December 27, 2001

December 27, 2001 | Commentary on Foreign Aid and Development

The Right Cure For Steel

Say you fall and break your leg. The leg hurts, so you take aspirin for the pain. But you don't stop there. You go get a cast, so the leg can heal permanently.

Yet the wisdom of treating the cause of suffering rather than merely masking the pain, appears to escape those who set government policies for the global steel industry. Instead of forthrightly treating the disease-chronic over-capacity-they continue to treat the symptoms through an expensive course of government subsidies, tariffs and quotas.

Steel is not healthy these days, mostly because it produces more than consumers need. This pushes prices downward and makes it difficult for firms to survive. In the United States alone, 29 steel-making firms have filed for bankruptcy in just the last four years. To address the issue of global over-capacity, representatives from the governments of more than 30 nations, including the United States, met in Paris on Dec. 17-18 to come up with a solution.

The representatives tentatively agreed to cut capacity by 97.5 million tons per year by 2010. This may sound like strong medicine. But, in reality, it amounts to little more than popping a couple of financial aspirins.

That's because over-capacity is a far more serious problem than the agreement indicates. The Organization for Economic Cooperation and Development (OECD) estimates that worldwide steel production capacity now stands at 1 billion tons per year. Implementing the cuts agreed to in Paris would trim capacity nearly 10 percent. But that's not nearly enough.

By year's end, manufacturers will have produced only 835 million tons of steel-an amount still way in excess of demand. The pricing problem afflicting steel makers will never be "cured" unless production is slashed to well below current levels. Cutting capacity to a level far above already excessive production levels will have no remedial effect whatsoever.
Steel firms still will have the incentive to lobby their governments for even more protection, even more subsidies to help them "compete" for market share in a hopelessly glutted market.

As long as governments, including ours, continue to intervene, the steel industry will continue to be plagued by the same problems it faces today. Why? Because subsidies encourage production, even when production levels already exceed consumer demand, and protection allows inefficient firms to survive. Neither is positive.

The steel industry needs to eliminate over-capacity. For that to happen, it must be weaned from the destructively enabling-and, ultimately, debilitating-influence of government intervention. Governments should adopt a "tough love" approach that acknowledges that the industry's long-term health requires that untenable firms be unhooked from government funded life-support systems and that some inefficient firms will need to be merged with more efficient operations.

Many in the industry will object that removing financial crutches is a harsh treatment. However, the industry-and the governments that prop it up-need to ask themselves exactly how they've benefited from the present TLC approach. Steel certainly has not grown less dependent on government subsidies and protective tariffs. It has not grown more profitable.

Alas, few nations seem willing to write out an effective prescription. Indeed, to protect our domestic steel industry, the Bush Administration is considering slapping steel imports with additional tariffs as high as 40 percent-even though nearly 80 percent of all steel imports already are hit with sizable protective tariffs meant to discourage "dumping."

Worse, failure to resolve the global, structural problems of steel could impede broader trade agreements, which have proven reliable sources of significant economic growth.

For instance, the United States Trade Representative (USTR) estimates that the NAFTA and Uruguay Round trade agreements have increased the income of the average American family by $1,300 to $2,000 annually in every year since those negotiations were completed. The reduction of trade barriers agreed to at the World Trade Organization meeting in November will generate $700 billion worldwide, with nearly $200 billion-or $2,450 per family-of that going to the United States, according to a University of Michigan study.

The good news is the representatives agreed to meet again in February. Perhaps by then, they will realize that cutting steel capacity amounts to more than just taking two Tylenol for a broken leg. Maybe by then, they will see the light, eliminate government interventions in the industry and get steel on the road to true healing.

Aaron Schavey is a policy analyst in the Center for International Trade and Economics at The Heritage Foundation, a prominent Washington research institution.

About the Author

Aaron Schavey Policy Analyst
Finance and Accounting

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