By Brian Gaudet and Traci Donatto
June 19, 2017
Texas Senate Bill 1289 is one of a number of policies nationwide whose purpose is to strengthen domestic sourcing of iron and steel products in an effort to bolster the United States steel industry, which has long faced increased competition in a globalized economy. The most familiar of these policies is the Surface Transportation Assistance Act of 1972, commonly known as the “Buy America Act,” which requires that preference to be given to the use of domestically-produced materials on any mass transportation projects funded at least in part by federal funds.
The Buy America Act was preceded by 40 years of the “Buy American Act,” signed into law by President Herbert Hoover in 1933 — the purpose of the latter being to require the U.S. government to prefer U.S.-made products in its purchases. Thus, there is a long history of policymaking on the subject of economic or industry protectionism through policy preferences on materials sourcing.
Requirements and Exemptions
SB 1289 requires that iron and steel used for permanent infrastructure in state of Texas public projects, such as roads, bridges and buildings, be sourced exclusively from the United States unless the one of the following exemptions are present:
- If iron and steel products produced in the U.S. are not produced in sufficient quantities, reasonably available or of satisfactory quality.
- Instances where using domestic products would increase the cost of a project more than 20 percent.
- Instances where complying with the rule is inconsistent with the public interest (though this term is not defined in the statute).
- Electrical components, equipment and systems are exempt.
- The bill does not apply to political entities or special districts, such as cities, counties, Municipal Utility Districts, Water Control Improvement Districts, etc.
- There are special provisions for projects funded in part by the Texas Water Development Board: The bill removes the existing requirement for those projects that the manufactured goods used in them be domestically sourced.
- The law shall not conflict with the state’s obligations under any international agreement.
Global Market Context
The rationale for the bill, according to the statement of intent written by author of the bill, Senator Brandon Creighton, R-District 4, and provided by the Senate Research Center, is that “foreign countries, like China and Turkey, subsidize their iron and steel manufacturing, circumvent [American] trade laws, and flood the U.S. with cheap iron and steel.”
This sentiment is not borne out by a global analysis of the steel market. In a big picture view, less emphasis is given to trade laws or threats of other countries on the domestic U.S. steel market and more emphasis is given to global macroeconomics and protectionist policies, such as this one, as primary contributors to challenges of the steel industry in the U.S. and elsewhere. According to the U.S. Department of Commerce International Trade Administration, market changes, shifts in import and export levels, and weakness in the global demand for steel have negatively impacted steel industries across the world.
North America hosts only a seven percent share of the world’s steel production (111 million metric tons) and nine percent of the world’s steel consumption (134.5 million metric tons), boasted the largest negative growth rate in production in 2015, and possesses declining capacity rates in terms of functioning processing facilities with the capability to produce.
U.S. capacity was only around 68 percent in 2015, down from approximately 74 percent in 2014. World benchmark steel prices have been trending downward for the better part of six years now. Stagnant demand levels are expected for 2017, which is in alignment with weak global demand. Whether this national experience translates directly to what Texas may experience given the relative strength of the recent Texas construction boom is unclear.
In a globalized economy, the measurable impacts of a single policy like Texas SB 1289 or a tariff on a commodity are a bit difficult to ascertain because of the complex interdependence of variables. For a singular commodity examined in isolation, it is possible to imagine a localized, policy-driven boost in the economics of that commodity.
However, when retaliatory tariffs are imposed, or domestically-sourced steel drives up project costs resulting in less purchasing power for a public entity, the benefits may be more difficult to realize.
During Senate Finance Committee hearings following the beginning of the steel crisis in 1998, J.B. Porter, then chief procurement officer for Caterpillar, said that the low price of imported steel benefitted a wide spectrum of industries: metal fabrication, transportation, industrial machinery and construction companies.
Each of these industries depend upon steel as an input and, collectively, employ many more workers than the steel industry, whose jobs are allegedly preserved by protectionist economic policies like SB 1289 aimed at bolstering the domestic steel industry.
Texas Market Context
The Legislative Budget Board, which is the body in state government responsible for determining the fiscal ramifications of proposed legislation, has issued its opinion on SB 1289 as having an “indeterminate” impact on the state, depending on the level of anticipated building, structure or infrastructure construction in the state.
Even so, the board acknowledges that “multiple state entities report” that for the projects that are funded, the requirement allows for up to 20 percent cost increases. TxDOT has issued the same indication of an “indeterminate” impact on the agency. Presumably, both organizations, in attempting to evaluate the impacts, have recognized the difficulties in quantifying the effects of the large number of variables.
According to Jeff Davis, senior fellow at The Eno Center for Transportation, “Domestic-made steel usually out of the mill will cost 70, 80 percent more than Chinese steel out of the mill.” Texas itself is home to a mere six steel mills. Accordingly, it should be expected that domestic sourcing of steel will result in project cost increases by some amount.
In a simple analysis, if a state entity’s budget is capped for capital improvements and the cost of using domestic steel can increase the price of the projects up to 20 percent, then as long as the public entity still keeps the budget cap where it is, there is no immediate financial impact to the budget line item. However, it necessarily follows that the public entity will ultimately suffer a loss by way of achieving less capital improvements due to the higher project cost and capped budget amount.
The “costs” of the bill will then manifest themselves in other places, such as potentially increased maintenance costs for a bridge that needs to be replaced but cannot be, costs incurred in maintaining an old building because a new one cannot be built, etc. These are not theoretical losses. There is a real need for infrastructure projects in Texas.
Transportation infrastructure drives the entire state economy. The roads and railways that connect freight and individuals to their destinations are vital to ensuring Texas’ continued growth. The American Society of Civil Engineering considers at least 38 percent of Texas’ major roads to be in “poor” or “fair” condition, and of the 53,000 bridges in the state, the Federal Highway Administration has rated nearly 19 percent of them as “structurally deficient” or “functionally obsolete,” meaning that either their major components are significantly deteriorated or that they no longer meet current highway design standards.
The Texas Department of Transportation’s Texas Transportation Plan 2040 notes that even given the increase in dollars to the State Highway Transportation fund by Proposition 7 — which is likely the largest increase in transportation funding in Texas history, and which added $1.1 billion to the fund in 2016 — “The amount of revenues collected from fuel taxes will not keep pace with the transportation needs of the state… [and] the funding shortfall … will continue to be exacerbated by the fact that state fuel taxes are not indexed to inflation, which greatly diminishes the purchasing power of the funds generated.”
Localized Indirect Economic Impacts
The City of Houston is home to the Port of Houston — a port ranked second in the U.S. in total tonnage and first in the nation in breakbulk, handling 41 percent of all project cargo at Gulf Coast ports. In addition, the Houston Ship Channel is home to the second-largest petrochemical complex in the world, second only to the Port of Rotterdam in The Netherlands and currently undergoing expansion at a never-before-seen rate due to tremendous growth in the polymers market.
The Port of Houston listed steel as one of its top three revenue-generating commodity types in a recent report, touting $102.3 billion in revenues for 2014. What might the effect on reduced steel imports and other breakbulk cargo be on the City of Houston, the Port of Houston and related port industry employers?
Ensuring compliance and remedying non-compliance will translate to costs imposed on the construction industry, all of which may not be able to be passed through to the public project owner. Additional administrative burden and time considerations will find their way into those parties performing the construction work. Additionally, the risk of non-compliance needs to be addressed contractually between the parties, and increased risk often results in increased costs.
The proposed statute leaves several important questions unanswered, such as when the public entity’s evaluation of the exceptions is to occur. Will steel-related change orders pushing the price of the project greater than 20 percent permit the public entity to reevaluate the exceptions? Will unavailability of the steel that occurs post- contract procurement and execution trigger a reevaluation of the exceptions? What are the penalties for failure to comply with the statute? Will a complete tear out and replacement be required? Legal fees incurred in sorting out all of these issues will be a cost to the construction industry as this area of regulation is more thoroughly defined.