Less Fear Than Meets the Eye

Americans these days seem to eye emerging economies with increased suspicion, even fear. Just as they once worried over Japan’s economic strength, the prevalent impulse is to see American decline in each stride made by China, India, Brazil, and other such nations. In some ways, such feelings are reasonable. These emerging economies are growing fast, and they are displacing American production in many areas. But, as the new book Thirty Tomorrows makes clear, the broad picture is both more complex and less threatening.

What is happening is less the feared power shift than a natural division of production across the globe, completely in accordance with economic laws, and reflecting the relative strengths and weaknesses of these very different economies. Simpler, labor-intensive sorts of production are migrating naturally to emerging economies, where there are large, youthful workforces that are cheap but poorly trained and supported. While this shift has forced difficult adjustments on classes and regions of the United States and other developed economies, it does not, as too many believe, speak to economic decline. On the contrary, this country and other advanced economies are doing more to get the best use of their expensive, limited, but well-trained and well-supported workers by concentrating on the production of complex, high-value goods and services.    

Broad-based statistics bear out this interpretation of the trends. Here the relevant measure is less the overall output, exports or total manufacturing, and more value added by each economy. These measures can vary widely. Overall Chinese manufacturing looms large, but such statistics fail to consider how much China imports to create its output – raw materials, parts, certainly the machinery used in the production process. A finished iPad from China, for instance, includes much intellectual capital and parts produced in the United States. The equipment used in its assembly comes from Apple and is also largely designed and made in the United States. The only part China adds is the relatively simple, if painstaking process of assembly. The United States, in contrast, adds almost all the value to its manufactures and exports – the raw materials, the parts, and, of course, the machinery used in the process.         

A recent paper from the National Bureau of Economic Research offers telling data on these differences. Though the study was completed in 2010, it is still the only comprehensive work on offer. Anecdotal evidence suggests that it still captures the reality of the situation. The nearby table reproduces the relevant figures. The developed countries are all pretty similar in this respect, producing almost 90 percent of their exports from domestic sources of one kind or another. Russia produces the most domestically, but this is a bit misleading, since such a large part of that economy’s exports are raw materials, mostly oil and gas. In contrast and tellingly, China’s domestic sourcing is notably lower, as is India’s, though not to the extreme exhibited by China.

Detail on particular industries fills in the picture and confirms the natural division of production. China’s own government acknowledges the division, describing the country’s entire industrial effort as oriented toward “traditional, labor-intensive sectors such as spectacles, ornaments, shoes, and [retail] electronic goods.” India, too, for all the noteworthy progress that economy has made upgrading its production effort, has actually increased its bias toward low-value-added, labor-intensive products as the country’s integration into the global economy has proceeded. In the last 35 years, sales of these sorts of products have risen from 34 percent of India’s total exports to 45 percent.

Domestically Produced Value Added in Manufacturing Exports

Selected Economies

(percent of total exports)

 

 

Domestic Value Added

Foreign Value Added

United States

87.1

12.9

EU

88.5

11.5

Japan

87.8

12.2

China

63.6

36.4

India

80.0

20.0

Russian Federation

89.9

10.1

Source: Calculations made in Robert Koopman, William Powers, Zhi Wang, Shang-Jin Wei, in “Give Credit Where Credit is Due: Tracing Value Added in Global Production Chains,” working paper 16426 National Bureau of Economic Research, September 2010, using Commerce Department and other data.

The dominant industries in each economy paint the same picture. Over half India’s exports lie in textiles, garments, and handicrafts – the quintessential simple, labor intensive output. Almost 80 percent of that country’s industrial workforce is employed in textiles. China reports over 100 million of its workforce directly or indirectly employed in the industry, 12.5 percent of the total. The story is the same for other emerging economies. Some 53 percent of Sri Lanka’s exports are in garments or textiles. For Bangladesh, the figure is 95 percent, for Laos, 93 percent; and for Vietnam, 90 percent. At the same time, these emerging economies import almost all the high-value items they use. When it comes to semiconductors and microprocessors, China is almost entirely import dependent. It also imports most of its nuclear fuel, chemicals, metals, specialty electrical goods, telecommunications products, and transportation equipment. China’s export effort is so dependent on imported inputs that they rise and fall in lock step with the country’s exports. India, though it produces 92 percent of labor-intensive products for itself, imports 44 percent of its machinery and technology. Brazil shows a similar mix.

Even when these economies claim production in areas usually described as high tech or high value, their output leans toward the cheaper, simpler side of the category. According to one prominent researcher, most of China’s so-called “high-tech” exports are “high-volume, commodity-like product[s] sold primarily by mass merchandisers.” If India does a lot of business in software development, all, according to other research, lies in areas “too limited for anything sophisticated.” The country’s pharmaceuticals lean toward generics and the output of straight-forward active ingredients, what the industry calls “bulk drugs.” Brazil’s otherwise impressive pharmaceutical industry follows the same pattern. When it comes to services, which include India’s famed call centers, emerging economies focus entirely on simpler retail support. More sophisticated consulting, especially for business and government, still comes largely from developed economies. For all the headlines, it is noteworthy that U.S. and UK consulting net then three times as much revenue as India’s efforts and 12 times China’s.

Such divisions should persist for a long while, too. According to The Economist, the average Chinese worker has only 5 percent of the equipment and computing power at his or her disposal that the equivalent worker in developed economies has. Though China, India, and other emerging economies produce impressive scientists, engineers, entrepreneurs, and artists, the bulk of their workforces is far less educated and less well trained than their counterparts in the developed economies.   According to UN and CIA statistics, the average worker in China has barely 6.4 years of schooling. In India, the figure is 5.1 years, and in Brazil, 4.9 years. In contrast, the average worker in the United States has 13.1 years of schooling, in Japan, 9.5 years, and in Europe, 8-10 years. Literacy in the developed world exceeds 99 percent of the adult population. In China, the rate equals barely 91 percent, in Brazil, 89 percent, and in India, 61 percent. It will take decades for such differences to disappear, not the least because less-well-educated workers from the countryside continue to flow into the workforces of these emerging economies.

Still, there is no room for complacency. The need in developed economies to focus on high value will impose an intense need to upgrade continually. Innovation will become even more important. No doubt, partnerships between government, industry, and universities will become more common, perhaps re-approaching the scale used during the Cold War and the Space Race of the 1960s. To encourage private innovation further, government at all levels will need to implement incentives, grants, to be sure, but also efforts to streamline regulations and modify the tax system to allow innovators to keep the fruit of their efforts. The associated need for high levels of training and education will also draw out unprecedented efforts, both private and public. These will not only feed the needs of the more innovative, high-value economy but also help those workers, who have lost work in simpler industries, transition to the new, more high-value, sophisticated economic focus. The net effect, far from the fears and anxieties that dominate current discussions on the subject, actually promises considerable opportunity.

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