Untangoing The Trade Mess

In 2004, Canadian companies earned about $5.7 billion (U.S.) selling softwood into the United States. American consumers of framing lumber and wood siding spent about $7 billion to purchase that same lumber. The difference, approximately $1.3 billion, went into the pockets of the U.S. Customs Service, adding to a stack of cash (now totaling more than $5 billion) that the United States has been collecting at the border since 2002. (The money continues to pile up in a special U.S. Treasury escrow account while a seemingly endless series of legal appeals grinds on before U.S. courts and international trade panels. The ultimate fate of the growing fund is uncertain: Depending on the outcome of the various court battles and on U.S. congressional politics, the money could eventually be returned to the Canadians suppliers, paid out to their U.S. competitors, or simply “liquidated” [combined with other U.S. revenues and spent by the federal government].)

Under U.S. free-trade treaties with other countries, “countervailing duties” and “antidumping penalties” applied to imports are subject to international panel review; and the taxes targeting Canadian lumber have been challenged, often successfully, before tribunals of the World Trade Organization (WTO) and the North American Free Trade Agreement (NAFTA). But politicians from lumber-producing states have applied enough pressure on U.S. trade officials that the border tax collections continue apace, despite repeated rulings against them.

In a trillion-dollar construction industry, a billion or so in trade duties may seem like a drop in the bucket. But the bite on Canadian lumber has become an irritant to builders who, after years of boom times, are feeling the pinch of tight markets for materials. Canada supplies a third of the U.S. building industry's softwood lumber, and builders say that U.S. sources of softwood can't match the quality of Canadian spruce, pine, and fir—meaning U.S. builders can't just switch to domestic sources, but have to pay the artificially boosted price. Accordingly, the NAHB estimates that U.S. duties add some $1,000 to the price of an average house. And while building material prices rose only moderately in 2001 and 2002, Association of General Contractors (AGC) economist Ken Simonson reported last fall that prices for construction materials had been rising at double-digit rates since 2003, quadruple the inflation rate for consumer goods. Even before last summer's devastating hurricanes, builders were facing spot shortages and volatile prices for key materials. As mortgage rates increase and the new-home market begins to cool, U.S. trade taxes are one more factor that raises the cost of homes and puts the squeeze on home builder profits.

Construction industry groups like the NAHB and the AGC oppose the duties, but U.S. timberland owners back them—and with more success. The action against Canadian lumber stems from complaints by a group called the Coalition for Fair Lumber Imports (CFLI), representing a collection of U.S. softwood lumber producers and timberland owners. Even though the U.S. industry cannot satisfy domestic demand without help from foreign suppliers, the CFLI actively opposes any relaxing of import restrictions—arguing, in fact, that the trade limits should be tightened. So far, Congress and the U.S. trade agency bureaucrats have been receptive to timber owners' views.

The timber argument is an old one: Debates over whether to tax imported Canadian wood raged in the 1840s, the 1890s, and the 1930s, with the various sides couching their arguments in much the same terms as they do today.

More recently, U.S. timber interests have complained about Canadian lumber imports four times since 1982. Three of those times, they've succeeded in getting sanctions applied. In the 1982 case, the Commerce Department ruled (for technical reasons) that there was no basis for trade penalties. But in 1986 and 1991 the agency imposed tariffs. In each of those cases, Canada backed down and agreed to negotiate limits on trade. The 1986 “Memorandum of Understanding” put a 15 percent Canadian export tax in place. In 1996, despite a trade-panel victory that had resulted in the return of duties already collected, Canada accepted a “Softwood Lumber Agreement” that limited Canada's market share directly by means of an export quota.

In 2001, when the quota system expired, Commerce again imposed a U.S. tariff; but by that time, NAFTA and its appeals process were in force, the United States and Canada (along with most of the world) had joined the WTO, and Canada decided to contest the penalties in the newly constituted international trade tribunals.

Nor are timber allies in the U.S. Congress ready to give up so easily. In November Senate hearings, senators from forested states worked to stiffen the resolve of the U.S. trade agency, grilling the nominees for several Commerce Department posts about lumber trade and extracting an explicit commitment to find ways around the NAFTA decisions.

“Your job is to protect U.S. business,” said Montana Democratic senator Max Baucus sternly to Franklin Lavin, the nominee for undersecretary of commerce for international trade (Baucus' state is the original home of Plum Creek Timber, one of the United States' top forest-owning firms and a key backer of the timber lobby). “I agree, Senator,” responded Lavin, “and ... the trade experts in the [International Trade Administration] say that ... we can go ahead with other techniques to keep this issue alive.” Lavin said the United States can use the $5 billion already collected as a tool to bring Canadians back to the bargaining table to negotiate “some kind of comprehensive settlement.” Pressed further by Arkansas Democratic senator Blanche Lincoln, Lavin said, “We will turn over every single stone we can. ... We are not simply going to be on the receiving end of a NAFTA remand.”

Frustrated by U.S. foot-dragging, Canada has asked the U.S. Court of International Trade to order the U.S. government to implement the NAFTA panels' instructions. Canadian politicians have described U.S. intransigence as a “breach of faith,” and the debate over how Canada should respond to U.S. “bully tactics” has figured largely in the Canadian parliamentary election campaign that began in late November. Whatever comes out of the NAF-TA appeals process and related court battles, it's clear that lobbyists, politicians, and bureaucrats on both sides are ready to keep fighting.

At the root of the lumber trade dispute lies the issue of the way Canadian provincial governments charge “stumpage,” a fee for the right to cut trees in Canada's public forests (which make up around 90 percent of Canada's standing timber). Simply put, the case against Canadian wood exports is that stumpage rates are too low, amounting to a subsidy for Canada's industry.

Under Canada's constitution, forest resources belong to the provinces. And as it happens, each province has its own way of managing the woods. All of the provinces have long-term “land tenure” arrangements that award logging rights for large forest blocks to particular firms. And they all have “stumpage” systems under which companies pay set fees for taking away the timber that they actually cut down.

But every province's tenure and stump-age policies are different, and the variations are bewilderingly complex. In papers filed with its subsidy complaint, the U.S. Coalition for Fair Lumber Imports took hundreds of pages to describe the various provincial systems.

The maze of regulations makes it hard to tell whether stumpage fees are too high, too low, or just right. Asked whether the fees are set at below-market levels, University of Oregon forestry professor Darius Adams answers the question with a question: “How could anybody possibly know?”

For economists, the fine points of the discussion revolve around the concept of “resource rent,” a term for the way that an economic system accounts for the value of natural resources. In a sense, Canada's old-growth forests are a gift from nature, worth considerably more than the cost of logging them. In theory, the Canadian provincial governments could charge just enough for the right to cut timber to leave nothing extra for loggers, mill operators, lumber dealers, builders, or home buyers—in economics jargon, the provinces could “capture all the rent.” That's what critics of the Canadian system say happens in U.S. government timber auctions and in private timber sales in the U.S. market.

TALL TREES, BIG LOGS: Canada's abundance of old-growth wood—ideal for house framing—helps sustain exports to the United States, despite steep tariffs. Above, logs at a British Columbia mill are loaded for transport.

But the provinces have raised their stumpage rates in response to U.S. pressure and now say that they skim off as much as they should. The trouble is, in practice it's not so easy for a government to establish the “right” stumpage fee.

At a Michigan conference in 2005, University of Alberta economics professor Marty Luckert listed some factors that complicate any effort to identify a subsidy. Canadian timber companies can't log at will—they're restricted by an official Annual Allowable Cut. Exporting or even selling raw logs is typically prohibited—instead, to boost employment, the rules often require timber harvesters to own and operate local sawmills. Also, firms have to build and de-commission roads and replant logged-over areas. And that's just part of the forest of rules in which Canadian firms operate—rules whose net impact on the ultimate price and supply of Canadian wood is nearly impossible to untangle.

And any money provincial governments leave on the table may be grabbed by Canada's powerful labor unions, which have shown no reluctance to strike either directly at Canadian mills or at the country's railroads, a vulnerable choke point in the lumber supply chain.

The U.S. timber lobby says all this uncertainty would go away if the Canadians would simply switch to an open market in stumpage—putting all logging rights up at public auction or even selling the woodlands outright to private companies. But it's far from clear how this politically difficult move would actually affect international trade. British Columbia, Canada's top exporting province, has implemented broad free-market reforms since 2001, placing 20 percent of its forest land into an open-auction system and using the prices set by those auctions to determine its stumpage rates for the rest of its forest. But so far, this has not caused any slowdown or price rise in the province's exports.

And if trees on the stump are under-priced, is the lumber sawn from those trees still underpriced when it reaches the U.S. border? That's a question NAFTA panels have answered in the negative. A decision handed down in August 2005 instructed the Commerce Department to estimate the net export subsidy at less than 1 percent, while a 2003 decision, recently upheld on a final appeal, ordered the U.S. International Trade Commission to find no threat of injury to the U.S. lumber industry. As of winter 2005, the U.S. authorities had yet to comply with either ruling.

Compared with the thicket of rights and obligations facing Canadian timber companies, lumber trade penalties have fairly straightforward effects. The general theory behind free trade is that consumers in all countries benefit when countries are able to specialize in the products and services that they produce most efficiently. Economists looking at U.S.-Canadian trade mostly agree that lumber trade limits have hurt the overall wealth of both nations by preventing both sides from reaping the efficiencies that might be gained through trade.

But not everyone suffers equally, and who gets hurt depends on what form the trade limits take. A simple export cap, such as the Softwood Lumber Agreement that expired in 2001, creates an artificial shortage that “will benefit producers on both sides of the border, as well as Canadian consumers, all at the expense of U.S. consumers,” concludes economist G. Cornelis van Kooten of Canada's University of Victoria. An export tax collected by Canada, such as under the old Memorandum of Understanding, has roughly the same effect, although in that case Canada's government, not its lumber industry, reaps the benefit. But if there's no export quota and the United States collects a trade duty instead, “the CVD [countervailing duty] results in large U.S. government revenues at the expense of Canadian lumber producers (with U.S. producers no better or worse off than under a quota or Canadian export tax).” In all cases, concludes van Kooten, consumers lose.

Back in 2003, professor Adams estimated that the new U.S. trade penalties would have only a small restricting effect on the volume of Canadian lumber trade exports to the United States. Prices in the U.S. domestic market, calculated Adams, would initially rise by about 4 percent compared with what the expected price might be in the absence of penalties. Then, he estimated, U.S. mill prices would drop back toward the baseline over five to seven years, as imports from non-Canadian foreign suppliers such as northern Scandinavia, New Zealand, and Chile began to flow in to satisfy U.S. demand. But because the U.S. market is more important to Canada than Canadian supplies are to the United States—Canadian shipments to the United States account for around 70 percent of Canada's production, but only a third of the U.S. consumption—the price ron neibrugge effect on the Canadian side would be more severe, Adams predicted. As U.S. consumers turned to alternative sources, competition from other countries combined with the effect of U.S. duties would eventually knock some 18 percent off the price received by Canadian mills.

In the event, statistics bear out Adams' predictions: U.S. imports from softwood suppliers other than Canada have quadrupled in the last decade. Comments Adams, “One is left to wonder what is gained by restricting Canadian imports only to stimulate growth in imports from other sources.”

SWEAT INEQUITY: Tariffs aim to protect American jobs, but the U.S. forest industry relies heavily on Mexican workers.

If lumber consumers and Canadian producers are the big losers in the current trade spat, the big winners are U.S. timberland owners. Plum Creek Timber, a leading U.S. producer in the Coalition for Fair Lumber Imports, is one example.

Plum Creek owns about 8 million acres in some two dozen states and makes its money through lumber sales, milling, and real estate development of logged-off land. A spin-off from a land-grant railroad company, Plum Creek inherited more than a million acres of Montana woodlands first handed over to the railroad by the federal government in the mid-1800s.

Now organized as a real estate investment trust (REIT), Plum Creek pays no corporate income taxes, passing its profits directly to shareholders. And as an outright owner of its properties, Plum Creek has advantages that Canadian competitors don't. (Canadian firms pay income tax as well as stumpage, and they have no title to the lands they log—unlike Plum Creek, they can't cut down trees and then build an industrial park or a housing development.) In 2004, the company reports, real estate deals and conservation agreements put an extra $75 million on Plum Creek's bottom line, while the company was able to sell off less-productive timberland and acquire better land instead.

If Plum Creek was indeed threatened by Canadian imports in 2001, the protection the United States has provided has certainly worked. Since 2000, Plum Creek has increased its land holdings by hundreds of thousands of acres in states such as Georgia, Wisconsin, and Maine. The company's stock value has soared, leaving average Wall Street companies in the dust. In Plum Creek's 2004 annual report, company president and CEO Rick Holley told shareholders that 2004 “was one of the best years in Plum Creek's 15-year history as a public company.” He pointed to an 89 percent year-over-year increase in earnings, a $179 million decrease in debt, and an $80 million improvement in the company's cash position as clear benchmarks of success.

Politicians backing trade protection usually focus not on the wealth of corporations, but on jobs for regular Americans. Idaho Republican senator Larry Craig on the Senate floor in 2003 said, “... men and women go to work every day in our sawmills only to find the mill has been shut down and the lights have been turned out ... because of the Canadians, their style of production at this moment, and the huge volume of timber they are pouring into this country.”

But some economists argue that mill closings and layoffs are largely due to modernization, not a flood of cheap imports. Writes University of Montana economist T.M. Power, “Despite mill closures, the total capacity of American mills rose between 1996 and 2002 by 8 percent. The capacity of new and upgraded mills was 50 percent greater than the capacity of the mills that shut down ... . Labor requirements for those modern automated mills were a third that of the older, smaller mills.”

Professor Adams says that small-log mills in Oregon now use less labor to produce more lumber than the state used to get from large logs, before environmental rules and lawsuits placed most of the state's federally owned old-growth timber off limits. Lumber companies have switched to labor-efficient equipment, says Adams, noting, “In a competitive world, they have no other choice.”

And even with laborsaving mill technology and efficient “forwarder” and “processor” logging machinery, some timber-industry states now report a labor shortage in the logging industry. In Kootenai County, Idaho, reported The Coeur D'Alene Press in August 2005, “Good-paying jobs in the manufacturing, timber, and construction industries are available in spades, however, the problem is finding people to fill them.”

A recent series in The Sacramento Bee states that the U.S. timber industry now relies heavily on Mexican labor for thinning and replanting—rough, dangerous work that Americans don't want to take. Many of the jobs protected by limits on imported lumber, it appears, are now filled by imported workers.

And in Maine in 2004 and 2005, the timber industry was complaining of a labor shortage caused by the lack of immigration visas for—guess who?—Canadians.

The Web site of Maine Republican senator Olympia Snowe explains: “A forest-products industry report said Canadian loggers are responsible for more than 25 percent of Maine's timber harvest statewide and 38 percent in the counties along the Canadian border.” The visa crunch could cause mills to shut down, says the Web site, costing Maine's economy $300 million.

Labor shortage, expensive logs, and all, U.S. lumber producers are riding high in current markets. The “Global Lumber/ Sawnwood Cost Benchmarking Report” released in mid-December by International Wood Markets Research, Pricewater-houseCoopers, and the Beck Group says that the U.S. West Coast's high-tech new sawmills were the most profitable in the world in 2004, with average earnings almost three times higher than the global average for sawmills—even though Washington and Oregon mills paid the world's highest prices for delivered logs. Canada's British Columbia interior mills, which, like U.S. West Coast mills, tend to be large, high-capacity modern plants, were third most profitable worldwide—still lagging behind U.S. competitors despite their access to theoretically less-expensive timber.

Whether the prosperous U.S. industry still needs protection from its northern neighbor or not, neither side appears to be on its last legs. The economics as well as the politics of the U.S.-Canadian lumber trade dispute remain complicated and thorny—and a lasting resolution of the conflict appears as elusive as ever.

Ted Cushman is a freelance writer based in Great Barrington, Mass.

Imagine a game that is hockey on one side of the field and football on the other side. Then imagine that each team brings its own rulebook and its own referees. If you don't like a referee's call, you can appeal to another set of refs from either the World Wrestling Federation or the Olympic Water Polo establishment, or both—unless you prefer to take your chances with a committee from the Professional Golf Association. Decisions on appeal are nonbinding anyway. However, the team that wins an appeal may be authorized to dump out the other team's water cooler, if they can find it.

Now you've got a sense of what the rules of international trade are like. Each country regulates its own industries in its own way and can penalize imports it thinks are unfair. But the United States, Canada, and Mexico are also partners in two different international trade treaties: the three-way North American Free Trade Agreement (NAFTA) and the much broader World Trade Organization (WTO), which includes countries in Europe, Asia, and Africa.

David Gantz, director of the International Trade Law Program at the University of Arizona's Rogers College of Law, explains: “Essentially we have a parallel process. The decisions of the U.S. Commerce Department (which determines the dumping margins and the amount of the subsidy) and the U.S. International Trade Commission (which determines the injury or the threat of injury) normally, if it were not for NAFTA, would go to the Federal Court of International Trade in New York. Under NAFTA Chapter 19 they go to these bi-national panels, but those panels are supposed to apply U.S. trade law.” But there's also an appeals process through standing panels of the WTO, says Gantz, which apply the WTO's rules and precedents within the global agreement on subsidies, dumping, and countervailing penalties.

STRIKE THAT: Obscure rules and overlapping jurisdictions have left all sides in the trade dispute crying foul.

In the Canadian lumber case, some WTO and NAFTA decisions have been sharply at odds. For instance, the U.S. determination that Canadian exports threaten the U.S. industry has been held to conform with WTO rules; but NAFTA panels held that the threat-of-injury determination violated U.S. law.

The lumber case is the first major example of contrary WTO and NAFTA rulings on the same issue, says Gantz, and has created unprecedented confusion: “Now you've got this ridiculous situation where the U.S. is saying, ‘Well, we won at the WTO so we don't have to pay attention to this conflicting NAFTA opinion,' and the Canadians are saying, ‘Wait a minute, you've gotta follow both of them.' And we haven't really had this kind of a conflict before.”