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Step 2 renews cotton industry debate

USDA's proposal to eliminate Step 2 payments has re-ignited a debate in Washington and within the cotton industry over whether Congress should retain the provision aimed at keeping U.S. cotton competitive in world export markets.

Faced with a July 1 deadline for its initial response to the WTO ruling in Brazil's case against the U.S. cotton program, Agriculture Secretary Mike Johanns announced on July 5 that USDA was submitting a plan to Congress that called for the immediate end of Step 2.

After lengthy discussions within its executive committee, the National Cotton Council said it would oppose the USDA plan, saying it could change the terms and conditions of the cotton program in the middle of the marketing season.

“Sales of the 2005 crop have already begun in earnest,” said NCC Chairman Woods Eastland. “The approach suggested by the administration would alter a fundamental piece of the sales and marketing structure for cotton in the United States in mid-stream, harming many U.S. cotton merchants and textile manufacturers.”

Eastland, a cotton producer and cooperative executive from Greenwood, Miss., said the Council believes Congress should decide the fate of Step 2 in the next farm bill, scheduled to be written in 2006.

Asked about those comments at the USDA Farm Bill Forum in Nashville, Johanns seemed nonplussed by the NCC action.

“I guess I would have been surprised if they had stepped up and said, ‘Gee. This is a good idea,’” he said. “They were disappointed by the ruling, and we were, too. We felt very, very strongly we had complied with the WTO. The ruling came down against us, we appealed and it came down against us again.

“My message is we're going to work through this with the industry. We're going to sit down with the House and Senate leadership. They've vowed to work with us and we're going to return the favor.”

Other comments made at the Farm Bill Forum, the first of several listening sessions USDA plans in advance of the next farm bill, indicated the depth of some of the divisions within the industry over Step 2.

Step 2 is part of the Three-Step Competitiveness Program that Congress included in the 1990 farm bill to help offset the impact of the fire-sale prices that many countries were offering cotton for in the late 1980s.

Step 1 allows the secretary of agriculture to reduce the adjusted world price for cotton when U.S. prices are significantly higher than world market prices; Step 2 allows USDA to issue marketing certificates to domestic users and exporters of cotton when U.S. prices exceed world benchmark prices; and Step 3 allows raw cotton imports into the United States to help domestic mills offset high U.S. cotton prices.

The National Cotton Council has always insisted that all three steps are required to make U.S. cotton competitive. But not all NCC members share that thinking.

Asked about the Step 2 issue at the Farm Bill Forum, Somerville, Tenn., cotton producer Harris Armour said many growers believe large cotton merchandising firms reap most of the benefits of Step 2.

“I would rather give Step 2 up than the marketing loan if it came down to a choice between the two,” he told reporters after he asked Johanns to “stay the course” on the current farm bill during one of the forum sessions.

Another forum speaker urged Johanns to stay the course on USDA's proposal to eliminate Step 2.

“I happened to work at USDA in a previous administration and became quite familiar with Step 2,” said Jennifer Harris of Memphis, Tenn., who said she came from a long line of cotton producers and owned cotton land in the Mississippi Delta.

“I am not opposed to the cotton program per se, but I have serious reservations about how Step 2 worked, and I applaud you, Mr. Secretary, for making your statement about ending Step 2. I hope you will work with Congress to make sure that happens so we will be in compliance with the WTO.”

According to estimates compiled by an environmental group, USDA issued marketing certificates valued at about $264 million for Step 2 in 2004. The largest amounts — $34.6 million and $23.8 million — went to two Memphis-based cotton-merchandising firms.

Defenders of Step 2 say the figures are misleading because most of the funds are used to help exporters pay the difference between what it costs to purchase cotton out of the Commodity Credit Corp. loan at marketing loan rates and sell it at competitive prices to overseas mills.

“If and when Step 2 goes away, prices paid to farmers will decrease,” said William B. Dunavant III, president of Dunavant Enterprise Inc. in Memphis. “The potential is there that the subsidy cost to the government will increase over time. If cotton doesn't move into the export channels, it will move into the government loan program.”

The subtleties of government cost accounting make little difference to present and former government officials in Brazil who brought the case against the U.S. cotton program to the WTO and to the Environmental Working Group, which claims to have helped Brazil prepare its case.

Pedro de Camargo, the former Brazilian trade official credited with conceiving the Brazilian WTO case, recently told an interviewer that the action grew out of the frustration of Third World countries with what they saw as the failure of the Uruguay Round.

“There was no real market access, no real decreases in subsidies and export subsidies were still available,” he said. “U.S. cotton farmers do not look to the market to make decisions, but to Washington. The rest of the world's farmers have to rely on world market prices.”

While the Brazilian case challenged several elements of the U.S. cotton program, Step 2 was a major target. “Step 2 is totally illegal and should have been challenged long ago,” said Camargo, who no longer works for the Brazilian government.

As the July 1 WTO deadline for resolving the Step 2 issue passed, the Brazilian government began talking about filing a request with the WTO for permission to retaliate against the United States, possibly by suspending programs aimed at protecting intellectual property rights for U.S. firms.

On July 5, the Office of the U.S. Trade Representative announced it had reached an agreement with Brazil, putting the arbitration process on hold and preventing any imminent retaliation after USDA's action on Step 2.

Meanwhile, Ken Cook, president of the Environmental Working Group and a perennial thorn in the side of the cotton industry, gave rare praise to the Bush administration for submitting the Step 2 elimination request to Congress.

Cook also called on Congress to follow through on the request. “Some in Congress have been trying to make out as if it's a negotiating card for us to play. That's somebody who's already essentially folded trying to place a bet.”

Whatever the final U.S. response proves to be, Johanns said in Nashville that there's no question that the administration will live up to its promises to the WTO.

“We are absolutely insisting that the world comply with WTO rules,” he said. “We have to lead the way. Yes, we are going to work with the industry on this, but I think the industry understands how important it is that we comply with the WTO.”


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