Senate Banking, Housing and Urban Affairs Committee

Subcommittee on International Trade and Finance


Hearing on the Reauthorization of the Export Administration Act and
Managing Security Risks for High Tech Exports


Prepared Testimony of Dr. Paul Freedenberg
Representing the Association for Manufacturing Technology


9:30 a.m., Tuesday, March 16, 1999

Mr. Chairman, members of the Subcommittee, I appreciate the opportunity to testify before you today on the reauthorization of the Export Administration Act ("EAA"). As a former Assistant Secretary of Trade Administration and Under Secretary of Export Administration in the Administration of President Ronald Reagan, and as a former Staff Director of this Subcommittee, I believe that I can offer some perspective and some background on this issue. From the time that I left office in 1989 until fall of last year, I was an international trade consultant, specializing in technology transfer issues; so in addition to my administrative experience, I believe that I can also bring the perspective of someone whose clients have been regulated by export control policy to my discussion of the issue.

Today, I will be speaking on behalf of AMT – The Association for Manufacturing Technology, where I am the Director of Government Relations. AMT represents 370 member companies, with sales ranging from $10 million to more than $1 billion, who make machine tools, manufacturing software, and measurement devices. Industry sales total nearly $7 billion and exports account for more than one-third of those sales.

In your letter of invitation you asked that I address the interagency export control decision-making process and what effect it has had on U.S. business interests. I will focus my testimony on how that process has affected the machine tool industry. As you requested, I will also address the multilateral export control regime and how that regime has affected U.S. policy, particularly in China.

The most important point to be understood with regard to United States export control policy is that while it is ostensibly aimed at keeping dangerous technology out of the hands of the so-called pariahs, or rogue states, the really important issues revolve around the question of what to do about China. Unfortunately, the China issue is being addressed unilaterally by our Government, because there is absolutely no consensus within the Western alliance about how to treat technology transfer to China.

The end of the Cold War led to the end of CoCom -- the international coordinating committee that regulated technology transfer since 1949. When CoCom officially went out of business on March 31, 1994, our leverage for limiting technology transfer to China on a multilateral basis disappeared as well. CoCom was created in the same year as NATO, and it stood with NATO as one of the pre-eminent tools of the containment strategy that guided our policy for more than forty years. The guiding premise was that the West could not match the East man for man, tank for tank, or even missile for missile. But if the West maintained tight multilateral controls over the transfer of technology to the East, we could use our superior technology as a force multiplier that would tip the scales to our benefit. The Soviets and their allies could produce great numbers of weapons and keep large numbers of men under arms, but our technological superiority would more than compensate for that numbers deficiency. One example of the validity of this assumption was demonstrated in the 83 to 1 victory of U.S.-built F-15s and F-16s over Soviet-built MIG 21s and MIG 23s over Lebanon’s Bekkha Valley in 1982. While pilot skill played an important role in that victory, technology was the critical factor.

The successor regime to CoCom, which is named the Wassenaar Arrangement, after the city in which it was formed, came into existence in 1996. Unfortunately, Wassenaar has none of the elaborate rules or discipline that characterized CoCom. Most importantly, the United States Government no longer has a veto over the goods and technologies exported to the target countries of Wassenaar. The current multilateral export control regime is based on what is known as "national discretion." Each Wassenaar member makes its own judgments about what it will and will not license for export and, as a matter of fact, whether to require an individual validated license ("IVL") at all. Other multilateral export control regimes, whose focus is non-proliferation (such as the Nuclear Suppliers Group, the Missile Technology Control Regime, and the Australia Group), do obligate signatories to require an IVL for the export of proscribed items to non-members, but Wassenaar does not.

Moreover, to further complicate the matter, China is not identified as a target of Wassenaar. In fact, during the negotiations which led up to the formation of Wassenaar, the U.S. representatives explicitly assured other potential members that Wassenaar was created to keep dangerous weapons and technologies out of the hands of the so-called rogue and pariah states: Iran, Iraq, Libya, and North Korea. But China was explicitly excluded from this group.

This brings me to an important point about the lack of both national and international consensus regarding China. Judging from official statements over the past decade, it is unclear what U.S. technology transfer policy toward China is. China is obviously seen as a major trading partner, and great effort is put forth to ensure that U.S. companies obtain a major share of the China market, which is predicted to be the largest in the world in most capital goods categories over the next decade. Clearly, however, China is also viewed by U.S. licensing authorities as a potential technology transfer risk. This is reflected in the fact that the U.S. Government is far more rigorous (and more time-consuming) than any other industrialized state in reviewing and disapproving licenses for exports to China.

Based on evidence gathered informally at Wassenaar meetings by the AMT technical advisor to the U.S. delegation, the following machine tool license processing times could be expected if a license were to be applied for in major industrialized countries:

The United States – Several months – up to a year – is the norm for difficult cases.

Germany – The longest it could possibly take is 30 days, although many take less time for processing. For a while there was a 24-hour turn-around promised by the licensing office, but because the big companies tended to camp out in the office and monopolize this service, the licensing agency has discontinued it. Nonetheless, it is only in cases of pre-license check that it takes as long as 30 days.

Italy – They expected 30-day turn-around, with extraordinary cases involving pre-license checks to take as long as 60 days.

Japan – For their part, the Japanese said that the norm was two to three weeks, with three weeks the cases where there was some sort of pre-license check.

Switzerland – The Swiss said two days was the norm, with the possibility that a license could take as long as 7 to 10 days to process if it were difficult.

Subsequent reports by commercial and economic officers posted at embassies in those countries have confirmed these informal license processing time estimates. When these comparative timeframes were raised with U.S. Government officials, the response that AMT received from them was that the various agencies involved almost always processed licenses within the 30-day time limit that the statute prescribes. But this time estimate fails to take into account times when the clock is stopped in order to obtain more information from the exporter, which is a quite frequent occurrence. And, even more significantly, the 30 days does not include the time that it takes to complete the Government’s end-user check, which is almost always a very time consuming activity. U.S. companies are judged by their customers not merely by the time that any particular agency of the U.S. Government completes its license processing but rather by the total elapsed time that it takes for delivery from the moment that the order is placed. Any legislative provisions aimed at improvements in the licensing process must include improvements in the total licensing time, not just the time that licensing officials actually have physical possession of the license.

In addition to the total elapsed time that it takes to process a license, statistics demonstrate that the United States Government is far more likely to disapprove machine tool licenses for China than any of our European competitors. (This is true in many other sectors as well, but I will concentrate on machine tool exports, where I have the most complete data.) While a mere handful of U.S. machine tool licenses have been approved over the past five years (a total of 25 licenses, or five licenses per year), trade statistics indicate that our European allies have shipped a huge volume of far more sophisticated machine tools to Chinese end-users.

China is the largest overseas market (in dollars) for U.S. machine tools, and it has the potential to grow significantly from its current total of machine tool imports from all sources of $2 billion. However, unlike other East Asian markets where U.S. market share has been substantial, U.S. machine tool sales represent a relatively small percentage of the Chinese market.

For example, South Korea is at a similar point in its economic plan as China. Both South Korea and China are developing their auto industries, high-volume consumer durables, small and medium combustion engines, and second-tier aerospace industries. Both China and South Korea have indigenous machine tool industries, but the development of their respective metalworking industries requires imported machine tools.

There is a major difference, however, in the way U.S. export control policy views the two countries. Korea is an ally of the United States and U.S. export control policy reflects that. By contrast, the U. S. government’s implementation of the Wassenaar export control list toward China is highly restrictive. One result is that China imports only 9.9 percent of its machine tools from the U.S. By contrast, Korea, which is not subject to restrictive U.S. export controls, imports 22.3 percent of its machine tools from U.S. providers. If one attributes the difference in import totals to the difference in U.S. export control policy toward the two countries, it can be argued that the cost to U.S. machine tool builders of the restrictive export control policy is approximately a quarter of a billion dollars per year in lost export sales to China.

On a global basis, U.S. machine tool production represents 12.8 percent of the world’s total consumption of machine tools. This figure is 29 percent higher than U.S. machine tool producers’ share of Chinese imports (9.9%). A major reason for this differential is that Western European countries are exporting to China modern machine tools that would be unlikely to be licensed by the U.S. government. As evidence of this, the average unit prices of European machine tools in categories likely to be subject to controls are up to 250% higher than the average unit prices for machine tools in the same categories exported from the U.S. to China. In 1996, while the average unit price of machine tools sold to China by U.S. manufacturers was $155,000. The average unit price of those sold by Italy was $208,000, by Switzerland $348,000, and by Germany $407,000. Average unit prices are a key indicator of the sophistication, accuracy, and productivity enhancement of machine tools. Those factors are accounted for by higher precision, five-axis (and above) machine tools that perform more productively and thereby command a higher price. But it is precisely those characteristics that cause a machine tool to be listed on the Wassenaar list of restricted technologies. If this is true, the statistics indicate that Europeans are shipping to China machines that, had they been produced in the United States, would be very rigorously reviewed by the U.S. Government, with a low probability of their being granted an export license.

The U.S. Government’s rigorously enforced limits on machine tools significantly disadvantage U.S. machine tool builders in the global marketplace, since China has proved able to buy from a variety of foreign makers in Japan and Europe. One U.S. company reported, based on its agents’ personal observations that between 1993 and 1996, fifteen large, five-axis machines tolls were purchased by Chinese aerospace end users. All fifteen were made by Western European manufacturers. In addition, Shenyang Aircraft purchased twelve five-axis machine tools last year alone. These machine tools came from Italian, German, and French factories and not a single one from American machine tool producers.

Chinese importers often wish to buy several machines at one time to upgrade a factory or to complete or augment a production line. The inability of U.S. manufacturers to guarantee delivery of a particular machine tool requiring a license has an amplified effect on sales of machines that do not require a license. For example, Germany’s market share of machine tools is more than double the U.S. market share of machine tools imported by China. The trade figures indicate that by freely selling the same sophisticated machine tools to the Chinese which would be most likely unavailable from United States manufacturers, German and other European providers are also garnering sales in the non-controlled machine tool categories as well, further disadvantaging U.S. manufacturers.

This is made even more frustrating to U.S. machine tool builders and their workers by the fact that many of the commercial aircraft factories in China contain joint ventures and co-production arrangements with American aircraft companies. In other words, despite the fact that these Chinese factories are supervised, or monitored, by American executives (or at least have a strong American presence to assure the production of quality components), U.S. Government policy assures that machine tools in those factories are produced by European machine tool builders. How does that assure our national security?

And, as I have noted, while machine tool license applications to China are likely to be approved in a matter of days, or weeks, by our European allies, U.S. applications languish for months, or longer. Executives of U.S. machine tool companies have told me that they have decided to forego business in China if it involves an export license application. That is how discouraged they have become by the current licensing process. For their part, the Chinese have written to U.S. companies telling them that they will not even ask them to bid for business, since the Chinese experience with the U.S. licensing process has been so negative and so time-consuming. For those U.S. companies who are still asked to bid, the Chinese have begun to demand a guarantee from those manufacturers that they will be able to obtain an export license from the U.S. Government for the product in question, with a penalty built into the contract if that guarantee is not met. Obviously, this is a further deterrent to doing business in China.

This inability to predict or control foreign machine tool exports to China is particularly burdensome for the U.S. machine tool industry, because recent market projections have indicated that China will represent the largest and fastest growing market for commercial jet aircraft in the first two decades of the 21st Century. As recently as 1995 China represented less than two percent of Boeing sales, today China represents seven percent, and Boeing estimates that China will be the largest market outside the U.S. over the next 20 years. Within the next seven years, China could account for nearly 25 percent of Boeing’s total business.

In 1992, 90 percent of Boeing’s aircraft components were built in the United States. Today, more than half the components are imported. China’s exports to the U.S. of civilian aerospace components have grown 63 percent in the past five years. Moreover, Boeing’s acquisition of McDonnell Douglas has given them an operation in which half of the MD-90 (and its successor, the 717) built each year are wholly constructed in China. Given the tremendous market power that China will possess, it is certain that the Chinese Government will demand and receive what are known as "offset" contracts to build ever greater shares of Boeing’s aircraft in their own aircraft factories on their own machine tools. If this current trend continues, however, under the current United States Government export control licensing policy, U.S. machine tool builders are highly likely to be displaced and replaced by their European and Japanese competitors who will be able to take advantage of a far more lenient export licensing policy to make the sales to stock the new productions lines that the Chinese will demand.

Machine tool licenses to China are but one example of a larger problem -- the lack of international consensus about how to regulate technology transfer to China. Whatever technology transfer concerns the U.S. Government may have about China are not reflected in the largest and most active multilateral export control regimes to which we belong. The absence of a China reference in Wassenaar means that there are no internationally agreed upon rules or standards that the U.S. Government can cite to induce our allies to follow our lead with regard to China technology transfer policy. That is as true in other major sectors, such as semiconductor manufacturing, or telecommunications, or in computers, as it is in machine tools.

Indeed, our former adversary Russia is a charter member of the Wasssenaar Arrangement, and China would see any attempt to make them a target of this export control regime as a hostile act. In fact, discussions have been held recently with the goal of making China a Wassenaar member. I note all of this in order to provide some perspective regarding the degree to which the United States Government lacks leverage in denying any sort of technology to China. The United States may decide not to sell machine tools or computers, or telecommunications, but that does not obligate the Japanese, the Germans, or the French to follow our lead.

That is a fundamental problem with the current export regime. Not only does it indicate a lack of discipline regarding a country with which the United States Government has indicated technology transfer concerns; it also puts U.S. companies on an uneven playing field with regard to sales to what is likely to be the fastest growing and largest market for capital goods over the coming decade. Repeatedly over the past few years, whether it is in the category of machine tools, semiconductor production equipment, or aircraft engines, the United States Government has taken a negative approach to technology transfer to China while our allies have not. The result has been that the Chinese are denied nothing in terms of high technology, but U.S. firms have lost out in a crucial market. This serves neither our commercial nor our strategic interests.

 

RECOMMENDATIONS

The fact that the authority of the Export Administration Act lapsed almost five years ago and that the Clinton Administration has been extending that authority under the pretense of an emergency that does not exist by virtue of invoking the International Emergency Economic Powers Act ("IEEPA"), and the fact that the EAA which has been extended under the authority of IEEPA was last amended in 1988, a year before the collapse of the Soviet Union, would seem to be reason enough to justify the effort to draft and adopt a new EAA to guide export controls in the 21st Century

Any EAA that this Committee produces ought to have a very strong provision defining "foreign availability" in terms of the reality in which U.S. companies compete today. Current law defines "foreign availability" as any item that can be supplied from outside the multilateral export control system in sufficient quantity and comparable quality so as to make the existing export controls on any particular item ineffective in achieving the objective of the controls. In an age of weak to non-existent multilateral controls and a multilateral system with rules of the game that allow any member country to decide whether to license a product on the basis of "national discretion," the Committee needs to write legislation that acknowledges that "foreign availability" can exist within a multilateral control system, not just outside that system.

An example of such language can be found in the original reauthorization bill that was unanimously passed by the House in 1996. In that bill, H.R. 361, Section 116 (11) defines "foreign availability" and "available in fact to controlled countries" and makes a very important distinction regarding foreign availability: "the mere inclusion of items on a list of items subject to export controls imposed pursuant to a multilateral export control regime shall not alone constitute credible evidence that the government of a country provides an effective means of controlling the export of such items to controlled countries."

I would consider the inclusion of such language in any EAA reauthorization reported by this Committee to be of critical importance to the creation of a fair and equitable "foreign availability" definition, one that reflects the new reality in which U.S. companies find themselves. Any new EAA should not be allowed to perpetuate the fiction that the current multilateral export control system functions effectively to deny technology to targets of that regime, particularly China, which I have argued has, at best, an ambiguous status in relation to the Wassenaar Arrangement’s list of restricted technologies. Not to give U.S. companies the right to petition for relief from a system which allows trade competitors to use the multilateral system to garner new business by taking advantage of lax, or non-existent, national export control systems, would be to perpetuate an anachronism in the law grounded in an era that no longer exists.

Any legislation ought to also include a very clear mandate to the Administration to go back to the negotiating table and make a serious effort to strengthen the Wassenaar Arrangement. As I have noted, Wassenaar provides weak guidance and almost no discipline upon its members. It is almost worse than having no multilateral regime at all, because it gives the appearance of restricting technology transfer, while leaving all the key judgments up to its constituent members. To get an idea of how weak an export control regime it really is, one only has to ask what useful information the United States Government can obtain about the technology transfer decisions of other regime members. Under the rules of the Wassenaar Arrangement, the United States Government is not entitled to information about the licensing decisions of any other regime member unless that member is licensing an export to an end-user to which the U.S. Government has previously denied a license. And then, the Government in question is only obligated to inform the U.S. Government within sixty days of the decision to license, most likely after the technology or product in question has already been shipped. Such an obligation on Wassenaar members can hardly be called discipline. Revisions of the Wassenaar charter ought to include far better rules for information exchange. It is imperative as well that the status of China be clarified for regime members. If it is not a target of Wassenaar, what is it? Are there any limits on what technology Wassenaar members can export to China? These are the sorts of questions that ought to be addressed.

With regard to other provisions that I would like to see included in any new legislation, I would rather frame my advice in terms of items that ought not to be included in any legislation: First, it is important not to significantly alter the current inter-agency license decision-making structure, which allows a dissenting licensing official to escalate his or her concerns up to the next highest level of decision-making, all the way up to the President if the political level of the dissenting agency concerned is dissatisfied with the results of its appeal, which was created by the Executive Order of 1995. To change this system into one which requires consensus at all licensing levels would be to re-introduce a veto system back into license processing. Any one individual licensing official at any level in any agency could then deny a license with little or no justification. This, almost certainly, would lead to vastly greater numbers of license denials and certainly much greater delays in the cases of those licenses that do ultimately receive approval. It would reverse what little progress there is in a system that is already too complex and too slow to allow, as I have demonstrated, the machine tool industry, among others, to compete effectively in China with our foreign counterparts.

Second, it is important not to demand that the Chinese Government to agree in advance to surprise inspections as a pre-condition for license approvals to China (as the Cox Committee has apparently recommended). Such a demand would almost certainly mean that the Chinese would turn to our trade competitors for all items on the Wassenaar technology control list. Even the United States, which is the most open and transparent government in the world, does not allow surprise foreign inspections of its facilities. The Chinese would be no less adamant.

If the demand for surprise inspections is being proposed as a surrogate for cutting off high technology trade with China, we ought to have the debate out in the open, with both sides understanding what is at stake. I have long maintained that we need to have a fundamental debate within the United States Congress and between the United States Government and its allies about what our technology transfer policy towards China ought to be. It is not fair to the United States business community, nor is it a very good way to conduct U.S. foreign policy, to have a pro-trade, friendly policy toward China one day and then turn around and impose unilateral sanctions or unilaterally deny major projects in China the next day. Both our foreign policy and our commercial policy need predictability.

That is why we need a major debate about China policy. How important is the China market to our overall economy and to individual sectors of our economy? What are the strategic risks of transferring technology to China in various sectors? What are the benefits? Why is it not possible to thwart Chinese industrial and military espionage efforts without adversely affecting trade between our two nations? And, most importantly, if we really do have technology transfer concerns about China in certain sectors, do we have the ability to deny the Chinese anything? It does little good for the United States to drop out of the high technology China trade game if our allies step right in and take up the slack -- as they are already doing today in a number of sectors, such as the machine tool example that I cited.

We need more than just a "feel good" China policy, or a "feel good" renewal of the EAA. We need to ask if it is possible to convince our allies to share our strategic vision of China (assuming that we ourselves have concluded what that vision is). At the current time, as I have pointed out, we do not have a multilateral technology transfer organizational structure that is conducive to entering into a debate about China -- let alone one that would be able to enforce standards and rules about technology transfer if such a consensus were to be reached. Without such a multilateral technology transfer structure and without a clearer idea of what U.S. technology transfer policy toward China ought to be it will be difficult to draft an EAA that is an effective guide to policy.

I hope that these comments will be helpful to your consideration of any new export control legislation, and I would be happy to answer any questions that the Subcommittee might have




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