Jul 17, 2023

Time to end America’s obsession with manufacturing

In his 2023 State of the Union Address, President Joe Biden asked, “Where is it written that America can’t lead the world in manufacturing again?” It is tempting to cite a few central tenets of international economics and international business to respond to this query, but there is a more fundamental issue lurking behind it: the role of manufacturing in high-income countries.

Democrats and Republicans appear to disagree on almost everything these days, but the importance of reviving manufacturing is to be a rare area of harmony, especially when it comes to America’s strategic rivalry with China. Unfortunately, this obsession with manufacturing is misplaced, and it is critical to the economic future of the United States to understand why.

First, for the high-income countries of the world, the share of manufacturing as a percent of gross domestic product (GDP) is currently approximately 13 percent. In the U.S., it is approximately 11 percent, very close to the average of high-income countries. So there is nothing unusual about the amount of manufacturing taking place in the United States.

Second, in high-income countries, the share of the labor force in manufacturing declines at least as fast as the GDP share. For the high-income countries, the share is approximately 13 percent. In the United States, it is approximately 8 percent. This reflects the increased labor productivity in American manufacturing. Since wages are tied to labor productivity, this is a positive trajectory.

Third, services, or more precisely producer services, are at the heart of the increase in manufacturing productivity. Economists and business analysts have noted the increased “servitization” of manufacturing; it is now very difficult to disentangle manufacturing from producer services given their symbiotic relationship. And services are increasingly part of exports, either in their own right or supporting manufacturing exports.

Fourth, manufacturing can no longer be envisioned as a single stage. Rather, it is spread out over multiple stages and countries in complicated global value chains (GVCs), held together by, you guessed it, producer services: transport, logistics, information and communication technologies, insurance and many others. Rather than a single stage, manufacturing is now a network.

Fifth, as recognized by economists going back to Adam Smith, what really matters for economic success is high value added. High value added can be found in manufacturing, but also in agriculture and services, especially (once again) producer services. Further, as a general principle, within manufacturing, high value added tends to be found at the beginning and end of GVCs, in research and development, branding, design, distribution, marketing and after-sales services. The actual assembly stage of GVCs is often where the least value added is to be found.

Sixth, national security requires producer services along with manufacturing. There is a saying among military analysts that “amateurs talk strategy, but experts talk logistics.” These “logistics” are producer services. In the words of one researcher, these include “the construction, maintenance and operation of military bases; equipment maintenance; food service; transportation; communications and IT support; and supply chain management.” Neglect of these factors is one reason the Russian army failed to take over Ukraine in early 2022.

The U.S. is currently involved in a bipartisan experiment to throw an extraordinary amount of subsidies at particular manufacturing sectors, including semiconductors and green energy. Estimates of the total subsidies reach as high as $1 trillion. Manufacturing subsidies are a way of being seen to be “doing something” in the economic realm and signal “standing up to China.” These efforts have coalesced into a new techno-nationalism that has increasing political appeal. Indeed, the Biden administration envisions undermining China in all “foundational technologies.” There has been little pushback from Republicans on this issue.

The trouble is that the European Union, China and India are all doing this as well, so the Biden Administration has precipitated a subsidy war. The World Trade Organization places limits on subsidies, and will no doubt eventually determine that, in many circumstances, this new round of subsidies has violated these limits. But the United States has hobbled the WTO dispute settlement process, so it will not be able to address the negative effects of other players in the subsidy war on the American economy.

This manufacturing subsidy war will be expensive and will support inefficient sectors, raising costs for households and firms. For example, most estimates of semiconductor chip fabrication in the United States are that it costs up to 50 percent more than fabrication elsewhere. American taxpayers will eventually bear the cost of subsidizing this kind of relative inefficiency.

As a techno-nationalist effort, large-scale manufacturing subsidies will also undercut open innovation that has been pursued by international firms to positive effect. Many “foundational technologies” are collaborations across national frontiers that provide real benefits.

For example, the Pfizer Covid-19 vaccine was the product of a corporate partnership between the U.S.-based multinational Pfizer and the German-based biotechnology firm BioNTech. BioNTech, in turn, was owned by two German citizens of Turkish origin. Pfizer itself was headed up by a Greek citizen. The production of the vaccine requires approximately 280 inputs from 19 countries. This is not manufacturing nationalism but rather globalized manufacturing enabled by producer services.

We need to end our obsession with manufacturing and focus on high value added wherever it is found. We also need to limit manufacturing subsides and allow them to be subject to WTO disciplines that the U.S. has developed and utilized intensively. Otherwise, long-run growth and prosperity will be diminished.

Kenneth A. Reinert is Professor of Public Policy at the Schar School of Policy and Government, George Mason University

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