Yet in this period of all-time record demand, earnings were modest-a return of about 5% on sales. This rate is far below previous returns, it is below the competitive rates earned by other industries, and it is not a rate which will provide or attract funds for the expansion most observers agree is necessary in the coming decade. Without such expansion, future steel shortages are inevitable-with less and less prospect that they can be overcome by even paying the higher prices exacted by foreign producers when shortages occur, as is currently the case. We are all keenly aware of the price and supply consequences of relying on foreign sources of oil; we should strenuously avoid creating the same situation in steel. Steel companies, like most companies, have experienced cost increases far in excess of long-term gains in productivity, but to date have not been permitted to pass on all of these increases in a period when markets would support such increases. Specifically, through the end of February, costs of labor, purchased products and services, taxes, and other items had increased by almost 21% in our company during the controls program, while price increases totaled only 7%: Thus, we were permitted price increases equal to only about one-third of the cost

increases incurred.1

In December the Council authorized price increases to cover increased scrap costs, and in early March the Council permitted all steel firms to make once-amonth price increases to reflect changes in purchased scrap costs. These moves were of particular help to heavy scrap users, but of small benefit to others. Other producers, such as U.S. Steel, produce steel largely by the conversion of iron ore, rather than by buying scrap. In addition, the Council early in March granted steel firms the authority to adjust prices of steel products for allowable cost increases through January 31, 1974. These actions provided badly needed but only partial relief.

Clearly, controls have resulted in shortages of critical materials. Consider the following example related to the steel industry. Metallurgical coal is the principal source of energy for integrated steel producers. During the last six months, steel companies have not been able to obtain sufficient quantities of metallurgical coal because the prices which major coal producers are permitted to charge steel companies are much less than what they can charge utility companies or export customers. As a result of this factor, coupled with the recent coal miners' strike in West Virginia, steel producers' stocks of metallurgical coal have been depleted to perilous levels. Steel companies are now at the point where any further disruption in the supply of metallurgical coal will result in a direct loss of steel production, jobs, and income-all at a time when additional steel production is badly needed.

Zinc is an important material in the production of galvanized steels for construction, for farm storage bins, and machinery. Most of the zinc used comes from outside the United States. With controlled prices over domestic production and with environmental restrictions, zinc production in the U.S. declined during most of 1973, and a greater part of that still being produced was moving into export markets. In late 1973 the price of domestic zinc was decontrolled, and prices moved up quickly. But until very recently, we were unable to obtain approval to pass through that cost increase. As a result, some producers discontinued production of many galvanized steels.

As time goes on, the increasing inequities under controls have accelerated. In the beginning, fully cost-justified price increases were permitted. In 1973 fully cost-justified price increases were delayed for long periods. The January 25, 1974 ruling on steel prices was highly discriminatory and inequitable since it placed the steel industry in another freeze by holding in abeyance until March all costjustified price increase requests after January 1, 1974, and the ruling now in effect limits allowable cost increases to those incurred through January 31, 1974. How long can steel, or any other prices, be treated this way in the face of costs which continue to rise at an accelerating rate without doing irreparable harm to the producing companies and the economy?

The inequities which have occurred during the first four phases of economic controls, and which have been recently aggravated by selected decontrols during Phase IV, would be even further aggravated by continuing controls on only a few industries. The industries remaining under control would be hit by an initial wave

1 While steel company profits improved in 1973 over the depressed levels of those earned in recent years, they improved primarily because of the recent substantial surge in volume and the attendant short-term productivity gains, along with the benefits from new and modernized facilities placed into operation in recent years. This rise in volume has obscured the fact that earnings from steel operations have actually deteriorated since the start of controls.

of cost increases on virtually everything they purchase from the non-controlled sectors of the economy, as well as cost increases with their own labor; whereas if past experience is any indication, they would be delayed-if not actually precluded-from passing on their full cost increases through higher prices. The longer controls remain in effect, the greater the compounding of distortions and the creation of even greater inequities. Clearly, the only effective solution is to terminate wage-price controls before these problems become totally unsolvable. Perhaps the most apparent adverse impact of wage-price controls has been the widespread shortages which have arisen. According to a recent survey conducted by the National Association of Purchasing Management, Inc., not since World War II have there been similar situations in the marketplace. More than 60% of industrial purchasing managers now indicate that their supply problems are

severe.

At the present time, there are substantial shortages of many steel products. The more publicized shortages have been in such areas as pipe and tubular products necessary for expansion of energy producing and transmission equipment, in wire products for agricultural uses, and in concrete reinforcing bars used in construction. In some cases, these critical shortages have reflected the fact that steel producers had already committed their available raw steel capacity to purchasers of other products; in other cases, these shortages reflect the fact that the costprice squeeze of controls forced steel producers to concentrate their production capabilities on products having more profitable prospects, with resulting disruption to the users of the products in short supply.

While the short-range problems brought about by controls have produced serious distortions, the longer-range impact of policies which appear to be aimed only at short-term solutions to these problems have grave implications. Perhaps the greatest impact of controls on the economic welfare of our nation is their deterrence to badly needed capital investment in the many industries whose products are critically needed. In fact, one result of controls has been the indirect exporting of jobs and of capital needed for expansion and modernization in this country.

In the domestic steel industry, for example, very little if any steelmaking capacity was added over the past decade, despite some $17 billion of capital expenditures. (This contrasts sharply with the sizable expansion of steelmaking capacity which has occurred elsewhere in the world.) The prospective rate of return in the U.S. simply was insufficient to warrant such investment in new capacity.

Without major installation of additional steelmaking capacity, today's tight market situation is certain to become much worse in the next few years as the growing demands for construction, energy, transportation, and consumer goods far outstrip the domestic steel industry's ability to meet them. If the domestic industry is not equipped to meet these needs, this country will be faced with increasing shortages and further inflation as the economy becomes more and more dependent upon costly and easily interruptible foreign sources of supply. Consumers in the U.S., who had to rely on foreign sources for their steel supplies during 1973, if they found them, found that the prices were in fact auction block prices very substantially above domestic prices.

You have undoubtedly heard from many others that what has been mentioned above with respect to the need for additional steelmaking capacity is also true of additional capacity needs in industry after industry in this country. Unless the present shortage of capacity is alleviated in our nation's industries, critical shortages and attendant unacceptable levels of inflation will be a continuing way of life in the U.S.

We believe that extension of existing authority for continued wage and price -control beyond April 30, 1974 would be counter-productive to the objective of moderating inflation and would further worsen the shortages, disruptions, and inequities that the controls have already fostered over the past two and a half years. Accordingly, U.S. Steel recommends the following:

(1) Full decontrol should be effected by April 30, 1974.

(2) The Economic Stabilization Act should be permitted to expire on April 30, 1974.

(3) No standby authority to control prices or wages after April 30, 1974, should be granted to the executive branch by the Congress.

(4) Efforts of the private sector to increase capacity and supply should be encouraged by Government policies.

(5) Government should curtail its own inflation activities-both as to spending and as to policies which increase costs and prices.

It should by now be quite clear that the enormous complexities of our economy make it impossible for central government agencies to continuously make economic judgments which are superior to the innumerable impersonal actions of the free market. The time to end business uncertainties as to materials, markets, and costs is right now so that the economy can move forward-instead of recede-in the critical months just ahead. We further urge the Congress to reject any proposals that would provide standby authority or the overhang of a standby wage-price control agency. Any continuation after decontrol of the potential for resumption of controls at executive discretion would prevent the market system from equating supply with demand, which is essential to moderating inflation and promoting economic growth.

We strongly believe that the federal government can and must bring inflation under control by winding down its own inflationary activities and by supporting the efforts of the private economy to increase capacity and supply.

STATEMENT OF ARMCO STEEL CORPORATION

GENERAL POSITION ON PRICE CONTROLS

More than two years of painful experience have proven that any useful purpose which may have been served by the Economic Stabilization Program has long since passed. Armco Steel Corporation strongly urges that the price control program be ended as soon as possible.

Price indices show that controls have not prevented inflation. Their continuation would be certain to inflict lasting damage on the economy. Price controls depress capital investment, destroy jobs, inhibit productivity growth, aggravate existing shortages of essential products or materials and create new ones, encourage black markets and generally distort the normal functions of the marketplace.

The present "patch-work" approach to price controls, with some industries still covered while others are exempt, is highly discriminatory. This approach leads to gross inequities for controlled industries and delays an orderly return to a market economy. For example, those industries still covered will encounter increasing difficulty securing adequate capital for even the most pressing expansion programs, while investment capital will be directed toward industries and firms not subject to controlled prices and earnings.

In the best interests of our economy, we believe the removal of disruptive economic forces and the resulting inequities can best be achieved by an immediate decontrol of all prices. Substituting the supply/demand wisdom of the marketplace for that of arbitrary government judgment seems long overdue.

FINANCIAL POSITION OF STEEL INDUSTRY

The need for price decontrol is critically urgent in the steel industry. Price controls have heightened a long term decline in the industry's profitability which is preventing it from undertaking needed expansion programs. Armco and other domestic steel producers entered the economic stabilization program in an extremely unfavorable profit position. During the years 1965 to 1971 we had experienced rapidly rising costs. At the same time, competition from imported steel, a slowdown in market growth, temporary excess capacity, and low levels of operation in 1970 and 1971 prevented adequate price increases.

The degree of deterioration of this cost/price imbalance was very substantial (Exhibit 1). Armco's direct costs increased 35% while our selling price rose by only 17%. During the same time, our fixed costs of interest and depreciation went up 51%. The result was that plant level profits in 1971 declined to 59% of the 1975 level.

This disparity between costs and prices resulted in a substantial decline in Armco's financial performance (Exhibit 2). Our pre-tax return on sales fell from 12.8% in 1965 to 4.3% in 1971, and our return on net assets dropped from 9.1% to 4.0%. Rising steel demand has resulted in some improvement since then, but it has been far from satisfactory. Even during the steel boom of 1973, when our shipments surpassed all previous records, Armco's pre-tax margin (7.9%) and return on net assets (6.8%) barely exceeded the recession-year levels of 1967 and were far below the results realized in the midsixties when profit levels provided the confidence to proceed with major investments in Armco's steel facilities.

The seriousness of the situation becomes even more apparent when the steel industry's financial performance is compared with that of other industries with whom we are competing for capital. Data developed by the First National City Bank show that steel's return on net worth was comparable to the average for all manufacturing in the midfifties (Exhibit 3). By 1972 this return had dropped to one-half the average of all manufacturing, and the steel industry ranked last among the 40 manufacturing groups covered in the study. Looking at Armco's return on net worth compared to the "all manufacturing" average, we see the same unmistakable downtrend (Exhibit 4).

This brings us face to face with the Number One question facing Armco and other domestic steel companies today. Considering our still inadequate profit performance, how can we justify the additional investment to meet the future steel needs of this country? As it stands today, investment capital can get a better return in any one of the other thirty-nine manufacturing industries.

If the steel industry can't offer a competitive return on capital already invested, it will be difficult if not impossible to attract the new capital funds required for the future. The annual steel needs of our economy by 1980 will require 25 to 30 million tons of new capacity. To provide this additional capacity and replace obsolete facilities will require billions of dollars. Additional funds will also be necessary to satisfy the growing environmental and social responsibilities. In total, the cost is estimated at from 3 to 4 billion dollars annually, or double the average industry expenditures in the past 10 years.

Technology and hard work will do their share but the price of steel must increase. It must increase not just to recover increased costs but also to reverse the declining profit trend of this vital basic industry. As noted earlier, Armco earned only 6.8% on net assets in 1973. If this is the best we could do in a year when we were operating our plants beyond a sustainable rate of production during most of the period, what does this mean for the future? Any significant expansion of our capacity will by necessity result in less than full utilization of assets between the time we start the program and the time when demand will again hit a peak requiring maximum output. At this point in time we could again look forward to earning 6.8% on our assets. The interim years until we reached that demand peak would be financial nightmares. No managements charged with the responsibility of deciding how to invest the shareholders funds are making affirmative decisions to invest in a business that has the prospect of earning 6.8% in its peak year.

As additional evidence of the inadequacy of our 1973 results, in the last two wartime price control periods the Government's legal definition of a reasonable return on invested capital was 10% during World War II and 8% during the Korean War. The 6.8% return Armco earned last year did not come up to these levels, but even this does not measure the true extent of the gap. If Armco's return had been computed under the same rules and regulations used by the Government in setting the wartime bogey, the result would have been substantially lower than 6.8%. Thus the true shortfall against the Government's "reasonable return" during wartime would be even greater than Armco's 1973 results indicate.

DAMAGING EFFECTS OF STEEL PRICE CONTROLS

The failure of our financial results to show satisfactory improvement in recent years is directly attributable to price controls which have not allowed adequate recovery of costs-even when fully justified-and which, in the case of steel, seem to have been administered in the interests of political expediency rather than equity.

In fact, shortly after the start of Phase IV an official of the Cost of Living Council declared publicly that, no matter how deserving, steel price increases would be "politically intolerable." In a statement on February 28 of this year, Dr. Dunlop pointed out that, unlike most industries, steel had been prohibited from increasing prices to offset allowable costs as they had occurred, and had thus been forced to absorb some $750 million of otherwise allowable costs in the past year.

Special Rule #6 announced recently by the COLC allows the steel industry to adjust its prices up or down once a month to reflect changes in purchased scrap costs. The same Rule also permits price adjustments to pass through other allowable cost increases incurred only through January 31, 1974. As welcome as these

1 National City Bank data for 1973 are not yet available. However, preliminary evidence from other sources indicates that the steel industry's profitability still lagged considerably below the average for other industry groups.

actions are, the fact remains that 80% of all steel shipments are still under controls with all the uncertainties and inequities that have resulted from this program. Therefore, with continued controls the prospect is for renewed product dislocations and shortages. In an effort to stem profit erosion from inadequate cost recovery, producers will again be forced to change their marketing strategy and to shift their product mix toward those items where cost-price imbalances are less severe. In Armco's case, these conditions resulted last year in fewer tons of galvanized steel, concrete reinforcing bars and oil country tubular goods than we would have produced otherwise, to cite just three examples. Other producers will be similarly forced to drop, sharply curtail output or increase export sales of a widening range of steel products.

Geographic dislocations are equally disruptive, as evidence by conditions in the market areas around certain Armco plants. Some more remotely located producers who normally serve those areas have partially withdrawn from them because of the freight cost involved. Our plants cannot fill the void since they are already operating at full capacity.

While these market disruptions are serious, a more disturbing factor is the apparent lack of governmental concern for the long-run health of the steel industry, its customers and the economy in general. Under today's clouded conditions, steel producers cannot risk the commitment of funds necessary to assure our country of an adequate steel supply in the future.

Armco, for example, has been considering three expansion programs which would increase our capacity at various plants. We are convinced that future demand for the products involved, a number of which are essential to the development of additional supplies of fuel and electrical power, will grow substantially. But on the basis of current profit levels, and in the absence of any assurance of improved cost-price relationships, it is extremely doubtful that we should proceed with even one of the projects. At the August 1973 hearings, the Council members indicated deep concern about steel shortages and the need for the industry to expand in response to the growth of the domestic market during this decade. It appeared that there was truly some understanding of our problem, and we were hopeful that significant steps toward decontrol were imminent. However, subsequent actions of COLC in the form of Special Rules 1, 4, 5 and 6 only permitted delayed and partial pass through of allowable cost increases on a dollar-for-dollar basis and did nothing to improve profitability to a level that would permit expansion decisions involving considerable business risks.

The Economic Stabilization Program has also severely impacted Armco's other lines of business. Oil and gas drilling equipment have been decontrolled but this action has not satisfied the needs of the industry. A critical factor in drilling is seamless pipe which remains under price control. In addition, the continuation of controls on the supply and retail business associated with drilling is creating problems which inhibit the total activity of this business and delay expansion of a vital source of energy.

In our Metal Products Division, price increases come in almost daily on the many components which go into the manufacture of construction products. By the time we assemble all of the necessary information, file a price increase authorization with the COLC, hopefully get relief, and merchandise these products, Armco has been selling a product for an extended period of time (even months) at a price which does not recover escalating costs.

CONCLUSION

Failure to decontrol steel prices soon would not only be grossly discriminatory and inequitable in the light of recent actions with respect to other industries, but would assure increasingly severe steel shortages in the future. Furthermore, the exaggerated inflationary influence of steel prices on the whole economy (as repeatedly alleged by the Cost of Living Council) is simply not supported by the facts. In the first place, steel only accounts for 1% of total G.N.P. (Steel mill products also account for only 3.5% of the Wholesale Price Index weightnot 5% as claimed by Mr. McLane at the December 19, 1973 price hearings. Mr. McLane's figure included iron ore and scrap which are raw materials and represent costs rather than commercial products of the steel industry.) Secondly, throughout the generalized inflation of recent years, the steel industry has shown remarkable restraint in pricing when free market conditions existed. Even during the period of controls, needed and authorized price increases were prevented or delayed by competition in the marketplace.