Foreign Trade Zones

Feel like going to some international destination? I hear Grand Forks and Minneapolis are wonderful this time of year.

Yes, those places happen to be right here in the Ninth District. But these and multiple other district locations are host to special trade zones that act as if they were located outside the country.

Foreign Trade Zones are akin to free trade zones: Each is a geographically delineated area within the United States where, under certain conditions, imports and exports receive duty-free treatment from the U.S. Customs Service. New FTZs have been popping up across the country, and the value of products passing through them has been growing even more quickly, particularly of late. A handful of new zones have been approved in the district in the past few years, and still others are being pursued; however, activity in virtually all FTZs in the district—new and old—is almost nonexistent, save for the one in Minneapolis-St. Paul.

ABCs of FTZs

The program is an old one, going all the way back to 1934, when it was created to offset the high tariffs established a few years earlier by the Smoot-Hawley Act. FTZs are licensed by the Foreign-Trade Zones Board (part of the federal Import Administration). Once approved, these locations allow domestic activity involving foreign items to take place before formal entry or declaration to U.S. Customs. This means companies can defer, reduce and possibly eliminate duties they would otherwise have to pay were it not for the FTZ.

Normally, when a company imports materials or parts, it must pay the prevailing tariff duty to the Customs Service. But if the company is located in an FTZ, and the material or part is used to add value to some final product, the initial duty is deferred. Duties are triggered when the final product is sold in the United States (and can be less than it would have been under initial importation); if the final product is re-exported to other countries, then all duties that would have otherwise applied to imported materials are waived.

The "zone" notion is both appropriate and misleading. While there are hard boundaries to these zones, many have noncontiguous, even far-flung properties. For example, six locations, spread among four cities, make up the Minneapolis-St. Paul FTZ and include such disparate sites as the airport, two industrial parks and the Minneapolis Convention Center. Fargo, N.D., received FTZ designation in December 2005, covering six noncontiguous sites and over 1,000 acres of land.

Importantly, the program also allows individual firms to receive special "subzone" designation whereby FTZ rules apply at an existing firm location. This wrinkle has been particularly important in FTZ growth.

Whether a general FTZ or subzone, the program is designed to give U.S. firms a financial incentive for value-added manufacturing and processing by allowing them to source low-cost materials from outside the United States for final products. This arrangement, the argument goes, levels the playing field with international low-cost competitors.

The FTZ program was slow-growing for decades. By 1970, there were only eight FTZs and three subzones. But it has since gone on a tear. Today, there are some 250 general FTZs nationwide, with another 400-odd subzones, though not all of them report activity in a given year. The Ninth District is home to nine general zones and seven subzones.

More noteworthy still is the merchandise value running through these hundreds of FTZs. In 1984, the total value of merchandise shipped into FTZs was less than $25 billion; in 2005, it topped $400 billion, rising more than $100 billion just over the preceding year. Most of the growth, as well as a majority of total activity (about 85 percent), is coming from these specially designated subzones.

Merchandise trends in district FTZs do not mirror the nation, not by a long shot. Every district state, as well as the Upper Peninsula of Michigan, has at least one general zone; Minnesota has the most, with three, and also has the bulk of subzones, with five. Grand Forks is the oldest FTZ in the district, and several (Fargo, N.D.; Sioux Falls, S.D.; International Falls, Minn.) only recently entered the program.

The only general-purpose FTZ with more than a rounding-error in merchandise shipments is the Minneapolis-St. Paul FTZ. Activity there soared from $10 million in 1998 to $420 million two years later. After falling for several years, merchandise shipments skyrocketed in 2005 to $595 million.

Activity in other general-purpose FTZs in the district is virtually nonexistent. None reported merchandise received in 2005; over the past decade, none has reported more than $1 million in annual received shipments.

An even bigger gap exists in subzone activity. In the large majority of states, subzone FTZs bring in most of the merchandise value. The district has comparatively few of these to begin with (seven), and those in place are mostly dormant; only two—one in Minneapolis, the other in Grand Forks—reported any activity, and they combined for barely $15 million in receivables.

Maybe not surprisingly, coastal or port states like Texas, Florida, California and New York have the lion's share of general FTZs and subzones. But some interior states have learned how to play this policy game. Illinois had 35 total zones in 2005, which saw about $17 billion in merchandise shipments. For Indiana, it was almost $13 billion, a large chunk of it through a subzone for Toyota, which has significant manufacturing operations there; but even without Toyota, the merchandise shipped to Indiana FTZs is still more than 10 times that of all district FTZs combined.

Neither is inactivity solely a district phenomenon. Only about half of all general-purpose FTZs record active projects in a given year, though subzones have a higher activity record, according to annual reports by the Foreign-Trade Zones Board. A total of 16 general zones has been decommissioned altogether (including Butte-Silver Bow in Montana) since the program's inception, as have 83 subzones, including four in Wisconsin and two in Minnesota.

Despite the lack of success with existing FTZs, local governments in district states continue to pursue additional FTZ designations because they see them as an economic development tool. In its 2005 application for FTZ status, the city of Fargo and Cass County argued that a zone would help local exporting firms compete, which would create expansion opportunities, which in turn would generate more higher-wage jobs and raise job retention. Ultimately, the FTZ creates a virtuous circle: The success of existing firms helps attract
prospective industries scouting for new sites to locate manufacturing plants. Maybe, but if FTZ performance in the district is any indicator, Fargo officials might need to import some patience.

Butte officials are trying to revive their lapsed FTZ, arguing that it will differentiate their city from other industrial locations and help the region lure international firms. This despite the fact that the previous FTZ there logged no notable activity.