'Three Billion New Capitalists': Consider the Outsource

[David Farber <dave () farber net>]

Begin forwarded message:


http://www.nytimes.com/2005/07/03/books/review/03BLODGET.html

'Three Billion New Capitalists': Consider the Outsource
 By HENRY BLODGET

IF you've managed to ignore the alarm bells on the outlook for  
American economic leadership -- and you enjoy dreaming -- don't read  
Clyde Prestowitz's ''Three Billion New Capitalists: The Great Shift  
of Wealth and Power to the East.'' It argues that the United States  
faces such serious fiscal and competitive challenges that we may be  
headed not only for a declining standard of living but for a 1930's- 
style depression with a capital D.

Here's the story. In the golden age, 1950-73, we had it all -- low- 
cost manufacturing, rising wages, technological dominance, a highly  
educated and motivated work force, a trade surplus. Until 1971, our  
reserve currency was backed by gold, forcing us to be responsible. We  
had control over our economic destiny. Since then, bit by bit, we've  
lost much of our strength and are in danger of losing the rest.

Our first problem is the surge in competitiveness on the part of the  
rest of the world, especially China and India, a trend Thomas L.  
Friedman analyzes in detail in ''The World Is Flat.'' Even if the  
playing field were level -- which it isn't -- we would not be able to  
compete with the combination of low-cost labor, talent and fire in  
the belly of these two behemoths. Our second problem is that we still  
think we're living in the golden age. In fact, we suffer from a  
misguided sense of superiority, profligate spending habits, a weak  
education system, mammoth debts, a ballooning trade deficit and a  
religious devotion to free-trade theories developed before the  
Industrial Revolution.

Each of these issues could consume a book, but Prestowitz, president  
of the Economic Strategy Institute and a trade negotiator in the  
Reagan administration, packs them into one. The heart of the  
question, as he sees it, is that we are not defending the jewel in  
our economic crown -- our technology and manufacturing capabilities  
-- but are instead waxing poetic about the virtues of free trade  
while more practical countries walk off with our loot. This, he  
contends, will lead to the gutting of our economy, with well-paid  
skilled jobs replaced by low-paid menial ones, and an America in hock  
to the world's next economic leaders.

Globalization, of course, is nothing new. The ''hollowing out''  
debate hinges on whether the United States can replace the jobs it  
loses with equal or better ones. Capitalism is fueled by Schumpeter's  
creative destruction -- new forever displacing old -- and this  
country has thrived through transitions from agriculture to  
manufacturing to automation to outsourcing to services. Free-trade  
advocates argue that globalization is just the latest phase of a  
continuing evolution. Trade hawks like Prestowitz argue that now is  
different because of the sheer size of India and China and our  
inadequate response to the new situation.

Globalization has always been a touchy subject (after all, Americans  
lose jobs when companies move production and services overseas) -- so  
touchy that most popular discussion of it is inflammatory or inane or  
both. Last year, John Kerry branded corporations and executives who  
send jobs offshore ''Benedict Arnold companies and C.E.O.'s,'' and a  
White House adviser, N. Gregory Mankiw, provoked many a storm by  
suggesting that offshoring was actually beneficial because, among  
other things, it lowers prices and makes labor available for new  
opportunities. Mankiw may have been impolitic, but Kerry was just  
pandering. If the choice is go offshore or go out of business, a  
chief executive doesn't have a choice.

Prestowitz acknowledges that many companies can't survive today  
without offshoring, but argues that we often abandon industries we  
could continue to dominate and so lose the ability to lead the next  
wave of innovation. He lays the blame on government, not the private  
sector. ''Whether it recognizes the fact or not,'' he declares, ''the  
United States has a de facto economic strategy, and right now it is  
to send the country's most important industries overseas.'' He  
observes, moreover, that the benefits of offshoring go beyond cost:

''You do save money,'' a senior manager at the semiconductor  
equipment maker KLA-Tencor says about sending work to India. ''But  
pretty soon, you realize the work is getting done faster and better,  
and you start sending more and more of it. You also start sending  
more advanced work and then have to figure out what, if anything, you  
really don't want to send.''

The work is getting done faster and better, Prestowitz argues,  
because Indians are not only hungrier than we are, but better  
educated. China, India, Japan and Europe all churn out more science  
and engineering degrees than we do. Worse -- and downright  
embarrassing -- is the state of American education. Globally, our  
12th-graders rank only in the 10th percentile in math (that's 10th  
percentile, not 10th). Our students also rank first in their  
assessment of their own performance: we're not only poorly prepared,  
we have delusions of grandeur.

One common argument against the hollowing-out theory is that we can  
afford to lose jobs in low-tech manufacturing because we retain our  
high-tech design and manufacturing capabilities. Prestowitz counters  
that China's and India's incentives and resources are so compelling  
that the high-tech work is leaving, too.

Another argument is that a revaluation of the yuan will curb imports  
and stimulate exports, thus repairing the trade deficit. In fact,  
Prestowitz asserts, our manufacturing capacity has been so gutted  
that we can't export our way out, even if the dollar's value drops to  
zero. The only path is to cut spending.

But Prestowitz risks sounding like Chicken Little when he pronounces  
the globalization of today more than just another ''gale of creative  
destruction'' to which our economy will eventually adapt.  
Manufacturing has long been declining as a percentage of the United  
States economy, but the jobs lost have been more than offset by  
growth in services (in health care, financial services, law,  
retailing, and so on). Prestowitz points out that services are now  
being offshored, too, but not (yet) at a rate threatening our main  
growth industries. The McKinsey Global Institute, for example,  
reports that while 24 million Americans switch jobs each year, only 3  
million jobs are estimated to go offshore by 2015.

The critical question, still to be satisfactorily answered, is  
whether offshoring produces net economic gain or loss. Prestowitz  
deconstructs an oft-cited McKinsey study concluding that each $1 of  
spending sent offshore results in an overall gain in the gross  
domestic product of $1.12 to $1.14. He points out the study relies on  
data suggesting that 69 percent of displaced workers found jobs at an  
average of 97 percent of their former pay. This leaves 31 percent who  
didn't find new jobs. Not only that, ''if employers took McKinsey's  
advice to increase their offshoring,'' he says, the gain would  
quickly become a loss.

In America's boom time, government-business cooperation was  
considered anathema to free-market principles -- ''Politicians  
shouldn't pick winners and losers!'' In Prestowitz's view, the  
laissez-faire trade theories of the 19th century have no place in  
2005; since he holds that many of our successes have resulted from  
public-private collaboration, most of his proposals for maintaining  
American competitiveness boil down to government taking a more active  
role. Pay teachers more. Help workers move between jobs by offering  
wage insurance and portable health coverage. Reduce oil consumption  
by providing incentives for efficient cars (and include S.U.V.'s in  
mileage regulations). Tax spending, not saving. Help strategic  
industries with federal loan guarantees and grants. Call ''a new  
Bretton Woods Conference'' to set steps for reducing the role of the  
dollar in the world economy and so defuse the trade-deficit bomb.  
Whatever you think about offshoring, most of these ideas are no- 
brainers.

Henry Blodget, a former securities analyst, writes frequently for  
Slate and New York magazine.

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