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Testimony:
Before the Committee on Finance, U.S. Senate:
United States Government Accountability Office:
GAO:
For Release on Delivery:
Expected at 10:00 a.m. EDT:
Wednesday, July 8, 2009:
Climate Change Trade Measures:
Estimating Industry Effects:
Statement of Loren Yager, Director:
International Affairs and Trade:
GAO-09-875T:
[End of section]
Mr. Chairman and Members of the Committee:
Thank you for the opportunity to appear again before the Committee to
provide insights from GAO's work on issues related to important
international issues. Changes in the earth's climate attributable to
increased concentrations of greenhouse gases may have significant
environmental and economic impacts in the United States and
internationally. To mitigate climate change effects, countries are
taking or considering varying approaches to reducing greenhouse gas
emissions, such as carbon dioxide, which is the most important
greenhouse gas due to its significant volume. Between 2007 and 2009,
Congress introduced a number of climate change bills, many of which
contained proposals for a domestic emissions pricing system, such as a
cap-and-trade system or a carbon tax. However, imposing costs on energy-
intensive industries in the United States could potentially place them
at a disadvantage to foreign competitors. In addition, emissions
pricing could have negative environmental consequences, such as "carbon
leakage," whereby emissions reductions in the United States are
replaced by increases in production and emissions in less-regulated
countries. As Congress considers the design of a domestic emissions
pricing system, a key challenge will be balancing the need to reduce
greenhouse gas emissions with the need to address the competitiveness
of U.S. industries.
In my testimony today, my comments are based on a report that we are
issuing today to the Senate Committee on Finance.[Footnote 1] In
particular, I will briefly describe some of the key challenges
associated with estimating the industry effects from climate change
measures, and provide illustrations of key characteristics for
potentially vulnerable industries.
To address these objectives, we interviewed officials and reviewed
climate change literature and documents from U.S. agencies,
international organizations, policy institutes, and professional
organizations; reviewed and analyzed a selection of climate change
legislation introduced between 2007 and 2009 and congressional hearing
records; analyzed data from the Census Bureau and the Departments of
Energy and Commerce, among others; and reviewed and presented summary
results for studies attempting to quantify the potential international
competitiveness effects on domestic industries from emissions pricing.
We conducted our work from October 2008 to July 2009 in accordance with
all sections of GAO's Quality Assurance Framework that were relevant to
our objectives. We believe that the information and data obtained, and
the analysis conducted, provide a reasonable basis for any findings and
conclusions in this product.
Summary:
Estimating the potential effects of domestic emissions pricing for
industries in the United States is complex. If the United States were
to regulate greenhouse gas emissions, production costs could rise for
certain industries and could cause output, profits, or employment to
fall. Within these industries, some of these adverse effects could
arise through an increase in imports, a decrease in exports, or both.
However, the magnitude of these potential effects is likely to depend
on the greenhouse gas intensity of industry output and on the domestic
emissions price, which is not yet known, among other factors.
Estimates of adverse competitiveness effects are generally larger for
industries that are both relatively energy-and trade-intensive. In
2007, these industries accounted for about 4.5 percent of domestic
output. Estimates of the effects vary because of key assumptions
required by economic models. For example, models generally assume a
price for U.S. carbon emissions, but do not assume a similar price by
other nations. In addition, the models generally do not incorporate all
policy provisions, such as legislative proposals related to trade
measures and rebates that are based on levels of production.
Proposed legislation suggests that industries vulnerable to
competitiveness effects should be considered differently. Industries
for which competitiveness measures would apply are identified on the
basis of their energy and trade intensity. Most of the industries that
meet these criteria are in primary metals, nonmetallic minerals, paper,
and chemicals, although significant variation exists for product groups
(sub-industries) within each industry. Additional variation arises on
the basis of the type of energy used and the extent to which foreign
competitors' greenhouse gas emissions are regulated. To illustrate
variability in characteristics that make industries vulnerable to
competitiveness effects, we include illustrations of sub-industries
within primary metals that meet both the energy and trade intensity
criteria; examples that met only one criterion; and examples that met
neither, but had significant imports from countries without greenhouse
gas pricing.
Background:
Countries can take varying approaches to reducing greenhouse gas
emissions. Since energy use is a significant source of greenhouse gas
emissions, policies designed to increase energy efficiency or induce a
switch to less greenhouse-gas-intensive fuels, such as from coal to
natural gas, can reduce emissions in the short term. In the long term,
however, major technology changes will be needed to establish a less
carbon-intensive energy infrastructure. To that end, a U.S. policy to
mitigate climate change may require facilities to achieve specified
reductions or employ a market-based mechanism, such as establishing a
price on emissions. Several bills to implement emissions pricing in the
United States have been introduced in the 110th and 111th Congresses.
These bills have included both cap-and-trade and carbon tax proposals.
Some of the proposed legislation also include measures intended to
limit potentially adverse impacts on the international competitiveness
of domestic firms.
Estimating Competitiveness Effects:
Estimating the effects of domestic emissions pricing for industries in
the United States is complex. For example, if the United States were to
regulate greenhouse gas emissions, production costs could rise for many
industries and could cause output, profits, or employment to fall.
However, the magnitude of these potential effects is likely to depend
on the greenhouse gas intensity of industry output and on the domestic
emissions price, which is not yet known, among other factors.
Additionally, if U.S. climate policy was more stringent than in other
countries, some domestic industries could experience a loss in
international competitiveness. Within these industries, adverse
competitiveness effects could arise through an increase in imports, a
decrease in exports, or both.
For regulated sources, greenhouse gas emissions pricing would increase
the cost of releasing greenhouse gases. As a result, it would encourage
some of these sources to reduce their emissions, compared with business-
as-usual. Under domestic emissions pricing, production costs for
regulated sources could rise as they either take action to reduce their
emissions or pay for the greenhouse gases they release. Cost increases
are likely to be larger for production that is relatively greenhouse
gas-intensive, where greenhouse gas intensity refers to emissions per
unit of output. Cost increases may reduce industry profits, or they may
be passed on to consumers in the form of higher prices. To the extent
that cost increases are passed on to consumers, they could demand fewer
goods, and industry output could fall.
While emissions pricing would likely cause production costs to rise for
certain industries, the extent of this rise and the resulting impact on
industry output are less certain due to a number of factors. For
example, the U.S. emissions price and the emissions price in other
countries are key variables that will help to determine the impact of
emissions pricing on domestic industries. However, future emission
prices are currently unknown. Additionally, to the extent that
emissions pricing encourages technological change that reduces
greenhouse gas intensity, potential adverse effects of emissions
pricing on profits or output could be mitigated for U.S. industries.
Several studies by U.S. agencies and experts have used models of the
economy to simulate the effects of emissions pricing policy on output
and related economic outcomes. These models generally find that
emissions pricing will cause output, profits, or employment to decline
in sectors that are described as energy intensive, compared with
business-as-usual. In general, these studies conclude that these
declines are likely to be greater for these industries, as compared
with other sectors in the economy. However, some research suggests that
not every industry is likely to suffer adverse effects from emissions
pricing. For example, a long-run model estimated by Ho, Morgenstern,
and Shih (2008) predicts that some U.S. sectors, such as services, may
experience growth in the long run as a result of domestic emissions
pricing.[Footnote 2] This growth would likely be due to changes in
consumption patterns in favor of goods and services that are relatively
less greenhouse gas-intensive.
Potential international competitiveness effects depend in part on the
stringency of U.S. climate policy relative to other countries. For
example, if domestic greenhouse gas emissions pricing were to make
emissions more expensive in the United States than in other countries,
production costs for domestic industries would likely increase relative
to their international competitors, potentially disadvantaging
industries in the United States. As a result, some domestic production
could shift abroad, through changes in consumption or investment
patterns, to countries where greenhouse gas emissions are less
stringently regulated. For example, consumers may substitute some goods
made in other countries for some goods made domestically. Similarly,
investment patterns could shift more strongly in favor of new capacity
in countries where greenhouse gas emissions are regulated less
stringently than in the United States.
Stakeholders and experts have identified two criteria, among others,
that are important in determining potential vulnerability to adverse
competitiveness effects: trade intensity and energy intensity. Trade
intensity is important because international competitiveness effects
arise from changes in trade patterns. For example, if climate policy in
the United States were more stringent than in other countries,
international competition could limit the ability of domestic firms to
pass increases in costs through to consumers. Energy intensity is
important because the combustion of fossil fuels for energy is a
significant source of greenhouse gas emissions, which may increase
production costs under emissions pricing.
Legislation passed in June 2009 by the House of Representatives, H.R.
2454, 111th Cong. (2009), uses the criteria of trade intensity and
energy intensity or greenhouse gas intensity, among others, to
determine eligibility for the Emission Allowance Rebate Program, which
is part of the legislation.[Footnote 3] H.R. 2454 specifies how to
calculate the two criteria. Trade intensity is defined as the ratio of
the sum of the value of imports and exports within an industry to the
sum of the value of shipments[Footnote 4] and imports within the
industry. Energy intensity is defined as the industry's cost of
purchased electricity and fuel costs, or energy expenditures, divided
by the value of shipments of the industry.
Reducing carbon emissions in the United States could result in carbon
leakage through two potential mechanisms. First, if domestic production
were to shift abroad to countries where greenhouse gas emissions are
not regulated, emissions in these countries could grow faster than
expected otherwise. Through this mechanism, some of the expected
benefits of reducing emissions domestically could be offset by faster
growth in emissions elsewhere, according to Aldy and Pizer (2009).
[Footnote 5]
Second, carbon leakage may also arise from changes in world prices that
are brought about by domestic emissions pricing. For example, U.S.
emissions pricing could cause domestic demand for oil to fall. Because
the United States is a relatively large consumer of oil worldwide, the
world price of oil could fall when the U.S. demand for oil drops. The
quantity of oil consumed by other countries would rise in response,
increasing greenhouse gas emissions from the rest of the world. These
price effects may be a more important source of carbon leakage than the
trade effects previously described.
Potentially Vulnerable Industries:
Two key indicators of potential vulnerability to adverse
competitiveness effects are an industry's energy intensity and trade
intensity. Proposed U.S. legislation specifies that (1) either an
energy intensity or greenhouse gas intensity of 5 percent or greater;
and (2) a trade intensity of 15 percent or greater be used as criteria
to identify industries for which trade measures or rebates would apply.
Since data on greenhouse gas intensity are less complete, we focused
our analysis on industry energy intensity. Most of the industries that
meet these criteria fall under 4 industry categories: primary metals,
nonmetallic minerals, paper, and chemicals. However, there is
significant variation in specified vulnerability characteristics among
different product groups ("sub-industries").
[End of section]
Although our report examined the four industry categories, figures 1
through 4 or the following pages illustrate the variation among
different sub-industries within the primary metals industry, as well as
information on the type of energy used and location of import and
export markets.[Footnote 6] The data shown in these figures are for the
latest year available.
Figure 1: Energy and Trade Intensity Indicators for Primary Metals Sub-
Industry Categories:
[Refer to PDF for image: illustration]
This illustration depicts a grid indicating the energy and trade
intensity indicators for primary metals sub-industry categories. The
grid plots trade intensity in percentage versus energy intensity in
percentage. The following data is represented:
Criteria for industry vulnerability:
Trade intensity: about 15%;
Energy intensity: about 5%.
Sub-industry category: Primary metals;
Value of output: [Empty]
Trade intensity: about 40%;
Energy intensity: about 6%.
Sub-industry category: Steel manufacturing;
Value of output: $19.9 billion;
Trade intensity: about 10%;
Energy intensity: about 3%.
Sub-industry category: Aluminum products;
Value of output: $16.7 billion;
Trade intensity: about 10%;
Energy intensity: about 4%.
Sub-industry category: Ferrous metal foundries;
Value of output: $20.1 billion;
Trade intensity: about 10%;
Energy intensity: about 6%.
Sub-industry category: Iron and steel mills;
Value of output: $93.2 billion;
Trade intensity: about 36%;
Energy intensity: about 8%.
Sub-industry category: Electrometallurgical products;
Value of output: $1.7 billion;
Trade intensity: about 72%;
Energy intensity: about 7%.
Sub-industry category: Primary aluminum;
Value of output: $6.7 billion;
Trade intensity: about 62%;
Energy intensity: about 24%.
Source: GAO analysis of Department of Commerce energy data for 2006 and
trade data for 2007.
[End of figure]
As shown by sub-industry examples in figure 1, energy and trade
intensities differ within primary metals. For example, primary aluminum
meets the vulnerability criteria with an energy intensity of 24 percent
and a trade intensity of 62 percent. Ferrous metal foundries meets the
energy intensity criteria, but not the trade intensity criteria. Steel
manufacturing--products made from purchased steel--and aluminum
products fall short of both vulnerability criteria. Iron and steel
mills has an energy intensity of 7 percent and a trade intensity of 35
percent and is by far the largest sub-industry example, with a 2007
value of output of over $93 billion. The energy and trade intensity for
all primary metal products is denoted by the "x" in figure 1.
Figure 2: Type of Energy Used by Primary Metals Sub-Industry
Categories:
[Refer to PDF for image: stacked vertical bar graph]
Share of 2002 total energy consumed in percentage of BTUs:
Sub-industry category: Iron and steel mills;
Coal and coke: 56.3%;
Natural gas: 28.7%;
Renewables and other: 2.3%;
Net electricity: 12.7%.
Sub-industry category: Electrometallurgical products;
Coal and coke: 18.5%;
Natural gas: 25.9%;
Renewables and other: 11.1%;
Net electricity: 44.4%.
Sub-industry category: Steel manufacturing;
Coal and coke: 0%;
Natural gas: 53.3%;
Renewables and other: 11.1%;
Net electricity: 35.6%.
Sub-industry category: Ferrous metal foundries;
Coal and coke: 18.2%;
Natural gas: 46.7%;
Renewables and other: 2.4%;
Net electricity: 32.7%.
Sub-industry category: Aluminum;
Coal and coke: 0%;
Natural gas: 28.5%;
Renewables and other: 30.7%;
Net electricity: 40.8%.
Source: GAO analysis of data from the Department of Energy.
[End of figure]
Among the primary metals sub-industry examples shown in figure 2, the
types of energy used also vary. Iron and steel mills uses the greatest
share of coal and coke, and steel manufacturing and ferrous metal
foundries uses the greatest proportion of natural gas. Since coal is
more carbon-intensive than natural gas, sub-industries that rely more
heavily on coal could also be more vulnerable to competitiveness
effects. The carbon intensity of electricity, used heavily in the
production of aluminum, will also vary on the basis of the source of
energy used to generate it and the market conditions where it is sold.
Data shown for "aluminum" include primary aluminum and aluminum
products, and net electricity is the sum of net transfers plus
purchases and generation minus quantities sold.
Figure 3: Source of Imports for Primary Metals Sub-Industry Categories:
[Refer to PDF for image: stacked vertical bar graph]
Share of 2007 total U.S. imports:
Sub-industry category: Iron and steel mills;
EU plus: 34.8%;
Canada: 17.1%;
China: 13.1%;
Mexico: 7.5%;
Brazil: 8.3%;
Other: 19.2%.
Sub-industry category: Electrometallurgical products;
EU plus: 8.9%;
Canada: 3.2%;
China: 11.3%;
Mexico: 0.9%;
Brazil: 5.5%;
Other: 70.2%.
Sub-industry category: Steel manufacturing;
EU plus: 19.3%;
Canada: 13.7%;
China: 36.9%;
Mexico: 7.3%;
Brazil: 0.7%;
Other: 22.1%.
Sub-industry category: Ferrous metal foundries;
EU plus: 23%;
Canada: 13.3%;
China: 31.5%;
Mexico: 5%;
Brazil: 5.3%;
Other: 21.9%.
Sub-industry category: Primary aluminum;
EU plus: 4.1%;
Canada: 65.1%;
China: 1.3%;
Mexico: 1.3%;
Brazil: 2.7%;
Other: 25.5%.
Sub-industry category: Aluminum products;
EU plus: 17.1%;
Canada: 32.6%;
China: 33.9%;
Mexico: 3.3%;
Brazil: 0.6%;
Other: 12.5%.
Source: GAO analysis of data from the Department of Commerce.
[End of figure]
Industry vulnerability may further vary depending on the share of trade
with countries that do not have carbon pricing. To illustrate this
variability, figure 3 provides data on the share of imports by source,
since imports exceed exports in each of the primary metals examples. As
shown, while primary aluminum is among the most trade-intensive, the
majority of imports are from Canada, an Annex I country with agreed
emission reduction targets.[Footnote 7] For iron and steel mills, over
one-third of imports are from the European Union and other Annex I
countries, not including Canada ("EU plus"). However, for iron and
steel mills, almost 30 percent of imports are also from the non-Annex I
countries of China, Mexico, and Brazil. While less trade-intensive,
steel manufacturing and aluminum products each has greater than one-
third of imports from China alone.
Figure 4: Chinese Imports as Share of Primary Metals Sub-Industry
Categories:
[Refer to PDF for image: multiple line graph]
Year: 2002;
Iron and steel mills: 2.7%;
Steel manufacturing: 11.4%;
Aluminum products: 6.1%.
Year: 2003;
Iron and steel mills: 3%;
Steel manufacturing: 15.6%;
Aluminum products: 9.6%.
Year: 2004;
Iron and steel mills: 7.3%;
Steel manufacturing: 20.1%;
Aluminum products: 17.6%.
Year: 2005;
Iron and steel mills: 7.8%;
Steel manufacturing: 27.6%;
Aluminum products: 26.3%.
Year: 2006;
Iron and steel mills: 11.7%;
Steel manufacturing: 33.7%;
Aluminum products: 34.2%.
Year: 2007;
Iron and steel mills: 13.1%;
Steel manufacturing: 36.9%;
Aluminum products: 33.9%.
Total U.S. imports by value (U.S. dollars in millions):
Iron and steel mills:
2002: $12,558;
2003: $10,808;
2004: $23,355;
2005: $25,131;
2006: $33,060;
2007: $30,445.
Steel manufacturing
2002: $1,110;
2003: $1,184;
2004: $1,792;
2005: $1,884;
2006: $1,916;
2007: $1,822.
Aluminum products
2002: $498;
2003: $549;
2004: $718;
2005: $913;
2006: $1,209;
2007: $1,183.
Source: GAO analysis of data from the Department of Commerce.
[End of figure]
As shown in figure 4, adverse competitiveness effects from emissions
pricing could increase the already growing share of Chinese imports
that exists in some of the sub-industries. Among the examples, iron and
steel mills, steel manufacturing, and aluminum products exhibit a
growing trade reliance on Chinese imports since 2002. This trend has
largely been driven by lower labor and capital costs in China, and,
according to representatives from the steel industry, China has
recently been producing 50 percent of the world's steel.
Mr. Chairman, this concludes my prepared statement. Thank you for the
opportunity to testify before the Committee on some of the issues
addressed in our report on the subject of climate change trade
measures. I would be happy to answer any questions from you or other
members of the Committee.
Contacts and Acknowlegments:
For further information about this statement, please contact Loren
Yager at (202) 512-4347 or yagerl@gao.gov. Contact points for our
Offices of Congressional Relations and Public Affairs may be found on
the last page of this statement. Individuals who made key contributions
to this statement include Christine Broderick (Assistant Director),
Etana Finkler, Kendall Helm, Jeremy Latimer, Maria Mercado, and Ardith
Spence.
[End of section]
Footnotes:
[1] GAO, Climate Change Trade Measures: Considerations for U.S.
Policymakers, [hyperlink, http://www.gao.gov/products/GAO-09-724R]
(Washington, D.C.: July 8, 2009).
[2] Ho, Mun S., Richard Morgenstern, and Jhih-Shyang Shih. (November
2008) "Impact of Carbon Price Policies on U.S. Industry." RFF
Discussion Paper No. 08-37, Resources for the Future, Washington, D.C.
[3] Proposed legislation specifies that, in addition to trade
intensity, either energy intensity or greenhouse gas intensity should
be considered.
[4] An industry's value of shipments represents its value of output.
[5] Aldy, Joseph E. and Pizer, William A. (May 2009) "The
Competitiveness Impacts of Climate Change Policies." Pew Center on
Global Climate Change, Arlington, VA.
[6] For examples in nonmetallic minerals, paper, and chemicals, as well
as further information on data sources and our methodology, see
[hyperlink, http://www.gao.gov/products/GAO-09-724R].
[7] Annex I countries are parties to the United Nations Framework
Convention on Climate Change that are industrialized countries and were
members of the Organization for Economic Cooperation and Development in
1992, plus countries characterized as economies in transition.
[End of section]
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