(What’s Left of) Our Economy: Manufacturing Insourcing is More Grimly Comic in Fact than in Fiction

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"The Campaign", "Trading Places", Boston Consulting Group, China, competitiveness, Dan Aykroyd, insourcing, manufacturing, renaissance, reshoring, wages, Will Ferrell, Zach Galifianakis, {What's Left of) Our Economy

Here’s a TV-watching tip for the upcoming holiday – and No, it’s not the college football championship games. Catch or stream the 2012 Will Ferrell comedy “The Campaign.” And it’s not mainly because I’m a big Will Ferrell fan. Rather, the film deals with the idea of manufacturing insourcing in an especially funny way. In fact, make that “two funny ways” – only one of which the scriptwriters seems aware of.

“The Campaign” is about a Congressional race in a small-town North Carolina district between the worthless – though sort of lovable – gadabout of an incumbent (Ferrell). and a humble, endearingly wholesome political novice unwittingly fronting for ruthless tycoons. The puppet is played perfectly, touchingly old-fashioned sense of honor and all, by (get this) Zach Galifianakis. Special casting bonus for fans of the near-classic “Trading Places”:  Dan Aykroyd, whose arrogant young financier character in that 1983 feature was chewed up and spit out on a bet by his bosses, the nefarious Duke brothers, plays one of the equally villainous “Motch Brothers” in “The Campaign.”

I’m betraying no momentous secret by revealing that the climax involves the challenger indignantly refusing to go along with the Motches’ plan for the district. But the scheme itself was striking (at least for a policy wonk) and creative: The moguls need a pliable Congressman to help them buy up huge tracts of land, build factories on them, and then sell them for a ginormous profit to a Chinese manufacturer. He, in turn, would staff them not with the locals, but with 50-cent-an-hour workers shipped in from the PRC. As the Motches proudly announce, “We call the concept ‘insourcing.’”

The writers obviously viewed the term as a simple pun that would elicit laughs from an audience by-then largely familiar with the term “outsourcing.” They also seem to have known that insourcing (along with “reshoring”) was a term that had begun to be used by analysts who believed that the United States was on the verge of an historic manufacturing renaissance. Production and jobs would increasingly be brought home, they confidently predicted, because wages in outsourcing destinations (like China) were rising, along with the freight costs of shipping the output to American customers. In fact, just like the insourcing cheerleaders, the Motches explain that their plan would combine labor savings with the transportation savings from producing close to their market.

But here’s what the “Campaign” writers couldn’t have known: As dependent as insourcing has been on cheap labor, lower costs on this front haven’t required using workers from China. Thanks to the always available option of re-outsourcing (which has continued to undermine workers’ bargaining power), Americans – especially in the non-union South – have accepted sufficiently abysmal pay to supercharge profitability.

In fairness, the pioneers of real-world insourcing claims – the Boston Consulting Group – made clear from the start how the South’s low wages were keys to the U.S. manufacturing renaissance. But although the journalists and politicians who believed such predictions seemed neither surprised nor dismayed about this low-road route to restoring competitiveness, “The Campaign’s” story line apparently assumed that American wages could never sink low enough to attract much investment. I wonder if the writers realize that, once again, truth has been stranger than fiction. And in a final irony, not even rock-bottom wages have been enough to cure what’s ailed U.S. manufacturing.

(What’s Left of) Our Economy: Manufacturing Renaissance, RIP

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aerospace, Boston Consulting Group, defense manufacturing, durable goods, Federal Reserve, industrial production, inflation-adjusted growth, Jim Tankersley, manufacturing, manufacturing jobs, manufacturing renaissance, non-durable goods, Washington Post, {What's Left of) Our Economy

I’m pleased to announce that the Washington Post has just reported on a major recent finding of mine about America’s supposed manufacturing renaissance: In terms of the supremely important measure of inflation-adjusted output, it never happened.

As summarized in a new piece by correspondent Jim Tankersley, revisions last month to Federal Reserve data show that instead of surpassing the highs it reached on the eve of the last recession, more than seven years ago, manufacturing production in real terms still hasn’t recovered the ground it lost. By contrast, in the two previous economic recoveries, manufacturing took much less time to exceed its previous output peak

Shortly after discovering this change, I shared the information with Tankersley and, gratifyingly, he considered it newsworthy.

His write-up adds an angle I wasn’t aware of – much of the shortfall has taken place in defense and aerospace manufacturing. At the same time, the picture can be usefully fleshed out with these details:

>The timing of the revisions couldn’t have been stranger. They came out just a six days after the Federal Reserve released its report on June industrial production. How much easier these results would have been to report on had the Fed either included them in that release, or waited to issue them for incorporation into last week’s July figures!

>Although much of the manufacturing renaissance coverage and commentary has focused on the sector’s job levels (in fairness, the holders of jobs do things like vote), I’ve closely monitored production because it ultimately matters much more. After all, how can robust employment be generated and maintained over any period of time without robust output? This relationship is especially important to keep in mind given manufacturing’s historically strong productivity performance. Even though efficiency has been growing more slowly as of late, the sector has a proven knack for using technology and other innovations to turn out more stuff with fewer workers.

>The revisions were anything but trivial. The last pre-revision figures showed that the sector’s output was 2.68 percent greater after inflation than the level it reached at the last recession’s December, 2007 onset. According to the new data, from December, 2007 through June, 2015, real manufacturing production had actually shrunk — by 2.28 percent.

The subsequent July industrial production figures actually reported a December, 2007-June, 2015 manufacturing output decline that was even greater — 2.50 percent. That’s because the June, 2015 real output level was less than originally reported. Happily, the initial July reading showed a monthly increase big enough to bring domestic industry to within 1.67 percent of its pre-recession high.

>Consistent with Tankersley’s finding of outsized downward revisions in defense-related industries, the worst newly revealed manufacturing losses came in durable goods industries. Previously, their inflation-adjusted output was judged to be up 9.52 percent since its December, 2007 pre-recession peak. Now the improvement is pegged at only 2.27 percent.

>Since its own pre-recession peak (July, 2007), non-durable goods output has been even worse than originally thought, but by only 7.88 percent versus 5.20 percent.

>These revisions themselves will be revised further down the road (as will the latest June and July data).  It’s possible, in fact, that these changes will soon incorporate research strongly indicating that manufacturing output has been considerably over-counted in recent years. Why? Because there’s abundant evidence that government statisticians haven’t done well at assessing the rapidly falling prices – and therefore the prevalence in manufactured goods – of parts, components, and other inputs that are imported. If these price changes indeed haven’t been fully captured, then many final manufactures – especially in information technology hardware – contain higher levels of foreign content, and thus lower levels of U.S.-made content, than we currently think.

>What we know for sure now, though, is that by the most meaningful measure, there never was a U.S. manufacturing renaissance, and that those who have been singing its praises – ranging from President Obama to the Boston Consulting Group – have simply been manufacturing and selling snake oil.

(What’s Left of) Our Economy: A Flawed Basis for “Over-Priced” China Hopes

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advanced manufacturing, Boston Consulting Group, China, developing countries, economic development, labor, labor-intensive manufacturing, Lewis Point, manufacturing, manufacturing renaissance, Obama, productivity, W. Arthur Lewis, wages, {What's Left of) Our Economy

Quick – how many of you have heard of the Lewis point? Not a clue? Don’t worry – you’re not alone. Even most supposedly serious economic analysts seem unacquainted with it. At the same time, it’s difficult to talk realistically about patterns of Chinese and U.S. industrial competitiveness without keeping it in mind, along with its significant weaknesses, and the release of a new report about China’s labor force is a great occasion to examine its significance.

The Lewis point – named after the prominent development economist Sir W. Arthur Lewis – is the hypothetical stage of a country’s economic evolution at which its supply of excess labor shrinks enough to start pushing wages up. As a result, it’s the dominant theory in economics explaining how low-income third world countries with major labor surpluses nowadays can plausibly hope to become much higher income countries.

I’ve always been somewhat skeptical of the Lewis notion, mainly because the labor surpluses in developing countries have been so vast, and incomes so incredibly low. Indeed, my book The Race to the Bottom cited third world labor gluts as features of the global economy with such staying power that they would be instrumental in ensuring that world trade flows would long remain lopsided to the detriment of workers in developed countries, and global financial stability.

More recently, the Lewis point has shaped much recent thinking about global manufacturing’s future, and especially about the outlook for the United States and China – even though few of these thinkers have mentioned Lewis’ ideas. In particular, U.S. manufacturing cheerleaders like President Obama and the Boston Consulting Group have predicted that lots of industrial activity will move from China to the United States largely because labor shortages there are already driving wages too high to justify its current levels of production. In other words, the Lewis theory looks like it’s playing out right now in the PRC.

As I’ve written exhaustively, these claims of rising Chinese wages are full of serious problems. (The new China labor report claims to have spotted another one.) One rising-China-wages problem I haven’t discussed, however, stems from a big flaw in the Lewis point theory that would weaken it even if one could document the kinds of Lewis-ian wage hikes that the cheerleaders claim to be seeing. Lewis’ ideas arguably make sense outside sectors of an economy exposed to international trade, like services. But since trade is crucial to developing countries’ growth – because, by definition their domestic markets lack the wealth needed to create anything like the employment opportunities they need – relevance to trade should make or break the Lewish theorem. And here’s why it doesn’t seem able to hold long enough to matter.

In developing countries making their way in a world with robust trade – and full of surplus labor – overly generous pay in the labor-intensive industries in which economic development naturally starts will indeed reduce the competitiveness of their manufacturing. But events don’t then simply come to a screeching halt. One of three manufacturing-related developments – or some combination of them – can be expected next, at least if the rest of economics has any validity. (Of course, as with all economics theorizing, these scenarios depend at least in part on other factors holding more or less constant.)

Possibility one is that so much competitiveness is lost that jobs in those globally exposed sectors dry up, surplus labor starts to emerge once more, and wages start sagging again. Possibility two is that employers do what they do everywhere else in the world to cope with scarce labor – they automate, or become more efficient in other ways, and either replace labor with capital and technology, or raise their productivity, or do both. And possibility three is that these countries use capital and technology to move into more advanced industries.

China specifically seems to be climbing the technology ladder quite rapidly, as evidenced by its production of ever more advanced manufactures. But the nation still hosts a large labor-intensive manufacturing sector, and its struggles appear to be in part behind China’s growth slowdown.

It’s true that, in principle, because low-income countries are poor, their businesses might lack the access to capital and technology to take these steps. In practice, though, many foreign investors have been happy to help out, and many third world governments (notably in Asia) access the capital from their own populations through economic policies that promote saving and discourage consumption. Intellectual property theft, or forced technology transfers, have aided many (mainly Asian) countries, too.

It’s also true that not all national business establishments in globally exposed sectors will be smart enough to make these adjustments, or fast enough to re-attract from more promising sectors whatever workers they need. But at least some will, and they’ll become the new manufacturing winners until others start coping as or more successfully, or come up with superior alternative approaches.

Incidentally, these Lewis point shortcomings also explain why hopes for significant wage increases in U.S.-based manufacturing (which, to their credit, the manufacturing cheerleaders like President Obama have not predicted) appear misplaced. Although it’s difficult to know the tipping points in various manufacturing sectors, no one can reasonably doubt that they exist. If they’re ever passed strongly enough and long enough (a development that looks pretty far-fetched for now), offshoring to much lower wage countries will start looking just as attractive as in the past. Moreover, as made clear by China’s inroads into advanced manufacturing, the productivity gains that will be needed to offset these wage increases will need to be genuinely historic – a sobering thought at a time when manufacturing’s productivity growth has been slowing.

(What’s Left of) Our Economy: US Workers’ Wage Misery Has Lots of Global Company

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Boston Consulting Group, China, ILO, inflation-adjusted wages, International Labor Organization, manufacturing, manufacturing renaissance, productivity, real wages, Stolper-Samuelson theory, wage stagnation, wages, workers, {What's Left of) Our Economy

Could readers of RealityChek be luckier? I read through weighty tomes like the new International Labor Organization (ILO) report on global wage and income inequality so that you don’t have to!

This report’s findings need to be taken with a sizable grain of salt, mainly because it includes lots of data from developing countries whose statistics-gathering agencies just aren’t yet state of the art. And then there’s the problem of statistics from China, which are “notoriously unreliable” – as they say in polite (economics) society. Nonetheless, the ILO study contains findings that shed lots of light on many of the employment and wage trends being robustly debated in the United States. Here in my view are the most important and/or interesting.

First, wage stagnation is anything but a U.S.-only phenomenon. It’s happening nearly everywhere. Wages aren’t falling in inflation-adjusted terms worldwide (or in America). But their rate of increase recently keeps slowing from levels that are hardly impressive – from 2.2 percent in 2012 to two percent even in 2013. Just before the financial crisis, real wages around the world were growing by three percent annually.

These wages grew faster in the developing world than in the high income countries – which is to be expected, partly because they’ve begun from such a low base. But the third world didn’t escape the slowdown trend either, as its total real wage growth fell from 6.7 percent in 2012 to 5.9 percent in 2013. And if you strip out China, third world and overall after-inflation wage growth rates get cut – the latter in half.

Second, the differing wage trends in rich and poor countries continue to bear out a prediction made by the most important advance in trade theory made in the 20^th century. It’s called the Stolper-Samuelson theory, after its developers (and yes, the Samuelson is the same MIT economist who wrote the best-selling economics textbook of all time), and one of its main claims is that if trade increases between rich and poor countries, their wages will start to converge. In fact, the ILO report finds that inflation-adjusted wages in developed countries were nearly flat in both 2012 and 2013.

Third, both inside and outside the United States, workers’ real wages are rising slower than their productivity. There’s nothing intrinsically wrong with a gap between the two. But when it persists and grows over long stretches, then it’s fair to assume that workers are no longer being adequately compensated for their performance. And if you think that the whole purpose of a national economy is to create the greatest possible prosperity for the greatest number of its citizens, that’s quite a problem.

For the high-income countries, the gap during the 1999-2013 period was greatest for Germany and Japan as well as the United States – no matter which of the two main measures of inflation you use. Moreover, the ILO findings measure labor productivity versus total compensation, not just wages, so benefits are included as well. Where has pay been growing faster than productivity? The United Kingdom, Australia, France, and maybe Italy and Canada. (The performance of those two countries depends on the inflation measure.)

The only disappointing aspect of the ILO report to me was the absence of any data on productivity and wage trends in developing countries, especially China. No doubt data quality – and simple availability – was the main reason, although China publishes both.

I’d like to see this data because of all the evidence I’ve seen that rising wages in China result at least in part from rising productivity – not because, as many American manufacturing cheerleaders claim, China is rapidly losing competitiveness because pay is completely out of control. But it seems we’ll all need to wait. For now, though, the ILO report makes depressingly clear that the American worker has had lots of company in his and her recent misery.

(What’s Left of) Our Economy: Manufacturing’s Low-Road Comeback Strategy is Failing

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Boston Consulting Group, competitiveness, labor productivity, low road, manufacturing, manufacturing renaissance, multi-factor productivity, productivity, wages, {What's Left of) Our Economy

Yesterday’s manufacturing wage data from the Labor Department contains bad news not just for domestic industry’s workforce. The weak results also indicated that, if U.S.-based manufacturers think they can regain competitiveness via what analysts call the “low road” of labor cost cutting, they’re wrong so far. Why so? Because the same Labor Department has also revealed that U.S. Manufacturing’s productivity is faltering as well.

To recap yesterday’s numbers, U.S. manufacturing wages fell by 0.48 percent from August to September after inflation, and are now down 0.38 percent year on year and 2.61 percent during the current economic recovery to date. By contrast, overall real private sector wages are actually up slightly since the recession ended.

But despite the falling inflation-adjusted wages, the rate of manufacturing labor productivity growth has slowed significantly even since the expansion of the 2000s – which no one regarded as a golden age of American industry. During that expansion’s 20 quarters, which of course included the housing and credit bubbles, manufacturing’s labor productivity grew by a cumulative 25.31 percent (1.27 percent per quarter on average). During the current recovery, which has lasted 16 quarters, manufacturing labor productivity has advanced by a total of 14.39 percent (0.90 percent per quarter on average).  (All these figures are calculated from the statistics on the Labor Department’s interactive productivity databases.)

Also of interest: In the 11 quarters that have passed since the Boston Consulting Group published its first prediction of an onshoring-driven U.S. Manufacturing renaissance, in August, 2012, labor productivity in the sector has grown by 4.89 percent. In the 11 quarters before, manufacturing labor productivity increased by 9.69 percent – nearly twice as fast.

The multi-factor productivity data for manufacturing only go through 2012, and are kept annually, not quarterly. But these figures, which take into account all the inputs for manufacturing operations, tell the same story.

From 2001 through 2007 (roughly the time of the previous economic recovery) multi-factor productivity in domestic manufacturing improved by 15.67 percent in toto, or 2.61 percent annually on average. From the start of the present recovery (in 2009) through 2012, it grew by 5.02 percent – 1.67 percent on average each year.

An industry that’s cutting wages and still getting less output per head, along with less output per all inputs, isn’t an industry experiencing an historic comeback. It’s one whose competitiveness by crucial measures looks less impressive all the time.

Following Up: Manufacturing Cheerleaders that Neglect Productivity

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Boston Consulting Group, China, competitiveness, costs, Following Up, manufacturing, manufacturing renaissance, productivity, wages

It was great to be quoted by Yahoo Finance’s Rick Newman today on the Boston Consulting Group’s newest report on the renaissance it keeps claiming domestic U.S. manufacturing is enjoying. I was especially pleased that Rick included my point about productivity in China, because that’s been a major weakness of the BCG’s work going back to its initial manufacturing renaissance findings in 2011.

Taking productivity into account is crucial because the BCG’s renaissance claims center around the alleged growing price competitiveness of U.S.-based industry. Especially striking and important has been its contention that rising wages in China and falling wages in the United States (along with cheaper American energy supplies) have just about closed the once yawning gap in overall manufacturing costs in the two countries.

I’ve questioned this finding for two main reasons. First, falling wages should only be seen as a sign of improved U.S. manufacturing competitiveness only in the most shortsighted Darwinian sense. As I wrote in a post yesterday, unless Washington proposes to inundate the economy with another flood of bubble-era like super-cheap credit, or figures out a way to foster a wholly unprecedented jump in net exports, the U.S. economy will never be able to grow if worker wages keep stagnating or falling. And although down significantly from their historic levels, manufacturing wages remain among the economy’s highest, and in particular help buoy pay levels throughout the American middle and working classes. So falling manufacturing wages are a competitiveness triumph only in the most pyrhhic sense.

The second main reason for questioning the BCG findings has to do with productivity. A maxim of conventional economic thinking holds that rising wages won’t undercut competitiveness if workers and companies (and national economies) can increase their productivity. With greater efficiencies, businesses can absorb higher labor costs without passing them on to customers.

The BCG doesn’t completely ignore productivity. But it doesn’t put the concept front and center, either. Its new report claims that “Wages have risen 4 times faster than productivity over the past 10 years” in China. But the data on which this statement rests comes from only one region in China – the Yangtze delta. Many other studies based on nation-wide Chinese data credit the PRC with a much better productivity performance – especially in export-heavy industries, which matter most for China’s American and other foreign competition.

And I have noted that productivity and wages are rising in China not only because individual China-based enterprises and entire sectors are becoming more efficient, but because Chinese manufacturing is shifting steadily into more productive – and better paying – industries. Some of the most compelling evidence is presented in my studies of import penetration in U.S. markets for advanced manufactured goods. The China breakouts show spectacularly fast inroads being made by China-based producers not only in sectors like electronics – where much of the content of finished goods still comes from outside China – but in areas like industrial machinery and chemicals.

The Boston Consulting Group has been making its U.S. manufacturing renaissance claims for years now, and as indicated by not only import penetration rates but by measures such as trade balances and share of world exports, evidence keeps abounding that domestic industry keeps facing growing, not declining challenges. It’s getting harder all the time to avoid concluding that the BCG’s work, far from being part of the solution for domestic manufacturing, has become an important part of the problem.

(What’s Left of) Our Economy: Another Body Blow for Manufacturing Renaissance Claims

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Boston Consulting Group, manufacturing, Obama, renaissance, reshoring, {What's Left of) Our Economy

Manufacturing & Technology News continues to be invaluable for anyone who really cares about the state of America’s industry and the rest of its productive economy. Here’s just the latest example.

President Obama, the Boston Consulting Group, and numerous other cheerleaders keep blathering on about a surging wave of manufacturing reshoring keying an historic renaissance in the sector. Reliable supporting data is nowhere to be found (quite the contrary), but this doesn’t faze many of the cheerleaders. They’re often happy to base their claims largely on surveys of what executives profess to be thinking seriously about (whatever that means) or on any other straw they can grasp. And gullible reporters are just as happy to parrot the results.

Manufacturing & Technology News just took the obvious next step and actually tried to find out what these executives actually do. And at least for (what’s left of) the American electronics industry, it turns out that although many of its leaders have said they’ve been “interested” in bringing some of their overseas production back stateside, “few companies to date have taken action,” according a follow up study conducted by an electronics industry association. The bottom line: “On-shoring is still a relatively rare phenomenon.”

Also fascinating: Of the (10!) companies that were actually found to have returned factories and jobs to the United States, half saw their production costs rise, but half saw no change, as the benefits of being closer to their customers geographically offset the generally higher level of other U.S. domestic manufacturing costs. At the same time, only two of the companies saw their sales rise.

Nor does the electronics industry association expect meaningful reshoring to take off for the foreseeable future – mainly because of those higher U.S. production costs (like wages), and because (surprise!) taxes and regulations in first world America are a heavier burden on businesses than they are in third world China or Mexico. Moreover, decades of mass electronics offshoring has left the United States with a thoroughly supply chain in the sector.

Critics often complain that President Obama too often confuses talking about a problem with solving a problem. The persistence of reshoring hype shows that, when it comes to strengthening domestic manufacturing, he’s anything but alone.