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services and related services, thus providing DOD with a seamless transportation system and allowing it to focus on military issues, rather than having to separately assemble its water and land transportation needs. A central benefit of the MSP program to the United States is the statutory requirement for the commitment of MSP vessels and associated resources to the VISA program.

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The critical importance of a U.S.-flag liner fleet to national security has been a central tenet of U.S. maritime policy for generations, most recently reaffirmed with the passage of the Maritime Security Act of 1996. In the course of enactment of that important legislation, it was universally recognized and emphasized that U.S.-flag liner vessels are at a severe cost disadvantage in competing in the foreign trades. While the subject of the current hearing is the MSP program, which focuses on the shipboard labor element of the cost disadvantage of the U.S.-flag foreign trade fleet, it cannot be stressed too strongly that the U.S.-flag fleet cost disadvantage is experienced not only with respect to shipboard labor costs, but also from the fact that U.S. owners of U.S.-flag vessels:

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are subject to U.S. income tax while foreign competitors usually pay no tax;

pay an ad valorem tax on foreign repairs to U.S.-flag vessels;

pay higher insurance premiums because of the litigation environment in the United State; and

are subject to more rigorous construction standards imposed on U.S.-flag vessels (although to a degree ameliorated by provisions adopted in 1996 in the Coast Guard Authorization Act).

It is important to understand that U.S.-flag vessels compete in the international marketplace, and in the absence of cost equality -- not only for shipboard labor costs, but for these other significant disadvantages to flying the U.S. flag as well -- the country cannot expect

private, for-profit operators to retain their U.S.-flag ties. In this regard, it is also important to understand that the benefits associated with U.S.-flag operations have been seriously eroded in recent years by the marked decline in cargoes reserved to U.S.-flag carriage, both in the civilian preference area and with respect to DOD cargoes.

Turning to MSP itself, that program is scheduled to expire in approximately three years. In the absence of a program to offset the U.S.-flag crewing cost differential, one cannot realistically expect a U.S.-flag international liner fleet to survive. Accordingly, APL strongly supports the re-authorization of MSP. However, we are compelled to call to the Committee's attention two aspects of the current program that need to be modified if the program is to continue to encourage and achieve continued participation.

The first of these concerns is the level of the annual payment currently stipulated in the statute to compensate an MSP contractor for the operation of its vessel under the program. The statutory payment of $2,100,000 per year does not begin to cover the vessel labor cost differential resulting from the employment of U.S. seamen, let alone the various regulatory and tax costs unique to U.S.-flag operations. The availability of a pool of U.S. seamen to man U.S.flag vessels is an essential ingredient of defense preparedness. However, private carriers as distinguished from the Government cannot be expected to provide the funding to advance this national purpose. Currently, the labor cost differential of operating a U.S.-flag vessel in international trade is at least $3,500,000 per year. In any re-authorization of the MSP program, the annual payment must be increased to that level, and provide for an appropriate adjustment to account for future inflation.

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The second concern relates to changes required to account for the globalization of the U.S.-flag liner fleet since the 1996 enactment of the MSP program. In 1996, all of the major international U.S.-flag container operators were so-called Section 2 citizens -- meaning that, in

addition to having a preponderandly U.S.-citizen board of directors and management, the majority interest in the company was U.S.-citizen owned. Today, the opposite is true. Every major international operator of U.S.-flag container vessels is affiliated with a foreign owner. APL was acquired in 1997 by NOL (Neptune Orient Lines), a Singapore company. Lykes Brothers is now owned by CP Ships, a Canadian group. Sea-Land is owned by the A.P. Moeller group of Denmark. Farrell Lines has been acquired by P&O Nedlloyd, a UK-Dutch joint venture. Each of these countries has economic and strategic ties with the United States, ties made all the more important by recent events.

The reasons for this globalization of the U.S. international fleet are various, and include not only the cost disadvantages and resulting financial pressures that U.S. carriers have been burdened with for a prolonged period, but also the imperatives of consolidation to meet the capital requirements of providing the worldwide intermodal service that shippers have come to expect and require. Whatever the reasons, the fact is that the backbone of the U.S.-flag international fleet -- including the associated intermodal systems and terminal facilities that are enrolled in VISA and that DOD relies upon for contingency needs -- is under foreign ownership. Ironically, many of these companies or their affiliates provide essential sea-lift services direct to DOD, but are not eligible to operate their own vessels under the MSP. If the companies that own these resources are to continue their availability under a re-authorized MSP program, the change of ownership that has taken place must be accommodated under the new program.

The issue is this: when MSP was enacted in 1996, Congress provided that MSP contracts for operation of U.S.-flag vessels should be available both to entities that qualified as so-called documentation citizens and to Section 2 citizens. A documentation citizen is an entity that meets the requirements for documenting a vessel under the U.S. flag, which in the case of a corporation requires that the corporation be incorporated in the U.S., that its board of directors include no greater number of non-citizens than would constitute a minority of a quorum, and that its

Chairman and Chief Executive Officer be citizens. A Section 2 citizen -- the reference being to the definition in Section 2 of the Shipping Act, 1916 -- must meet the same standards, and in addition be majority-owned by U.S. citizens. The Maritime Security Act, while recognizing that documentation citizens are eligible to be MSP contractors, included a priority for the award of MSP contracts to Section 2 citizens and most of the MSP contracts including the 24 MSP contracts awarded to APL and Sea-Land -- were awarded on that basis. An equivalent priority was established for a documentation citizen that was operating or managing vessels for DOD, but made available for only a few MSP contracts.

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The problem created by the statutory priority in favor of Section 2 citizens is that when APL, Sea-Land, and other MSP contractors were acquired by foreign owners, for the reasons I have just described, they no longer qualified as Section 2 citizens, and accordingly no longer qualified to continue to hold the MSP contracts for their U.S.-flag vessels. In order to continue the MSP vessels of these operators under the U.S.-flag, and comply with the Section 2 citizenship requirement with respect to the MSP vessels and contracts, a highly artificial legal structure was developed involving the creation of new, independent Section 2 citizen operating companies to which the former MSP operators chartered their vessels, and from which the former MSP operators then time chartered the vessels back for use in their services. The result has been a cumbersome division between the international carrier that had originally been the contractor under the MSP contract and which continues to use the MSP vessels in its service, and the independent operating company created to hold the MSP contracts and operate the vessels. Not only is the structure unwieldy, but it also materially adds to the cost of providing U.S.-flag service by interposing another organizational layer into the operating structure, thus adding to the disadvantage of and deterrent to operating a U.S.-flag service.

If companies such as APL are to continue their participation in a re-authorized MSP program, it is essential that any new legislation eliminate the artificial barrier to a participating carrier's ownership and operation of its vessels.

We can understand and emphatically agree with the need of the Government to assure that vessels in the MSP program (and associated transportation resources) are available to it to fulfill the mission that lies at the heart of the MSP program. However, this assurance can be achieved without the requirement that ultimate ownership in an MSP contractor lie with U.S. citizens. Congress acknowledged this in the existing MSP legislation when it granted documentation citizens that are operating vessels for DoD a priority equal to that of a Section 2 citizen for a limited number of ships.

We suggest that, in order to permit direct participation in MSP programs by those companies currently providing MSP vessels through an independent Section 2 citizen operating company and assure the Government control of the vessels, the reauthorized MSP treat documentation citizens that are parties to a Special Security Agreement with the Department of Defense the same as Section 2 citizens with respect to the existing authorized MSP vessels.

We would remind the committee that U.S.-flag MSP vessels are embedded in a global transportation system that includes containers and related cargo-handling equipment, terminals, IT infrastructure and people on the ground in virtually every country in the world. It is the global reach of these systems, combined with U.S.-flagged and crewed vessels that provide the strategic value to the DOD warfighter that justifies reauthorization of the program. The reality of our global world is that these essential non-vessel resources are controlled and operated by the foreign parent companies of APL, Maersk-Sea-Land, Lykes and Farrell, and not by the Section 2 companies that are the MSP contractors for their vessels. A reauthorized MSP program must reflect this reality.

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