The Effects of Offsets on Output and Employment in the   U.S. Aerospace Industry—Viewpoints | EPI
March 4, 2002

The Effects of Offsets on Output and Employment in the U.S. Aerospace Industry

by Robert 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 its past, particularly regarding employment. The debate over the impacts of offsets is contentious because of the interplay of several closely related questions that can be difficult to disentangle. Over the past decade, the industry has gone through a massive downsizing driven by declines in defense expenditures. Offsets were a relatively small contributor to employment loss in this period. However, as defense restructuring approaches its conclusion, trade in general, and offsets in particular, are likely to be bigger factors in employment loss in the future.

I have prepared several reports on these subjects. The most recent was published in a report by the National Research Council that is appended to my statement (see Appendix A). We have updated several figures from that report for this hearing, and I also attach a separate Appendix with those updated tables and figures (see Appendix B). I will refer to several of these exhibits, by their original numbers, in my testimony today.

Employment Impacts
Turning specifically to the employment impacts of offsets, total aerospace employment peaked in 1989, as you will note in Table 1 in Appendix B. Approximately one half million jobs were lost between 1989 and 1995, the last business-cycle trough in this sector. Employment recovered for a few years, but peaked again in April, 1998, as shown in the new Figure A, below. It covers most but not all of the employment summarized in Table 1.

There are four major causes of these employment declines. First, between 1989 and 1995, a decline in sales that was dominated by the decline in defense sales but also included the commercial sector, was responsible for about fifty percent of the half-million jobs lost. Second, outsourcing, which includes all forms of increasing imports of parts and components, accounted for six to 10 percent of those job losses. Third, productivity growth accounted for the remainder of the job loss in this earlier period.

Finally, in the past year, the Asian financial crisis has significantly depressed employment throughout the manufacturing sector, and in aerospace in particular. 445,000 manufacturing jobs have been lost in the U.S. since last April. The aerospace sector alone has lost 29,000 jobs in this period, as shown in Figure A.

Offsets in both the commercial and military sectors contribute to foreign outsourcing in the aerospace industry. One measure of the impact of outsourcing is the ratio of imported engines and parts to total aircraft sales (commercial and military). This ratio has risen steadily since the early 1980s, as shown in Figure 4 (Appendix B). The ratio has more than doubled from less than 10 percent of production to more than 20% last year, and the growth of the ratio has accelerated in the past three years. This chart shows that the foreign content of U.S. aircraft is increasing dramatically. Commercial and military offsets clearly contribute to this problem.

Offsets and foreign competition played a relatively small role in explaining job loss in the early 1990s, as noted above. However, the coming two decades will see a sharply different environment. Defense spending will be, at best, constant. The commercial sector will continue to grow in importance. Furthermore, commercial and defense production involves significant economies of scale and scope. Thus our defense industries will be affected by offsets demands in both the military and commercial sectors.

Table 6 (Appendix B) presents an analysis of the future impact, through the next 15 years, of offsets and other types of foreign competition on domestic aerospace employment. This analysis breaks the causes of job loss into two factors. The first, shown in the top section of the table is outsourcing, or rising foreign content of domestic aircraft. This includes the effects of offsets. Outsourcing is expected to reduce direct employment in aerospace by about 45,000 jobs by the year 2013.

The second factor affecting employment in the industry is the continued loss of market share in the commercial sector to Airbus. Extrapolating the trend in the decline of Boeing's market share over the past decade, the projection is for a loss of approximately 77,000 direct jobs by 2013, as shown in the middle section of Table 6. Thus, the decline due to market share loss will be twice as large as that due to outsourcing.

The total job loss in the aerospace industry, therefore, is approximately 123,000. Indirect job loss in supplier sectors such as steel and rubber will bring the total loss to over 215,000 jobs, as shown in the bottom section of Table 6. The direct job losses will equal about 15 percent total aerospace employment. However, because the job losses will be concentrated in new aircraft and parts production, this will have a significant impact on employment in prime assembler and supplier firms in this industry.

These projections are conservative. For example, Airbus may gain market share even faster than assumed in this analysis. Furthermore, the growth of foreign content appears to be accelerating, as noted above (Figure 4). Thus, I believe that the U.S. should modify its national policies on offsets.

Policy Implications
Given that the industry is at great competitive risk, it is important to craft a coherent policy that must go beyond offsets, for reasons explained in the NRC conference volume. Domestic and foreign producers are in a "prisoners dilemma" with respect to offset agreements. When a foreign customer demands offset agreements in exchange for sales, firms often feel that they must comply, or risk losing contracts. This results in a desperate race to the bottom that will accelerate the transfer of jobs and technologies to foreign producers. There are several ways in which this problem could be corrected.

First, the U.S. and the European Union (E.U.) should negotiate a bilateral agreement to eliminate the use of offsets as a marketing practice, possibly as an extension of the Foreign Corrupt Practices Act. Second, given the extensive competition between the U.S. and the E.U. for aerospace market shares, both at home and abroad, we should consider negotiating a market share agreement with the E.U. The emerging industry crises over E.U. aircraft noise regulations, new subsidy programs, and the global contraction in demand will create leverage points for such a discussion.

Finally, it is also important to expand the treatment of offset issues in the WTO. Only government-mandated offset requirements are currently prohibited in the WTO, and in the 1992 U.S.-E.U. aircraft accord. Offsets should also be prohibited in private, firm to firm agreements. These are increasingly important because the line between private firms and public enterprises is increasingly vague in many parts of the world, especially in the developing and formerly, or reforming, communist countries. We should use every opportunity to pursue these issues in bilateral and multilateral trade negotiations. This is especially true for the current negotiations on China's proposed entry into the WTO. China must not be allowed to enter the WTO until all public and private offset agreements and requirements are eliminated.

Thank you.

[ POSTED TO VIEWPOINTS ON JULY 2, 1999 ]

Robert Scott is an economist at the Economic Policy Institute. He specializes in globalization and international trade issues.