Last week, I wrote about the recent work of Michael Spence, professor of economics at NYU’s Stern School of Business, professor and dean emeritus at the Stanford Graduate School of Business, and the recipient of the 2001 Nobel Prize in economics.
In The Evolving Structure of the American Economy and the Employment Challenge, which was published in March of this year by the Council on Foreign Relations, Professor Spence and co-author Sandile Hlatshwayo, examined the impact of globalization over the last twenty years. They divided the economy into two segments: tradable and nontradable. They then looked at the trends in each segment by analyzing data from 1990 to 2008 from the US Bureau of Labor Statistics and the Bureau of Economic Analysis. Their analysis uncovered a tale of two very different economies.
The tradable sector includes those parts of the economy most subject to global competition from foreign companies and suppliers, - e.g., manufacturing, energy, back-office services. It significantly improved its value added per job or productivity, but had negligible incremental employment, primarily because a growing number of jobs have been moving offshore. The nontradable sector, which includes those parts of the economy which must be produced and consumed locally, - e.g., government, health care, construction, - had virtually all the job growth during this period but significantly lower value-added.
As they wrote in the Executive Summary, the employment picture does not look good over the next several years, perhaps longer:
“Given the prospect of slowing employment growth in nontradables and rising competitive pressure on tradables, major employment problems in the near future are a certainty. Even if the nontradable sector is able to continue to absorb the growth in the labor force, pressure on wages and salaries will be downward, and consequences for income distribution unavoidable.”
“To create jobs, contain inequality, and reduce the U.S. current-account deficit, the scope of the export sector will need to expand. That will mean restoring and creating U.S. competitiveness in an expanded set of activities via heightened investment in human capital, technology, and hard and soft infrastructure. The challenge is how to do it most effectively.”
His views on these highly complex and politically charged challenges are among the most rational, pragmatic and non-ideological I have seen. I will attempt to summarize them using material from both papers.
The US jobs problem is very serious
He frames the problem in the first few paragraphs of the What Matters essay:
“There is little doubt that America’s social contract is starting to break. It had on one side an open, flexible economy, and on the other the promise of employment and rising incomes for the motivated and diligent. It is the second part that is unraveling.”
“Incomes in the middle-income range for most Americans have stagnated for more than 20 years. Manufacturing jobs are moving offshore. Globally, the set of goods and services that is tradable is expanding, but the United States and other advanced countries are not competing successfully for an adequate share of the tradable sector.”
The marketplace cannot solve the jobs problem on its own
Why is this happening? Is it a market failure in the conventional economic sense? Not at all, he writes
“The markets are doing what they are supposed to do: searching for and employing valuable human (and other) resources on a global basis. The problem is rather a distributional one for advanced countries. The global market forces and competition may result in the creation of too few employment opportunities at adequate income levels in these countries, and in particular in the tradable sector. Remember that the set of goods and services that is practically tradable is expanding because of transportation and information-technology innovations.”
“The transactions costs of complex and geographically dispersed supply chains are coming down because of a combination of management expertise and information technology that allows efficient coordination of complex, geographically dispersed systems. The costs of remoteness are declining, or, as Thomas Friedman would say, the world is becoming more flat.”
Can we just wait for the invisible hand to fix the problem on its own? Can we trust self-regulating open markets to adjust to the forces of globalization and fix the employment problem with little or no public sector intervention? His answer is short and to the point:
“One possible response to these trends would be to assert that market outcomes, especially efficient ones, always make everyone better off in the long run. That seems clearly incorrect and is supported by neither theory nor experience”
Doing nothing could lead to an outbreak of protectionism around the world
Professor Spence is particularly worried that not addressing the problem could eventually lead to an outbreak of protectionism in the US and other advanced economies experiencing serious employment problems.
“In principle, one could restrict access to the domestic market by foreign suppliers. This generally falls under the heading of protectionism, risks reciprocal action, and sets an escalating pattern almost certain to cause more harm than good. Further, it raises prices for many goods for the whole population. It is not a good idea when carried out aggressively on a broad front. The G20 is right to caution repeatedly about widening protectionism. A preferable approach is to accept globalization but to look for domestic policies that will reduce the distributional impact at home. To avoid an outbreak of protectionism, there has to be an alternative.”
We must establish national public-private partnerships to deal with the employment problem
What are some of the things we can do to address the job problem? Doing nothing is not an option. Neither is heavy handed industrial policy, where the government picks winners and losers, pretty much on its own.
But, there is a lot of room in between these extremes for growth-oriented strategies that rely on close cooperation between the public and private sectors. “Market forces operating in the global economy are powerful. It is not reasonable to define the challenge as resisting or overriding them. But the goal must be to shift incentives at the margin so as to improve the distributional effects in U.S. favor.”
For example, “. . . we need new technology investment with public support. A broad public-private partnership to invest in the development of technology in parts of the tradable sector where there are opportunities to make advanced countries competitive could help restore competitiveness and growth. The goal must be to create capital-intensive jobs that have labor-productivity levels consistent with advanced-country incomes.”
“These investments generally have the effect, in advanced and developing countries alike, of raising the return to private investment, causing the latter to expand in scale and scope and employment along with it.”
Professor Spence calls for investments in higher education, fundamental research and infrastructure. Just about every major study, like the 2004 National Innovation Initiative, that has analyzed what must be done to improve US innovation and global competitiveness has made similar recommendations.
More specifically: “It is probably a good idea to explicitly target some of the public-sector investment at technologies with the potential to expand the scope of the tradable sector and employment. Co-investment with the private sector, which has relevant knowledge about where these opportunities might be, would make sense. This public investment would have the effect of shifting private incentives so that they are better aligned with social objectives.”
“Multinational firms operating in the tradable sector have access to abundant supplies of relatively low-cost labor in the global economy. In this kind of environment, the payoff to investing in capital-intensive technologies that increase labor productivity in high-income countries in the tradable sector is minimal. However, that incentive can be shifted somewhat with public-sector co-investment that would lower the private sector’s cost of investment. The shift of incentives would expand the employability of domestic citizens in the tradable sector.”
SEMATECH is a concrete, successful example of such a public-private partnership. It was founded in 1986 as an alliance between the US government and 14 US-based semiconductor companies to conduct advanced R&D on common manufacturing problems and help regain US competitiveness. Ten years later, once the US semiconductor industry had regained strength and market share, SEMATECH stopped receiving US government support. Its focus then shifted from a consortium involving only US-based companies to one encompassing major international semiconductor manufacturers.
The German economy has weathered the global financial crisis of the last few years better than most, helped, at least in part, by close cooperation between its public and private sectors. “German reforms of the past decade have been designed with competitiveness and employment in mind. . . Subject to more detailed investigation, it looks as though the preservation of employment was part of a broad agreement among business, labor, and government, and that sacrifices were made to achieve this objective in the area of income growth.”
Global coordination is essential
These public-private partnerships aimed at stimulating growth and creating jobs in the tradable sector need to take place at the national level. But, there are important international dimensions as well, especially if we want to preserve an open global economic system. In particular, close cooperation is required between the slow growing advanced nations and the fast growing emerging economies.
“The major emerging economies and the entire developing world have a large stake and an intense interest in the restoration of growth momentum in the advanced economies, as well as in the maintenance of the openness of the global economy. If the advanced countries developed credible growth strategies, the emerging economies may very well be willing to play an important complementary role.”
“As implied in the last remark, the United States and the developed countries could use some external help. Armed with a fairly well-developed plan to restore growth while maintaining an open economy, the United States could reasonably go to the surplus countries and ask them as part of a larger bargain to help restore global demand by making, over time, the structural shifts that would lead to a maintenance of growth and openness and a reduction in the excess savings. The plans will differ across the surplus countries because of different initial conditions, stages of development, and structural challenges. But they should all be similarly specific with respect to timing and content.”
We must address the jobs problem to preserve our American Social Contract
Open markets, free trade and globalization have many benefits. They have been the main engines of productivity, economic growth, and higher standards of living around the world. But, along with their benefits come some serious side effects that we have to address, especially stagnant real wages and a lack of good jobs for mid-income workers, and a sharp rise in the inequality of incomes. If not properly dealt with, these issues could result in the unraveling of America’s social contract.
“These structural issues deserve attention and debate sooner rather than later. A broad discussion involving policymakers, business, labor, universities and research institutes, and concerned social organizations is needed, in part because the knowledge required to create and evaluate possible responses is highly decentralized. . .”
“Assuming that the markets will fix these problems by themselves is not a good idea; it may be approximately true for the global economy as a whole, but is not necessarily for its parts. In truth, all countries, including successful emerging economies, have addressed issues of inclusiveness, distribution, and equity as part of the core of their growth and development strategies. Now advanced countries will need to follow suit. Confronting the tension between efficiency and distribution and attempting to strike an appropriate balance is critical.”
“The late Paul Samuelson once said that every good cause is worth some inefficiency. Morally, pragmatically, and politically that seems right. Delivering on the opportunity part of the social contract is one such cause.”