The much-ballyhooed “in-sourcing” trend is real enough. But it won’t amount to much unless Washington acts.
In their highly influential book, Producing Prosperity: Why America Needs a Manufacturing Renaissance, Harvard Business School professors Gary Pisano and Willy Shih argue that when countries lose the ability to manufacture, they also lose the ability to innovate. Pisano and Shih push back on claims that innovation can happen successfully in one country (America) when manufacturing happens in another (China), arguing that this thinking “is based on false premises about the divisibility of R&D and manufacturing in the innovation process.”
For some industries, they write, a product’s design is “so tightly intertwined” with the production process “that it makes little, if any, sense to talk about them separately.” As a consequence, they argue, when companies offshore manufacturing, they’re not only offshoring jobs, they’re offshoring future innovation, plus all of its spillover benefits.
For instance, Pisano and Shih cite the case of photovoltaic cells, which were developed at Bell Labs and later improved upon by a host of American universities and companies including Boeing and IBM. Now they’re largely manufactured in Asia. In 2008, only 6 percent of PV production was American.
What happened, the professors say, is that many of the technologies involved in PV cell production were offshored to Asia long ago. Consequently, Asia started out with a technological edge, as well as geographical proximity to key component suppliers (also Asian), which enabled them to dominate the competition from the get-go.
A host of other American-born inventions have moved offshore and taken their economic potential with them. A list of these lost opportunities, compiled by Dieter Ernst, senior fellow at the East-West Center, includes many staples of modern connected living: laptops, tablets, smartphones, cell phone batteries, and flat panel displays, in addition to the entire semiconductor industry. Pisano and Shih add more esoteric innovations, such as “ultra-heavy forging,” a process required for making large, super-strong structures such as nuclear reactors.
Nevertheless, Ernst says, “our innovation capabilities are still way ahead of China.” According to the National Association of Manufacturers, U.S. manufacturers account for two-thirds of the nation’s private R&D. America’s computer and electronics industries also account for half of all U.S. patents, according to Brookings scholars Susan Helper, Timothy Krueger, and Howard Wial, and manufacturers employ more than a third of the nation’s engineers.
But maintaining this track record means making sure that the industries most fueled by innovation stay at home. Fortunately for us, the companies most likely to consider insourcing right now are in exactly these innovation-intensive industries. And public policy could help tip the balance.
America still holds many of the advantages that made it the world’s foremost inventor in the first place: the world’s best universities, abundant natural resources, a stable democracy and rule of law, an entrepreneurial culture, and respect for personal and intellectual property.
Nevertheless, public policy is critical to whether insourcing picks up momentum or fizzles out. First, we need to remember that insourcing is far from the new normal. It’s true that companies are much more likely now to rethink where they make their products, rather than stampeding like lemmings as they once did toward the country with the cheapest labor, but it’s hardly a sweeping trend. Second, even if many economic fundamentals are moving in America’s direction, foreign governments have plenty of policy tricks they can and do use to lure manufacturing firms.
The question now is whether America is doing enough to push the companies sitting on the fence firmly in our direction and to compete with other countries that are doing the same. To that, the experts say no: we are falling behind by standing still.
To his credit, President Obama has made manufacturing a central plank of his economic agenda. But to accelerate insourcing’s pace and potential, here’s a three-step framework for what government can do.
First, we should shamelessly court companies to America and help them expand when they get here. Even as offshoring’s economics tilt America’s way, other
countries—less opposed than we are to heavy-handed industrial policy and even downright cheating—are busily dreaming up strategies to put a thumb on the scales in their favor.
In their book Innovation Economics, Ezell and Robert Atkinson document a slew of incentives regularly offered by foreign governments to woo business. Israel subsidized $1.2 billion of Intel’s investments in the country, while Vietnam waived all corporate taxes on the first four years of Intel’s operations there (and offered big discounts thereafter). Singapore and South Korea freely provide footloose firms tax holidays and free land. South Korea also routinely offers companies tax-free and interest-free loans, while India offers some firms a chance to deduct all profits for ten years. China plays the most aggressive and strategic game of all, often demanding that firms move high value-added manufacturing operations to China or transfer valuable technologies as a condition of accessing its market.
Some of these tactics are offered in blatant disregard of international trade laws, and the U.S. government is often quick to complain to the World Trade Organization. But because of the multiplicity of alleged violations, the complexity of proving a case, and the tremendous time and resources required to win, few cases are ever really pursued and only when enormous sums are at stake—as in the case of Boeing versus Airbus, for example.
So given the current free-for-all, why hasn’t Washington joined the game? Partly it’s because recruiting individual companies has never been seen as a federal responsibility. Presidents are supposed to think in terms of big sweeping policies, not lower themselves and their administrations to the level of marketers. Partly it’s the ingrained fear of doing anything that smacks of taboo “industrial policy” or “picking winners and losers.” Whatever the reason, such things just aren’t done. Nevertheless, there’s plenty of room for Washington to get more aggressive without crossing the line into industrial policy. For starters, suggests Economic Strategy Institute President Clyde Prestowitz, U.S. officials could simply ask companies to stay, and then thank them when they do.
Prestowitz recalls one meeting between a senior government official and an American CEO over some intellectual property issues the CEO’s company was having overseas. Instead of offering to help with the problem, the official asked the CEO if he’d ever considered moving to Singapore. Eventually, the CEO and his company did. “[This CEO] came from the Ukraine, was grateful to the U.S. for giving him a living, and didn’t want to leave,” Prestowitz says. “If somebody from the government had just called him and told him to stay in the U.S., he would have.”
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