By popular demand, I thought I’d share my thoughts on where the economy is going with regard to the topic of globalization. Here’s my thinking…
First of all, what is it? I think it’s plain to see that the world is shrinking. As technology (the TV, the Internet, nifty fast airplanes, 24-hour news cycle, etc) makes the world smaller and smaller, economies cease to be trapped behind national borders. In my opinion, when the TV was invented, the global economy was born. When the Internet came about, the global economy hit adolescence. And in my lifetime, we’ll probably see the full-fledged maturation of the thing.
Here’s the scenario that I think helps people understand what’s happening. 200 years ago, economies were all local. Almost everyone born in town was either a local farmer or some sort of aristocrat, who made slaves of the local farmer. (Oversimplified, but you get the idea.) Just about everything in the economy centered around producing something on one end of town, shipping across town to be sold to someone who also lived in town, so that they could buy something (in town) made by someone else in town. A local economy. Money just moved around in circles (for the most part) within a 20-mile-radius circle.
Then came the industrial revolution, and with it the technology to expand the economy to a national level. Now, I could produce and consume, buy and sell stuff that was made 1000 miles away on the other side of the country. But for the most part, the money circled around inside national borders the way it stayed in town decades earlier.
Today, all bets are off. The borders are no longer the local village or the country of origin. Instead, a company based in the US, started by an American, run by an Indian can produce something in a plant in China, have it distributed in Mexico, where it can be bought by an Italian. There just aren’t any borders anymore, where stuff is concerned.
So what? Well, this means that the natural tendency capitalism has to seek out the cheapest labor and drive down prices is amplified. During the industrial revolution, manufacturing visionaries realized that they could have the same widget built in Ohio instead of New York, and do it for half the cost. They could then keep the price of the widget being sold in New York City relatively steady for a really long time (despite inflation in other economic areas), and make the same if not a significantly greater profit. So is it today. If a business owner has the technology and the access and the funds to move their operation overseas to someplace like India or China, and build stuff cheaper, then they’re going to do so.
And the effect is the same. Inflation is held in check, and profits go up. Not only that, but the poor people of India or China who once could only farm rice (and starve to death doing so) can now make a LOT more money making widgets … even though the company hiring them is paying them peanuts compared to America’s (comparatively wealthy) standard of living. So, everyone’s happy, right?
Wrong! The rub is that the plant that just got built in Mexico or China wasn’t a new plant. The plant was moved to China or India from Ohio or North Carolina. Same with the accounting or IT jobs that are going to India. Or, whatever profession you pick. So, where Americans once did a job for $25/hr, someone else somewhere else will do the same job (but not at the same quality level — we’ll get to that in a sec) for $5/day. Now, I’m no longer just cutting costs in half, I’m decreasing them by 90% — and that’s even after the cost of running a business from across an ocean is taken into account (these costs are significant, even with all our technology).
So, a whole bunch of things happen…
- Goods and services are made much more affordable. Now poorer people, even in some third-world countries, can afford a refrigerator or microwave or television.
- Inflation is managed (in the consuming country). The cost of the goods and services that have been globalized can get low and stay low for a much longer period of time (as long as the business leaders aren’t too greedy.) So, the price of TV’s in America falls fast and stays low. Similarly, the price of refrigerators doesn’t go up in America.
- Products get better. Globalized products can be made so cheap, that new features can be added to them without jacking the price up beyond the reach of the “average consumer”. That’s why we’re seeing TV’s built into refrigerators, toasters with operating systems, etc. Because we can.
- American CEO’s get richer. There’s a lot more money to work with because operating costs are WAY down.
- A bunch of Americans are out of a job. It becomes harder and harder to compete if you want 10x the pay someone else is willing to take for “the same job”.
- Deflationary pressure in the consuming country (such as America) becomes a real concern.
- Inflationary pressure in the producing country (such as China or India) becomes a real concern.
Let’s spend a little time on these last two…
Deflation Over Here
Seems like a great idea to have stuff get cheaper. Problem is that the people losing their job in North Carolina to former-agriculture workers in China can’t compete any longer. If they want to entertain the slightest hope of getting a job, they have to lower their salary expectations. Instead of working for $25-30 an hour, it’s $20-25 … then $15-20 … then they have to change jobs to get back up to $20/hr. Then that job goes away too. Then they settle for $15 for a while, until they change again, then that job goes away too. Vicious cycle. And if the cycle gets too broad, deflation occurs. The prices of goods and services, accompanied by wages, could spiral downward out of control until equilibrium was reached. In other words — until our standard / cost of living had dropped to the level of China and India.
Inflation Over There
The price of a loaf of bread is doubling in India and China every couple years. Why? Because wages are increasing. Why? Because people know they can get more money out of the American or European companies. Paying some guy $7/day vs. $5/day is no big deal when the closest domestic competitor wants $30/HOUR. But that’s huge for the guy in the suburbs of Beijing. If you visit Bangalore, you’ll see 30-story glass skyscrapers on dirt roads with donkeys tied up outside on which the employees of that company rode to work.
And the net effect … bye-bye middle class. Either you work in that glass building or you don’t. Not to mention the stress that trying to build the infrastructure necessary to support all this is putting on their economies. You can’t heat an economy up to white-hot levels (China’s GDP is growing at like 9% a year — double, even triple the growth rate of the US economy) without expecting some serious inflation.
Where’s it all going?
Well, first of all, we’re looking at the beginning of outsourcing, not the end. Unless something like government regulations interfere (which I don’t want, btw), the globalization will occur until equilibrium is reached. If America’s economy is strong enough to keep moving forward even under this downward pressure, then awesome. But it’s much more likely that we’ll experience deflation and developing nations like China will experience inflation until we get close enough to each other that it is no longer advantageous for companies to move manufacturing (etc) overseas. But even if China and India catch up, there’s still Eastern Europe and Africa and South America. Basically, all else being equal, the jobs will go where the labor is cheapest, with almost no regard for national boundaries.
What about the quality thing?
Brief aside… There’s another bottom-line reality to consider. The work done in developing nations — in places like China and India — just isn’t of the same level of quality as the work done in Japan or Germany or Ohio or N. Carolina. It’s just a fact. The stuff sold in Wal-Mart looks nice, but is poor quality — breaks easily, has a short life-span, etc. Software written in India takes longer to write and is riddled with holes. Etc. So, this has an impact on how wide the gap has to be between the cost of creating something in China and the cost of making it here.
As long as software can be written 10x cheaper in India, it will be. But when it’s only 3x cheaper, that won’t be enough to justify the headache of staying up all night on conference calls and delivery buggy crap to the customer instead of a quality product. This means that the equilibrium I mentioned isn’t really parity; it’s when the two standards of living get close enough to each other that people can no longer justify the nuisance. Good news for us, because that means we have less distance to fall. It also means that a quality product is still worth something — and quality is what Americans (at least those of us still acting like Americans) are really good at.
What should we do about all this?
The secrets to weathering this storm in the US are preparation and education.
First of all, if you live like the average American household — 95% of your home leveraged, $10k per person on credit cards, 2 car payments, school loans and 3 pieces of furniture on buy-now-pay-later plans — then this (globalization) is going to utterly screw you. Living on this level of margin is like living on the razor edge of a knife. One lost paycheck, one salary cut, one mortgage rate increase, one severe illness / accident, one lawsuit, one wrong move — and you can no longer survive the downward drag of all that debt. You can’t handle any deviation from the norm when you’re living under these pressures. And if more and more people lose their jobs and fewer and fewer people can compete at their current lifestyle, then things will get bad fast in this country.
Secondly, education. The answer is to begin to produce new things that can’t be outsourced. Don’t flip the burgers; learn how to fix the robots that are going to flip them in 10 years. Don’t sweep the floors; invent something that needs a store room that other people need to sweep. Don’t know a programming language; become a software analyst / consultant whose services the customer can’t live without. And for God’s sake, let’s get some new technology invented.
I don’t just want Hydrogen cars for the sake of the economy or to get us off oil. I want them, so that China has to buy them FROM US. I realize that those plants will soon be moved to Mexico and China as well, but not immediately. At first, it’ll be too hard. Too few will know how to do it. Too many trade secrets will be involved. At least for a while, we’re still in the phase where the only stuff that gets outsourced is the stuff that’s commoditized. And even as the pace of the move from new (so it has to be done here) to got-it-down (so it can be shipped to Slovakia) increases, that just means we have to innovate faster. We’re not doing this in America any more (another topic for another time), and that’ll prove to be our downfall.
Okay, that’s it for me. What do you think?
Technorati tags: globalization, outsourcing, economics
Thanks for tackling the subject, JB. Here are a few of my thoughts on what you’ve written:
1. Re: “Unless something like government regulations interfere (which I don’t want, btw)” I whole-heartedly agree with you that govt attempts to try to re-nationalize or otherwise hinder global economy are not the answer. If we put up artificial walls to keep our jobs on our shores (and therefore keep them paying a higher salary), we will completely kill our US companies. If Nike is forced make its shoes in the US, its costs and therefore its prices will be much higher than its foreign competitors who don’t have the same restrictions against third-world manufacturing. When consumers are looking at a Nike shoe and an equally nice Reebok shoe for half the price, Reebok wins every time. Nike will go under and all those jobs we so nobly tried to save will go with it.
2. The quality issue. You make me nervous here, JB. Yes, there is some pretty cheap quality floating around the WalMart shelves, but I think you overemphasize a) the higher level of quality America produces and b) the value American consumers place on quality over price. The reality is that our Chinese and Indian compadres are getting better at this manufacturing thing, thanks to the Western companies that are investing in them. Quality standards like Six Sigma are being exported to those countries and it’s making a difference in the products they produce, the processes they follow, etc.
We need to be very careful not to become arogant or complacent in assessing our own strength as a nation. This is not to say that we shouldn’t be proud of our nation (we definitely have much to be proud of). We just need to not take our world leader status for granted, because the minute we do that we lose it.
3. Re: JB’s solution. I completely agree with your planning + education approach. Both hugely important. Let me suggest a third prong of attack: Do whatever we can as a nation to support entrepreneurship and small business within our boarders. The vast majority of innovation in this country comes from garages, home offices, and small businesses. The number of jobs created by small businesses DWARFS those created by large corporations. Most of those jobs don’t fit the same economies-of-scale justifications that lead to offshoring, so most small business work stays here. As mentioned in the tax thread, small business is also the perfect wealth generating vehicle for those hardworking individuals who want to see their talents, their passions, and their intense labor rewarded. If our governments (federal, state, and local) can create favorable conditions to encourage entrepreurship and to help fledgling businesses thrive, our economy will remain strong and will resist dillution by a global economy.
“The reality is that our Chinese and Indian compadres are getting better at this manufacturing thing” Yes, but they have a long way to go. A few times a year I come across forgings and castings our vendors try to sell us that were made in India or China. These are very inferior products that are safety hazards in our business (as in, if this part fails people will die). I do think they will get there, but they will carry a stigma of inferior quality for quite some time (like u.s. and korean car manufacturers)
“If our governments (federal, state, and local) can create favorable conditions to encourage entrepreurship and to help fledgling businesses thrive, our economy will remain strong and will resist dillution by a global economy.”
Sounds like you are arguing FOR tax incentives for businesses 🙂
Tax incentives for SMALL business (definitely a distinction in my mind) are one possible avenue, yes. More important than that though is just cutting a path through all the regulatory BS that larger companies have entire departments to handle. The government has taken several steps in this direction – many of the more restrictive labor laws, for example, only apply to companies of a certain size – but I see more opportunities to make conditions even more favorable for those who want to run a small business.
I almost feel like the dirty secret is that we add all this beurorcracy and red tape to keep high paying desk jobs. How many people would be out of work if we had a simple tax system, no SOX requirements, small goverment, etc. We are talking in the millions. Add all their dependants and we have a significant percentage of the population. Admittedly, these people contribute VERY little to society (at least in their professional roles), but they are not on goverment assistance. Same with all of the former factory workers (building stuff YES) who are now in the customer service indusrty. Look at the military, from a certain lens you can see this as one of the largest welfare systems a country has, if they don’t draft. (I am not saying I feel this way)
Maybe this is not true and all these people could find productive jobs, just get that creepy feeling sometimes.
However, (OT) I do advocate bringing back the draft.
That would be a very interesting topic Brad (the draft). I’d be interested in hearing why you advocate bringing it back.
I created a new post on this topic, mainly as a placeholder for a Brad Bull draft-related special.
Now, to dive in a little more…
Re: the quality issue…
I know the quality of manufacturing and service industry in developing nations *can* be very good, but generally it still has a long way to go (as Brad said). My experience as a consumer is mainly with cheap products bought on the shelves at Wal-Mart, Home Depot and others. Professionally, my experience is mainly with software developers. And in all those experiences, the quality is always an issue. BEA outsourced helpdesk to India, and it was SUCH a horrific fiasco that they moved it to Ireland within a couple months of the launch. Just one example.
Another concrete reality / example in the software space… In places like India, all the really good software developers are over here. The cream of the crop growing up come over to America to be educated, and very few return home after they’ve earned their degree to build their native land. They stay here because the jobs are better and the money’s better. So, when you outsource to India, you by definition (most of the time) get the 2nd tier. I’m not putting anyone down here; just stating reality.
But your point about being complacent is a great one. I’m not advocating that. It’s our innovation and hard work and freedom (defined correctly) that’s made us great. If we get all lax (great example would be the auto makers in the 80’s), then we’re screwed.
Thanks also for bringing up small businesses. I emphatically agree that the more we can do as a nation to get out of the way of the success of our entreprenuers, the better off we’ll be. Some of this could take the form of tax incentives, as Brad suggests, but more than anything I’d just (if I were the government) get out of the way. (To be extremely clear this means “don’t tax them” more than it means “add taxes, then create loopholes for them”.) Anticipating: No, of course I don’t mean “don’t tax them at all”, I mean “tax them as little as possible, because they’re the engine that drives our economy”.