr. Mica. I thank all of our panelists for their
statements.
First I have a question for Mr. Johnson. What happens to a
company that fails to fulfill its offset requirements, and how
enforceable are offsets?
Mr. Johnson. Offset agreements will frequently have some
financial penalty that will be imposed on a company for not
completing its offsets. Quite frankly, I don't know of any U.S.
company that has paid such liquidated damages. Generally, if
there is a problem fulfilling them, you normally renegotiate
the offset agreement because the country is not interested in
getting paid a financial penalty, they are really interested in
obtaining some kind of tech transfer or new capability they
don't have.
Companies do have contractual legal arrangements which
would involve financial penalties. But, in point of fact, I
don't know of any company that has ever paid one.
Mr. Mica. We heard Senator Feingold talk about one of the
things that he helped institute legislatively, but what has
been the effect of prohibitions against the third-party
incentive payments in offset negotiations?
Mr. Johnson. Probably very little in that that was--in over
a decade of reporting, this is the only case of this sort of
smoking gun that I know of, and it happened in a very narrow
market where the buyers and sellers are extremely few. And we
urge offset managers to avoid those situations when we have
meetings of offset managers because you like to see indirect
offsets spread about, just like you like to see normal trading
relations.
If anything, it may have slightly increased real offsets.
One of the practices that had occurred in the past, there were
several operators who would look at normal companies that
imported a great deal, a Pier One, for example, find out what
they were importing from a country like Thailand, and who had
an offset obligation in Thailand. You would go to the company
and say, for 2 or 3 percent, I can get you a large offset
obligation liquidated. They would go to Pier One and say, I can
buy down what you are already doing for 1 percent, and
basically nothing whatsoever would happen except a company
would get a lot of offset credit. Nothing changed in the real
world. The Feingold rule basically knocks those guys out of the
picture. So you probably have more real offset now than when he
passed his law, in point of fact. A law of unintended
consequences.
Most offset doesn't involve financial stimuli. It involves
basically the ability to bring a buyer and seller together.
When you have companies that do $20, $30, $40 billion a year
with extensive networks around the world and a lot of offsets
accomplished by offshore activity that never would have
affected the United States at all.
Mr. Mica. Additionally, we have had recent or offset
reporting requirements. Can you tell us how they have affected
industry?
Mr. Johnson. As I said in my statement, we have no problem
sharing with the government information as to what we are
doing. What we do have problems with is sharing with a broader
public which basically, unfortunately, sets new thresholds.
When the Commerce Department comes out and says that the
average European demand for offsets is 100 percent, it is hard
for a country in Latin America or Southeast Asia to ask for
less because the United States Government is saying that is
what the new minimum is.
I don't know how you get around that. Part of the job of an
offset manager is to make an offset look as attractive as
possible to the foreign customer with as little effort as
possible, but the percentages are going to look high, and they
are going to tell everybody else that is the percentage that
you should be shooting for. In terms of practices of the
industry, probably very little. In terms of raising offset
demands, it probably has had some impact.
Mr. Mica. Dr. Scott, you kind of linked offsets to job
losses in your testimony, and you have a significant number of
charts and data that you submitted, but isn't it true that we
have had job losses in the aerospace and defense industry
primarily from downsizing; if you looked at where we are losing
jobs, downsizing in the defense industry, that is one. And
then, two, you could probably trace most of the other job loss
to Airbus, which has now become a big player and taken Boeing
and some of the other aerospace business away from us.
Can you give us any hard numbers as to what offsets in both
defense and commercial we could tie to lost jobs?
Mr. Scott. It is difficult to develop hard numbers because
we don't have any hard statistics on the exact volume of offset
transactions, particularly in the commercial sector. This is
one reason why in my various reports I have supported proposals
to begin to collect data on offsets in the commercial sectors.
So, in the absence of that kind of data, it is very hard. Thus
I have developed estimates based primarily on this information
in figure 4 that I discussed in my testimony which show the
increase in the share of imports of parts and components
relative to U.S. production of military and commercial
aircraft. And in the absence of hard data, I think that is the
best proxy for measuring the effect of offsets and other forms
of outsourcing on employment in the United States.
Mr. Mica. I am not sure if it was Mr. Johnson or Dr. Scott
who said that they favored no statutory or other limits imposed
by Congress. Who had the list? Was that you?
Mr. Johnson. I would--certainly we would oppose, but I
think what my colleagues----
Mr. Mica. Who wants to own up to that statement?
Mr. Johnson. We argued that there should be no unilateral
effort by the U.S. Government in terms of imposing restraints
on U.S. industry which would not be imposed on our competitors,
but I think my colleagues probably agree with that to some
degree.
Mr. Mica. I see some disagreement. It is very difficult
sometimes when they have purchase agreements or manufacturing
agreements because you want to manufacture some of those goods
in their country, and in most cases it is their money. When it
is our money, it is a different story. When you get into the
question--and some of you raise the point about the technology
transfer, sometimes they want technology transferred as part of
the deal. Don't you think we have a responsibility, given, say,
the China incident--again, someone raised that--to impose some
limits and to put some restrictions on technology transfers? We
will start with Mr. Johnson.
Mr. Johnson. It should be pointed out, in the first place,
that any technology transfer that is of military significance
must have a license from the State Department. Companies cannot
transfer technology as part of an offset or as a straight
commercial deal without going through the Department, which is
referred almost invariably to the DOD. Any technology transfer
from a security perspective has been approved by the U.S.
Government.
Mr. Mica. And there are adequate protections in place, you
feel?
Mr. Johnson. We believe so.
Mr. Mica. Dr. Scott.
Mr. Scott. I would make two comments. First, I want to
carefully distinguish restrictions on--unilateral restrictions
on offset agreements and multilateral restrictions. I would
tend to agree with Mr. Johnson. I think unilateral restrictions
could be counterproductive, but I think multilateral
restrictions where we both agree not to engage in destructive
behavior, say, the United States and Europe, would be in our
interest. That is the first point.
And I think that with respect to the question of
technology, even in the commercial sector, our European
counterparts argue that there are indirect benefits to
commercial R&D that flow out of defense spending.
I think there certainly are some overlaps there. So I think
even in the commercial sector, where the commercial industry
might argue that it is their technology to give away, we have a
national interest in control of that technology, and I think we
should be looking carefully at that question.
Mr. Herrnstadt. I think you have raised a very good point.
I think there are two questions when it comes to unilateral
restrictions on offsets. One is, we don't even know what we are
talking about yet in terms of the exact information and data,
so we need to start with that, before we can come to those
hard-core conclusions.
Two, we need to know exactly what we are talking about in
terms of unilateral activities regarding this issue. Offsets
have a very broad definition. Some have included things like
outsourcing, subcontracting, licensing procurement, which has
already been mentioned, research and development, export sales
and financing, and many, many other topics. So each of those
needs to be looked at to find out what is best for the U.S.
worker, at least from our viewpoint, when it comes to those
issues.
If I could be so bold just to make one response to the
first question you asked about the job losses, one of the areas
that is very undercounted, is the effect that job losses have
had from the subtier producers. The Bureau of Export
Administration has some very fine anecdotal evidence regarding
subcontractors who have been very hard hit by offsets.
Presumably when they are hard hit, their work force is also
hard hit. So when we are talking about job losses, we need to
look at the entire labor market and the labor economy.
Mr. Mica. Mr. Herrnstadt, if you would permit me just a
quick followup, you wrote an article recently, the Role of the
U.S. Government in Setting Offset Policy, and you pointed out
that there is a serious lack of current and accessible
information on offsets; and then you go on to explain that
information about offsets is also very difficult to obtain.
How do we obtain the information? How do we get a basis to
make judgments on? Again, this goes back to--you just answered
the first question, but you left sort of a blank here about
what we do as far as laws and regulation in this area. And Mr.
Tierney wanted an answer to that, too.
I could go into more depth and, in fact, I will let him
finish the rest of the question, but we are here trying to see
what we need to do as far as Federal policy, and that is where
we need your recommendations. So if you could elaborate, and
then I will just recognize Mr. Tierney.
Mr. Herrnstadt. OK. Would you like me to go ahead?
Mr. Mica. Yes. On his time.
Mr. Herrnstadt. In my written statement, I point out that
one of the things a commission would do, one of the things
Congress could do is look at more detailed reporting
requirements in terms of Federal procurement. There could be
more detailed reporting requirements for export sales and
financing issues. Those are the types of things that need to be
looked at to compel prime contractors to report more specific
data, not only in terms of offsets in their broadest
definition, but also in terms of how they affect the subtier
producers on that.
Mr. Mica. Mr. Tierney.
Mr. Tierney. Thank you. Tell me, what now is required to be
reported to the Commerce Department with regard to these
offsets?
Mr. Herrnstadt. Well, Congressman, I think there is someone
from the Commerce Department that is testifying next, and they
will probably have more specific information about that. I am
aware of the information that the Bureau of Export
Administration has now put out, I believe for 3 years, which is
a very good, but obviously, it is very difficult to find out
where the specific offset is, how it has specifically affected
workers and, also, how it specifically affected the entire
network of not only subtier producers, but also those that are
in industries that normally one would think would be unrelated
to the actual aerospace activity.
Mr. Tierney. I would just make the comment that we have had
a number of subcontractors contact our office and tell us that
they are just horrified by the situation of losing contracts,
but they are also afraid to come forward, frankly, because they
have to maintain a relationship with people in the industry and
they do not want to lose what remaining work they have. So we
are stuck, in a number of cases, with anecdotal evidence of
what is going on, and in fact, in some instances where
contracts have been stopped dead in their tracks--a 3-year
contract ended after 1 because a situation arose--if they are
going to keep any work at all, they can't really complain and
come forward and testify here.
Mr. Johnson, right now, as I understand it, U.S. companies
are not required to provide copies of their transaction papers
to the Commerce Department. Is that accurate?
Mr. Johnson. What we provide to the Commerce Department on
an annual basis is a record of every transaction over $100,000
to help implement an offset agreement.
Mr. Tierney. But you needn't provide copies of those
transaction papers; it is just whatever you say it is in the
form that you want? So that none of the sales contracts, none
of the written offset agreements or the related paperwork ever
goes to Commerce?
Mr. Johnson. That is correct.
Mr. Tierney. But they do go to the other government that
you are dealing with?
Mr. Johnson. The guy that has bought the product in the
first place, correct.
Mr. Tierney. They get all of that reporting. And the U.S.
companies are not required to give the Commerce Department
copies of the reports that you prepare for the foreign
purchaser either? You have a particular form that you prepare
for them in addition to the documentation?
Mr. Johnson. Every offset agreement will require different
reporting--some annual; some will run into the hundreds of
pages of print-out pages per quarter, and that is why we agreed
with Commerce on a threshold so that we will be looking only at
those transactions which at least had some dollar value of
importance. I would argue even a $100,000 transaction, if it
were at all critical, we should probably put the Marines at
that installation because it is the jugular of the United
States. This is an industry of $140 billion, so when we start
getting down to the $100,000 transaction----
Mr. Tierney. But whatever limit you set to start reporting,
it seems to me that it would be worthwhile to have copies of
the sales contracts, the offset agreements and other related
paperwork go to the Commerce Department.
Mr. Johnson. Well, you could do that, but it won't give you
a context to put those in.
Mr. Tierney. Well, then the report that you give to the
other country or the other customer, that would be helpful too.
Mr. Johnson. But what it doesn't tell you, Congressman, is
that the F-16 line would be shut down altogether today if it
weren't for exports, that the F-18CD line will shut down.
How do you put that in the context of what you are
providing for offsets? There would be no assembly line, no work
for subcontractors whatsoever. That is not in those reports
that we give to the foreign businesses, so that you have to
have some----
Mr. Tierney. Could I interrupt you for a second? It is your
contention that there would be no work left for us if we didn't
do offsets?
Mr. Johnson. There are a number of lines that are open only
because of exports. The U.S. Air Force only bought something
like 12 airplanes last year, fighter aircraft.
Mr. Tierney. We have enough in the budget to buy a zillion.
Mr. Johnson. The point is, we would not exist without
exports; it is as simple as that.
Mr. Tierney. Exports that come with offsets?
Mr. Johnson. They almost all come with offsets, sir.
Mr. Tierney. So this thing has grown to the point where you
don't make a foreign sale without having offsets involved?
Mr. Johnson. Generally, that is correct.
Mr. Tierney. And we can't really tell what effect it is
having on our economy unless we get more information, and you
object to more information being given?
Mr. Johnson. What we object to is publicizing it. We also
argue that it doesn't make sense to have one kernel of
information if you don't have a context to put it in.
Mr. Tierney. Why can't Commerce put it in context? They are
capable people.
Mr. Johnson. We have spent 20 years. You can ask the DOD
guys when they come up----
Mr. Tierney. You mean the Commerce people?
Mr. Johnson. No, the Defense guys for years have tried to
track that, and indeed this shop in Commerce, you try to look
at subsectors of the industrial base to see what is domestic
content, what is foreign, and it is almost impossible in
today's economy. It is just too complicated.
Again, one's guess, and I think my--is that offsets occur
within the $8 billion to $9 billion worth of military exports
in the aerospace industry. They have held reasonably constant
over the last 10 to 15 years, they are actually going up a bit
this next couple of years, I suspect, in a $140 billion
industry.
It is very hard to wash out the $2 billion or so in offset
obligations activity which Commerce reports each year.
Basically, they are reporting about $2 billion in offset
obligations in a $140 billion industry. Now, how you
disaggregate what each subcontractor deal might have in the
overall nature of our industry, it would be very hard without
having some information other than just what is going on with
this $2 billion.
Mr. Tierney. Mr. Scott, what would you need?
Mr. Scott. Well, I think we need more case studies,
actually. I think that it is a complicated issue. I could
recommend one to you by Professor Watkins from Lehigh
University that was included in this NRC volume, that we all
participated in, that was published earlier this year.
Mr. Tierney. You are going to tell me now what you
specifically think ought to be reported to Commerce so that we
can determine----
Mr. Scott. Yes. Let me get right to the point. In addition
to the defense offset information, we ought to be collecting
information about commercial offices.
Mr. Tierney. What information should we collect and how
should we collect it?
Mr. Scott. I think, as Mr. Herrnstadt suggested, that any
time there is government financing involved, we ought to
require that any offset transactions ought to be at least
reported, if not, as perhaps you suggest, have the actual
documentation submitted as well. So I think that would
certainly advance our knowledge of the issue.
Mr. Tierney. Mr. Herrnstadt, would that be enough for you?
Mr. Herrnstadt. Well, I think that would be a good start. I
think ultimately what we would want to know is anything where
taxpayer money is used to fund any offset in any form, whether
it is defense-oriented or commercial-oriented, we would want to
know the effect that has on the actual U.S. work force that is
involved in any way in that offset.
Now, in terms of putting that together, that package
together, that is something I think we need to think about in
more comprehensive terms, and we need to get many more people
together to figure out exactly how we can do that. But that way
we can get a clear picture about exactly what is going on in
this system that is becoming wildly out of control, and we
don't know comprehensively where everything is going, what the
impacts are on all different aspects.
Mr. Tierney. It seems that everybody agrees that most of
the defense reduction job losses occurred between 1989 and
1995, and the statement was also made that the foreign content
now in many of these aerospace products has doubled in the last
decade or so. Is that a fair indication that these offsets in
outsourcing and work like that are in some combination having a
tremendous adverse effect on jobs?
Mr. Scott. I would certainly agree that, yes, the offsets
in outsourcing are having a tremendous impact and will have
more so in the future.
Mr. Tierney. And Mr. Herrnstadt, is that your impression?
How do you separate out the two, the outsourcing versus the
offsets?
Mr. Herrnstadt. I think they are very difficult to
distinguish, very difficult.
Mr. Tierney. Now, is there any concern--Mr. Johnson, I
suspect that you are not overly concerned about this from your
testimony, but is there any concern about the fact that the
aerospace industrial base that we have around here may be sort
of being dissipated through this process, and that we have a
national security interest in trying to find out the adequate
amount of information on that angle, too?
Mr. Johnson. All I can do is point to the statistics that
even with the reduction of over--of 60 percent in defense
procurement, we are producing today in real dollars what we
were producing 10 years ago, and exports have doubled as a
percentage of what we are producing. That is not a litmus of a
sick industry or a litmus of one that can't hold its own
competitively.
Yes, foreign content, we quibble over the percentages, I
think because a lot of it has to do with Rolls Royce engines
coming in and going back out on Boeing airplanes, but the fact
is that exports have also doubled as a percentage of what we
produce and, therefore, it is not entirely surprising that you
would have an increase in foreign content.
Mr. Tierney. So when I see folks at General Electric in
Lynn, who are some of the best workers in the world in this
area, and they are in fear of losing their jobs and they see
things like that Korean contract that I talked about, it is not
to worry?
Mr. Johnson. I can sympathize with the chaps at Lynn, but I
would also note that were it not for those exports, a lot more
of them would be on the streets. They primarily make military
engines up there.
Mr. Tierney. Unless, of course, we did something about this
offset business, we might get back to where we want to be.
Mr. Johnson. If you could wave a magic wand and make other
parliaments not concerned about spending their taxpayers' money
on imports, there wouldn't be a problem.
Mr. Tierney. We have a situation where--you take the
European people, this is a jobs thing for them. They need a
product that we make and they don't make in a lot of instances,
so the deal is, they want to buy it from us. But they want to
be able to tell the folks back home the reason they had to buy
a superior product from the United States was so that they
could have jobs; and they spin it that way.
You mean to tell me that we can't deal with that issue? I
mean, it seems to me we are making a superior product and we
ought not to have to bargain where we give them jobs, and
technology to boot on top of that. It should be quality, price,
and drive the bargain.
Mr. Johnson. That would be wonderful in an ideal world, if
they were private consumers, but just as I don't think you can
identify a single major DOD purchase from offshore that has not
had a U.S. prime and been produced in the United States----
Mr. Tierney. The difference being that we have a product
that they need, and they don't have anything comparable in many
of these instances. They would like to have that kind of
leverage.
Mr. Herrnstadt, I see you are nodding over there. We have
that kind of leverage where we make the superior product that
they need, so why are we also giving them jobs in technology in
this thing?
Mr. Herrnstadt. I think you have asked a very poignant
question. I think--there are two comments that come to mind.
One is, we do not know that if it weren't for the offset, we
would not make the sale. After all, the things that we make in
the aerospace industry here in the United States are quality.
They are the best in the world. That is why the U.S. aerospace
and related industries have become the success, the world
leaders that they are.
The second is, the whole issue of engaging in both
bilateral and multilateral negotiations regarding offsets.
There are a limited number of engine makers and airframe makers
throughout the world. There are world trade organizations in
the world that do put restrictions on different types of trade
requirements. Those also need to be focused on, so that we can
take care of what some people call a nuisance, others call a
real threat.
Mr. Tierney. Now, the comment was made, too, that if we are
going to do that, if we are going to start addressing this, we
might be in a bad position because we have requirements like
Buy American and things of that nature. What is your impression
of that? Are we going to have to put something on the table and
walk away from some other policies in order to try to have
these multilateral and bilateral agreements that address
offsets and hopefully eliminate or reduce the impact?
Mr. Herrnstadt. I think the first thing we need to do
before we even get to that question is to look seriously at the
offset issue in terms of a multilateral negotiating stance. I
mean, I have here a copy of the country reports on economic
policy and trade practices from March 1997, talking about the
Netherlands, and there is an actual subsection for offsets for
defense contracts where there are well-defined policies in
other countries which specifically, specifically look at
offsets. That is where we need to start. That is what we need
to start looking at first.
Mr. Tierney. Thank you. I am going to defer to Mr. Gilman,
who is very patient.
Thank you for your patience.
Mr. Mica. Thank you. We will get back to you, Mr. Tierney.
The gentleman from New York, Mr. Gilman, you are
recognized.
Mr. Gilman. Thank you, Mr. Chairman.
I ask all the panelists, what would you say if we outlawed
offsets?
Mr. Johnson. I take it if you outlawed offsets--and this
perhaps gets back to one of the points Mr. Tierney made. The
Europeans, who are the largest demanders of offsets,
particularly in terms of military; this is a region with 12
percent unemployment, which has also had a shrinking defense
industry.
They have two other choices than buying American with
offsets: One, they produce it themselves even if the quality
might not be as good; and second, they have the alternative of
not buying anything.
As we noted in Kosovo, one of the reasons we had to take 80
percent of the burden is because the Europeans don't buy very
much. They cut their defense budgets more rapidly than we did.
They don't have to buy American. They have two other
alternatives. In the case of the Apache helicopter to the U.K.
or to the Netherlands, the alternatives were buying the German-
French attack helicopter or not buying an attack helicopter.
And I think what you would find, Congressman, if we were to
outlaw offsets, you would see our defense exports drop by 40,
50 percent, and you would see our European allies even less
prepared to work with us in the next combat.
Mr. Gilman. So you are willing to live with the offset
problem?
Mr. Johnson. Absolutely, as a better alternative than any
other alternative we can come up with.
Mr. Gilman. Mr. Scott.
Mr. Scott. I am not willing to again unilaterally outlaw
offsets. I think that could have negative consequences for U.S.
trade, U.S. exports. But I think a multilateral restriction on
offsets would certainly help producers in both the United
States and Europe, both in terms of employment and technology.
Mr. Gilman. Dr. Herrnstadt.
Mr. Herrnstadt. We need to do much more work on offsets to
find out exactly what they are before we think about the topic
you are talking about. Exactly what are the offsets? We need to
know the impact on them, and then we need to know what it is we
need to do as a Nation. We need to develop a comprehensive
national policy on this issue.
Mr. Gilman. What sort of a policy do you recommend?
Mr. Herrnstadt. Well, I think we need to look at whether or
not offsets in all of their many forms--commercial, defense-
oriented, direct, indirect, voluntary marketing schemes--how
they actually affect the U.S. work force; and we need to figure
out what works and what doesn't, what will maintain the U.S.
work force and expand the U.S. work force and expand the
success of an industry like the U.S. aerospace and related
industries.
Mr. Gilman. Well, assume that you find it affects the work
force. What kind of a recommendation would you make?
Mr. Herrnstadt. Oh, I think then we need to figure out
exactly what it is we need to do to resolve the issue, and I
think----
Mr. Gilman. That is what we are asking. How do we resolve
the issue?
Mr. Herrnstadt. That's right. And that is why we have urged
this high-level commission where we can get everyone together,
to get all of the information that is possible, to look at all
of the nuances, all of the different aspects of offsets on
this. When offsets end up sacrificing U.S. jobs and technology
overseas, then we need to do something about that, to curtail
that.
Mr. Gilman. Assume we do apply some restrictions on
offsets, if you find it affects jobs, and we get the EU and
other nations to agree, how do we enforce that kind of a
restriction?
Mr. Herrnstadt. Well, I am no expert on the World Trade
Organization, but one suggestion would be to look at the
remedies or enforcement provisions of the WTO and other
international trade bodies.
Mr. Gilman. Dr. Scott, do you have any suggestions,
assuming there is an agreement on restricting offsets? How
would you enforce----
Mr. Scott. In addition to working through the WTO, I think
we could also rely on--to some extent on self-enforcement. The
Foreign Corrupt Practices Act has been in place for a number of
years. It has, I believe, successfully reduced bribery in
international transactions.
I think in the same way, if the United States and Europe
agreed to outlaw offset agreements, or to restrict them in some
very specific way, that each country or region could be relied
on to enforce its own agreements in its own region.
Mr. Gilman. Mr. Johnson, why are you objecting to
publishing an offset agreement?
Mr. Johnson. Simply because you are providing a cookbook to
every other guy that is out there wanting offsets. As I have
said, we don't have a problem working with the government and
sharing with our own government that information. What we
dislike is sharing that information with 80 other governments
who demand offsets.
Mr. Gilman. Essentially, you don't like offsets; is that
correct?
Mr. Johnson. We don't like having the U.S. Government help
escalate the demands of offsets around the world by providing
every demander the best practices of demanders for offsets,
which is essentially what publishing this kind of information
does. It provides every other finance ministry, economics
ministry and defense ministry a look at what is the most people
have extracted out of the United States, and that is our new
bottom line where we start from. That is the problem. Just as
we don't want to publish our proprietary manufacturing data for
every competitor to look at, we don't have much interest in
publishing our offset data for every consumer to look at.
Mr. Gilman. Well, Mr. Johnson, would the industry prefer to
restrict offsets rather than keep escalating the offset
problem?
Mr. Johnson. No. We just don't want the U.S. Government to
help in that escalation process. This is one of those cases
where industry will take care of itself, I think, for lack of
any other alternative.
Mr. Gilman. But the industry hasn't taken care of itself
apparently, and with all of the projections of job losses, it
would seem to me, the industry would be more interested in
finding a solution rather than just keeping from publishing.
Mr. Johnson. All I can say is, we are still the single
largest net exporter in the United States of any industry. That
is not the sign of an industry that has self-destructed. Any
other industry in this country would envy our record.
Mr. Gilman. Just one concluding statement from each of you.
What should the U.S. Government do about offsets?
Mr. Johnson, what should we do? Apparently you are saying,
nothing.
Mr. Johnson. Certainly, we can continue private discussions
with our government. You are only talking about 40, 45
companies that are involved in the bulk of international trade
in defense products, which is where most of the offsets are. We
do some of that now. We could do more of that, sitting down
with our government and talking about what our practices are.
They could tell us a bit about what sectors they are
particularly worried about. We have asked for 10 years for that
kind of information from the U.S. Government and never received
it.
Tell us where you think the problems are and we will try to
avoid doing offsets in those sub sectors. No one has ever given
us any of that kind of information. Start at the bottom up
rather than the offset down. Certainly, you can jaw-bone our
allies and try to put some kind of lid on offset demands. But
as long as we, by and large, demand that everything we buy from
offshore in the military arena be produced in the United
States, it is going to be very hard to convince the Europeans
that offsets are a bad thing.
Mr. Gilman. Dr. Scott.
Mr. Scott. I believe that we need to create a national
aerospace commission, or executive council within the National
Economic Council, that is responsible for monitoring this
problem and also for monitoring the broader competitiveness of
the U.S. aerospace industry.
I think we have to recognize that there is a difference
between a national interest in jobs and technology and the
interests of many of the producers of these aircraft systems. I
think we have to be aware of that when we develop policy. It
may be in the interests of the aerospace industry to export
jobs and to engage in outsourcing, in part because it increases
their leverage with some of the labor unions or some of their
suppliers. But this may not be in the national interest, so I
think we have to be aware of that when we develop policy.
Mr. Gilman. Mr. Herrnstadt, what is your recommendation?
Mr. Herrnstadt. We can no longer relegate to private
parties the issue of offset policy. This is a job for
government. Government has the resources, government has the
responsibility and the obligation to closely scrutinize this
matter and come up, finally, with a comprehensive national
policy for an issue that affects so many workers now and will
affect so many more workers in the future.
Mr. Gilman. I thank our panelists.
Thank you, Mr. Chairman.
Mr. Mica. Thank you. I recognize Mr. Ose, the gentleman
from California.
Mr. Ose. Thank you, Mr. Chairman.
I am curious about something with respect to the offsets.
The information that is going to be compiled and reconciled and
analyzed and digitized and all that sort of stuff, who is going
to collect that?
Mr. Scott. I believe that information is currently being
collected by Commerce and by the Department of Defense. I think
that it needs to be channeled up to an organization like the
National Economic Council in the White House. I believe that we
need to have that information coordinated at a much higher
level in the government so that it can be used for policy
purposes.
Mr. Herrnstadt. I agree. I think it is being collected
currently in the Department of Commerce and elsewhere
throughout government, but there needs to be more coordination
through all of the Federal agencies, whether it is the Labor
Department, Commerce, Defense Department, a clearinghouse, if
you will, that can collect all of the information and sift it
out and coordinate it.
Mr. Ose. Did I understand, Mr. Herrnstadt, from your
comment that you think we need to expand it beyond the current
arena to include all transactions, both of a government-private
and a private-private nature?
Mr. Herrnstadt. I believe Dr. Scott had mentioned that.
Mr. Ose. How big of an agency do you think we are going to
create to compile and reconcile and analyze this data?
Mr. Scott. Well, it is relatively simple. We have
essentially one aerospace prime in a commercial site and we
could ask that one company simply to supply to the appropriate
government office the reports and agreements that it is already
making with foreign firms and foreign governments.
So basically this requires a copy machine in the
appropriate departments at Boeing and a few of the other major
suppliers.
Mr. Ose. What about the subtier companies, for instance? Do
they not also have to--I think my point is that if you expand
it beyond, say, Boeing to private-to-private transactions, I
mean, you are going to open a huge area for data collection, if
nothing else, which probably dwarfs even the--I can't even
conceive of the agency, the Labor Department, perhaps.
Mr. Johnson, I would appreciate any comments you have on
this. You referenced 45 companies being involved in these kinds
of transactions where there is government involvement of one
nature or another in the defense business, but what if we go
outside, say, defense and do lumber or automobiles or oil or
computers?
Mr. Johnson. You would have a matrix that would make MIT
blanch. I mean, suppose you get credit for moving X number of
wicker chairs from Thailand to Pier One. Then, are we going to
examine the entire worldwide wicker chair industry to find out
what impact you had on the wicker chair people? That is the
problem.
When you get into direct offsets in general, what you find,
even when Commerce looked at three areas that they thought
might be heavily impacted offset transactions, is that offset
activity amounted to less than 1 percent of the total activity
of any of those three subsector industries in the United
States.
Even with the narrow confines of the defense industry,
suppose you get credit for buying X number of fasteners from
Germany for aircraft. There are hundreds of distributors in the
United States. They, in turn, draw from fastener manufacturers
around the world, including the United States. How do you
figure out what impact that had on all of the fastener activity
in the world? You would have a matrix that MIT can't handle
with supercomputers.
Mr. Ose. The question that comes into my mind, when I was
building houses and I had partners in the deal, some of those
partners also provided subcontracting services, and while I was
sensitive to their needs, I didn't let them jab me for an extra
3 percent just because they were my partners. If it was a
lumber guy and his bid was the equivalent, well, then, I gave
him the benefit of the doubt. But if he was 3 or 5 or 2 or 1 or
anything over what the market was, I mean, it was a ``tough''
kind of thing.
Now, the question I have is, I am the guy writing the check
on these things. If I am buying it, don't I have the right to
buy it from the person that I want to buy it from? I mean, if I
am France buying X, Y or Z, don't I have the right to say,
well, a component of X is going to be this?
Mr. Scott. I think there are two answers to that. One, part
of what they are buying was, in part, paid for by the U.S.
Government, and that is the party who doesn't sit at the table
in many of these transactions. We are talking about technology
developed with government funding.
And I think, No. 2, often parties from different countries
play by different rules. I think we have the European
governments intervening informally behind the scenes in the
purchases made by private companies.
For example, we saw a huge share in Airbus shipments to
European producers, and the United States share there
plummeted, I think, much more rapidly than those exchanges
happened in the United States. I think that does reflect a
national interest as well as the search for the best deal. So,
I think that we have to recognize that when we get into
international trade, the rules are different, and we need
different policies to respond.
Mr. Ose. Mr. Chairman, I see the red light is on and I am
crushed. I yield back.
Mr. Mica. Thank you.
Mr. Tierney, did you have any additional questions?
Mr. Tierney. I do, and I thank you for that.
First of all, Mr. Johnson, I need to go at this one more
time with you, because I am still puzzled.
You are fearful, I guess, or the industry is fearful that
if we provide Commerce with the information that might be
necessary to sort of monitor or police what is going on, that
offsets will escalate. How can that possibly happen? I mean,
already exports, you have indicated, in this area has an offset
agreement attached to it. I have been to conferences where the
room is packed with people whose sole responsibility for the
corporation is to devise seemingly new ways to surreptitiously,
and I think unseemingly to go around and find ways to do
offsets, the most creative things that many people have ever
seen. So what are you afraid of?
Mr. Johnson. Let me say one more time, we do not object to
sharing some information with Commerce. Our concern is, when
you publish it, you create a best practices for every other
offset demander in the world.
Mr. Tierney. They are already----
Mr. Johnson. The other issue, I would say, as discussed
with the gentleman from California, is that if you provided
Commerce with wheelbarrows full of offset data, it doesn't give
them a context to look at it in.
Mr. Tierney. You want to say that the only people that can
give the context is the industry?
Mr. Johnson. No. I am just saying you have to come at it
from the other direction. I sympathize. If you look at the
trend across the board in industry, for example, one trend in
automotive and aerospace, et cetera, is to slash the number of
subcontractors as an efficiency means. How do you differentiate
that overwhelming trend from some guys who think they were
affected by offsets unless you know what the general trend is?
All I am saying is that you are taking information which is
a teeny part of our industry without having a context in which
to put it. I don't see how Commerce can do that if--that is why
I think it is much more sensible to start at the bottom up.
Mr. Tierney. We are acting like we haven't already had a
great deal of agreement on this, that offsets are not good. The
agreement on government procurement already makes, I think, a
pretty clear statement that offsets are not something that we
think are great, it is market distorting, it is not favored. In
fact, article 16.1: Entities shall not--shall not consider,
seek or consider offsets.
Basically, the problem with that is, we then go ahead and
exclude it on defense. Basically we say, well, you can do it in
defense if you say it is for your national security. But you
and I both know, Mr. Johnson, this has nothing to do with
national security; it is to explain it to the people somewhere
in the European Union that they spent dollars on American goods
and the dollars didn't go to them.
We are fussing around with this a little bit and if we can
prohibit offsets for virtually every other industry and just
leave this loophole for defense, it seems to me that you could
take another step. And if we have the information, we find out
what we need to know about the statistics, and we go ahead and
do it.
We have 45 companies; presumably they have some patriotism
in their blood. Why don't they get together and come up with
some standards in a joint effort about what they are going to
do with this issue, which they say is a prisoners' dilemma--it
seems to me like a lot of unwillingness on their part--and then
maybe work on the national government to set a policy and start
applying it to some of these multilateral and bilateral
agreements in coming down on that to prohibit it, as we have
for virtually every other industry, and I don't see them
falling by the wayside or going out of business.
Mr. Herrnstadt, what do you say to that?
Mr. Herrnstadt. I think you make a lot of sense.
Mr. Tierney. That is why I asked you.
Mr. Herrnstadt. I will even turn on my microphone.
Mr. Tierney. I was going to ask Mr. Scott to turn his off.
Mr. Herrnstadt. No, I think what you stated makes an awful
lot of sense. Other countries have, as I mentioned before,
well-developed offset policies. It is time we develop our own.
It is also time that we stop considering this as a mere
inconvenience or as a nuisance and look at it as the real
threat it is. We need to be able to start with the data issues
that you have talked about and formulate the comprehensive
policy I have referred to before.
Mr. Tierney. Mr. Chairman, I will stop with that. It just
seems to me when something is an inconvenience, seldom do you
see people hire entire staffs and fill ballrooms full of people
that deal with this inconvenience in more creative ways rather
than just find out how to work the system, as opposed to doing
something constructive about it.
Thank you.
Mr. Mica. I thank the gentleman. I want to thank this panel
for their contribution and also for their willingness to
participate with us and answer questions in helping us seek
some solutions to the problem of offsets.
There are no further questions of the panel at this time,
so you will be excused, and thank you again for your
participation.
Our third panel I would like to welcome, consists of the
Honorable Roger Majak, Assistant Secretary for Export
Administration in the Department of Commerce; and the Honorable
Alfred Volkman, Acting Deputy Under Secretary of Defense for
Commercial and International Programs with the Department of
Defense.
Gentlemen, as I mentioned to our first panel, I don't think
you have been here before either. This is an Investigations and
Oversight Subcommittee of Congress. If you would stand and be
sworn, please.
[Witnesses sworn.]
Mr. Mica. Let the record reflect that the panelists
answered in the affirmative.
Welcome, gentlemen, representatives of the administration,
to help us address the questions and problems surrounding
defense offsets. As I mentioned to our previous panelists, we
try to limit the oral presentations to about 5 minutes; as the
red light goes on, you get about a minute to conclude. We do
welcome any lengthy documentation or statements within reason,
they will be made a part of the record by unanimous consent.
So, with that, you are recognized, first the Honorable
Roger Majak, Assistant Secretary for Export Administration with
the Department of Commerce.
Welcome, sir. You are recognized.
STATEMENTS OF ROGER MAJAK, ASSISTANT SECRETARY FOR EXPORT
ADMINISTRATION, U.S. DEPARTMENT OF COMMERCE; AND ALFRED
VOLKMAN, DEPUTY UNDER SECRETARY OF DEFENSE FOR COMMERCIAL AND
INTERNATIONAL PROGRAMS, U.S. DEPARTMENT OF DEFENSE
Mr. Majak. Thank you, Mr. Chairman. I appreciate the
opportunity to inform the subcommittee regarding the Commerce
Department's involvement in the issues surrounding offsets in
defense trade.
As you know, the Defense Production Act directs the
administration to prepare annual reports to Congress on defense
tradeoffsets and also codifies the current policy, which was
initiated by President Bush, of nonintervention in offset
transactions by the Federal Government. Within Commerce, the
responsibility for monitoring offsets has been delegated to the
Bureau of Export Administration, with which I am associated.
We are presently working on our fourth report to the
Congress, which will be submitted later this summer. We
coordinate the collection of this data and the issuance of
these reports with the Departments of Defense, Labor, State and
Treasury, and the Office of the U.S. Trade Representative.
To help you better understand the scope of the offset
issue, let me review just a few of the findings from our 1998
report to Congress.
New offset agreements from 1993 to 1996 total about $15
billion. That is about 52 percent of the value of the defense
exports involved, which were about $29 billion. So in order to
secure $29 billion in exports, we had to give back, in a sense,
$15 billion in offsets.
Preliminary figures for 1997--you should keep in mind that
our data are a couple of years behind in this area--our
figures, preliminarily, for 1997 indicate that the average
offset as a percentage of export value will be approaching 80
percent, and discussions with U.S. prime contractors indicate
that number is continuing to go up, gradually approaching 100
percent. So we could be looking in the future at a situation
where we are asked for $1 in offsets for every $1 in defense
exports.
We also measure actual transactions under these offset
agreements. Transactions reached $9.2 billion between 1993 and
1996; 38 percent were direct offsets, 58 percent were indirect
offsets, and the rest were unspecified. About three-quarters of
those transactions appeared to displace U.S. subcontracting
work, and certainly it has been a consistent finding of our
studies that the subcontractor base is most seriously and
directly affected by offset requirements.
Three-fourths of all of the offset transactions we have
tracked involve three industry sectors: Transportation, which
includes aircraft and aircraft parts, that is about 48 percent
of these transactions; electronic and electrical equipment,
which is about 16 percent; and industrial machinery account for
about 9 percent.
Between 1993 and 1996, over 90 percent of new offset
agreements and transactions were triggered by U.S. aerospace
deals, although nearly half of those offset requirements were
actually fulfilled with nonaerospace products. Ship-building is
an industry which appears to have been particularly hard hit by
offsets. The machine tool industry has also been heavily
affected, according to our figures, in the period 1993 to 1996.
In total, more than 40 major U.S. industries, from food and
food products to apparel, printing, stone-cutting even, have
been hit by offsets, despite the fact that those industries
have little or nothing to do with defense trade.
While virtually all governments engage in offsets to one
extent or another, five countries account for about 72 percent
of new offset requirements, by value--the United Kingdom, the
Netherlands, Switzerland, Saudi Arabia, and Taiwan. In the
period that I have mentioned, 1993 to 1996, European countries
demanded 94 new offset agreements worth about $10 billion in
return for $11.3 billion in defense purchases. That is about a
90 percent offset rate.
The United Kingdom, I would note, has one of the most
aggressive offset programs. Not only does Britain demand nearly
100 percent offsets against their United States military
purchases, but the British Government also has established a
program to assist their companies meet offset requirements
demanded by other countries.
Canada's offset program is also quite aggressive, and is
designed to enhance its general economic development, rather
than its national security or defense industries in particular.
Again, Canada tends to require 100 percent offsets, most of
them indirect. It does so despite the fact that we offer
special access to Canadian firms in our markets.
Is there a better way of sharing the benefits of defense
trade than resorting to these offsets? Probably. The
development and production of extensive weapons systems through
international partnerships would be a better approach, in our
view, for example.
Our allies have been reluctant to discuss and negotiate
limits on offsets for a variety of reasons. I think some of
them regard offsets as an economic win; others are responding
to political factors; overcapacity and excess employment in the
European defense industries have increased pressure for offsets
in order to keep European defense facilities operating.
So where do we go from here, Mr. Chairman and members of
the subcommittee? Official U.S. Government policy, as has been
noted, is to avoid government involvement in offsets and to
actively consult with friends and allies to limit the adverse
affects of offsets in defense procurement. We have had
discussions over the last few years with officials of the Dutch
Government and the Canadian Government. It is particularly
important, I think, to make progress with the Canadians,
because they are a part of our North American industrial base,
and they are our closest neighbor, of course, and largest
trading partner.
Our objective remains to reduce and restrict offsets where
possible. It will be difficult to stifle the demand for
offsets, at least in the short term. It is a buyer's market for
defense systems. We are unlikely to restrain or eliminate
offsets by just complaining about them. We certainly will not
eliminate them by unilaterally restricting our own defense
contractors.
If we are serious about further constraining offsets, I
think we need to consider ways to increase our leverage,
including the following.
We need to continue our efforts at international
negotiations on offset rules, both on transatlantic trade with
our European allies and on Third Country markets where we
compete with European manufacturers. As I have mentioned,
recent discussions have indicated some receptivity to our ideas
in this area. We need to collect accurate information on all
foreign sourcing of parts and components and weapons systems
down to the subcontractor level.
Finally, Mr. Chairman, we may need to take a closer look at
the British program. I mentioned, in passing, that the British
Government actually assists its companies in responding to
offset requirements in order to make them more competitive and
to bring the demanders of offsets to the negotiating table.
That's fighting fire with fire, which we may need to consider
under these circumstances.
That summarizes my statement, and I thank you for your
patience on the time.
[The prepared statement of Mr. Majak follows:]
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Mr. Mica. Thank you for your testimony. We will withhold
questions until we have heard from the Honorable Alfred
Volkman, who is the Acting Deputy Under Secretary of Defense
for Commercial and International Programs with the Department
of Defense.
Welcome, sir. You are recognized.
Mr. Volkman. Good morning, Mr. Chairman, members of the
subcommittee. I appreciate this opportunity to participate in
these discussions on the subject of offsets in international
trade.
As almost all of our panelists have noted this morning,
there is no consensus on the subject of offsets. Government
agencies have a range of views on the topic, and industry
opinion on the matter is also divided. There is no definitive
evidence of the effect of offsets on the U.S. economy. Views on
their effect are generally divided between those who accept
offsets as an unavoidable cost of doing business overseas and
those who believe that offsets negatively affect the defense
industrial base and other U.S. interests.
It is difficult to accurately measure the impact of offsets
on the overall U.S. economy and on specific industry sectors
that are critical to defense. The GAO reports that U.S. defense
companies advised them that without offsets, most export sales
would not be made and the positive effects on the U.S. economy
and defense industrial base would be lost. In addition, company
officials indicated that export sales provided employment for
the defense industry and orders for larger production runs,
thus reducing unit costs to the U.S. military. They also noted
that many offset deals created new profitable business
opportunities for themselves and other U.S. companies.
Critics, however, charge that offsets have effects that
limit or negate the economic and defense industrial base
benefits that claim to be associated with defense export sales.
In response to concerns raised by the impact of offsets,
the President issued a policy statement in 1990 that reaffirmed
DOD's long-standing policy of not encouraging or participating
directly in offset arrangements. This policy statement also
recognizes that certain offsets are economically inefficient,
and directed that an interagency team led my DOD, in
coordination with the Department of State, consult with foreign
nations on limiting adverse effects of offsets in defense
procurement.
The Department of Defense fully supports the policies
articulated by the Congress and the administration concerning
the need to negotiate with friendly and allied governments to
eliminate the harmful effects of offsets in defense trade. My
office has been actively engaged in discussing offsets with key
allies during our regular meetings on reciprocal defense
procurement activities. In addition, we have cosponsored
seminars, organized by independent organizations such as the
National Research Council, to better understand and deal with
the complex and growing world of offset demands in
international trade.
More recently, we initiated action to lead an interagency
team, including representatives from the Department of State,
Department of Commerce, Department of Labor, and the Office of
the U.S. Trade Representative that has met bilaterally with
officials from Canada and the Netherlands on the subject of the
harmful effects of offset demands in defense trade.
Our allies consistently tell us that they need offsets
because they perceive that the U.S. defense market is not open
to them due, at least in part, to protectionist legislation. In
particular, they cite congressional reluctance to change Buy
America and small business preference legislation. We believe
that offsets should be considered as one, among many, practices
that distort defense trade, and consequently, negotiating the
offset issue by itself does not give the United States a strong
bargaining position.
Furthermore, officials from the defense industry have
expressed concern about any unilateral action by the U.S.
Government that would limit the use of offsets, stating that
such action, as Mr. Johnson said earlier, would place U.S.
exporters at a competitive disadvantage in winning overseas
defense contracts.
The Department of Defense is prepared to continue to work
with other Federal agencies, our allies, and the defense
industry to monitor the employment and effect of offsets in
international trade, to ensure that U.S. Government policies of
action or inaction do not compromise broader U.S. national
interests. The DOD will continue to support U.S. industry
interests when they are forced to comply with foreign
government-mandated offsets, while working to discourage our
foreign friends and allies from requiring offsets. However, the
Department would be very concerned over any U.S. Government
actions that would diminish the competitiveness of the U.S.
defense industry or harm the Department's efforts to achieve
military interoperability with our allies.
Mr. Chairman, thank you very much for this opportunity. I
am prepared to answer any questions you may have. Thank you.
[The prepared statement of Mr. Volkman follows:]
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Mr. Mica. Thank you. We do have a couple of questions.
It appears from the testimony that we had from Secretary
Majak that you have a pretty good handle on what is happening,
of course, with defense offsets; and it appears that that is
going to jump from 80 to 100 percent. Is that your prediction?
Mr. Majak. It seems the trend is in that direction, Mr.
Chairman.
Mr. Mica. Is there anything in that area that we should
explore as far as legislative limits, in your opinion, or is
this something that is just bound to happen?
Mr. Majak. Well, we share the skepticism of industry in
setting limits by legislation in this area. I think our
preference is to use negotiation and have flexibility to both
respond to offset requirements and to attempt, at the same
time, to negotiate them away, both on a government-to-
government level and on an industry-to-industry level. So I
don't see a legislative mandate as a direction we would want to
go, although, of course, that is the prerogative of this body,
and it would depend a lot on what the provisions of such
legislation might be.
Mr. Mica. Well, you have pretty good data, and of course
there have been some requirements on reporting. I am wondering
if sometimes the collection of aggregate information regarding
offsets hasn't actually provided information to countries--it
is openly available to other manufacturers to require this. I
mean, everybody else is getting a piece of the action. Why
shouldn't they? Are these reporting requirements now fostering
this increased offset requirement?
Mr. Majak. I seriously doubt that they are, Mr. Chairman.
As you say, they are only aggregate data.
I have no doubt that other governments may from time to
time, hold up a copy of the Commerce Department report and
refer to the numbers there, but my own experience with the
aerospace community is that they are tough and very capable
negotiators. I suspect that they have good answers to those
tactics on the part of the governments or customers they are
negotiating with. I think the report and the data that we
provide may provide some rhetorical ammunition for these other
governments, but I hardly think that it would be a decisive
factor.
Mr. Mica. Another question is that if you get into the
commercial arena, we heard the gentleman, Mr. Herrnstadt, say
we need more information, I guess Senator Feingold said we need
more information, data collection. But then I think we also
heard testimony that said how difficult it is or at least a
paper Mr. Herrnstadt published said how difficult it is to
collect that information.
From a Department of Commerce standpoint who is responsible
for collecting commercial data? Is that possible and would it
be helpful and how would you go about that?
Mr. Majak. Well, I would say, first of all, Mr. Chairman,
we of course would prefer strongly not to impose major new
burdens on industry, whether the defense industry or industry
generally, for data reporting to the Commerce Department. That
is a principle that we try to adhere to, and it is a principle
set forth in a number of pieces of legislation set forth by the
Congress. So we tread carefully into new areas of data
collection.
Is it feasible? I would have to say, yes, it probably is
feasible.
We have one other example in my own bureau of collecting
that kind of data. As you know, there is legislation
prohibiting and restricting the compliance of companies with
foreign boycotts, and we collect data from all companies who
may be approached by any foreign party to participate in such a
foreign boycott, and they are required to report to us. It is a
major undertaking. We have to have computers and people and
facilities to handle that kind of data.
Could it be done? It could. It certainly is feasible. I
think, however, at the same time, we have a good and adequate
base of information right now based upon what the 30 or 40
prime defense contractors provide us. I think we have a pretty
good picture, at least of what is going on in the defense
sector. If you need or want to expand that to all commercial
transactions, it would be a rather large data base, and so we
would have to weigh the benefits of doing that.
Mr. Mica. How many people do you currently have at the
Department of Commerce that work on the offset issue?
Mr. Majak. Three or four.
Mr. Mica. Would it require a substantial increase in
personnel to expand----
Mr. Majak. I think almost certainly it would, although we
would hope to take advantage of economies of scale with other
data collection facilities that we have. I think we would try
to use some of the existing resources that we have for other
kinds of data collection as best we could. But certainly it
would require more than the three or four people we presently
have working on this issue.
Mr. Mica. In addition to manufacturing offsets, it is very
popular, particularly in the defense area, were technology
transfers to be made part of the deal. Currently, the
Department of Commerce, the Department of State, the Department
of Defense are all involved in some way, or get involved, in
the question of export controls and technology transfers.
Is the current system adequate in this offset transfer
process? Are there gaps or things that we should be looking at?
Is there something that we should be doing that is different?
Are we going to have another embarrassment in this area, or are
we adequately covered? And we will go to Mr. Volkman first, and
Mr. Majak, you can be the clean-up hitter.
Mr. Volkman. I think that the export license control
process is very well established. I think it is generally
effective in protecting the transfer of U.S. technology outside
of the United States. Obviously, any----
Mr. Mica. As it works with offsets and again some of these
requirements that are being imposed; and it looks like we are
going to even higher percentage. Do you think that everything
is in place and working well?
Mr. Volkman. In order to export the technology, an export
license is required. If it is a military item, a request would
be submitted to the Department of State, who then consults with
the Department of Defense before an export license is granted.
It is my understanding that it is a very thorough process. If
there is a deficiency in the process, it is that it takes too
long.
Mr. Mica. One of the problems that you saw even in the
China missile technology transfer is that tremendous amount of
pressure from the private sector--we have to do the deal, we
have to provide this technology transfer. And with an offset,
you run into the same situation--pressure from the vendor to do
the deal, get the technology transferred--and you see the
little lobbying efforts that go on to move this technology.
Do you feel pretty comfortable that we have enough
protections in place, even though there is going to be even
more pressure on vendors to transfer this technology, to do the
deal?
Mr. Volkman. Well, I think there is always pressure when a
firm wants to make a sale, whether it is a foreign military or
commercial sale, that the export license be granted. I think
there is an integrity in the process that permits the U.S.
Government to withstand those pressures.
Certainly, that is true of the munitions license process,
which involves the Department of State and the Department of
Defense. I would defer to my colleague as to whether the
Department of Commerce can withstand the pressures.
Mr. Mica. No further disclosure information should be
revealed in the process to shed any light on this--on what is
taking place?
Mr. Volkman. I don't believe that we are making any
improper disclosures of information because of offsets.
Mr. Mica. I am talking about disclosure where you have an
offset involved, any further disclosure; do you think that is
adequate?
Mr. Volkman. Not that I am aware of. I don't know of any
pressures for further disclosure as a result of an offset
agreement.
Mr. Mica. No? That we should impose any further?
Mr. Volkman. No, sir, I don't believe so.
Mr. Mica. OK.
Mr. Majak. I would agree with Mr. Volkman. The Commerce
Department administers the export licensing process for so-
called dual-use items, those that have both commercial and
military applications; and we have a very thorough process.
Whether the transfer is based upon an offset arrangement or not
would be more or less immaterial to us. If the transfer of a
technology is to be made and that technology requires a
license, then we require and review those licenses. So it
really wouldn't matter what the source of the transfer was,
whether it was an offset arrangement or otherwise.
We do see license applications in our process which involve
transfers of technology under offset agreements. But as I said,
we analyze those with the same scrutiny for national security
as we do any other transfer. And I think that process is
generally working well and reliably.
Mr. Mica. Thank you.
Mr. Tierney.
Mr. Tierney. Thank you, Mr. Chairman.
Mr. Volkman, your department within the Department of
Defense is not the primary department dealing with offset
policy for the Department, is it?
Mr. Volkman. Well, there is probably not a primary office.
Within the Department of Defense, the responsibility for
discussions with foreign nations over limiting the adverse
effects of offsets is shared between my office and the Office
of the Director for Defense Procurement that has a director of
foreign contracting.
Mr. Tierney. They wrote to us and told us that they were
the ones within the Department of Defense, the procurement
people, with the primary responsibility for offset policy
within the Department. Is that accurate?
Mr. Volkman. I would say that we share that responsibility.
We both work for the same under secretary.
Mr. Tierney. You have to share that with them then; they
don't know that, just reading this, ``My office has the lead
for Department of Defense in these matters.'' That is by Dave
Oliver, the principal deputy of procurement.
Mr. Volkman. That is my boss. That is correct.
Mr. Tierney. Other industries survive quite well with
offsets being restricted under international multilateral
agreements. Is it your opinion that the defense industry could
not survive in similar atmospheres?
Mr. Volkman. I don't know the answer to that. I would echo
the comments made previously, that it would be a dangerous
thing to try to impose that kind of restriction unilaterally.
Obviously, if it is going to be effective, it has to be agreed
to by all of the participants, all of the nations that
participate.
Mr. Tierney. It has been agreed to in other industries
through multilateral agreements that it would be restricted and
eliminated. Do you see any reason that we couldn't do that in
Defense if we came to a multilateral/bilateral agreement to
restrict or eliminate the use of offsets?
Mr. Volkman. I would welcome that. I would just hasten to
say that I expect that it would be a very difficult
multilateral agreement to achieve.
Mr. Tierney. It wasn't difficult, apparently, in other
industries. Why do you think that it would be difficult to
achieve it in the defense industry?
Mr. Volkman. My impression is that parliaments, like our
Congress, want to see the large expenditures that are made on
national defense spent within the borders of their country.
Mr. Tierney. You would agree with me that there are harmful
effects to offsets?
Mr. Volkman. Yes, sir.
Mr. Tierney. Mr. Majak, you also have come to that
conclusion?
Mr. Majak. Very much so.
Mr. Tierney. Tell us about the economic inefficiencies that
result from offsets.
Mr. Majak. Well, there are a number of them. I think
probably--duplication of facilities, manufacturing facilities,
is probably one of the more blatant ones.
Obviously, in defense industries, like any other industry,
you want plenty of competition for both finished systems and
for components, but you don't want overcapacity. That creates
inefficiency. And I think foreign governments, in their
eagerness to have some of these dollars spent within their own
borders, probably do not take a very good look at what the
global market for whatever item they are wishing to produce
within their country might be.
Furthermore, many of them do not have the resources to
sustain a broad military base. So to pick one item or another
item to manufacture, even with assistance from the outside, is
not always an economically efficient way to proceed. That is
why we feel that international cooperation agreements are a
more rational process by which to determine who should produce
what, who should invest in what facilities. That would not
eliminate offsets completely, but it would make them more
economically rational.
Mr. Tierney. Do you have enough information in your
department to give us an opinion whether or not offsets have an
adverse effect on the labor market?
Mr. Majak. We do not specifically analyze labor impact.
Perhaps we should work more closely with the Labor Department
on that. We do share our data with the Labor Department, and I
would look to them to make those kinds of projections.
Really, our data are confined to aggregate figures on both
the number and the dollar value of offset agreements and the
dollar value of implementing transactions. I mean, we can use
some crude measures of what that might translate into in jobs.
Personally I think those crude formulas are not very accurate,
so I would look to the Labor Department to make those kinds of
projections.
Mr. Tierney. Tell me for what reason you do collect the
data that you do collect.
Mr. Majak. Well, I think, under the congressional mandate,
we collect this data to develop a gross measure of the
magnitude of the offset requirements in defense trade. That
kind of data is not designed and doesn't give us the capacity
to make very fine analysis of the details of these offset
requirements except as we might find them out on an anecdotal
basis. We are confined to dollar value of the country to which
the offset is provided and that kind of basic information.
Mr. Tierney. Toward what end?
Mr. Majak. Toward the end of understanding the impact on
trade and the impact on defense and moving toward restraining
these activities which we have concluded are not economically
efficient.
Mr. Tierney. What was the foundation of your conclusion
that these are not economically efficient, that you want to
somehow limit them or terminate them? What information did you
get? Was it the aggregate figures, these numbers; it is a bad
thing?
Mr. Majak. Well, I think both aggregate data and the
anecdotal data that we do obtain enables us to evaluate the
impact on particular industries. We are able to break these
numbers down by industry and to distinguish the impact on
subcontractors versus prime contractors. So we do some economic
analysis of the data, and we have reached those conclusions
from that economic analysis.
Mr. Tierney. Nevertheless, you don't feel that any other
collection of data in any form at all would be helpful?
Mr. Majak. I wouldn't go so far as to say that. Certainly
we would like to have more accurate and complete information,
perhaps at the subcontractor level, more complete information
with respect to the inclusion of foreign components in major
defense systems. Some of that data is collected already by the
Department of Defense and we have access to it. I would like to
have more thorough information, but without imposing major
burdens on industry to provide that data.
Mr. Tierney. What would you need to get the information
that you say that you need?
Mr. Majak. Well, initially perhaps, more data from the
subcontractor level on their experience with offsets, the
impact that it has upon them. At the present time, we do that
only on a spot basis; we could do that on a more thorough
basis.
Mr. Tierney. Would you get written information from them?
Mr. Majak. Yes. Our authority is based in terms of our
ability to conduct surveys of industry, so we would do it
through a survey, presumably. I am not talking here about the
documents.
Mr. Tierney. Is there anything prohibiting you from doing
that now?
Mr. Majak. Only time and resources. I think we have the
authority to do that now.
Mr. Tierney. What kind of resources are you saying would be
needed to do that?
Mr. Majak. This is primarily people resources, personnel.
Mr. Tierney. Significant--I know that Mr. Ose is going to
be very concerned if it means hiring more people.
Mr. Majak. We collect a lot of data and do a lot of
analysis now with three or four people. I couldn't put a number
on how many more people. It would not be a large number unless
we expanded the data collection beyond the defense export
sector into all commercial activities. That would be a major
expansion.
Mr. Tierney. Do you see any benefit of your department
getting copies of the sales contracts and related documents and
reports from the industries to foreign countries?
Mr. Majak. Well, that would obviously provide us with more
detailed information with which to work. So, yes, there would
be advantages to having that kind of information in terms of
our detailed understanding of these transactions.
Mr. Tierney. Do either of you gentlemen have an opinion as
to the wisdom in requiring, as a condition of entry into the
WTO, that China agree to no offsets in defense procurement
agreements?
Mr. Majak. Well, I think that question is more
appropriately directed at the Department of State. Certainly,
it is our view in the Commerce Department that the WTO
requirements represent an important discipline on trade
barriers and distorting trade practices of this kind, and we
would expect China to conform to those requirements along with
all of the other WTO members.
Mr. Tierney. Mr. Volkman, when you negotiate or discuss
this with other allies in Europe or elsewhere, what is your
opinion that results from those discussions as to what we would
have to use for leverage? What do we have for leverage to get
them to agree not to have offsets factor into contracts?
Mr. Volkman. As I said, when we discuss the adverse effects
of offsets in our defense relationship with other countries,
their reaction invariably is that the U.S. defense market is
essentially closed to foreign competition and that the way in
which they compensate for that is to demand offset, or like the
United Kingdom, industrial participation requirements.
Mr. Tierney. We know that is smoke, because fairly often we
read in these reports that their real motivation for doing
these things is, they are just trying to kick their economy up,
right?
Mr. Volkman. But if they were to agree to eliminate demands
for offset, they would expect to have a clear entry for their
defense industry into the U.S. defense market, which they view
as closed, and I think perhaps with some justice because of
protectionist legislation, small business set-asides. In fact,
in the past when the U.S.--on the rare occasions that we do buy
an item of major defense equipment outside of the United
States, we have required that the item be produced in the
United States. So we don't call it an offset, but in fact one
of the conditions of the purchase was that there be assembly to
a large extent, manufacture of equipment like the AV-8B Harrier
aircraft, Beretta pistols purchased from Italy, that had to be
assembled in the United States, trainer aircraft that was of
foreign origin that has to be manufactured in the United
States. So they see the United States as imposing requirements
that limit their ability to manufacture in their country, or
they would view them as tantamount to offsets.
Mr. Tierney. Mr. Volkman, do you or your colleagues have
any concerns at all about the defense industrial base being
dissipated in this country as a result of offsets?
Mr. Volkman. We are concerned about maintaining a viable
defense industrial base. So, to the extent that offsets would
diminish that viable defense industrial base, obviously we
would be concerned.
Mr. Tierney. I have no further questions right now.
Thank you.
Thank you, gentlemen.
Mr. Mica. Mr. Ose, you are recognized.
Mr. Ose. Thank you, Mr. Chairman.
Do end-user inspections fall within the offset dialog?
Mr. Majak. They do not as such. As I indicated in response
to an earlier question, whenever a militarily sensitive
technology is exported, we license that. We require a license
for it. We review it.
One of the mechanisms we use to evaluate those licenses is
both a pre-license check to see where the product is going and
how it is going to be used and sometimes a post-license check
to make sure that it got where it is going and is being used as
indicated. We control those technologies, however, based on the
technology, not on the basis of whether it is an offset or any
other kind of arrangement.
Mr. Ose. Your trading partners, when we require an end-user
inspection, do they take that as negotiating something subject
to negotiation and ask for a countervailing concession?
Mr. Majak. Not usually. They may complain about the burden
of having to provide us with access in order to conduct those
inspections, but it normally does not become a subject of
commercial dispute.
Mr. Ose. What happens when the trading partner--that is not
within the jurisdiction of the discussion. Never mind.
Mr. Volkman, you have a comment in your testimony on page 7
about various studies and evidence showing no clear or
significant impact on some sectors or subsectors of the U.S.
economy. Referring to these studies, they have produced no
clear evidence that offsets have a significant impact on
specific sectors or subsectors of the U.S. economy, including
sectors important for defense production. Congressional
hearings on the subject have also presented inconclusive
testimony on the negative economic effects of offsets. That is
your position in your testimony.
I just want to--this is the Department's position?
Mr. Volkman. I think we were recounting the results. In
this case, we were recounting the results of the studies which
show the ambiguity of this issue, that we are unclear as to the
effect offsets have on various sectors of the defense
industrial base.
Mr. Ose. When there is a defense product that is sold,
presumably the buyer is buying American because of the quality
or the price or the quantity or lack of availability elsewhere.
In the case where it is a very specialized piece of equipment,
such as an airplane, and it is not available elsewhere--say,
the country of France wants to buy 117--what happens if we
refuse their offsets?
Mr. Volkman. Well, if it is not available elsewhere, as Mr.
Johnson said earlier, their alternative is not to buy at all.
Mr. Ose. Does that occur?
Mr. Volkman. I suppose it could occur that there would be a
decision that absent the economic benefits to, let's say, the
French economy in your example, that would result from offsets,
that they would choose not to make the investment in the piece
of defense equipment. If that were the case and if it were a
necessary piece of defense equipment, then I think that the
alliance or those who are likely to fight together in the
future--and certainly in the recent past France has been a
loyal participant with us in most of the conflicts that we have
engaged in--that we would all be at a disadvantage as a result
of the French making that decision.
Mr. Ose. What is the consequence when there is an
alternative elsewhere in the world, in other words, a cargo
plane?
Mr. Volkman. My observation, and I would hasten to add that
I am hardly an expert in this, my observation is that offsets
are demanded and offsets are granted and that, in effect, one
of the major items in the decision is the adequacy of the
offset package.
So U.S. industry is competing with foreign industry to come
up with the best offset package.
Mr. Ose. Going back to our hypothetical with France being
the buyer, they have the opportunity to buy from us or any
number of other suppliers; and if we don't grant the offsets,
they will not make the deal because they will get the offset
package elsewhere?
Mr. Volkman. If there is a competing European supplier for
a piece of defense equipment, one of the issues that will be
considered in making the selection, whether to buy from the
U.S. manufacturer or the foreign manufacturer, is the adequacy
of the offset package. If we decided not to offer an offset
package, that would obviously be a factor in the source
selection.
Mr. Ose. These products that are transacted, whether they
be cargo planes or what have you, in these instances where
there is a transaction, how often or in what percentage of such
transactions is there a choice being made by the buyer? In
other words, in what percentage of the transactions are we not
the only supplier of a product--in other words, you have a
choice of buying this one or that one?
Mr. Volkman. I don't really know the answer to that. There
is adequate foreign competition in most defense sales.
My staff tells me that it is about 70 percent. Apparently
there is anecdotal evidence that suggests in about 70 percent
of the cases there is a foreign competitor.
Mr. Ose. So in 70 percent of the transactions, if we were
to adopt a policy mandating no offsets, we would, in effect, be
chasing the transaction to some other country?
Mr. Volkman. Yes, sir.
Mr. Ose. And losing the jobs that would otherwise be here
for assembly?
Mr. Volkman. We would be taking the risk that that would be
the case.
Mr. Ose. You are a far better wordsmith than I am, but I
will learn.
Thank you, Mr. Chairman.
Mr. Mica. I thank the gentleman.
In this GAO report, that was done last December, I believe,
one of the statements on page 2 says,
in the past, contractors had to absorb the cost of offset
implementation against their negotiated profit margins.
In 1992, DOD recognized that contractors incurred such
costs by allowing their recovery under FMS contracts. Today
U.S. Defense contractors may recover administrative costs
incurred to implement their offset agreements under certain
circumstances by charging such cost of purchasing of foreign
governments through FMS sales contracts.
It seems that is also--well, there are not too many ways to
get a handle on offsets, particularly in this defense arena.
Should we go back and revisit this, Mr. Volkman? Would it
make any difference?
Mr. Volkman. I am sorry, would you repeat that, sir.
Mr. Mica. The contractors have had to absorb the cost of
offset implementation against their negotiated profits in the
past. We changed that policy in 1992. I am wondering, if we
didn't provide an incentive to these folks not to do anything,
would we need to go back and change this policy, would it help
any, or is it a legitimate cost?
Mr. Volkman. Change the policy so that they would have to
bear the costs?
Mr. Mica. Right. Again, we are trying to find some ways to
discourage offsets, and if you have a vendor getting to write
off--we changed the policy in 1992, letting them absorb the
cost of offset implementation against their negotiated profit
margins. Maybe we should go back and change this to the way it
was.
Mr. Volkman. My reaction to that would be----
Mr. Mica. We have several contractors squirming in the
audience.
Mr. Volkman. You would be placing defense contractors in a
tough situation where they would have--in order to be
competitive, they would have to meet offset demands, but
couldn't pass on the costs of fulfilling those offset demands
to the foreign customer who is, in effect, imposing the
demands.
Essentially what we do is, we recognize that when a foreign
customer requires that there be an offset commitment, that
there are costs associated with demands for that offset
commitment and that it is fair for U.S. contractors to pass
those costs on to the foreign customer, the foreign government.
So I think it would be a bad idea to do what you have
suggested.
Mr. Mica. So we, through our policy, help promote offsets?
Mr. Volkman. No, I wouldn't say that. What the policy does
is, when a contractor agrees to an offset commitment, we are
treating U.S. contractors fairly by letting them recover the
necessary costs associated with that. I think the reason that
they enter into offset commitments, it is the price of making
the sale.
Mr. Mica. And we help them write off the costs of
implementing the offset.
Mr. Volkman. At the expense of the foreign government; not
at the expense of the U.S. Government, but at the expense of
the foreign government.
Mr. Mica. Mr. Majak, did you want to respond?
Mr. Majak. I have nothing further to add to that difficult
question.
Mr. Mica. Well, I just like to stir things up every once in
awhile.
Mr. Tierney, do you have any final questions?
Mr. Tierney. I do. Thank you.
Are you aware of an administration attempt to put together
an advisory group or panel to look into this issue and help us
revisit national policy on offsets?
Mr. Majak. I am aware only of the interagency group headed
by the Defense Department, which is mandated by the Defense
Production Act.
Mr. Volkman. I would say that we have the basis of a good
interagency group that has been formed as a result of this
cooperative relationship that we have developed.
Mr. Tierney. How active are we in terms of pursuing some
remedy of this offset situation through bilateral or
multilateral negotiations?
Mr. Majak. Well, in my full statement, I articulate and
list the recent discussions that we had with the Dutch, the
Canadians. In addition to that, we participate in many
multilateral official and unofficial conferences, and attempt
to convey our concerns about offsets at every opportunity
within the limits of our time and personnel.
Mr. Tierney. Are you getting any response?
Mr. Majak. Yes. I think there is a receptivity in many of
these discussions, which I think we need to take advantage of
by intensifying these discussions. We are continuing with
Defense to schedule additional ones.
There is receptivity to restraints on offsets if we can
mutually find a way out of the current practices; and that is
the difficult part. But, yes, I think generally, we find there
is more interest in restraints than one would suppose from
looking at the volume of demands.
Mr. Tierney. Mr. Volkman, do you know roughly what the
percentage of people in the Department of Defense procurement
division is that formerly worked within the defense private
industry?
Mr. Volkman. No, I don't know the answer to that. I would
suspect that it is not very large.
Mr. Tierney. Why do you suspect that?
Mr. Volkman. Mainly because I know people who are in
civilian procurement for the Department of Defense, and it is
not noticeable that many of them come from the defense industry
to government, at least at the working level. It may happen on
occasion that someone will come from an industry position to a
government position, perhaps at the executive level, but the
bulk of the work force does not have industry experience.
Mr. Tierney. Thank you, Mr. Chairman. I thank the witnesses
also.
Mr. Mica. Mr. Ose.
Mr. Ose. No further questions.
Mr. Mica. There being no further questions of this panel, I
would like to thank Mr. Majak and Mr. Volkman for their
participation in representing the Department of Commerce and
the Department of Defense at the hearing today. We will keep
the record open for 1 week, without objection, so we can
receive additional testimony or statements from members.
There being no further business to come before the
subcommittee this afternoon, this meeting is adjourned.
[Whereupon, at 12:35 p.m., the subcommittee was adjourned.]
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