Subsection (b) would authorize the negotiation of contracts with groups of carriers and when considered in conjunction with the mandatory allocation system prescribed under subsection (f), it appears as though the purpose of the bill is to establish a pool of common carrier operators who will negotiate contracts and share proportionately in the allocation of defense business. The Department does not believe that such a pool arrangement would be economical and equitable to other segments of the shipping industry or that it would be in the national interest. Further, the implied restriction on the power of the Department of Defense to negotiate contracts with other than common carriers narrows existing authority under title 10, United States Code, section 2631 and appears to be inconsistent with the authority contained in title 10, United States Code, section 2304.

Subsection (c) which would establish a "fair and reasonable" test for negotiated rates seems ambiguous in the absence of any standards for reasonableness of rates charged either to commercial or Government shippers. In subsection (a) authority is granted to negotiate rates at lower levels than those charged commercial shippers and this further complicates the question of determining fair and reasonable rates.

Subsection (d) which would entitle the Secretary of Defense to require submission of financial data annually is unnecessary in view of title 10, United States Code, section 2306 (f) which requires submission of comprehensive certified cost data in procurement in excess of $100,000 and undesirable in that it would limit the authority of the Department to secure data necessary for prudent management.

Subsection (e) would require that any adjudication of rate differences give due regard to the level of commercial tariff rates in the trade. Military cargo rates should not be priced on the basis of the economic demand or the market value of the cargo being transported. Commercial ocean freight rates tend to follow or correlate to the value of material being shipped in that value generally equates to profit and willingness to pay higher costs. Military cargo must move regardless of the marketplace value of the material and transportation rates should be established on other than a commodity basis. The requirement for retroactive application of rates ultimately determined by the Commission is novel so far as liability of the customer to additional charges is concerned; it introduces uncertainty into budgeting and limits management discretion in its choices among the various transportation modes and facilities.

It is for these reasons that the Department of Defense opposes enactment of this bill. The Department feels strongly its obligation to obtain the ocean freight services it requires at the lowest overall cost to the Government. It believes just as strongly that the program for procurement which is being adopted by the Department is consistent with our national procurement policy; that it is consistent with the basic objectives of national policy as they relate to the transportation system of the United States; and that it will prove beneficial to the U.S. merchant marine.

Mr. Chairman, this completes my prepared statement. This statement is also intended with your permission to serve as the report of the Department of Defense on S. 3297. With me today is Mr. Marvin Morse from our Office of General Counsel.

Prior to offering to answer questions, if you would like, I will try to answer questions concerning Chairman Magnuson's letter to Mr. McNamara, about which you asked earlier. Mr. Chairman, the letter is in the Pentagon. The Secretary is aware of the hope expressed by Senator Magnuson that the Department will delay its implementation during this session for review. It is his present feeling that the normal procedural leadtime required to develop implementing procedures, which we have not yet developed, to review them, to have them approved, to discuss them with other agencies of the Government, as will most probably be required, and to then institute an implementing bid procedure, will provide sufficient time for concurrent review by the Congress.

Senator BREWSTER. Has the Secretary answered the chairman's letter formally?

Mr. Moor. He has not yet answered it, sir, but he will answer it. I will convey to him, when I go back, the comments you have put in the record and in your opening statement.

Senator PROUTY. Mr. Chairman, may I ask what was the date of the letter?

Senator BREWSTER. May 4, 1966.

Mr. Mooт. Yes. I saw the letter on Saturday for the first time, Mr. Chairman.

(The letter mentioned above follows:)

ASSISTANT SECRETARY OF DEFENSE,

INSTALLATIONS AND LOGISTICS,
Washington, D.C., May 13, 1966.

Hon. WARREN G. MAGNUSON,

Chairman, Committee on Commerce,
U.S. Senate, Washington, D.C.

DEAR MR. CHAIRMAN: This has reference to your letter to the Secretary of Defense concerning Department of Defense procurement of ocean transportation services and Senate Bill, S. 3297, dated May 4, 1966.

As you know, Mr. Robert C. Moot, Deputy Assistant Secretary of Defense (Logistics Services), testified for the Department of Defense before the Senate Subcommittee on Merchant Marine and Fisheries on May 9, 1966. His prepared statement sets forth clearly the department's position on S. 3297 and explains the decision to seek greater price competition in the procurement of ocean transportation services.

The Congressional and industry concern over unrestrained competition and the possible effects thereof is certainly appreciated, but in the view of the Department of Defense is unfounded. Rather than having adverse effects on the U.S. Merchant Marine, the Department of Defense firmly believes that its new ocean transportation procurement practices will produce salutary results. The fact that contracts will be let for a period of a year will in itself have a stabilizing effect on rates. Also we do not believe that the conditions which have led to rate wars in the commercial trade in the past will exist insofar as the movement of military traffic is concerned. The Department of Defense is a single shipper and is dealing only with U.S.-flag carriers. There are no outside competitive forces involved.

As you know, the provisions of the Shipping Act of 1916 as amended which permit conference rate making are designed to protect the competitive position of the U.S. Merchant Marine in world trade. The problems of foreign-flag competition, or the question of world shipping conferences are not at issue in this

case.

We expect carriers to make a reasonable profit on our traffic and will not permit "buying in" by a carrier. "Buying in" is a term used to describe a situation where a bidder submits a below cost bid for the purpose of securing a contract with the intention of recouping his loss through later contract price escalation. We have every reason to believe that our new procurement practices will stimulate carriers to improve the overall cost effectiveness of their operations and

expand their commercial operations. Success on either of these points will certainly be beneficial to the merchant marine industry.

The normal leadtime in developing and implementing the new procurement practices is such that the program will not be operational until early in FY 1967. This will afford time for a concurrent review of the basic issues involved. Sincerely,

PAUL R. IGNATIUS,

Assistant Secretary of Defense (Installations and Logistics). Senator BREWSTER. It is my understanding that present plans are for the Department of Defense to implement their present plan, but parenthetically you add that under the present plans, Congress will still have time, if they wish to change the procedures, by statute.

Mr. Moor. That is right, sir.

Senator BREWSTER. Thank you, Mr. Moot. I have a series of questions. But first I will defer to Senator Prouty.

Senator PROUTY. Thank you, Mr. Chairman.

Mr. Secretary, I have just one or two questions. It is my understanding that the Federal Maritime Commission has conducted an investigation during the past year on common carrier berth line rates for Military Sea Transportation Service cargo. It is also my understanding that elaborate cost studies have shown that berth lines have shipped MSTS cargoes at rates substantially below comparable commercial cargo. Do you know whether that is correct or not?

Mr. Moor. Insofar as the first part of your question is concerned, Senator, the Federal Maritime Commission is conducting extensive hearings in which we have testified. So this is correct.

Insofar as the second aspect of your question is concerned, it needs to be put in perspective, the question of military rates for defense cargo in ocean freight movement and comercial tariff rates.

The two are not comparable to begin with. In the first place, for all military lift, the ship comes to the military terminal. The loading, the cargo expense, is incurred by the Department of Defense, in loading the vessel. There is in addition no brokerage fee, there is usually no wharfage fee.

The movement of the cargo to the terminal at the other end is likewise at that end handled for the most part by the military. So in determining comparability of rates between the movement of military cargo for ocean freight tariffs, it is first necessary to determine what part of the commercial tariff rate involved in these is either not applicable to the Defense Department or not required by Defense such as brokerage and cargo expense.

We have likewise examined the data as submitted by the carriers to the Federal Maritime Commission, in its docket hearing 65-13. It would be our conclusion, Senator, that on a comparable basis, we would believe that for what the Defense Department needs, namely, the occupancy of space, the comparable rates indicate that the Department of Defense is paying somewhat higher than commercial rates. We would likewise believe that the financial statements in terms of the profit or loss indicate that the carriers are making somewhat more profit on military cargo than they are on commercial cargo.

So to that extent I would qualify the latter half of your question. Senator PROUTY. If the Federal Maritime Commission is charged with the responsibility of establishing a fair and reasonable rate, why is it necessary to induce bidding procedures? It seems to me they are

far better qualified to determine what is a fair rate than the Defense Department.

Mr. Moor. I think that is a good question, Senator. Perhaps the technicality of the Commission's mission can best be answered by Admiral Harllee, who I believe follows me. But from the Department of Defense's point of view, the issue in the investigation order of the Commission is to determine whether or not the rates charged the military were discriminatory.

It was not the intent of the Commission to establish rates. The Commission can deem a rate unreasonably high or unreasonably low. The purpose of the hearing is to determine whether the rates are discriminatory insofar as being unfair in their charge against military cargo. So I see nothing inconsistent in the Defense Department's view and desire to determine that it is in the national interest to seek competitive rates, with the Commission's hearing.

Senator PROUTY. Do you foresee the danger of competitive rates perhaps leading to a rate war, which would weaken our flagship systems dangerously?

Mr. Moor. We have given long and careful consideration to the position that we play in securing ocean freight service and we have recognized the industry position concerning the dangers of rate war and we have reviewed the history.

On balance, we believe that there should be no danger of rate war for the following reasons: First of all, again as I stated in my statement, we are talking about one customer, not in international competition between foreign-flag shippers and U.S.-flag shippers, but one large volume shipper, dealing with one segment of the world's shipping industry, namely, U.S.-flag operators.

It is our intent to establish rates through annual contracts and not to open up bidding to daily changes at the whim of someone who wants to become more competitive. It would be our intent to seek proposals, cost proposals, which we would intend and expect to be compensatory to the bidders, on a basis of annual contracts, probably for the first time with both a request including a guaranteed minimum amount of lift for the year, as well as a comparable bid, without a guaranteed minimum. It is our basic policy in the Department of Defense not to accept that we call "buy in" bids, which are artificially or subnormally low at the time of the initial contract, for the purpose of securing the business and then subsequently raising the price.

This is against Defense Department policy. So against that framework and with our intent to establish contracts on an annual basis, and with the fact that we are dealing with one segment, our own U.S. flag shippers, with one customer, we feel that we will bring stability rather than instability to the price structure.

Furthermore, I might point out that the other 50 percent of our lift that we are not talking about today is now on price competition as a basis. The contract carriage that we secure is price competitive. We have not experienced rate wars in this particular area. I would also like to point out that in our review of the history of this problem, when we leave 100 years ago or 50 years ago, and come up to modern times, it appears to us that most of the world conferences of today engaged in U.S. cargo movement in foreign commerce, have independent competition. Most of them have independent competition

which results in a rate difference which ranges anywhere from 10 to 25 or 30 percent. It is not our understanding that there have been disastrous rate wars in recent years. We do not consider that our own experience of the past year is a disastrous rate war experience. Taking all of this evidence into account, Senator, it is our belief that we can bring stability to the industry, we can offer them a certain assured amount of lift, we can create a competitive situation where the more effective operators are stimulated and the less effective operators will be stimulated, and we believe that we can comply with the legislative intent of the Congress, which is to secure Defense requirements at the lowest overall practical extent possible by price competition.

Senator PROUTY. Mr. Secretary, who presently sets the rate at which cargo is carried for the Military Sea Transportation Service?

Mr. Moor. The rate, Senator, insofar as the area we are talking about today, which are berth liner service rates, are established through negotiation between the Military Sea Transportation Service and group associations of the carriers. There are two basic groups, the Atlantic and Gulf Coast, American-flag berth operators, and the counterpart for the west coast. The rates are negotiated between the Military Sea Transportation Service and these associations. The contracts are signed with the individual operators and not with the associations, which is different than your 3297 bill would propose. It proposes contracts being signed with groups of carriers.

Senator PROUTY. In other words, the lines do not set the rates now? Mr. Mooт. Associations set the rates, sir. The lines are the individual members and in the aggregate of course form the associations. Senator PROUTY. Thank you, Mr. Chairman.

Senator BREWSTER. Mr. Moot, are any military cargoes being veered to South Vietnam in non-U.S. ships now?

Mr. Moor. Over the past year, Mr. Chairman, about 42 percent of our military cargoes have moved in foreign-flag vessels to South Vietnam. This compares with what is normal in a peacetime year, nonemergency year, of 3 to 4 percent. So that foreign-flag lift is within the spectrum of what we would call the normal spot shortages of lift. As you know, we use foreign-flag vessels when U.S.-flag vessels are not available, we use them by and large on a one-voyage, outbound only, and turn them loose at the other end. The prevalence of our use of foreign-flag vessels is just a shade above normal.

Senator BREWSTER. Is this percentage applicable throughout all of military shipments, throughout the world, or is this percentage just applicable to South Vietnam?

Mr. Moor. The 3 to 4 percent I mentioned is a worldwide normal type of percentage, talking about a nonemergency situation. The 42 percent is South Vietnam.

Senator BREWSTER. Does the Department of Defense consider a strong U.S. merchant marine necessary for our national security? Mr. Moor. The Secretary of Defense has testified very emphatically that he is dependent upon a strong U.S. merchant marine.

Senator BREWSTER. At the end of World War II it is my understanding our merchant marine fleet ranked first in the world. Do you know where it ranks now?