Steeling for a fight

The global economic downturn has produced its first real trade battle. Overproduction in the steel industry requires drastic measures, but agreement on an effective response will necessitate politically unpopular measures.

The first round of the steel fight began at an OECD-sponsored meeting in Paris late last year that brought together more than 30 of the world's biggest steel-making countries. The meeting produced a tentative agreement on capacity cuts, but they will not be sufficient to restore health to the industry. Worse, there are conditions attached to the deal that may scuttle the arrangement. An international industrywide shakeout is inevitable.

The Organization for Economic Cooperation and Development estimates total global steel capacity at 1 billion tons per year. For 2001, production is expected to have reached 835 million tons, while consumption was just 721 million tons. The U.S. government estimates worldwide overcapacity at 200 million tons per year. Excess capacity means overproduction, depressed prices, unemployment and closed companies. In the United States, bankrupt steel mills account for a quarter of total national steel capacity. Twenty-five U.S. steel companies have declared bankruptcy since 1998, and the industry lost $ 1.4 billion in the first six months of this year.

That translates into political pressure. American steel companies have filed more than 100 antidumping suits to protect their turf. They want import protection in the form of tariffs that could reach 40 percent of prices. They may get it, too: President George W. Bush knows that he needs every vote he can muster, his current popularity -- because of the war against terrorism -- notwithstanding. His razor-thin victory margin evaporated in November elections, and midterm elections historically favor the opposition party. Steel-producing states, such as West Virginia, will be crucial to those calculations, and the president cannot afford to alienate them.

This is not solely an American problem. As the OECD figures prove, overproduction plagues the entire industry, from Japan to Ukraine. Virtually every government has aided its domestic industry with either public subsidies or import protection. The key task is equitable cuts across the board. That was the purpose of the Paris talks -- creating a consensus on where cuts will be made. The trick is doing it in such a way that governments do not end up managing the steel industry with quotas. Initial results do not look promising.

At the OECD meeting, the governments agreed to cut production by 97.5 million tons by 2010. Japan took the biggest hit, agreeing to trim 28 million tons; the U.S. followed with 13 million to 17 million; the European Union, 13 million to 16 million; Ukraine, 11 million; Russia, 10 million; South Korea, 8 million; and China, 6 million. There are several problems with the plan. The first is that the total of projected cuts is less than half the estimated global overcapacity. The second problem concerns measurement of the cuts. Each country uses different criteria to estimate production, so there is room for disputes.

Finally, and most important, the EU, Russia and Ukraine have said that their participation is contingent on the U.S. withdrawing its threat of import tariffs. EU officials have explicitly warned the U.S. that antidumping measures will trigger retaliation. Mr. Pascal Lamy, the EU trade commissioner, likened the U.S. strategy to putting a "gun to the head" of the international community. The Americans have said they will not give up the tariff tool. The confrontation will reach a climax in February and April, when the OECD has scheduled two intergovernmental meetings to ratify last year's agreement.

The solution to overcapacity is consolidation. Fortunately, that is already occurring. U.S. manufacturers say they are ready for drastic consolidation, but they want some $ 13 billion in government aid to cover pension and health obligations to workers. Japanese companies are also taking action. Current annual steel production here is 145 million tons, but output should drop below 100 million tons this year as a result of slow growth worldwide. Nippon Steel and Sumitomo Metal have begun negotiations on a tieup, and NKK Corp. and Kawasaki Steel Corp. plan to integrate operations this year in a move that will create the second-biggest company in the world.

By one estimate, the world could have four or five mammoth producers by 2006. That would take much of the pressure off governments since they could more easily control the market and ensure a better match of supply and demand. Getting there is the tricky part, however. Ultimately, plants will have to be closed and jobs lost. That will generate substantial political pressures. It will take nerves of steel to resist them. That may be the only steel in short supply.