America's half-way manufacturing rebound

Manufacturing has been the bright star of the recent US economic recovery, but it could do a lot better. So what's holding it back?

Barack Obama and his Republican challengers don’t agree about much, but they do agree the US economy can’t be turned around, and middle class prosperity saved, without a strong contribution from manufacturing.

Since 2000, the economy has grown only 1.6 per cent annually – not its 3 per cent potential, as defined by productivity and population growth. It has not created a single additional private sector job. But for the alarming increase in prime-working-age adults choosing not to look for work, unemployment would be close to 13 per cent.

Economists agree weak demand for US-made products are the cause. Dependence on foreign oil and manufacturing are at the centre of the challenge.

The trade deficit is about $600 billion, or 3.8 per cent of GDP. Each dollar that goes abroad to pay for imports but does not return to purchase US exports is lost demand and lost jobs. Eliminate the trade deficit, GDP would increase $1 trillion, and 10 million new jobs would be created.

Currently, oil accounts for 44 per cent of the trade deficit, and manufacturers from China, Germany and Japan the rest.

Oil imports are about 8 million barrels a day and gasoline consumption is about the same. Increased domestic production from the Gulf, Alaska and other offshore deposits could cut imports in half, and genuinely exploiting fuel efficiency opportunities and better use of natural gas for transportation in cities and heating could do much of the rest.

Manufacturing has been the bright star of the recent economic recovery, recouping 470 thousand of the 5.3 million jobs lost since 2000, but it could do a lot better. Yet, so many bogus arguments are offered as to why it shouldn’t.

Improvements in productivity have certainly cut manufacturing employment in Europe, the United States and China, but improvements in productivity occur in all sectors, every year those are the very essence of progress.

Agriculture dramatically improved productivity in the 20th century but Americans did not give up farming.

If the United States redressed three quarters of its $650 billion deficit in manufacturers, someone would have to make that stuff, even if at higher levels of efficiency than in the past. The US economy would be 5 per cent larger and policymakers would be worrying about a genuine shortage of workers.

China’s low wages are an advantage in labour-intensive activities, but US technology should be an advantage in others. That’s how Germany remains a leader in factory jobs and exports with a wage structure that is higher than the United States – unless the Germans are smarter than Americans, we should be able to do it too.

America is a leader in service exports, but despite concerted efforts to increase those through trade agreements over the last three decades, the US export surplus in business services is about $80 billion – the United States is not going to do much more than double that, even if it manages to crack the highly protected Chinese and other Asian markets through diplomacy and new trade pacts.

Modern domestic economies may be dominated by services, but most of those services don’t move in international commerce – consider movie theatres, dry cleaners and plumbers. On the other hand, the international economy, like the US trade deficit, is dominated by commodities and manufacturers. Wishful thinking by academics, pundits and Wall Street financiers won’t change that.

Moreover, manufacturing contributes to the dynamics of growth in other ways. It pays higher wages and supports two-thirds of all research and development, which generates the intellectual property that supports America’s higher standard of living.

Without manufacturing, much of the innovation in services would not happen. For example, were Intel and IBM not US-based companies, it is highly doubtful that Apple, Microsoft and business solutions software companies – who do a lion's share of R&D in the services sector – would be American based firms today.

America’s principal rivals, the governments of China, Germany and Japan have long recognised these facts, and managed their currencies, tax structures and business incentives to ensure competitive manufacturing sectors.

In a perfect world, Americans would not have to compete with rivals that interfere with the market, as those governments do, but alas this is not the best of all possible worlds.

Obama and Mitt Romney both understand manufacturing matters, and Americans must do what it takes to compete in the world as they find it.

Peter Morici is an economist and professor of business at the University of Maryland School, and a widely published columnist. @pmorici1

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