The Unintended Consequences of Buy American

Last October this column reviewed the possibility of a trade war between the US and Canada if Obama were to take the White House.  While the exact form of the dispute was not known at the time, some form of economic nationalism was inevitable as the US rustbelt demanded payback for delivering the electoral votes required to secure a decisive victory in the Electoral College.  Congress crafted a stimulus package designed to create US jobs related to infrastructure and manufacturing, and in their expedient haste to curry political favour with their constituents they created the Buy American (BA) provision that related to municipal investment projects.  This provision skirts the open procurement provisions of NAFTA since municipal and local procurement are exempt from the agreement.  What started out as a politically savvy move will result in delays in rolling out stimulus spending as municipalities will discover that truly American-made goods are hard to come by, especially in the water and wastewater treatment industry.

The Water Industry: poster child for North American integration

Water and wastewater treatment (WWT) used to be an industry composed of some larger players interspersed with thousands of small businesses supplying components to independent contracting firms who created complete treatment systems for municipalities.  All that began to change about 15 years ago as water and wastewater quality was pushed to the forefront of environmental and political consciousness and spending on replacing our dilapidated water infrastructure increased substantially.  Large industrial holding companies recognized that water would represent a recession-proof sector and began a huge merger and acquisitions push to buy up the mom and pop small businesses and contractors to create vertically-integrated powerhouses that now dominate WWT.  The names are familiar ones; GE Water, a division of General Electric, Siemens Water Technologies, Severn Trent Services, Veolia Water, even our own Groupe Laperriere and Verreault, who split off their paper and other industrial activities and now focus on the water industry.

The water treatment industry expects worldwide annual sales to grow to $40 billion USD by 2011, according to the Cleveland, Ohio-based Freedonia Group, a market research firm.  This is a rather narrow definition that merely looks at municipal water treatment – a broader survey would show that this market would be worth $100 billion if industrial water treatment was included in the calculations.  While the highest growth rates are expected to be found in the developing world, the $787 billion infrastructure legislation will compress the time period for expanding, restoring or upgrading municipal water treatment facilities across the US.  The problem for even US-based suppliers of such equipment now becomes, what is an American-made product?

As one example, an automatic filtration device used in wastewater pre-treatment may have a pressure vessel welded in Quebec using metal purchased in the United States that was rolled or cast in mills in India or China, a German-engineered motor assembled in New Jersey with a Chinese frame and a motor from the US, an internal screen rolled in Ontario from wire produced in Texas, a motorized ball valve cast in Spain with an actuator from Ohio, and instrumentation and controls assembled in the US from multinational components.  This product may be sold by a US-based manufacturer’s representative to one of the large US contractors supplying a packaged system to the municipality, and their mark-up and added-value counts as US content, so – the product may qualify as 70% American – but is that enough?  Even if the pressure vessel were welded in New York instead of Quebec, in many cases the specialized metals like Monel 400 and Duplex 2205 are not available from US mills – and US-sourced steel is a pre-requisite for admissibility under the Buy American provisions.  Therefore, it is conceivable that the pressure vessel of a US-made filtration product may be disqualified from and ripped-out of a US municipal wastewater facility if an over-zealous inspector sees “made in India” stamped on one of the flanges – and does not bother to check if this item was even available from a US forging mill.  Essentially, the US Congress failed to recognize the internationalization of the specialized equipment market, especially in water treatment, and the legislation is almost impossible to comply with in the short term period that coincides with the stimulus package.

What about other industries?  What constitutes an American product?

Media reports have focused on cases of Canadian-made fiberglass pipe being ripped out of the ground in California and the difficulties of Ontario-based Hayward Gordon pumps, which may be forced to move production to their US plants to stay alive.  However, the BA provisions apply to a whole range of products purchased with stimulus money that contain steel – so what about cars?  How many US-produced automobiles can really qualify as made in the USA?

A Chevrolet Aveo, a compact car manufactured for GM in Korea, would not qualify as an American product even though it is sold by a Detroit-based corporation and its local dealer.  Comparatively speaking, a US-produced Honda Accord from the Marysville, Ohio plant has over 70% US content though the use of local tier-two and tier-three subassembly components, local labour and management.  Take note that BMW and Mercedes import engines to their plants in the southern-US but otherwise these vehicles have similar US-procured content as the Japanese manufacturers.  For all manufacturers, the source of their rolled steel is trickier to ascertain – they all have Canadian, US and overseas suppliers that would have to be traced in order to determine a vehicle’s eligibility under the BA statute in the stimulus package.  This is an important consideration because vehicles could be purchased as part of a renewal package put forward by a municipality looking for funding from the bill.

Services are a more important component than goods in the modern US economy and software is a major economic driver of wealth creation and government spending.  If a municipality wants to purchase asset management software from an American supplier, does the supplier have to demonstrate that they did not outsource the code development to India, China or another offshore software developer?  Does software purchased with stimulus money have to comply with BA, or are they going to get a free pass?  Would new personal computers purchased for a firehall renovation in Framingham, MA have to replace the Windows XP operating software that is pre-installed because Microsoft does software development across the globe?  Lawmakers would probably scoff at the notion that much of Microsoft’s software offering would not meet the BA statute, and even if they did concede that point they would probably insist that there is no practical alternative.  Really?  Maybe the Linux operating system has a higher US development content level than Windows XP.

This analysis could be repeated for a whole range of goods and services that will be purchased with stimulus package money.  The result would probably show is that he modern world lives in shades of grey when it come to the origins of goods and services and that few could really be termed to be 100% made in the USA, Canada, Europe (CE) or otherwise.

The ultimate effect of BA, should it go forward, will be to slow to a crawl the procurement at the local level where the job creation is most needed.  Consulting engineers will be unable to specify products; contractors will have to hold back bidding on jobs; workers will be told to stay home as work schedules begin to slip; and manufacturers in the US and Canada will both shed jobs as the workload dries up.  What started up as program to protect jobs in America will ultimately delay the infusion of stimulus money into the economy, prolong the recession and cost jobs on both sides of the border.

Political pressure: little effect so far

The Association of Canadian Manufacturers and Exporters (CME) and the U.S. Chamber of Commerce held a joint press conference in Washington DC last week to detail the destructive nature of the Buy American legislation.  Lobbyists representing the big American integrated water and wastewater contractors as well as our own diplomats like Ambassador Michael Wilson are plying the hallways of Congress to push for elimination of the BA statute.  Stephen Harper took the unprecedented step of giving an interview to Fox News detailing the damage the BA statute represents and its potential to unleash a broader trade war with the US.  International Trade Minister Stockwell Day is trying to broker a deal to open up Canadian municipal contracts to US bidders in an effort to diffuse the resolution adopted by the Canadian Federation of Municipalities, which proposed to cut off US goods after a “grace period” of 120 days to allow the Canadian government time to negotiate.

So far, the Obama administration is playing hard to get.  Secretary of State Hillary Clinton stood with Foreign Affairs Minister Lawrence Cannon on June 12th and when asked about the dispute over BA, she had the following to say: “The provision is not being enforced in any way that is inconsistent with our international trade obligations and we take that very seriously.  I deeply respect the minister’s comments and his concerns, but as President (Barack) Obama said, nothing in our legislation will interfere with our international trade obligations, including with Canada.”  This quote is a disaster for Canada – since municipal procurement is not covered by NAFTA, the fact is that all the stimulus money spent at the local level can shut out Canadian suppliers and the US will still be in compliance with their “international trade obligations.”  This means that despite the best efforts of industry organizations on both sides of the border, our Prime Minister, Trade Minister and our US Ambassador, the Obama administration is sticking with the BA policy.  If Obama is willing to stand firm on such a damaging position in the face of organized, diligent opposition that is armed with incontrovertible facts, then what other compelling information is his administration willing to ignore in the pursuit of his agenda?  I am afraid that we are only beginning to find out.