Panel 7
The Role of the U.S. Government in Setting Offset Policy

Owen E. Herrnstadt

International Association of Machinists and Aerospace Workers

Mr. Herrnstadt noted that participants, as was the case during the June 1997 workshop, were grappling with the definition of offsets and the difference between direct offsets, indirect offsets, and voluntary marketing schemes. Rather than use these narrow definitions, he suggested that participants think of offsets in broader terms to cover all types of performance requirements as suggested in Dr. Mowery's paper. For policy reasons, it may be important to make such distinctions. For real workers, the distinction between each of these different types of offsets is nonexistent. A layoff is a layoff. He urged participants to always keep in mind what the practical effects are on workers and sub-tier producers.

With this in mind, he outlined areas covered in the paper where there is some common understanding of the issues. First, offsets are increasing—although there might be disagreement as to the rate of increase. The Commerce Department report shows indirect offsets increasing more quickly than direct offsets. Voluntary marketing strategies and agreements, which are really not well understood, also appear to be increasing. This observation is based on the increasing number of such agreements reported in the trade journals. Offsets and similar types of marketing strategies have become the norm and are viewed as a necessary evil.

We also know that we do not know the broad extent of the impact of these agreements on the U.S. labor market because of a lack of reporting requirements. Although there are some reporting requirements on the military side, reporting requirements in the commercial aerospace industry are woefully missing. In addition, the effects on industries outside of aerospace have yet to be reported.

We further realize that the outlook for aerospace employment is not promising. Earlier in the symposium, Dr. Scott reported that up to 25 percent of the production jobs in the industry could be lost by the year 2013. There are other



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--> Panel 7 The Role of the U.S. Government in Setting Offset Policy Owen E. Herrnstadt International Association of Machinists and Aerospace Workers Mr. Herrnstadt noted that participants, as was the case during the June 1997 workshop, were grappling with the definition of offsets and the difference between direct offsets, indirect offsets, and voluntary marketing schemes. Rather than use these narrow definitions, he suggested that participants think of offsets in broader terms to cover all types of performance requirements as suggested in Dr. Mowery's paper. For policy reasons, it may be important to make such distinctions. For real workers, the distinction between each of these different types of offsets is nonexistent. A layoff is a layoff. He urged participants to always keep in mind what the practical effects are on workers and sub-tier producers. With this in mind, he outlined areas covered in the paper where there is some common understanding of the issues. First, offsets are increasing—although there might be disagreement as to the rate of increase. The Commerce Department report shows indirect offsets increasing more quickly than direct offsets. Voluntary marketing strategies and agreements, which are really not well understood, also appear to be increasing. This observation is based on the increasing number of such agreements reported in the trade journals. Offsets and similar types of marketing strategies have become the norm and are viewed as a necessary evil. We also know that we do not know the broad extent of the impact of these agreements on the U.S. labor market because of a lack of reporting requirements. Although there are some reporting requirements on the military side, reporting requirements in the commercial aerospace industry are woefully missing. In addition, the effects on industries outside of aerospace have yet to be reported. We further realize that the outlook for aerospace employment is not promising. Earlier in the symposium, Dr. Scott reported that up to 25 percent of the production jobs in the industry could be lost by the year 2013. There are other

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--> studies that indicate that offsets continue to have a negative, and possibly increasingly negative, impact on aerospace production workers. Although some note that currently there is job growth, the current economic boom could turn down rapidly as a result of the Asian crisis. In addition, the gains made in the past few years still have not compensated for all the jobs lost earlier. The issue of employment—and the pain of dislocation—is still very real for those workers who have lost their jobs or who have found new jobs in other industries at lower wages and with fewer benefits. As Dr. Rosen pointed out earlier, the aerospace industry is important because it makes a large contribution to the U.S. economy. The administration understands the importance of preserving and assisting the industry. Maintaining the health of the aerospace industry is clearly in the national interest. Certainly other countries believe that having an aerospace industry is in their national interest. Countries such as Japan, China, and the Western European nations, have well-defined offset policies. As NATO expands, Eastern European countries are now engaging in the offsets game. Many of these countries are using offsets to develop their aerospace industry, in particular China. Multiple Effects As a result, there is concern over the widespread employment effects of offsets on both the prime contractors and the subcontractors, as well as on those who are caught in the draft of indirect offsets. Technology transfer is also a concern, including the possibility of taxpayer-funded research being shipped abroad to increase the strength of our competitors. As mentioned earlier, this simply worsens the problem of global overcapacity. National security concerns are also important. It is very hard to distinguish when a technology is transferred to a country such as China whether that technology will be contained in the commercial sector or used for military purposes. This was especially well described in a presentation at the June 1997 meeting. There is a concern regarding prime contractors versus sub-tier suppliers. A presentation earlier in the symposium described what is happening to the aerospace sub-tier industries. The process of sub-tier companies being squeezed out of the business has a real effect on jobs. Mr. Herrnstadt then read three comments from sub-tier producers quoted in the most recent Commerce Department report on offsets as to the negative impact of offsets on their business and employment. No Governmental Coordination In addition to conflicts between private sector entities, there is a lack of coordination between public entities. For example, the FAA developed a proposed regulation concerning fees on the production of "complex parts and subassemblies outside of the United States." One of the purposes stated for the proposed

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--> regulation was to take advantage of lower labor costs, lower manufacturing costs, and "fulfilling certain aircraft purchasing requirements that require a production approval holder to produce a percentage of the aircraft within the purchasing country." This sounds like offsets. There is a real question as to whether or not this type of move would have a significant effect on certain other entities or members of U.S. society. Mr. Herrnstadt said he believes it would have such an impact. Three Types of Solutions There seem to be three categories of solutions represented at this symposium. The first is the "do nothing is best" model. This is analogous to a pilot seeing thunderstorms ahead on the radar and turning off the radar to solve the problem. The second category seems to be a recommendation for more ad hoc meetings and a call for more information. This is the approach taken recently by the Trade Promotion Coordinating Committee. Although welcoming the acknowledgment of the lack of data, Mr. Herrnstadt argued that more needs to be done. He urged a third solution-—a framework to begin addressing these issues. A starting point for such a framework, which should be quickly put in place, would be a mechanism for acquiring information on offsets through regular reports. Although there is already some information required on the military side, the information is insufficient to help us understand what is happening on the sub-tier level. There is virtually no information on these issues as they affect the commercial aerospace industry. In closing, Mr. Herrnstadt noted that his paper contains additional, specific recommendations. In particular, he stressed the need for additional funds for trade adjustment assistance. Reminding the participants that the stakes are growing and that the pieces to the offset puzzle are becoming more difficult to identify, he argued that the United States can no longer sit back and let other nations, and the hundreds of private parties involved in offsets, determine our future. It is time for the U.S. government to take a strong leadership role in developing a policy on offsets and related employment and trade issues. Discussants Greg Martin Lockheed Martin Mr. Martin began by agreeing with Mr. Herrnstadt and other speakers that competition has driven offset demands to increasing levels, both with respect to size and scope. In the defense industry, this has been the result of the dramatic reduction in U.S. government procurement and the accompanying increase in competition for foreign sales.

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--> Foreign governments are spending more and more taxpayer money on defense acquisitions from outside their borders. They need to justify these expenditures not only to their taxpayers but their own labor unions, because they are shipping jobs offshore. In many countries, labor unions are driving the offset requirements. If the shoe was on the other foot and the United States was purchasing the bulk of its defense products from overseas, U.S. taxpayers, defense companies, and labor unions would all be crying for strong offsets. The United States does have an offset program in the form of the "Buy America Act," which requires that at least 50 percent—and typically a much larger percent—of any defense products purchased offshore be manufactured in America. Neither defense companies nor unions oppose the "Buy America Act" because it does create jobs and business here in United States. Mr. Martin pointed out that there was a tremendous employment gain in the 1980s due to the defense buildup. Unfortunately, that level of employment was unsustainable. With the end of the Cold War and the downturn in the commercial sector in late 1980s, employment fell. Offsets had a relatively minor impact on jobs. Some of the largest offset programs occurred during the 1980s while employment was still growing. Thus, critics cannot have it both ways by claiming the downturn was due to offsets but the upturn in employment was not. The defense sector today depends primarily on international sales to keep production lines open in a number of products, such as the C-130J, the F-16, the F-15, and a number of helicopters. Although understanding the concern over a lack of data, Mr. Martin urged participants not to minimize the significance of the amount of data that is already being collected. Defense companies are providing a tremendous amount of detailed proprietary, sensitive data. It is a substantial task for the companies to put this data together and supply it to the Commerce Department. He agreed that there will be aerospace jobs lost in the future as the industry continues to consolidate. The consolidation is the result of market reality, not a result of offsets. He disagreed with earlier analyses stating that two-thirds of the jobs would be lost because of market access problems and one-third lost because of offsets. The key question is, if you do away with offsets, what happens to the market access? He expressed concern about the Commerce Department's use of anecdotal information regarding the effects of offsets on subcontractors. The government goes to great lengths to get hard data from the defense prime contractors. It is thus disconcerting to see the report's findings based solely on unsubstantiated comments from subcontractors. The industry recommends that the Commerce Department change its methodology of collecting these data to find out who is really being hurt by offsets and to what degree. The comment from suppliers came at a time when the industry was consolidating and rationalizing the supplier base. Some of these suppliers may have been dropped because of that consolidation, not because of offsets.

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--> Industry supports multilateral initiatives, while not holding out a lot of hope that these initiatives will be successful. However, any initiatives and policies must not impede in any way industry's ability to form international relationships. Mr. Martin closed by noting that data are being collected and a dialog is continuing. Industry supports both the collection of data and the dialog and is happy to participate in developing a plan to go forward with multilateral discussions. Thea Lee AFL-CIO Dr. Lee commented that she thought Mr. Herrnstadt's paper was not only a persuasive case for the need for action but also a forceful call for a strategy and a coordinated set of initiatives. The first point Mr. Herrnstadt made is that the problem is severe and growing. Problems include the effects on workers and suppliers as well as the future impact of offsets packages. The second point is that there is no other player who can address these issues other than the government. Different Perceptions Industry clearly believes that offsets are not a major problem. It is not surprising that the issue is perceived differently by industry and workers. It is an issue of inconvenience to industry. It is a problem of much greater significance to workers. Industry can move production to gain market access and still earn a profit; workers are left out. Dr. Lee remains unconvinced by Mr. Martin's argument that the existence of offsets during a time of employment growth in the 1980s means that offsets had no negative impact on employment. One must look at the impacts of offsets, other things being equal. It is hard to argue that, when companies are forced into offset deals, there is not a negative impact on at least potential employment. This is a different point than looking at aggregate employment. She commented that Mr. Herrnstadt's paper could emphasize this point by analyzing what would have happened to employment in the absence of offsets. Counterbalancing other Governments Dr. Lee then went on to the issue concerning government actions. The argument is made that U.S. companies must accept these deals imposed by foreign governments in order to get the business. If they are not allowed to make these arrangements, they will lose out to companies from other countries. This is correct only in the absence of some type of U.S. government action. You cannot counter a nationalistic industrial policy with a laissez faire approach. This resulted in a mismatch. You will either have to let market forces work and gain the efficiency benefits or take government action in the presence of these interven-

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--> tions by other governments. This can be done either by negotiating multilateral rules or by countervailing. Multilateral Rules? Dr. Lee added that it was heartening to hear industry representatives state that they would support multilateral rules. However, without more energy behind the push for multilateral rules, there will be little incentive to undertake such negotiations. And in the absence of such multilateral rules, the United States should be willing to adopt the second-best policy of taking defensive unilateral action. A Commission Needed The policy recommendations described in Mr. Herrnstadt's paper are both modest and clear. A good first step would be the creation of a government commission that can gather information, coordinate different areas such as trade and technology policy, and develop guidelines for multilateral rules. Dr. Lee closed by commenting that we still do not have good information. We need a catalog of offset deals and their impact on the supplier industry. Everyone agrees that we do not know how much subcontractors are hurt by offsets. Although some information is out there, the right information is not yet available. Gathering that information is crucial for making informed decisions. She commended the National Academy of Sciences for bringing together the interested parties at this symposium—and at the June 1997 meeting—as part of the first step in reaching consensus on this very real problem. General Discussion Brad Botwin, U.S. Department of Commerce: Mr. Botwin noted that the Commerce Department's Bureau of Export Administration, where he is the director for Strategic Analysis, appreciates the efforts of the prime defense contractors in supplying the information. However, the information given to the U.S. government is only a fraction of what the companies give to foreign governments on how they have fulfilled their offset obligations. The Commerce Department would be happy to simply receive the same information given foreign governments. Concerning subcontractor data, the Commerce Department is updating and upgrading that information, including a forum in Austin, Texas, on April 1, 1998, to discuss the impact of offsets on subcontractors. Each of the companies quoted in the report are legitimate, high-technology, financially stable suppliers to the U.S. industrial base. The companies had asked that their names not be used out of fear of repercussions. He mentioned that the pain being inflicted on the supplier base is very real.

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--> Sally Bath, U.S. Department of Commerce: Ms. Bath noted that the industry will face a great deal of change in the future, including changes that we cannot anticipate and are not prepared to address adequately. Offsets may be last year's problem. European targeting of the supplier base, particularly avionics, may be only the tip of the iceberg. We need to look carefully at the manner in which we maintain an industry that everyone agrees is essential. Art Ismay, Defense Industry Offset Association and Rockwell International: Mr. Ismay commented on the general concern expressed about the lack of real data as to the impact of offsets on employment. Obtaining this information would require looking at proprietary data. The government does not need to ask for sales contracts. The data provided foreign governments give the specific details of the offset contract and how well the company is doing in meeting those requirements. This is proprietary data that companies are reluctant to have revealed to their competitors. Companies would supply this information, if required, but would strongly resist having such requirements. In addition, the prime contractors do not necessarily have, nor can they get, information as to how the offset requirements affect employment among the subcontractors. Labor unions might be better off coming up with some scheme to obtain the information more directly than imposing a requirement on the prime contractors. John Shaw, Cambridge Consulting Group: Mr. Shaw noted that there is no consensus as to whether the entire phenomena of offsets is good, significant, or insignificant. Government policy is made in a political context. Data are only as good as the interpretation. No matter how much is collected, the information will still be used to make the most convenient interpretation. As discussed earlier, perceptions may be more important and bad data may push out good data. There will never be enough information in the U.S. government to have a finality to satisfy all the participants. It is a resolution problem, not a data problem. Randy Barber, Center for Economic Organizing: Mr. Barber agreed that there is a problem with interpretation. However, the lack of data reinforces suspicion about the problem. The fundamental argument from industry is that, on net, offering these types of offset arrangements creates more jobs than if they were not offered. The problem is that there is no way to verify this. Proprietary information is a legitimate concern. However, the industry needs to balance whether it is more damaging to have unfounded suspicions and an information vacuum, or if it is better to have some basis for making a judgment. At present, we lack the information needed to determine whether these deals, which basically trade production for market access, adequately take into account the interests of workers, national security, and the broader economy. Information is the precondition. The fundamental question is whether these deals result in a net creation of jobs. The lack of information means we are trying to answer that question in a vacuum.

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--> Greg Martin, Lockheed Martin: In response, Mr. Martin cited the example of the F-16 line, where presently less than 10 percent of the production is for the U.S. government. He asked what type of data would convince Mr. Barber that offsets are not saving those jobs. Mr. Barber replied that may very well be the case in that particular example. Steve Beckman, United Auto Workers: To put the offsets issue in perspective, Mr. Beckman suggested that we consider the difference between the auto and aerospace industries. U.S. auto companies are international in scope, but they do not serve those foreign markets through exports. U.S. auto companies moved production facilities overseas because of offset requirements placed on them in the 1920s and the 1930s. The ability of the auto industry to provide decent paying jobs for workers was never dependent on those exports. The companies prospered as their international sales prospered, but employment in the industry was based on its domestic strength. This form of national economic development was the norm in the first half of the twentieth century. Now, the norm is export-led development. The aerospace industry has grown up in a time when its success depended on concentrated domestic production and the export of that production to serve foreign markets. A process is now being imposed on the aerospace industry over a period of 10-15 years that had been imposed on the automotive industry over a period of 20-30 years. Workers who lose their jobs in this process of internationalization are expected to think it is a great idea because it is better than if industry moved totally overseas to produce for those overseas markets. The reality is that production is moving offshore because there are barriers to market access, not because U.S. products are noncompetitive. Yet workers are being told that they have to be competitive to succeed internationally. That is why workers do not trust what the companies tell them about offsets. Workers are going to lose their jobs and companies are going to keep the profits. Free markets, we are told, are the solution to our economic problems. But if these markets are not open, we cannot continue to play the game as if they are—and that is what workers are being asked to do. Owen Herrnstadt, International Association of Machinists and Aerospace Workers: Mr. Herrnstadt acknowledged that some information is collected in the defense sector, but stated that it needs to be made more accessible. There is also a problem with proprietary information. If you are sitting on the worker's side of the table, you have no idea what the key information is because you are not privileged to the details of the contract. The defense industry slammed a congressional proposal to require a ''good faith estimate" from defense contractors as to how much work would be kept in the United States. Mr. Herrnstadt argued that this was a very modest proposal. Although the comments made at this sympo-

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--> sium have been refreshing, he expressed hope that the industry would review its position as to what type of general information could be released. The administration must also provide leadership on this issue. There has been a long and fruitful effort on protecting intellectual property. The trade-related problems such as offsets deserve a similar level of attention—not only in aerospace but in other industries as well. Mr. Herrnstadt closed by thanking the National Academy of Sciences for facilitating the dialog on this issue. He noted, however, that action, not just dialog, is needed.

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