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Description
U.S. Department of Commerce's Bureau of Industry and Security Office of Strategic Industries and Economic Security
[The following are extracts of the eleventh annual report released January 2007. Some of the footnotes and tables have been omitted from this excerpt; however, the footnotes and table numbers remain the same as in the original document. The complete report is available at the following web site: http://www.bis.doc.gov/DefenseIndustrialBasePrograms/OSIES/ offsets/FinalOffsetsElevenReport.pdf.
Introduction
This is the eleventh annual report on the impact of offsets in defense trade prepared by the U.S. Department of Commerce's Bureau of Industry and Security (BIS), Office of Strategic Industries and Economic Security pursuant to Section 309 of the Defense Production Act of 1950, (1) as amended (DPA). The report analyzes the impact of offsets on the defense preparedness, industrial competitiveness, employment, and trade of the United States.
Offsets in defense trade encompass a range of industrial compensation arrangements required by a foreign government as a condition of purchase of U.S. defense articles and services. This mandatory compensation can take many forms; it can be directly related to the purchased defense system and related services, or it can involve activities or goods unrelated to the defense system. The compensation can be further classified as a subcontract, purchase, co-production, technology transfer, licensed production, credit assistance, overseas investment, or training.
Some have raised concerns about the effects of offsets on the U.S. industrial base, since most offset arrangements involve purchasing, subcontracting, and co-production opportunities for U.S. competitors, as well as transferring technology and know-how. The official U.S. government policy on offsets in defense trade states that the government considers offsets to be "economically inefficient and trade distorting," and forbids government agencies from helping U.S. contractors to fulfill their offset obligations. (2) U.S. prime contractors generally see offsets as a reality of the marketplace for companies competing for international defense sales. Several U.S. prime contractors have informed BIS that offsets are usually necessary in order to make a defense sale.
In order to assess the impact of offsets in defense trade, BIS obtained data from U.S. defense firms involved in defense exports and offsets. These firms report their offset activities to BIS annually, (3) This report covers offset agreements entered into and the offset transactions carried out to fulfill these offset obligations from 1993 through 2005.
Statutes and Regulations
In 1984, the Congress enacted amendments to the Defense Production Act (DPA), which included the addition of Section 309 addressing offsets in defense trade. (8) Section 309 requires the President to submit an annual report on the impact of offsets on the U.S. defense industrial base to the Congress's then-Committee on Banking, Finance, and Urban Affairs of the House of Representatives (9) and the Committee on Banking, Housing, and Urban Affairs of the Senate. Section 309 authorized the Secretary of Commerce to develop and administer the regulations necessary to collect offset data from U.S. defense exporters. The Secretary of Commerce delegated this authority to the Bureau of Industry and Security (BIS). BIS published its first offset regulations in 1994. (11)
Every year, U.S. companies report offset agreement and transaction data for the previous calendar year to BIS. The 1992 amendments to Section 309 of the DPA reduced the offset agreement reporting threshold from $50 million to $5 million for U.S. firms entering into foreign defense sales contracts subject to offset agreements. Firms are also required to report all offset transactions for which they receive offset credits of $250,000 or more.
United States Government Policy
The U.S. government policy on offsets in defense trade was developed by an interagency offset team. On April 16, 1990, the President announced a policy on offsets in military exports. (12) In 1992, Congress passed the following provision, which closely reflects the policy announced by the President: (13)
(a) In General. Recognizing that certain offsets for military exports are economically inefficient and market distorting, and mindful of the need to minimize the adverse effects of offsets in military exports while ensuring that the ability of United States firms to compete for military export sales is not undermined, it is the policy of the Congress that:
(1) No agency of the United States government shall encourage, enter directly into, or commit United States firms to any offset arrangement in connection with the sale of defense goods or services to foreign governments
(2) United States government funds shall not be used to finance offsets in security assistance transactions, except in accordance with policies and procedures that were in existence on March 1, 1992
(3) Nothing in this section shall prevent agencies of the United States government from fulfilling obligations incurred through international agreements entered into before March 1, 1992
(4) The decision whether to engage in offsets, and the responsibility for negotiating and implementing offset arrangements, reside with the companies involved
(b) Presidential Approval of Exceptions. It is the policy of the Congress that the President may approve an exception to the policy stated in subsection (a) after receiving the recommendation of the National Security Council.
(c) Consultation. It is the policy of the Congress that the President shall designate the Secretary of Defense to lead, in coordination with the Secretary of State, an interagency team to consult with foreign nations on limiting the adverse effects of offsets in defense procurement. The President shall transmit an annual report on the results of these consultations to the Congress as part of the report required under section 309(a) of the DPA.
Provisions in the Defense Offsets Disclosure Act of 1999 (14) supplemented the offset policy:
(1) A fair business environment is necessary to advance international trade, economic stability, and development worldwide; this is beneficial for American workers and businesses, and is in the United States' national interest.
(2) In some cases, mandated offset requirements can cause economic distortions in international defense trade and undermine fairness and competitiveness, and may cause particular harm to small- and medium-sized businesses.
(3) The use of offsets may lead to increasing dependence on foreign suppliers for the production of United States weapons systems.
(4) The offset demands required by some purchasing countries, including some close allies of the United States, equal or exceed the value of the base contract they are intended to offset, mitigating much of the potential economic benefit of the exports.
(5) Offset demands often unduly distort the prices of defense contracts.
(6) In some cases, United States contractors are required to provide indirect offsets which can negatively impact non-defense industrial sectors.
(7) Unilateral efforts by the United States to prohibit offsets may be impractical in the current era of globalization and would severely hinder the competitiveness of the United States defense industry in the global market.
The Defense Offsets Disclosure Act of 1999 continues with the following declaration of policy:
It is the policy of the United States to monitor the use of offsets in international defense trade, to promote fairness in such trade, and to ensure that foreign participation in the production of United States weapons systems does not harm the economy of the United States.
Offsets Terminology
Several basic terms are used in discussions of offsets in defense trade.
* Offsets. Compensation practices required as a condition of purchase in either government-to-government or commercial sales of "defense articles" and/or "defense services" as defined by the Arms Export Control Act (AECA) (22 U.S.C. [section] 2751, et. seq.) and the International Traffic in Arms Regulations (ITAR) (22 C.F.R. [section][section] 120-130).
* Direct Offsets. Contractual arrangements that involve defense articles and services referenced in the sales agreement for military exports. These transactions are directly related to the defense items or services exported by the defense firm and are usually in the form of co-production, subcontracting, technology transfer, training, production, licensed production, or financing activities.
* Indirect Offsets. Contractual arrangements that involve defense goods and services unrelated to the defense items or services export referenced in the sales agreement. The kinds of offsets that are considered "indirect" include purchases, investment, training, financing activities, marketing/exporting assistance, and technology transfer.
General Overview
Table 2-1 provides a summary of all offset agreement and transaction activity for the thirteen-year period from 1993 through 2005. In 2005, the total value of offset agreements was $1.5 billion. These agreements were made in conjunction with U.S. defense system exports totaling $2.3 billion in 2005. Eight prime contractors reported that they entered into 25 offset agreements with 18 countries that year. The average offset percentage (offset value + value of exported system) for 2005 was 64.8 percent, down from 87.9 percent in 2004, continuing the downward slope from the high of 124.9 percent recorded in 2003. The average offset agreement for the thirteen-year period was worth 71.2 percent of the value of the defense systems exported. The upward trend in offset requirements is also evident in Table 2-1. For the time period of 1993-1998, offset agreements totaled 54.7 percent of the value of the defense systems exported; for the time period... |
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