October 14, 2021

Joe Biden is starting to panic — and not just because of his dwindling approval ratings. More than 18 months since Covid struck, the shocking dependence of the United States on fragile global supply chains — and the corresponding absence of a functional manufacturing system — has been exposed.

The White House has responded with talk of creating more “robust” supply chains and reviving American manufacturing with its “Build Back Better” agenda. But if Biden is serious about addressing these issues, he needs to understand that this is a decades-long process, unlikely to be fully fixed during his presidency.

Even then, victory isn’t guaranteed. At every step there will be efforts to undermine his attempts by a slew of powerful interests, particularly those US corporations who have based their decisions to outsource manufacturing on narrow short-term profitability concerns, at the expense of acknowledging the strategic value of basing factories at home. And now America is paying the price.

Yet many of the same executives who now bemoan the lack of skilled labour in the US are themselves the architects of this very problem. Unlike their Japanese and German competitors, American firms have repeatedly underestimated the value of integrating their product-design and manufacturing processes. This poses a major barrier for newcomers, particularly in high-end industries such as semiconductors and biotech, as moving part of the the production overseas not only degrades the quality of the product (see Intel as an example), but also enhances the possibility of intellectual property theft.

At home, the impact of decades of offshoring and outsourcing jobs is impossible to ignore: manufacturing plants have been shuttered or scaled back, while many former employees have moved on to other jobs or simply retired. Young people, too, are opting for other careers, while, starved of students, many community colleges and vocational schools have scaled back their technical programmes.

Many business leaders, including the US Chamber of Commerce, have issued calls for increased immigration to solve the skills gap. But what kind of immigration? Right now in the US, we have an increasingly odd alliance defending today’s dysfunctional status quo. Both the libertarian Right and, increasingly, the progressive wing of the Democratic Party decry restrictions on immigration — the former because it shuts off an increasing source of cheap serf labour, the latter because they view such immigration restrictions as motivated by xenophobia (and also see the new immigrants as a source of long-term political support for their party). Meanwhile, political gridlock has precluded the shift toward a more coherent skills-based immigration policy, as opposed to the plethora of unskilled migrants now flooding the southern border.

The result is the worst of both worlds: relatively uncontrolled immigration of unskilled workers, which in turn inhibits wage growth among lower-income Americans, at a time when US manufacturing is undergoing an exodus. All of which means that high-quality American employment (as measured by the Job Quality Index) diminishes, and wages stagnate for the rest.

Advocates of globalisation argue that the resultant increase in profits to American companies spurs reinvestment, which in turn creates employment. But in many instances, profits are not directed toward domestic re-investment (and, as a result, more jobs), but to increasing investment abroad.

Consider the case of General Motors, which closed five profitable plants in North America — despite being a significant recipient of US and Canadian bailout funds after the 2008 crisis — in order to increase investment in the domestic Chinese market. That is, of course, when they are not using corporate cash to buy back stock and inflate share prices and CEO executive compensation. (By contrast, Toyota relies on suppliers clustered close to its base in Japan, making the company less susceptible to supply shocks or labour shortages.)

As far as redomiciling manufacturing goes, the Biden Administration has advocated a variety of economic measures for companies, such as tax incentives for insourcing. But on its own, this measure is unlikely to induce the requisite shift, as these rewards can easily be matched by the recipient investment country’s government. Hence, the state can and must drive this re-domiciling process in other ways: either via higher government-funded R&D expenditures or  local content requirements (LCRs).

This may run counter to 40 years of free market orthodoxy in the US; it posits a much more activist role for government in the formulation of national developmentalist goals. But it must happen. Even presidents said to be champions of the free market, such as Ronald Reagan, resorted to managed trade measures in order to safeguard US manufacturing interests and counter foreign mercantilism. More recently, former Treasury Secretary Lawrence Summers has acknowledged: “economic thinking has privileged efficiency over resilience, and it has been insufficiently concerned with the big downsides of efficiency… More broadly our economic strategy will need to put less emphasis on short-term commercial advantage and pay more attention to long-run strategic advantage.”

For whether America likes it or not, the world — particularly in terms of national security — has changed in the 21st century. For most of the post-WW2 period, the United States was the dominant political power. Sustaining that position often meant that trade concerns were subsumed by broader Cold War considerations. The American domestic market was used as a carrot to sustain US political dominance in other regions, notably by creating Asian export dependency on the large American domestic consumer market, often without fully considering the longer impact on US industry.

That strategy succeeded and advanced American geopolitical interests for decades. It was a significant force multiplier — until it wasn’t. All of a sudden it became clear that the United States had failed to use trade to enhance its economy; if anything, it consistently sacrificed domestic economic interests in the service of foreign policy, keeping allies close and prosperous and pressuring adversaries. Today, however, it no longer makes sense for America to sacrifice manufactur­ing to its Asian economic rivals, many of whom are increasingly turning to China as their economic locus.

Absent a coherent policy that emphasises domestic manufacturing, then, American fiscal policy risks becoming a public works programme for the rest of the world. That’s undoubtedly wonderful for workers in China, Germany or Mexico, but hardly does much for the steadily rising casualties of globalisation in the US economy — the country’s blue-collar workers — who have continued to be dismissed as a rounding error.

Neoclassical economics has always recognised that there would be losers from free trade. But in theory, the net welfare gains — the increase in gross domestic product — would be large enough that it could be redistributed so that no one was worse off. In theory, it makes sense. But it is not always true in practice.

The opposite has happened. The gains have not been distributed equally — and American production capabilities and skills have deteriorated as a result.

It is true that in macroeconomic terms, imports are a benefit and exports a cost (as it means that the exporting country is unable to consume the fruits of its own labour force). But when such trade creates a deficit with a strategic competitor, such as China, it extracts a significant economic cost, as the resultant deficit can ultimately degrade other nations’ industrial capacity and create huge economic vulnerability as a result.

Take the Taiwan Semiconductor Manufacturing Company (TSMC), which has emerged over the past several years as the world’s most important semiconductor company. As the high-tech analyst Jon Stokes has argued, were China to invade Taiwan and seize TSMC, the resultant collapse in semiconductor production could well cause the US economy to crash. The lack of national resilience is precisely the kind of “inefficiency” that globalisation proselytisers seldom consider.

So if the US is truly committed to a policy of building back better, it will require years of industrial reconfiguration and hundreds of billions of dollars — money that is now being deployed wastefully in America’s bloated defence budgets (which both Democrats and Republicans remain determined to feed).

Yes, higher wages and re-domiciling may well lead to higher business costs and possibly higher prices in the short term. But they would also lead to the creation of more disposable income and an invigorated market capitalism, as well as a more socially stable polity as the economic gains would be more equitably distributed. A virtuous cycle would be created: workers would be paid more, competent managers will compensate for higher wages by using more and better machinery, and by improving the way work is organised. This will bring better products, higher productivity and increased profits, which in turn can lead to higher wages.

It won’t be easy. But Biden has little choice. The present is not sustainable: a world of shortages, fragile supply chain links and a degradation of national security interests. If America continues down this path, it will soon face the ultimate inefficiency that economists seldom address: dangerous international confrontations and, ultimately, war.

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