The 2-Minute Thought: The Stories We Tell About Manufacturing

There are all kinds of narratives about manufacturing.  The old narrative from pre-financial crisis days was that globalization was taking manufacturing away from developed economies and giving it to emerging markets that had cheap labor.  The 2000s were all about the hollowing out of textile mills in the U.S. while China became manufacturer to the world. 

Since the financial crisis, that narrative has changed.  Globalization – or at least the global trade in goods – has slowed.  The rise of automation and new manufacturing technologies has made cheap labor less of a competitive advantage.   And in one of the new narratives that has arisen today, what matters now is not cheap production, but smart innovative production.

That is the narrative of Antoine van Agtmael in The Smartest Places on Earth and James Fallow’s Atlantic article, “How America is Putting Itself Back Together.”   It is a tale of manufacturing renaissance in once-abandoned industrial centers in America’s rust belt.  Old industrial plants have been given new life, and the new competitive advantage is no longer cheap labor, but cheap real estate combined with innovation. 

Thus, Akron, Ohio has been able to transform itself from an old tire manufacturing center to a leading innovator in advanced polymers.  And North Carolina has shifted from traditional textiles to advanced synthetic materials resistant to heat and chemicals. 

But in contrast to this optimistic tale, there is a very different narrative that Columbia finance professor Bruce Greenwald has been talking about.  That is the tale of global manufacturing becoming so productive that it creates global glut, deflationary pressure, and possibly its own demise.  

According to Greenwald, and contrary to economists like Northwestern University’s Robert Gordon, manufacturing productivity is very high.  Greenwald says productivity growth in manufacturing is 5 – 7%, while growth in the demand for manufactured goods is only 2 – 3%.  

That means manufacturing countries don’t have enough domestic demand to support full employment and so need to export.  But not everyone can export their way out of the problem.  When everyone tries, it creates chronic deflationary pressure.

Greenwald says the situation not dissimilar to what happened in the agricultural sector ahead of the Great Depression.  In the 1920s, 35% of the U.S. labor force worked in agriculture, productivity growth far outpaced demand, and farmers were producing more food than ever.  But prices collapsed because there was a natural limit to how much food one could consume, and a major structural shift was required to get people out of farming and into the factory.

Today, just as was the case with agriculture, there is a natural limit to how much the global economy can spend on manufactured products.  As households get wealthier, they spend less on manufactured goods and more on services like education, health care, financial services, and personal services.  That means the policy prescription for manufacturing countries like Germany, China, and Japan is to make a big structural shift toward becoming a big, powerful, effective service center.