Does manufacturing really matter?

by Jérémie Cohen-Setton on 10th February 2012

What’s at stake: As countries seek to reinvigorate their job markets and move past an economic recession, the state of manufacturing has become a hotly debated topic. In the U.S., President Obama’s SOU address featured a revival of US manufacturing as one of the keys to secure a better economic future. In France, the decline in manufacturing is seen by virtually every party with disquiet and has become a central theme of the presidential race. But while new schemes to single out manufacturing for special tax breaks and supportive measures are being proposed, a compelling case for treating manufacturing differently remains to be made.

The state of manufacturing

Derek Thompson – a senior editor at The Atlantic – points that the big story about American jobs in the post-war period is that the manufacturing/agriculture economy shrunk from 33% to 12%, and the services economy grew from 24% to 50%. In other words, manufacturing and agriculture employed one in three workers just after World War II. Today, those sectors employ only one in eight. The numbers come from a special report of The National Journal. Interestingly though nobody is talking about the tragic decline of agriculture. The industry's share of workers has fallen by 80 percent in the last 60 years. Nobody seems to think that's much of a tragedy, but we do consider it tragic that manufacturing has lost 60 percent of its share over the same period.

At the MIT News Office, Peter Dizikes notes that while the decline of American manufacturing has been widely trumpeted — manufacturing jobs in the United States have dropped from 20 million in 1979 to about 12 million today — conglomerates such as Procter & Gamble and high-tech firms such as Dow Corning have kept significant amounts of manufacturing in the country. Moreover, 3,500 manufacturing companies across the United States doubled their revenues between 2004 and 2008.

Investigating the rationale for singling out manufacturing

Susan Hockfield, co-head of President Obama’s Advanced Manufacturing Partnership (AMP) argues that restarting the virtuous cycle of invention and manufacturing is­ our most important challenge. Rebuilding our manufacturing capacity requires the demolition of the idea that the United States can thrive on its service sector alone. We need to create at least 20 million jobs in the next decade to offset the effects of the recession and to address our $500 billion trade deficit in manufactured goods. The prospect of good manufacturing jobs in the United States is not a fantasy. Germany and Japan enjoy high wages and run major surpluses in manufactured goods; so can we. Our economy will thrive only when we make what we invent. AMP will in June give policy recommendations to the White House about renewing American manufacturing.

Peter Dizikes notes that Daron Acemoglu, David Autor, Suzanne Berger and 17 other faculties at MIT have a project called the Production in the Innovation Economy (PIE) focusing on renewing American manufacturing. The guiding premise of PIE is that the United States still produces a great deal of promising basic research and technological innovation; what is needed is a better sense of how to translate those advances into economic growth and new jobs. To a significant extent, PIE is modeled on the MIT Commission on Industrial Productivity, a 1980s group that conducted a similarly long-term study on the American economy and wrote the highly influential book Made in America.

Ryan Avent struggles to understand the focus on manufacturing. Think of the kinds of tasks that make a product possible: the people who identify a market opportunity and come up with a concept, the people who produce a workable product design, the people who design a production method and supply chain, the people who find supplies and labor at prices and qualities consistent with profitable production, the people who manage the logistics of bringing inputs together, the people who actually assemble the inputs, the people who manage the logistics of delivering the goods to markets, the people who actually sell the goods to customers, and the people who track these processes and add up the numbers to make sure things are working as planned. Why is the assembly step obviously the most important to economic activity?

Christina Romer argues that a government manufacturing policy has to go beyond the feeling that it’s better to produce “real things” than services. Investigating the different economic rationales for a policy aimed at shoring up manufacturing – market failures, jobs, and income distribution – Romer concludes that the evidence is far from convincing. In particular, she notes that large clustering effects have not only been hard to find, but the logic of clustering’s benefits also applies outside manufacturing. And although learning by doing may be substantial, most of the rewards appear to go to companies doing the early investing. Turning to the jobs rationale, Romer argues that unemployment is not high because of a decline in manufacturing. That decline has been going on for 30 years — and for most of the 1990s and 2000s, the unemployment rate was less than 6 percent. A final argument for supporting manufacturing is distributional. Manufacturing jobs are seen as one of the few sources of well-paying jobs for less-educated workers. Indeed, in the four decades after World War II, manufacturing jobs paid more than other jobs for given skills. But that is much less true today. Increased international competition has forced American manufacturers to reduce costs. As a result, the pay premium for low-skilled workers in manufacturing is smaller than it once was.

Manufacturing, trade imbalances and the risk of further offshoring

Michael Spence and Sandile Hlatshwayo argue in a paper for the Council of Foreign Relations that the American economy must find ways to expand employment in the tradable sector, a sector generally dominated by manufacturing. They note that the American economy has seen the lower and middle components of the value-added chain moving to the rapidly growing markets abroad and warn that soon higher-paying jobs may follow low-paying jobs in leaving the United States. Spence and Hlatshwayo suggest that policymakers acknowledge the trade-off between the cost of goods and the availability of jobs. In an Economic Focus, The Economist points that the broad trends outlined by Spence and Hlatshwayo are quite similar in other rich countries, which suggest that they are subject to common factors. Technological change and globalization are the likeliest candidates. In combination, these have allowed countries to specialize not in entire goods or services, but in specific stages of the production process. Lower-value-added bits of the production chain moved to the developing world, where labor was cheaper. Higher-end jobs remained at home.

Ryan Avent argues that the trade rationale for manufacturing is a red herring. America exports over half a trillion dollars in services every year and runs a service-sector trade surplus. America is at no risk of running out of things to sell to foreigners. People tend to underestimate the extent to which America exports services. In 2010, total American exports of services were about $550 billion, or about 50% of goods exports. The Economist notes that rich countries, however, face hurdles in capitalizing on their strengths in exporting services. Trade in services still remains far too restricted, and not only in emerging economies. Mario Monti of Bocconi University in Milan has found that only 20% of services provided in the European Union have a cross-border component, for instance. Efforts to free up trade in services may bring more benefits than calls to boost manufacturing. Ryan Avent concludes saying that America's failure is not in retaining low value-added jobs; it's in undermining the growth of its high-value-added places, mostly by making it hard for skilled workers to move to them. High housing costs from land-use regulation are an obstacle to domestic migration, and barriers to immigration of skilled-workers from abroad amount to a massive, ongoing own-goal on the part of the American government and economy.

Manufacturing in the recession and the recovery

Paul Krugman noted a couple of months ago that manufacturing was one of the bright spots of a generally disappointing recovery. Karl Smith notes in the Wonk blog from December of 2007 to December of 2009, the U.S. economy lost about 2.2 million manufacturing jobs. That’s over a quarter of the total job loss over that same period, about 8.5 million. Manufacturing is always hammered heavily during a recession. What made this time different is that manufacturing came in on its knees. It had never recovered from the 2001 recession.

Louis Uchitelle notes in the NYT that manufacturers are hiring again in America, but the price of employment is lower wages. The wages for the new hires are, for example, $10 to $15 an hour less than the pay scale for hourly employees already on staff at General Electric — with the additional concession that the newcomers will not catch up for the foreseeable future. Such union-endorsed contracts are also showing up in the auto industry, at steel and tire companies, and at manufacturers of farm implements and other heavy equipment. In an earlier era (see for example the work by Christopher Hanes on the development of wage rigidity in the late 19th century), that would have been a source of friction, perhaps protest. Now it isn’t. Mark Zandi, chief economist for Moody’s Analytics, is reported saying that we are at an inflection point in manufacturing in terms of relative cost structures. Ten years ago, it was a no-brainer to locate in China, and now it isn’t so clear whether China is the low-cost place to produce. Stephen Bronars notes that while the jobs situation has improved in Detroit it’s not all thanks to a revitalized auto industry. Employment in Michigan and Detroit has grown at about the same rate as the rest of the U.S. over the past two years. A noticeable difference between Michigan and the rest of the U.S. is that the labor force is shrinking in the Detroit metro area and in Michigan.

Noahpinion points to a reason rarely mentioned in the public debate as to why manufacturing might be important. Manufactured goods are easily exportable. When goods are easily exportable, relatively small changes in exchange rates can allow large changes in the trade balance, which can be an effective way of fighting recessions. Sure, we export a lot of services, but a change in net services exports big enough to fight a recession probably requires a much bigger movement in exchange rates.

*Bruegel Economic Blogs Review is an information service that surveys external blogs. It does not survey Bruegel’s own publications, nor does it include comments by Bruegel authors.


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