Policy Implications
Americans spent 200 years of industrialization building up a high quality of life and standard of living, only to watch it petered away in the last generation through out-sourcing of industries and in-sourcing of cheap replacement labor. It shouldn’t be surprising that our average wage and quality of life have been deteriorating for the last 30 years.
The American wage supports an entire way of life, including a minimum wage, safety standards, environmental protections, health care costs, affirmative action set asides, and a retirement system.
Allowing jobs to be out-sourced to low wage countries destroys those aspects of the American dream. Obviously, foreign workers who have none of those advantages can work by the hour for cheaper, but the true cost is borne by American society as a whole.
A rational economic policy for America would safeguard the foundations of our industrial and productive strength. Trade should be open and free when based on true comparative advantage and fair competition, in other words, when it truly benefits both countries.
Imports from countries that do not support an equivalent standard of living should be penalized with a tariff, with the tariff revenue being used to support the American way of life that is undermined by the import.
Corporations that export American professional jobs should face penalties such as a higher corporate tax rate based on what proportion of their workforce has been off-shored.
Tariffs should be levied across the board on countries who engage in any currency manipulation for trade advantage or provide any export subsidies.
American economic policy should support domestic employment by focusing on a stable and profitable productive base, allowing imports and outsourcing only when it would provide a demonstrable benefit to the American standard of living.
Promoting off-shoring based solely on wage arbitrage is actually economically backwards, resulting in production that is less efficient and more costly when viewed in resource terms. Resource terms are real terms, an absolute measure, as opposed to money terms, which are relative and illusory. If off-shoring destroys a naturally evolved network of comparative advantage, it is economically backwards, even if it appears to "save money" in dollar terms. In other words, it is bad for the whole world's economy overall, not just the American economy.
Economic regions are defined by geography, common currency, free labor movement, and transportation integration. Economic regions should be encouraged to become as independent as possible, based on natural comparative advantages, which save resources and produce goods more cheaply on an absolute scale.
Trade which is based on those comparative advantages between regions should be encouraged. However, wholesale relocation of productive industry from one region to another should be discouraged. Rather, domestic industries in each region should be nourished, with the goal of uplifting standards of living in each region without lowing standards of living in another, while maximizing the efficient use of scarce resources everywhere.
Only in this way can a long-term sustainable global economy, with rising standards of living for all, be established.
Showing posts with label Protectionism. Show all posts
Showing posts with label Protectionism. Show all posts
Tuesday, July 14, 2009
Friday, July 10, 2009
International Trade: Comparative Advantage and Protectionism, part 2
That money saved is the usual macro-economic justification for off-shoring in the first place. Theoretically, that money saved creates a job elsewhere in the economy. This is where so many people trip up, unable to differentiate monetary effects from real economic effects. In real economic effects, production of the same output has become less efficient and capital destroyed.
The great lie told during this generation of outsourcing has been that these laid-off workers would move up the knowledge chain, into higher value-added occupations. However, we can see that this is empirically false.
The fact is, there is a natural limit to the amount of “knowledge economy” jobs that are available. Knowledge jobs (traditionally called white collar) are subsidiary jobs: they exist to support some other industry. Remove the base industry, and the knowledge job disappears with it.
The idea that you can have an entire economy based on knowledge jobs is silly, it does not even make sense. There are only so many accountants, teachers, lawyers, salesmen, and consultants needed for a given population. They are subsidiary jobs because all of these “knowledge-work” professions depend on other industries to create the wealth. Without a primary base of wealth-creating enterprises, white collar jobs are not required. The same thing goes for so-called service jobs. You can’t base an economy on retail, restaurants, hair stylists, and spas. All those jobs are possible in a wealthy and nicely diversified economy, but without a wealth-creating base, they wither and die as overall standards of living fall, because there is less real wealth circulating.
This is a simple truth: at the base of every economy are the wealth-producers, who create and build something tangible that improves our quality of life. Mining, farming, chemicals, steel, plastics, textiles, and manufacturing of all kinds, that is the basis of the modern economy. A huge chunk of white collar economic activity then develops to support those industries, trailing off into the salesmen and retail stores that move the wealth. Teachers, doctors, police, and government workers are necessary for civil society, but they do not create wealth, and their standard of living is dependent on the wealth-producing industries.
To help clarify the economic principle, let’s look at a practical example. A car factory in Michigan is shut down, with production moved to a car factory in China instead. Physical plant in Michigan is destroyed, and skilled workers are fired. Cars intended for the American market are now shipped in from China, consuming extra resources in the transportation process.
The process is only economically justified if the displaced workers can find a new activity that produces greater wealth than what they did before. Is that even possible? What are their options? In the real world, such displaced workers have to switch careers, becoming truck drivers, plumbers, laborers, or whatever. Does that increase wealth? Unfortunately not. Unless they are shifted to another wealth creating activity, they will merely become wealth-consumers, and compete with other workers in some service job. So, they lose their own high previous wage, and drive down wages in whatever field they go into, while adding nothing of wealth to the economy as a whole.
But what about the money the car company saved? Doesn’t that return somewhere in some efficiency to create a new job? Let’s follow the money trail and see. Ok, so assume the company’s dollar profits just went up by lowering labor costs. The dollars return to the US economy through executive salaries and stock owner dividends. From a class perspective, the rich just got richer and the poor got poorer, but is it good from a macroeconomic perspective?
The question is, what happens to those dollars when they enter the domestic economy? Of course, there are less dollars in the US economy at first, because the laid-off worker is not being paid. Say the worker was paid 100 dollars, but after outsourcing, 50 dollars go to the Chinese worker, and the remaining 50 dollars goes to corporate profits. However, the 50 dollars paid to the Chinaman have to come back to the US economy eventually, as dollars can’t be used in China. But when the dollars do get back to the US, there is less stuff to buy. Less goods are being produced because our industry was lost to outsourcing. A constant amount of dollars chasing fewer goods: a formula for inflation.
The only way to short circuit this process is to make sure the laid-off worker is moved into another productive industry. If the worker transitions to any non-wealth creating job, he will merely be adding to a fixed labor pool, with the effect of driving down wages. There is no way around this. If he becomes a laborer, we now have one more laborer, if he becomes a plumber, we have one more plumber, if he becomes an accountant, we now have one more accountant. In all cases, no new wealth is being produced, so wages can only be driven down as the fields are crowded with displaced workers.
We have the same amount of real wealth available, since the car he built is now build and imported from China. We are poorer in terms of resources however, if for no other reason than the increased transportation costs. We have the same amount of money in circulation, assuming that is kept constant. We just have more workers in other fields. This is known as downward mobility.
Even if he becomes a doctor, which would make him personally richer, the country overall is poorer. His dollar wage may have gone up, and the country gets a needed doctor, but our overall wealth went down. Doctors do not create wealth. Teachers do not create wealth, lawyers do not create wealth, government workers don’t create wealth… The list could go on and on. Unless our displaced worker finds another wealth-producing position to fill, our country got poorer.
Some have objected to protectionism on the grounds of scale, asking, so why doesn’t each state become protectionist, or it must be bad to move a factory from New York to Alabama, for example. Unfortunately, these questions reveal a poor understanding of comparative advantage in regional economies, so let us examine these claims.
Let’s say a factory owner sees a potential profit relocating a factory from high cost New York to low cost Alabama. How is that different from relocating to China? The key difference is the available movement of labor. If the displaced New York factory worker cannot find better employment in New York, he is free to move to Alabama himself and take advantage of its growing economy. Thus, in a regionally integrated economy like the United States, economic progress proceeds generally and in a healthy fashion.
Also, the white collar jobs that support the wealth-building activity are all created locally. So producing cars in Alabama will not only employ laborers and skilled factory workers, but also technicians, engineers, accountants, and lawyers. None of those jobs are available to Americans if the factory is located in China. The local wealth-creation supports higher wages for those positions, and drags up wages overall. This is a "drawing-upwards" of workers into higher standards of living, the opposite of what happens when displaced workers have to get retrained and placed into a labor pool with workers in an already-existing industry.
Americans spent 200 years of industrialization building up a high quality of life and standard of living, only to watch it petered away in the last generation through out-sourcing of industries and in-sourcing of cheap replacement labor. It shouldn’t be surprising that our average wage and quality of life have been deteriorating for the last 30 years.
The American wage supports an entire way of life, including a minimum wage, safety standards, environmental protections, health care costs, affirmative action set asides, and a retirement system. Allowing jobs to be out-sourced to low wage countries destroys those aspects of the American dream. Obviously, foreign workers who have none of those advantages can work by the hour for cheaper, but the true cost is borne by American society as a whole.
A rational economic policy for America would safeguard the foundations of our industrial strength. Trade should be open and free when based on true comparative advantage and fair competition. Imports from countries that do not support an equivalent standard of living should be penalized with a tariff, with the tariff revenue being used to support the American way of life that is undermined by the import. Corporations that export American professional jobs should face penalties such as a higher corporate tax rate based on what proportion of their workforce has been off-shored. Tariffs should be levied across the board on countries who engage in any currency manipulation for trade advantage or provide any export subsidies.
American economic policy should support domestic employment by focusing on a stable and profitable productive base, allowing imports and outsourcing only when it would provide a demonstrable benefit to the American standard of living.
The great lie told during this generation of outsourcing has been that these laid-off workers would move up the knowledge chain, into higher value-added occupations. However, we can see that this is empirically false.
The fact is, there is a natural limit to the amount of “knowledge economy” jobs that are available. Knowledge jobs (traditionally called white collar) are subsidiary jobs: they exist to support some other industry. Remove the base industry, and the knowledge job disappears with it.
The idea that you can have an entire economy based on knowledge jobs is silly, it does not even make sense. There are only so many accountants, teachers, lawyers, salesmen, and consultants needed for a given population. They are subsidiary jobs because all of these “knowledge-work” professions depend on other industries to create the wealth. Without a primary base of wealth-creating enterprises, white collar jobs are not required. The same thing goes for so-called service jobs. You can’t base an economy on retail, restaurants, hair stylists, and spas. All those jobs are possible in a wealthy and nicely diversified economy, but without a wealth-creating base, they wither and die as overall standards of living fall, because there is less real wealth circulating.
This is a simple truth: at the base of every economy are the wealth-producers, who create and build something tangible that improves our quality of life. Mining, farming, chemicals, steel, plastics, textiles, and manufacturing of all kinds, that is the basis of the modern economy. A huge chunk of white collar economic activity then develops to support those industries, trailing off into the salesmen and retail stores that move the wealth. Teachers, doctors, police, and government workers are necessary for civil society, but they do not create wealth, and their standard of living is dependent on the wealth-producing industries.
To help clarify the economic principle, let’s look at a practical example. A car factory in Michigan is shut down, with production moved to a car factory in China instead. Physical plant in Michigan is destroyed, and skilled workers are fired. Cars intended for the American market are now shipped in from China, consuming extra resources in the transportation process.
The process is only economically justified if the displaced workers can find a new activity that produces greater wealth than what they did before. Is that even possible? What are their options? In the real world, such displaced workers have to switch careers, becoming truck drivers, plumbers, laborers, or whatever. Does that increase wealth? Unfortunately not. Unless they are shifted to another wealth creating activity, they will merely become wealth-consumers, and compete with other workers in some service job. So, they lose their own high previous wage, and drive down wages in whatever field they go into, while adding nothing of wealth to the economy as a whole.
But what about the money the car company saved? Doesn’t that return somewhere in some efficiency to create a new job? Let’s follow the money trail and see. Ok, so assume the company’s dollar profits just went up by lowering labor costs. The dollars return to the US economy through executive salaries and stock owner dividends. From a class perspective, the rich just got richer and the poor got poorer, but is it good from a macroeconomic perspective?
The question is, what happens to those dollars when they enter the domestic economy? Of course, there are less dollars in the US economy at first, because the laid-off worker is not being paid. Say the worker was paid 100 dollars, but after outsourcing, 50 dollars go to the Chinese worker, and the remaining 50 dollars goes to corporate profits. However, the 50 dollars paid to the Chinaman have to come back to the US economy eventually, as dollars can’t be used in China. But when the dollars do get back to the US, there is less stuff to buy. Less goods are being produced because our industry was lost to outsourcing. A constant amount of dollars chasing fewer goods: a formula for inflation.
The only way to short circuit this process is to make sure the laid-off worker is moved into another productive industry. If the worker transitions to any non-wealth creating job, he will merely be adding to a fixed labor pool, with the effect of driving down wages. There is no way around this. If he becomes a laborer, we now have one more laborer, if he becomes a plumber, we have one more plumber, if he becomes an accountant, we now have one more accountant. In all cases, no new wealth is being produced, so wages can only be driven down as the fields are crowded with displaced workers.
We have the same amount of real wealth available, since the car he built is now build and imported from China. We are poorer in terms of resources however, if for no other reason than the increased transportation costs. We have the same amount of money in circulation, assuming that is kept constant. We just have more workers in other fields. This is known as downward mobility.
Even if he becomes a doctor, which would make him personally richer, the country overall is poorer. His dollar wage may have gone up, and the country gets a needed doctor, but our overall wealth went down. Doctors do not create wealth. Teachers do not create wealth, lawyers do not create wealth, government workers don’t create wealth… The list could go on and on. Unless our displaced worker finds another wealth-producing position to fill, our country got poorer.
Some have objected to protectionism on the grounds of scale, asking, so why doesn’t each state become protectionist, or it must be bad to move a factory from New York to Alabama, for example. Unfortunately, these questions reveal a poor understanding of comparative advantage in regional economies, so let us examine these claims.
Let’s say a factory owner sees a potential profit relocating a factory from high cost New York to low cost Alabama. How is that different from relocating to China? The key difference is the available movement of labor. If the displaced New York factory worker cannot find better employment in New York, he is free to move to Alabama himself and take advantage of its growing economy. Thus, in a regionally integrated economy like the United States, economic progress proceeds generally and in a healthy fashion.
Also, the white collar jobs that support the wealth-building activity are all created locally. So producing cars in Alabama will not only employ laborers and skilled factory workers, but also technicians, engineers, accountants, and lawyers. None of those jobs are available to Americans if the factory is located in China. The local wealth-creation supports higher wages for those positions, and drags up wages overall. This is a "drawing-upwards" of workers into higher standards of living, the opposite of what happens when displaced workers have to get retrained and placed into a labor pool with workers in an already-existing industry.
Americans spent 200 years of industrialization building up a high quality of life and standard of living, only to watch it petered away in the last generation through out-sourcing of industries and in-sourcing of cheap replacement labor. It shouldn’t be surprising that our average wage and quality of life have been deteriorating for the last 30 years.
The American wage supports an entire way of life, including a minimum wage, safety standards, environmental protections, health care costs, affirmative action set asides, and a retirement system. Allowing jobs to be out-sourced to low wage countries destroys those aspects of the American dream. Obviously, foreign workers who have none of those advantages can work by the hour for cheaper, but the true cost is borne by American society as a whole.
A rational economic policy for America would safeguard the foundations of our industrial strength. Trade should be open and free when based on true comparative advantage and fair competition. Imports from countries that do not support an equivalent standard of living should be penalized with a tariff, with the tariff revenue being used to support the American way of life that is undermined by the import. Corporations that export American professional jobs should face penalties such as a higher corporate tax rate based on what proportion of their workforce has been off-shored. Tariffs should be levied across the board on countries who engage in any currency manipulation for trade advantage or provide any export subsidies.
American economic policy should support domestic employment by focusing on a stable and profitable productive base, allowing imports and outsourcing only when it would provide a demonstrable benefit to the American standard of living.
International Trade, Comparative Advantage and Protectionism, part 1
The latest attack of economic propaganda came out of the G8 meeting in Italy today, extolling the virtues of free trade and vowing to fight protectionism. The classic formula -- "the Great Depression was made worse by protectionism" – continues to get ground into our collective mindset until it becomes an unquestioned axiom of thought. Heck, I used to believe it myself, until I actually starting analyzing it.
Here is the short-form rebuttal: in the 1920's, the US was the world’s number 1 exporter and creditor. Today, the US is the world's number 1 importer and debtor. The case against protectionism, for America, does not apply. Less developed countries have understood for centuries that domestic industries often need protection to stand a chance of getting off the ground against larger and richer foreign competition. From colonial America to post-war Japan, nurturing of domestic industry has always been practiced.
But what about today? Have we passed the point where national protectionism is not necessary, that it does more harm than good? In fact, it is the opposite. Our economic world today, more than any other time in history, calls for a certain amount of protectionism. I am not making this claim based on nationalism or some theory of social justice, either (although those arguments have their own merits). I am saying protectionism is justified solely on economic grounds.
In free-trade theory, when a domestic job is displaced due to foreign competition, a new job is supposed to open up somewhere in the economy because of the money saved, based on the efficiencies of comparative advantage in production. The idea is that a foreigner can produce something more efficiently, thus lowering overall costs, thereby freeing up more money, which will create a job somewhere else.
Comparative advantage is a powerful economic theory, and it has much truth to it. In order to understand why it doesn't it apply to certain aspects of international trade today, we have to understand why it does apply to some situations. Only by understanding its truth and correct application, can we understand when it is used falsely and incorrectly applied.
Comparative advantage is mainly rooted in geological and environmental factors. For example, people on grassland plains have a comparative advantage raising cattle, people on the coasts have a comparative advantage catching fish, and people in the mountains have a comparative advantage raising timber. In a primitive economy, people have to raise their own meat, catch their own fish, and build their own houses out of local resources. However, trading freely and widely allows them to specialize in what they have an advantage in, thereby benefitting everyone.
Another aspect of comparative advantage comes from relative location. Thus, a factory close to a source of materials has a comparative advantage over a factory far away. An oil field with easily extracted crude has a comparative advantage over a location with deeper, harder to access oil. A power plant close to its fuel source has a comparative advantage over one farther away, and so on.
All comparative advantage is rooted in the efficient use of scare resources. The rule is: less resources in, cheaper products out. We all get richer, meaning more output in less time using less resources, when everyone is operating at maximum efficiency. Healthy systems of domestic and international trade incorporate those efficiencies. For example, oil from the Middle East is more easily accessed than domestic sources, while coffee and bananas cannot be grown in America. These are exactly the kind of comparative advantages that lie at the heart of healthy trade, making us all wealthier by encouraging us to do what we have a natural efficiency doing.
The problem with comparative advantage in global trade today is that it is not based on real comparative advantage, but only on the illusion of advantage created by money. Thus, the dominant source of comparative advantage today is found in taking advantage of low wage labor in countries with cheap currencies and low standards of living. We are so accustomed to operating in the nominal terms of dollars that we are blinded to the real effects of such wage arbitrage.
Real comparative advantage takes advantage of real efficiencies to increase overall wealth. Exporting jobs to low wage countries decreases real wealth by working against natural efficiencies and increasing input and transportation costs. The problem is thinking in dollar terms, not in real terms. In real terms, what happens when an industry is off-shored? That domestic factory grew up at a natural nexus of efficiency related to labor, materials, markets, and transport. Moving that factory disrupts that natural efficiency and introduces massive inefficiencies. In dollar terms, it seems like a good idea, but in resource terms, it is not.
The comparatively cheap labor rate in dollars is papering over big losses of real wealth as resources are squandered to make factories from scratch in far distant locations. The distant location of the new factory also increases the loss of resources that results from transporting raw material and finished goods to a location that is far removed from either primary resources or consumer markets.
In short, from a purely macro-economic perspective, off-shoring decreases overall wealth. After off-shoring, production is transferred to a new location which takes greater time and uses greater resources. This is the opposite of comparative advantage, which is based on less time and less resources. After off-shoring, the real cost of production, measured in time and resources, has risen.
Meanwhile, at home, the factory is shuttered, meaning capital is destroyed, and the labor is idled, meaning skills and training (human capital) are wasted. Theoretically, these workers are going to find something else to do, but by definition, anything else they do will be less economically efficient, since they have already spent years training, mastering their specific economic role. Anything they do after layoffs will be an economic loss overall, unless they are immediately transferred into some high-value added endeavor.
Off-shoring means that local production networks based on real comparative advantages are tossed aside, throwing away those advantages for the sake of illusory dollar profits. Because no real efficiency is gain, we are actually getting poorer, because there is less overall wealth circulating in the economy.
Most people get stuck on this point, so it bears repeating until it is fully understood: When a production job is outsourced, no real wealth is created. Rather, real wealth is lost as comparative advantages, fixed capital, and labor skills are thrown away. We are actually getting poorer as wealth is thrown away and efficiencies lost. Corporations gain an advantage at the expense of domestic workers because of the illusion of dollar savings, but our collective standard of living falls.
The only hope, the leap of faith in trade theory, is that those displaced workers find a more efficient economic activity. From a macro-economic perspective, that new economic activity has to be more efficient and productive than the previous activity, or the economy has suffered a net loss.
But, should we take that leap of free trade faith? Is it possible for that laid-off worker to find a more productive activity? If they can’t find a more productive activity, their layoff is not economically justified.
Notice the macro perspective I am adopting here. From the macro economic perspective, replacing one worker with another only makes sense if it introduces a real efficiency into the process. Remember, giving a production job to a worker in China, who was previously unemployed, is economically neutral if it merely causes a worker in Detroit to be unemployed. That fact that the new Chinese factory is far away from sources, trade networks, and markets, means that the off-shoring starts out as an economically backward idea, since it consumes greater resources. Moving production to some far-away locale costs more, so it must be justified by a greater efficiency introduced elsewhere, or we have just gotten poorer (since we are using more resources to produce the same goods)!
From the individual corporation’s perspective, laying off the worker for a lower-wage worker increases profits. But that is exactly the illusion created by looking at the situation through the nominal dollar lens. The company is saving money, but by doing so, they are introducing inefficiencies into the economic system. The inefficiencies of off-shoring are only worth it if the displaced workers move into a more efficient occupation.
Notice that the off-shoring company does not care about the displaced worker. They company’s only concern is with their own higher corporate profits. This is the paradox of modern industrial economic policy planning. What saves money for individual companies is often bad for the economy as a whole.
Here is the short-form rebuttal: in the 1920's, the US was the world’s number 1 exporter and creditor. Today, the US is the world's number 1 importer and debtor. The case against protectionism, for America, does not apply. Less developed countries have understood for centuries that domestic industries often need protection to stand a chance of getting off the ground against larger and richer foreign competition. From colonial America to post-war Japan, nurturing of domestic industry has always been practiced.
But what about today? Have we passed the point where national protectionism is not necessary, that it does more harm than good? In fact, it is the opposite. Our economic world today, more than any other time in history, calls for a certain amount of protectionism. I am not making this claim based on nationalism or some theory of social justice, either (although those arguments have their own merits). I am saying protectionism is justified solely on economic grounds.
In free-trade theory, when a domestic job is displaced due to foreign competition, a new job is supposed to open up somewhere in the economy because of the money saved, based on the efficiencies of comparative advantage in production. The idea is that a foreigner can produce something more efficiently, thus lowering overall costs, thereby freeing up more money, which will create a job somewhere else.
Comparative advantage is a powerful economic theory, and it has much truth to it. In order to understand why it doesn't it apply to certain aspects of international trade today, we have to understand why it does apply to some situations. Only by understanding its truth and correct application, can we understand when it is used falsely and incorrectly applied.
Comparative advantage is mainly rooted in geological and environmental factors. For example, people on grassland plains have a comparative advantage raising cattle, people on the coasts have a comparative advantage catching fish, and people in the mountains have a comparative advantage raising timber. In a primitive economy, people have to raise their own meat, catch their own fish, and build their own houses out of local resources. However, trading freely and widely allows them to specialize in what they have an advantage in, thereby benefitting everyone.
Another aspect of comparative advantage comes from relative location. Thus, a factory close to a source of materials has a comparative advantage over a factory far away. An oil field with easily extracted crude has a comparative advantage over a location with deeper, harder to access oil. A power plant close to its fuel source has a comparative advantage over one farther away, and so on.
All comparative advantage is rooted in the efficient use of scare resources. The rule is: less resources in, cheaper products out. We all get richer, meaning more output in less time using less resources, when everyone is operating at maximum efficiency. Healthy systems of domestic and international trade incorporate those efficiencies. For example, oil from the Middle East is more easily accessed than domestic sources, while coffee and bananas cannot be grown in America. These are exactly the kind of comparative advantages that lie at the heart of healthy trade, making us all wealthier by encouraging us to do what we have a natural efficiency doing.
The problem with comparative advantage in global trade today is that it is not based on real comparative advantage, but only on the illusion of advantage created by money. Thus, the dominant source of comparative advantage today is found in taking advantage of low wage labor in countries with cheap currencies and low standards of living. We are so accustomed to operating in the nominal terms of dollars that we are blinded to the real effects of such wage arbitrage.
Real comparative advantage takes advantage of real efficiencies to increase overall wealth. Exporting jobs to low wage countries decreases real wealth by working against natural efficiencies and increasing input and transportation costs. The problem is thinking in dollar terms, not in real terms. In real terms, what happens when an industry is off-shored? That domestic factory grew up at a natural nexus of efficiency related to labor, materials, markets, and transport. Moving that factory disrupts that natural efficiency and introduces massive inefficiencies. In dollar terms, it seems like a good idea, but in resource terms, it is not.
The comparatively cheap labor rate in dollars is papering over big losses of real wealth as resources are squandered to make factories from scratch in far distant locations. The distant location of the new factory also increases the loss of resources that results from transporting raw material and finished goods to a location that is far removed from either primary resources or consumer markets.
In short, from a purely macro-economic perspective, off-shoring decreases overall wealth. After off-shoring, production is transferred to a new location which takes greater time and uses greater resources. This is the opposite of comparative advantage, which is based on less time and less resources. After off-shoring, the real cost of production, measured in time and resources, has risen.
Meanwhile, at home, the factory is shuttered, meaning capital is destroyed, and the labor is idled, meaning skills and training (human capital) are wasted. Theoretically, these workers are going to find something else to do, but by definition, anything else they do will be less economically efficient, since they have already spent years training, mastering their specific economic role. Anything they do after layoffs will be an economic loss overall, unless they are immediately transferred into some high-value added endeavor.
Off-shoring means that local production networks based on real comparative advantages are tossed aside, throwing away those advantages for the sake of illusory dollar profits. Because no real efficiency is gain, we are actually getting poorer, because there is less overall wealth circulating in the economy.
Most people get stuck on this point, so it bears repeating until it is fully understood: When a production job is outsourced, no real wealth is created. Rather, real wealth is lost as comparative advantages, fixed capital, and labor skills are thrown away. We are actually getting poorer as wealth is thrown away and efficiencies lost. Corporations gain an advantage at the expense of domestic workers because of the illusion of dollar savings, but our collective standard of living falls.
The only hope, the leap of faith in trade theory, is that those displaced workers find a more efficient economic activity. From a macro-economic perspective, that new economic activity has to be more efficient and productive than the previous activity, or the economy has suffered a net loss.
But, should we take that leap of free trade faith? Is it possible for that laid-off worker to find a more productive activity? If they can’t find a more productive activity, their layoff is not economically justified.
Notice the macro perspective I am adopting here. From the macro economic perspective, replacing one worker with another only makes sense if it introduces a real efficiency into the process. Remember, giving a production job to a worker in China, who was previously unemployed, is economically neutral if it merely causes a worker in Detroit to be unemployed. That fact that the new Chinese factory is far away from sources, trade networks, and markets, means that the off-shoring starts out as an economically backward idea, since it consumes greater resources. Moving production to some far-away locale costs more, so it must be justified by a greater efficiency introduced elsewhere, or we have just gotten poorer (since we are using more resources to produce the same goods)!
From the individual corporation’s perspective, laying off the worker for a lower-wage worker increases profits. But that is exactly the illusion created by looking at the situation through the nominal dollar lens. The company is saving money, but by doing so, they are introducing inefficiencies into the economic system. The inefficiencies of off-shoring are only worth it if the displaced workers move into a more efficient occupation.
Notice that the off-shoring company does not care about the displaced worker. They company’s only concern is with their own higher corporate profits. This is the paradox of modern industrial economic policy planning. What saves money for individual companies is often bad for the economy as a whole.
Sunday, November 16, 2008
More Bad News
Reading the Sunday paper this morning, we learn:
Japan has officially entered a recession.
Small businesses are being crippled because banks have shut off new loans and lines of credit.
This decade is shaping up to be the worst decade ever for American stocks, lower than they were 10 years ago. The year over year return is actually worse than it was even from '29-'39.
"Manufacturing helps cushion against crash", and "Retool our economy now, experts say". Regions like Arizona are more prone to extremes of boom and bust, because of its industries related to population growth, and lack of manufacturing. Obviously, that can be said for the whole US economy as well.
Indeed, manufacturing is the root of most economic wealth. We need to re-industrialize America, the sooner the better, providing tax incentives for domestic companies, and excise penalties for imports.
Job growth in wealth creating industries (construction, manufacturing, trade, transportation/utilities) is negative. The only job growth is in non-wealth producing jobs: education and health services, leisure and hospitality, and government. This is the profile of a dying economy.
Protectionism gets a bad name from wealthy class, who stand to make money by undercutting American jobs and wages. But now the chickens have come home to roost. American wealth and productive capacity has been gutted by internationalists for the last 20 years at least, and now we are all paying for it.
We must never let this happen again.
Japan has officially entered a recession.
Small businesses are being crippled because banks have shut off new loans and lines of credit.
This decade is shaping up to be the worst decade ever for American stocks, lower than they were 10 years ago. The year over year return is actually worse than it was even from '29-'39.
"Manufacturing helps cushion against crash", and "Retool our economy now, experts say". Regions like Arizona are more prone to extremes of boom and bust, because of its industries related to population growth, and lack of manufacturing. Obviously, that can be said for the whole US economy as well.
Indeed, manufacturing is the root of most economic wealth. We need to re-industrialize America, the sooner the better, providing tax incentives for domestic companies, and excise penalties for imports.
Job growth in wealth creating industries (construction, manufacturing, trade, transportation/utilities) is negative. The only job growth is in non-wealth producing jobs: education and health services, leisure and hospitality, and government. This is the profile of a dying economy.
Protectionism gets a bad name from wealthy class, who stand to make money by undercutting American jobs and wages. But now the chickens have come home to roost. American wealth and productive capacity has been gutted by internationalists for the last 20 years at least, and now we are all paying for it.
We must never let this happen again.
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