The Bennett Newsletter
How important is manufacturing? This is a perennial source of debate since Adam Smith’s time. I cut my economist’s teeth on this topic at University. I argued my part of industrial England needed a weak pound while my tutors claimed a strong pound was good for London’s financial services. The orthodox insisted it was better to evolve to a post-industrial society and base the economy increasingly upon services.
Fortunately, I attended several lectures by Lord Kaldor, one of the most eminent economists, who hated “deindustrialisation” and persuaded Government to impose a Selective Employment Tax on service jobs which raised the hackles of the orthodox.
This orthodoxy prevailed in the UK and more especially in the USA. It was assisted in part by the monetarists who influenced Reagan and Thatcher, who seemed unperturbed by the developing rust-belts in their countries, but delighted with the success of London and New York.
Japan continued to make things. Its planners had a “ladder concept”. In this concept there would always be new entrants into industry, so one had to keep moving up the ladder in sophistication. Japan has retained a pre-eminent position in electronics for example. But Japan also ruthlessly decided it could not be competitive in the long run in ship-building and moved resources out of that sector. It did develop financially too, of course, but not with entirely happy results.
Germany obstinately ignored the economists. It developed adequate services but continued to make things. Germany and China are the world’s largest manufacturing exporters. As it happens, Germany and China survived the Great Financial Crisis very well, while the USA and UK are munted and almost paralysed by the assumption of debt created by the former financial high-fliers.
I fear that the US and UK policy makers will continue to reinforce failure and still welcome the silky attentions of the finance lobby. They might do better to the read a marvellous debate in the Economist which provides some counterweight to the celebration of finance and the neglect of manufacturing.
[http://www.economist.com/debate/days/view/714]
The orthodox will possibly be reassured in the debate by Professor J Bhagwati (Columbia) who contends that manufacturing has been fetished by economists since Adam Smith. Smith praised “makers” but condemned the labours of “churchmen, lawyers, physicians,...players, buffoons..etc”. Bhagwati makes fun of Lord Kaldor, denies that manufacturing leads to technical progress, and claims retail is the most progressive sector. He concedes that some financial innovation was destructive in the GFS, and says Paul Volker’s quip, that the only useful financial innovation was the ATM, “is witty but not good economics: some financial innovation has sure done good just as Milton Friedman showed speculation can be stabilising”.
Bhagwati also says even if you want to reduce the size of the financial sector, “you would not have to go into manufacturing. DHL and FedEx are very innovative”.
Professor Chang (Cambridge) proposes the state of a nation’s manufacturing base (its size and competitiveness) “is the most important determinant of its prosperity”. He immediately attacks the myth that Switzerland and Singapore have become rich through services like finance, tourism and trading. The opposite is true! In 2002 Switzerland had the highest per capita manufacturing value-added (MVA) in the world--24% higher than Japan, the second highest. Singapore ranked third. So these so-called service economies include two of the strongest manufacturing countries in the world.
While there are exceptions like Australia (with a huge resource base) it is impossible for counties to have a high standard of living without a “substantial and supportive manufacturing base”. Even the richest countries have not become post-industrial. It may look like people in rich countries are consuming more services, “but that is mainly because services are becoming ever more expensive… thanks to structurally faster productivity growth in manufacturing”.
By their nature, many service industries are inherently impervious to productivity increases. Some of the so called increases in retail productivity have been at the cost of true service--fewer shop assistants, longer drives to shops, long delivery delays etc.
Some services in, say, transport and telecoms have rapidly increased productivity recently but Chang calls them “producer” services for manufacturing customers. So these services depend upon the country having producers.
If a country’s productivity in the manufacturing sector is low globally it will become uncompetitive, leading to balance of payment problems and a lower standard of living in the longer run.
Services are hard to export. Hair dressing or house cleaning need customers located nearby. So, other things being equal, a service economy will have lower export earnings. If its manufactures are also somewhat uncompetitive, it will be able to pay for fewer imports, so its deindustrialization will lead to balance of payments problems.
Some services are exportable--finance, consulting and engineering. Britain is the most competitive in this area, but their earnings are only 4% of GDP. The US earns only 1% of GDP from these services, not enough to cover its manufacturing goods deficit of 4% of GDP. The US has maintained its trading deficit only by borrowing heavily abroad.
Chang’s final punch is that many exportable services are only sustainable as long as a country has strong industries. In sectors like design and engineering, insights gained from the production process are crucial. Therefore if the nation’s industrial edge declines, the quality of its export services declines too. Chang emphasises that industry was the foundation of human material and social progress and it will remain so in the foreseeable future.
The debate is fast and furious. It is open to all readers to add their comments. These read very well, with some interesting comments on the viability of services in the long run.
As I read it, I was conscious of New Zealand Rail’s order of Chinese rail wagons which may be another unnecessary step to deindustrialisation.
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