05 February 2007

On Trade and Shoes

On Trade and Shoes

There are lots of people who think it is an outrage that 98% of shoes sold in the United States and similarly high percentages of televisions sold in the United States are made abroad. This scares them. I don't know if the numbers are exactly right, but the point is well taken. It is undeniable that the United States imports a significant share of its manufactured goods, and that this share is particularly great for certain classes of products.

If international trade stopped tomorrow, we'd be doomed. Well, not quite doomed. We could rebuild a manufacturing economy in a couple of decades, but in the meantime, we'd suffer dire shortages and economic dislocation. Some products that rely on imported raw materials would virtually vanish (say goodbye to coffee and rubber). Others would have to undergo major redesigns in the face of changing raw material economics.

We aren't importers of everything. We export grains. We produce almost all of the beef, chicken, milk and pork that we eat. A large share of our electricity is locally produced from domestic fuels and most of the rest that isn't domestically sourced has North American fuel sources. Our natural gas supplies are North American. Most of our timber is, at least, North American in origin. We import graduate students and export PhDs. We import sick people and export high end medical care. We import investment capital and export interest, dividends and capital gains. We export popular music and Hollywood movies.

While we import oil, we are more self-sufficient in petroleum than most of our developed world peers. Switzerland, Japan, Singpore, and Luxembourg, to name just a few, import essentially all the petroleum that they use.

I don't find it inherently worrisome that we import our shoes. When is the last time you met anyone who didn't own a single pair of shoes and walked around barefoot even in the winter? We may not have universal health care or universal higher education or even universal housing, but we are damn close as a society to universal footware ownership. Not only that, in our society, people manage to not just wear shoes universally, but own them free and clear. Almost no one rents shoes or has to mortgage their shoes to afford them. Shoes are so common in our society, that even if someone goes bankrupt we let them keep many pairs of shoes.

Indeed, while television ownership is not universal, our society also pretty effectively provides a television to everyone who would like to have one. A few deeply poor and financially ignorant people rent televisions rather than owning them, and a few extravagant people buy such expensive televisions that they feel a need to finance them and pledge the televisions as collateral, but I have yet to hear a politician campaign for the cause of universal television ownership (although a give away of a converter box to everyone without cable or satellite TV, to make it over the digital broadcast TV hump in the near future comes close).

The things in our society that some people need badly, but do not have, have little or no corrolation to the percentage off that thing that is obtained in foreign trade. If anything, things obtained primary from abroad are more widely available to the general public than things obtained primarily domestically. Importing manufactured goods from abroad has provided the United States with historically unparalleled abundance in its supply of material goods.

This doesn't mean that there isn't a serious concern hidden in the obscure and emotionally driven ongoing debate over foreign trade and outsourcing and the changing nature of our economy.

The two big questions are, "How do we conceptualize the economic activity of the people who are outside the goods producing sector?" and "Is our international trade situation sustainable?"

A Post-Industrial Society

We do live in a post-industrial society. The American manufacturing sector has been shrinking steadily since the 1970s, at least. General Motors and Ford are on the brink of bankruptcy. Chrysler was bought by the Germans. Almost the entire steel industry has collapsed. It is a real challenge to buy American made clothing. Even manufacturing companies (e.g. the company that makes Celestial Seasonings tea in Boulder) tend not to have a whole lot of manufacturing employees as a share of their total employment. Automation and outsourcing have conspired to devistate the ranks of American factory workers.

American factories actually produce more goods than they did in the 1950s, the peak of the manufacturing economy, and they also produce better goods, but manufacturing is a much smaller share of our total economic output.

While we often call the non-goods producing sector the "service sector," this name, which calls to mind maids and burger flippers, doesn't accurately represent the shift in our economy.

Personal services have grown as a share of employment. A decreasing percentage of people are mowing their own lawns, cutting their own hair, walking their own dogs, cooking their own food, fixing their own clothes, or taking care of their own children. We are socially uncomfortable with the notion of household servants, which we associate with aristocratic societies, and increasingly efficient ways of carrying out household chores have made it uneconomical to have someone on the family payroll to provide particular services full time in mosts cases. But, as more and more women enter the work force, and Americans have moved into first place in the world for number of hours worked per year, we need to use money to pay for personal services we once provided for ourselves.

But, the growth in the personal services sector only scratched the surface of the growing service sector. Services are increasingly indirectly tied to the economic fruits that create. What is the product that a law firm creates? And, a law firm, in turn, employs people to engage in activities even less directly related to that final outcome. We have a web page developer, a IT troubleshooter and network maintenance person, a book keeper, a billing company, a handyman, a cleaning service, and a copier repairman, all of whom come onto our premises from time to time and do some of the work that ultimately produces whatever it is that we produce.

In the big picture, of course, it is obvious that a functional economy needs to have people who structure their activities in an economically functional way, and an economy that assigned responsibility for things that go wrong to the appropriate people, but, there isn't a lot of middle ground between this highly conceptual sense of what lawyers do, and the immediately urgent situations that send people running to lawyers. We don't produce goods, we make "the system" work for people because they would be out more money if they didn't hire us. We trust that system to produce the right results when we look out for our individual clients and other lawyers do the same for theirs.

Our society has far more lawyers than it did a century ago. Clearly, this is because there is a greater need for lawyers now. But, putting your finger on precisely why that is the case is far from obvious.

Sustainable Trade

Trade Deficits

We can hardly fault the indicators we use to look at international trade, like the "trade deficit" for being conceptually wanting, when the concepts that explain how different players in our economy ad value are themselves obscure.

The phrase "trade deficit" is almost an oxymoron. Trade implies an equal exchange. Deficit implies an equal exchange. In a world where most of the players in the international trade world are sophisticated rational actors (or some reasonable approximation thereof), why would sellers consistently sell goods for less, or more, money than they are worth?

And, suppose that a "trade deficit" is a meaningful concept. Why would anyone be against it? We give other people pieces of paper called money and get really stuff called goods. Other people get our goods in exchange for us taking pieces of paper from them. When the dust settles we have more real stuff called goods, and they have more imaginary stuff called money that our banking system and government simply make up out of thin air. How cool is that? It is like getting stuff for free. If we wanted to, we could simply refuse to honor their pieces of paper going forward one day and they would be screwed.

Of course, it isn't all that simple.

Some of the money that isn't used to buy American goods is used to buy (directly, or through a series of transaction) American services, like vacations and health care and education.

Some of the money that isn't used to buy American goods is invested in the American economy, in the form of bank accounts, stocks, bonds, real estate and ownership of American privately held businesses, which in turn represent ownership claims against American economic assets. People all over the world own stakes in General Motors, the American national debt, commercial real estate and the like.

When we are in a "trade deficit" this simply means that they are getting more American services and making more financial investments in the American economy, than we are buying foreign services and making financial investments abroad.

To the extent that this happens in the investment sector, this is because domestic and foreign investors agree that on average, the United States is a better place to invest money than places outside the United States. This is a function not just of the desirable opportunties that exist in the United States for profit, it is also a function of the fact that the U.S. financial system is more fair to investors and less corrupt and uncertain legally than many foreign financial systems in countries with whom the United States trades in goods.

To the extent that this happens in the "services sector" this means that American services are on average, a better deal compared to foreign services, than American goods are compared to foreign made goods. This doesn't necessarily make sense across the board, but there is certainly an abudnance of skilled professionals in the United States that isn't found in many foreign countries with whom the U.S. trades in goods.

And, if that wasn't complex enough, there are also difficulties with determining where services and financial investments involving money provided in exchange for foeign goods is counted as being spent. For example, private college tuition spend by a child of a foreign national at a U.S. university doesn't show up in the international balance sheet as a form of foreign trade.

If our trade deficit were simply do to these kinds of accounting issues that fail to recognize the true equality of exchange, and the economy was relatively static, this would be fine. The trade deficit wouldn't be a worry. The prior U.S. trade surplus would reflect our industrial era economy, and the current trade deficit would reflect our post-industrial economy.

Complicating Factors

But, once government action is thrown in, and once longer term economic trends are considered, there is reason for worry.

Even in relatively standard economic theory, we don't expect government actors to behave as rational economic actors.

For example, the Chinese government might choose to keep the exchange rate for the dollar artificially strong vis-a-vis the yuan, even though this may not make economic sense for those involved in individual transactions, because it may desire for policy reasons to boost the part of the economy that makes goods for export, even if it means reducing the amount of foreign consumption that thos producers can receive in exchange.

Similarly, the Chinese government might choose to buy U.S. government bonds, even if they may not have the optimal investment return of available foreign investments, because consistently financing American government spending might discourage Americans from gong to war with China because it would force tax increases to pay for deficits far beyond those associated with mere military expenses.

Also, the reason that countries like China and Vietnam and Mexico have trade deficits with the U.S. is that they have comparative advantage over the U.S. in producing goods because they have low labor costs relative to the U.S.

This won't last forever. Developing countries, on average, and certainly in the case of the trade partners with whom Americans have the biggest trade deficits, are in economies that are growing faster than the American economy, not least, because they are growing increasingly productive as the modernize to catch up to U.S. levels of technology.

The ranks of the developed nations aren't closed. Japan and South Korea, for example, have gone from being poor, technologically primative societies, to being affluent and technologically advanced societies, mostly since World War II, although one can look back further than see the antecedents of these changes.

Many countries in Latin America, Eastern Europe, and Asia are rapidly modernizing, and even many of those that aren't modernizing particularly rapidly are still growing their economies, even adjusting for population growth, faster than the American economy is growing, adjusting for population growth. Modernization is a fundamentally exponential phenomena, just like compound interest. A country with a percentage growth edge over a competitor will catch up faster and faster and faster over a longer and longer and longer period of time, until it is nearly caught up with its modernized competitors.

It is almost inevitable that places like China, Vietnam, India, Indonesia, Brazil, Mexico and Romania will eventually secure standards of living similar to those in the United States. The standard of living in Mexico has already risen to the point where it outsources manufacturing calling for low cost labor to China. China's growth rate, in turn is steadily three and four times that of the U.S., often growing at high single digit or low double digit percentages each year.

While there will be laggards, in places like Africa and Burma and North Korea, sooner or later, most of the world is going to be made up of high wage, modern economies. At that point, the American economy's reliance on the economic imperialism of having goods made for it by ill paid workers in inferior conditions abroad will end. The crutch will be cast away and American's will have to pay "full price" for what it consumes, and to compete in the international marketplace based on productivity and quality alone.

This is a harsh reality to wake up to. But, we are coming to that point. We import a lot of cars into the United States, which are gaining an increasing market share, from Japan and Germany, even though neither nation is competing based on low wages for their workers anymore. Toyota is gaining market share, General Motors and Ford are losing it. Product quality is a bigger part of the reason than price competition at this point.

As prices for manufactured goods slowly rise with rising foreign wages (offset in part by increasing productivity) abroad, the workers with rising wages abroad will barely notice this, because their increased incomes will allow them to afford the increasingly expensive goods. Meanwhile, Americans will see prices for imported goods, even from historically poor countries, rise relative to their income growth.

I'm not aware of any good measurements of how much profit Americans make in international trade from the lower wages we pay abroad. The "fair trade" movement, which seeks to certify that foreign workers who provide "fair trade" goods are making better than sweatshop wages has shown by the example of the higher prices charged for "fair trade" goods that there is some benefit. But, no "fair trade" scheme seeks to insure that Third World Worker's are earning amounts comparable to those in modernized Western Europe, the United States and Japan.

Payback time is coming at home as well. Since the 1960s, large sectors of the American economy, such as labor intensive agriculture, agricultural food processing (like slaughter house work), construction, and personal services have been greatly impacted by immigration, much of its initially in violation of immigration laws. As local economies in the countries that are sending workers to the United States to fill these jobs improve, the desire to relocate to the United States from these countries will wane.

Some of this immigration will be replaced by immigration from countries that remain poor. But, geography will make the trip to the United States far more difficult than it was for immigrants from Latin America.

If Americans want this kind of cheap labor domestic economy, they will need to open up immigration for unskilled foreign workers in waves from different countries, like Africa, legally. The children of immigrants inevitably adopt American standards for themselves in compensation and the kind of work they are willing to do, because they are Americans.

If Americans don't open up the doors to low skilled labor immigration, the result will be the need to either import goods from countries will large unskilled labor forces (possible in the case of agricultural goods), or find more efficient ways to do the work (like shifting more home construction to a factory model), or change their consumption preferrences to accomodate higher prices (consuming less relative to services than they do now).

Of course, eventually, both outsourcing and cheap immigrant labor are going to fail as economic options, because eventually more and more affluent countries will chase fewer and fewer poor countries for this kind of cheap labor, and the few remaining countries will develop even faster than those that came before them as a result.

By 2100, I suspect that we will live in a world in which there are no longer any countries that can be counted as "poor" and the last of the formerly poor nations of the world will have endured and put behind it the sweatshop phase of economic development.

Americans may very well still not be making shoes or TVs in 2100, and if we are not it will not be a crisis.

This doesn't even necessarily mean the end of the sweatshop or of a cheap labor economy. It may simply mean that the economy goes from one in which the cost of labor is primarily an issue of geography, to a global labor market where the unskilled have to work very cheap regardless of nationality, while the skilled are paid lavishly regardless of where they are born. Sweatshops may return to our backyards, moral concerns shrugged off out of a desire to maintain our standard of living. It wouldn't be the first time in world history that the poor and de facto slaves lived shoulder to shoulder with the ruling class in the same neighborhood. But, given the widespread political support for social welfare programs and leveling measures like the minimum wage, I don't think that we will see that kind of development.

Bottom line: We shouldn't be concerned because our goods are often made abroad. We should be concerned that we rely on cheap labor to maintain our standard of living, despite the fact that the cheap labor won't last forever.

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