Manufacturing still matters

In recent weeks there have been several articles debunking the early signs of a new trend toward the return of manufacturing to America as labor costs rise in China and U.S. energy costs fall as the result of development of shale gas and oil.

The most recent example was an April 8 column  by Washington Post pundit Robert J. Samuelson who argued that "it’s a mistake to romanticize manufacturing." He went on to make the point that hopes for a manufacturing renaissance that will take us back to the mass employment manufacturing of the past are misplaced. This is so, he claimed, because the advanced manufacturing in which the United States can be competitive is capital and technology intensive as in the production of computer chips rather than labor intensive as in the production of shoes and apparel. Most of the job of the future, he emphasized, will be in the services industries.

This may all be mostly true, but it misses the main point. Regardless of how many people are employed directly in manufacturing, it is indisputable as several major studies have shown that $1 of manufacturing activity creates $1.48 of additional activity in the economy. This is more than for a $1 spent in any other sector such as banking, retailing, restauranting, business consulting, etc. The economy gets more bang for the buck out of manufacturing than out of any other activity. So the indirect jobs created by manufacturing are numerous and important.

On top of that manufacturing pays for about two thirds of all non-government R&D and its unique economies of scale contribute disproportionately to increases in overall economic productivity and to disinflation. In addition, manufacturing supports generally higher wages than services industries. As Joel Popkin has demonstrated in numerous studies, manufacturing "is the seedbed of innovation", and innovation is, of course, what we are counting on to keep the U.S. economy competitive.

The critics say the widely held impression of decline in American manufacturing is false because output has continued to climb, and because U.S. manufacturing production, while a bit less than China’s is two thirds higher than Japan’s and triple Germany’s. But given that the U.S. economy is about twice as big as those of China and Japan and three times as big as Germany’s, one would expect U.S. output to be two to three times as high. While manufacturing as a percent of GDP tends to fall in all countries as their economies mature, it has fallen much more precipitately in the United States over the past thirty years ( 23 percent-9 percent) than in Japan (28 percent- 22 percent) or Germany (27 percent-22 percent). Indeed, Germany is an example of how capital and technology intensive manufacturing can help maintain high employment, high wages, and a trade surplus all at the same time. If the United States were doing what Germany is doing, there would be much less talk of a "post-American era."

Our problem is not romanticizing manufacturing. Rather, it’s failing to correct and respond to structural impediments and market distorting policies that are eroding the U.S. productive base. We fail to do this because our analysts fail to understand the significance of the positive spillovers of manufacturing. When U.S. companies invest abroad because the United States fails to match the investment incentives being offered by foreign governments, America suffers unnecessary erosion of its productive and technological leadership.

Rationalizing that by arguing that it doesn’t matter because our future is in services, is a grave mistake.