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VOLUME I
Analysis of the Effects of U.S.
National Security Controls on
U.S.-Headquartered Industrial Firms
Submitted to:
Panel on the Impact of National Security Controls on
International Technology Transfer of the
Committee on Science, Engineering and Public Policy
of the National Academies of Sciences and Engineering
Washington, DC
August 25, 1986
Principal Investigators:
Dr. William F. Finan
Karen M. Sandberg
Quick, Finan & Associates
Suite 340
1020 - 19th Street, NW
Washington, OC 20036
(202) 223-4044
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Table of Contents
EXECUTIVE SUMMARY
VOLUME I
Page Number
I. Introduction 1
II. Structure of U.S. Export Trade and
International Sales as They Relate
to the Export Licensing System
Operating Characteristics of the
Export Licensing System
IV. Analysis of Firm Questionnaire on
Export Controls
11
27
45
V. Summary of Interviews with U.S.
Firms on Operation of the Export
Control System 57
vI. Summary of Effects of U.S. National
Security Controls on U.S.-Headquartered
Firms 70
Tables and Figures
VOLUME II
Appendix A:
Appendix B:
Primary Sources of Data for
the Report
Industry Sector Analysis
1. Analytic Instruments
2. Medical Equipment
3. Machine Tools
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Appendix C: Tabulation of Export Control
Questionnaire Responses
Appendix D: Summary of Results of the
August 1985 American Electronics
Association Questionnaire on
Export Controls
Appendix E: Tabulation of Department of
Commerce License Sample on
Level of Military Criticality
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Executive Summary
In principal, the U.S. export control system should
have very little, if any, relative competitive effect on
U.S. firms.1 This would be the case if the U.S. controls
and procedures were identical to those utilized by other
countries who subscribe to the multilateral control system
(COCOM). But in fact, U.S. controls and procedures do
differ. The greater scope of activity covered, the greater
stringency with which foreign sales are regulated, and the
greater complexity of the U.S. procedures are all factors
when combined mean that U.S. firms bear a competitive as
well as an administrative cost in complying with U.S.
export controls.
Estimating the international competitive effects of
U.S. export controls is difficult. The difficulty arises
from the fact that the effects on relative competitiveness
manifest themselves in a variety of diffuse ways, with the
degree of influence depending on numerous variables related
to the operation of the system. This study does not
attempt to estimate the total economic costs associated
with the controls. It does provide an estimate for the
1''Relative'' in this context is defined with respect to
firms headquartered in other countries that subscribe to
the multilateral control system (COCOM).
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1 ~
scope of U.S. foreign sales covered by export controls,
analyzes administrative measures of performance which
indicate the way the system creates competitive costs, and
indicates some of the economic costs associated with export
controls.
Coverage. The coverage of U.S. export controls2
includes certain sales (as appropriate) from foreign
sources by U.S. firms as well as their direct exports from
the U.S. It should be kept in mind that while this
coverage includes products produced and sold offshore by a
U.S. affiliate, it also could potentially include in
certain cases of products manufactured by a foreign firm
incorporating components or technology of U.S. origin.
This latter category is large, but as a practical matter,
there is no reliable source available to allow its size to
be estimated. It remains outside the scope of this study.
The scope of coverage is also narrowed to look at just
manufactured items versus all merchandise because the
central concern regarding effects of U.S. export controls
on competitiveness center on the manufacturing sector.
2The focus of this study is the effect of the national
security controls, but some of the data used in this study
includes controls which exist for other purposes.
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Total 198S foreign sales to third parties for the
industrial sectors most likely to have some portion of
their sales requiring a validated export license, were
estimated to be $130 billion.3,4 Of this total, only $78
billion required a validated license. The $78 billion can
be further subdivided into the portion transacted under an
Individual validated License (~VL) and the portion
transacted under a bulk license (Distribution, Project, or
Supply). An estimated $22 to $36 billion of U.S. foreign
sales in 1985 used an IVL while an estimated $42 to $56
billion went under some form of a bulk license. These
subdivisions are summarized in Figure A, which also divides
the trade flow into geographic regions relevant to the
export control process. Direct trade with the East Bloc
comprises a very small portion of total transactions
affected by export controls. This partly reflects the fact
that many U.S. firms have either given up trying to sell to
Eastern Bloc countries or have chosen to assign only minor
resources to marketing in this region.
3These sectors are: communication and computer/office
equipment, aircraft and parts, electronic components,
instruments and machine tools.
4This is out of total U.S. foreign sales of roughly
$440 billion for manufacturers in 1985.
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Figure A
U.S. Business Activity Covered by the
Licensing System, 198S
($ billion)
Area of World
East-West
($2,*
.-
COCOM
($35)*
Other West
($32~*
*
**
1 1 1
1
Under Validated Lic.
($78)
Self-licensed
($362)
Estimated Total U.S. Foreign
Manufacturing Sales (**)
($440)
Value of direct exports
Sales.through ~ _
nonaffiliated parties
.
foreign affiliates and direct
exports to
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The Individual Validated License (IVL). At the heart
of the procedures associated with regulating strategically
sensitive exports is the IVL. Even though most foreign
sales of U.S. firms which require a validated license occur
under a bulk license, the IVL application procedures and
regulations seem to have a more significant influence on
the marketing of U.S. products. Discussions also tend to
focus on the IVL procedures because more data is publicly
available to assess administrative process times and
outcomes.
The IVL control process falls on a fairly limited set
of products and U.S. firms. Only ten of the several
hundred commodity control list categories account for 92
percent of all IVL approvals for manufactured items. And
approximately 2,000 to 3,000 firms (including some portion
which are non-U.S. based) actively apply for Ives each
year. Overlapping with these firms are the roughly 600
firms that hold Distribution Licenses.
A different, broader perspective on the extent of
influence of the IVL procedures is provided from the
estimate of the number of foreign enterprises
(distributors, affiliates, unaffiliated firms) interacting
with the U.S. export control system. There are in excess
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of 100,000 foreign enterprises, i.e., recipients of
controlled goods in the West that come under the very broad
reach of the U.S. system. The result is that any
competitive disadvantages created by the U.S. export
licensing system will have a large ripple effect to the
extent that there is alternative Western foreign
availability.
A number of measures of performance are used to gauge
the efficiency of the IVL procedures from an administrative
standpoint. These include average processing time within
the Department of Commerce, rate of denials of
applications, and the portion of applications returned
without action (RWAd).
We suspect that the statistics routinely reported for
these measures are misleading for a variety of reasons.
Starting with processing times, one of the factors which
creates uncertainties for firms applying for an IVL is the
large variation in processing times. DOC reports average
processing times of approximately 25 days J but DOC narrowly
defines processing time, that is, it only looks at the time
from point of entry into the license system until final
action is taken. A very different measurement results if
the processing times are looked at from the point of view
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of the firm. Processing times from their point of view
average 54 days, with one-third of all cases requiring more
than 40 days. Even if only West-West applications are
looked at there is still a large processing time variance;
about one-quarter of all cases taking more than 40 days.
For Western destinations, total processing time can average
40 days for COCOM countries (just within the legislative
requirement), and 52 days for non-COCOM West destinations.
Bloc destination processing times are even longer,
averaging 79 days.
The denial rate for applications reported by the
Commerce Department averages between 1 and 2 percent of all
license applications. This low denial rate might be
interpreted by some as indicating that the system either is
very loose--basically a paper drill--or that it only
constrains business to a very minor extent. But the denial
rate is quite low for several reasons. First, firms will
generally try to avoid submitting a license application
when they believe the effort required to obtain the license
is inordinately high. Second, firms will modify their
applications or withdraw them (request a Return Without
Action) in order to avoid an outright denial being formally
recorded. Thus, the official denial rate does not measure,
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to any meaningful degree, the real degree of
restrictiveness of the license system.
The third measure commonly reported is the number of
cases which are RWAd. The reported RWA rate is nearly one
in every six applications. The evidence suggests this is
somewhat inflated by the fact that some licenses are RWAd
more than once--some even three or four times before
finally proceeding through the system. Recent changes in
the Commerce Department procedures may significantly reduce
the rate of RWAs recorded.
There is also some evidence that administrative
performance measures vary with the size of the firm making
the application. Analysis of licenses submitted by larger
firms versus those submitted by smaller firms suggests that
larger firms have shorter average processing times with
lower denial and returned without action (RWA) rates. For
example, in West-West trade, small firms averaged 46 days
processing time while large firms averaged 35 days.
Reexport licenses. A large category of license
applications in the U.S. system pertain to reexport
authorization. Reexport applications represented about 10
percent of the Commerce Department case load in FYS5.
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Approximately 80 percent of all reexport applications from
COCOM countries come from U.S. affiliates of U.S.-based
parent companies. This suggests that compliance by foreign
firms may be quite low, especially where the export is a
finished product with U.S. origin parts components/ or
technology.
Level of Military Criticality. An important issue
regarding operation of the license system is how processing
times vary with the level of technology and the degree of
diversion risk (i.e.,.the risk involved in the destination
of the export). Does the system treat more critical
technology to more sensitive destinations more carefully?
If it did, one might expect processing times to lengthen as
a function of criticality or risk of diversion.
In order to look carefully at this issue, a large
sample of license applications (over 1600) was drawn from
the total number of applications completing the processing
sequence in early June 1986 (about 3,000). The licenses
were sorted by level of technology and destination. The
results were especially revealing regarding how the license
process treats sensitive versus less sensitive items.
First, a very large component--17 percent of the total--of
the license applications may not have had to be in the
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i
system at all because they fell under General License
provisions.5 Second, with respect to free-wor1d
destinations, processing times correlate somewhat with
diversion risk, but do not vary as a function of level of
criticality. Third, an especially revealing result of the
sample was the fact that one-third of the IVL applications
for export to free-worId countries were in lowest level of
technology--that is, these items were ones that COCOM has
agreed may be exported to East Bloc destinations without
prior COCOM approval. Further, two-thirds of the IVL
applications were for items of sufficiently low-level
technology that COCOM has already agreed that they may be
exported to the Peoples Republic of China (PRC) without
prior COCOM approval. These measurements suggest that the
system is making only a very limited degree of
discrimination between sensitive and less sensitive
technology and furthermore is heavily loaded with
applications covering very low-level technology items.
Responses from firm interviews. Over 20 U.S. firms
were extensively interviewed for the Academy study. The
5General License (GCOM) provisions allow exports to
COCOM countries of products on the COCOM control list which
do not require COCOM approval for export to the East Bloc
countries. Some of these applications eligible for GCOM
treatment may have been for reexport outside COCOM and
therefore would have needed a license.
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conclusions developed from these interviews were that the
export licensing system was directly inhibiting some firms
from exporting (beyond legitimate restrictions imposed for
national security purposes) and was contributing to an
erosion of foreign sales distribution networks. What
appears to be happening is that the export licensing
process increases the cost of doing business abroad. First
of all, it creates entry costs due to the need to train
employees in compliance, learn the regulations, educate
customers and so forth. Because of high administrative
costs of compliance a number of firms reported they had
either given up trying to sell to the East Bloc countries
or had substantially reduced their level of effort.
Second, companies must expend resources on an ongoing basis
to sustain their ability to effectively deal with the
requirements of the system. Firms that were larger and had
a Washington presence were clearly better able to monitor
and comply with the license systems requirements, and, in
some cases, influence the scope of the requirements.
Responses from firm questionnaire. Indicative of the
complexity of the licensing process is the fact that almost
half of the firms surveyed had at least one full-time
employee specializing in export control compliance. Total
direct compliance costs for U.S. firms in 1985 (i.e.,
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direct administrative costs only) based on the survey
results were estimated to be about SS00 million. The
questionnaire respondents also indicated only partial
adoption of several new provisions in the 1985 legislation
that renewed export controls. For example, over half the
firms surveyed did not indicate foreign availability on a
license application even when they believed it existed.
With respect to use of the new General License (GCOM), only
30 percent of the respondents indicated they were using it.
One important indication of the competitive impact
demonstrated by the questionnaire responses was the growing
problems that export controls represent with the foreign
customer base. One-quarter of all firms indicated that
existing free-world customers had refused to consummate
business deals with them due to export controls. An even
greater number, 38 percent, responded that their existing
customers had indicated ~ preference to shift to a non-U.S.
source of supply. Most firms, especially the larger firms,
indicated they expect these problems to increase over the
next two years.
Study of Analytic Instruments Trade. The respondents
to the firm questionnaire indicated that they believed
foreign customers were becoming more sensitive to the
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differential that exists between U.S. export control
procedures and those of other COCOM countries. This
perception and the evidence of shifting customer
preferences is supported by an empirical analysis of U.S.
analytic instruments exports to other cOCOM countries.6
The evidence from analyzing the relationship between trade
levels and the influence of export controls for this sector
is that changes in U.S. export controls caused significant
short-ter~ variations in the level of export trade--between
7 to 12 percent. Thus, the perception that U.S. firms
registered in the survey regarding the sensitivity of their
customers towards U. S . controls seem consistent with the
sensitivity measured by this empirical result.
* * *
Because the U. S . export controls are a net negative
competitive factor internationally, a U.S. firm competing
against a foreign firm abroad must be sufficiently superior
in other dimensions to overcome the disadvantage created by
export controls. That is, the U.S. firm must be capable of
offering a better price, or superior technology, or
superior marketing and service support to overcome the
export control factor.
6Excluding Canada.
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Providing these compensating actions is becoming
increasingly difficult for at least two reasons. First,
the evidence indicates that foreign customers seem to be
giving greater weight to export controls as a negative
factor as they become more visible. Second, U.S. firms are
losing their relative competitive edge in high technology
areas.
As established by the large sample of license
applications, a substantial portion of the applications in
the system are for low-end items--that is, comparatively
low technology items. Any technology edge one might expect
a U.S. firm to have is less likely to exist for this low-
end category. As more and more non-U. S . sources exist for
these items, the more likely it is that U.S. export
controls will drive a foreign customer to use a non-U.S.
source.
The relatively tighter U.S. controls will probably
have an increasing negative competitive effect over time as
relative improvements in foreign technology availability
continue. The result is that the competitive costs of lost
sales being borne by U.S. firms related to compliance are
probably greatest for the least sensitive of the goods they
are selling abroad and those costs are likely to increase.
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Simply stated, the system is creating the greatest costs
where it provides the least benefit.
Thus, U.S.
-
headquartered firms are likely to be bearing a cost of
compliance which is significantly higher than is needed to
ensure that the goals of the export controls are being
fulfilled.
!~<
.
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