Diatribes of Jay

This is a blog of essays on public policy. It shuns ideology and applies facts, logic and math to economic, social and political problems. It has a subject-matter index, a list of recent posts, and permalinks at the ends of posts. Comments are moderated and may take time to appear. Note: Profile updated 4/7/12

11 April 2018

How American Capitalists Transferred Americans’ Jobs and Intellectual Property to China

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[Note to readers: I have not given up on Facebook and Zuckerberg. I am still planning to delete Facebook from my life entirely and will be reporting on how that project goes. But it’s going to take time to digest Zuckerberg’s testimony—its substance, not just his consequence- and cost-free apologies—and the level of comprehension, or lack thereof, among our political leaders. I still believe that Facebook is badly conceived and designed and incapable of managing the awesome monopoly power that its priority has thrust upon it, let alone for net social good. But I want to study and think some more before finalizing my analysis, in the hope of possibly finding some global, if not simple, legislative remedies. In the meantime, the subject of our trade and relationship with China is equally important and equally in need of clear thinking.]

Our president is a man of limited understanding and attention but ready blame. He blames Congress and its leaders for failing to pass a repeal of Obamacare that would have deprived some twenty million people of useful health insurance. He blames Kim Jong Un for a puerile war of words that he started. He blames China for “stealing” Americans’ factory jobs and intellectual property. And he blames our own prior governments for complicity (or stupidity) in China’s “theft.”

It’s true that Americans have lost millions of factory jobs over the last generation, and that many of them went to China. It’s true that China has benefited enormously from our intellectual property (IP). How else could China now make Apple’s iPhones, when we invented the transistors, integrated circuits, microprocessors and LCD screens—and wrote the software—that make them work?

Some transfer of IP to China could be called “theft.” That’s especially true today, when China is aiming its cyberespionage not just at our military but at virtually all of our important corporations.

Yet it’s also true that the transfer of jobs and technology from the United States (and other developing nations) has raised nearly a billion people out of extreme poverty worldwide, most them in China. And it’s true that the transfer of jobs and IP is party responsible for our growing economic inequality. Our very own owners and bosses got richer from the transfer—often much richer—while the workers who lost their jobs and prospects got poorer.

But the dirty little secret of China’s “economic miracle” and our relative decline is that the vast majority of our transfer of jobs and technology was voluntary. It was in American capitalists’ interest. They made it not just willingly, but enthusiastically. This essay analyzes the incentives, how and why the transfers occurred, and the implications for future policy.

To understand what happened, you have to remember that China was an economic pariah after World War II. Not only was it devastated by several decades of brutal Japanese occupation and the long catastrophe of war. It was also just emerging from a two-century-long slump, in which its territory and exports had been diced up and parceled out to colonial powers, most recently Japan. During all that time, China had never been strong or unified, not until Mao Zedong won his Communist Revolution and unified China as the People’s Republic in 1949.

So it wasn’t as if China had a lot of leverage to begin with. In the fifties it developed nuclear weapons, but its conventional forces were all focused on the home front and shaky neighbors like Korea and Vietnam. Economically, it was a basket case, unable to feed itself. It remained so—in part due to Mao’s whimsical economic policies—until Deng Xioaping took over in 1978. That was just 40 years ago.

As China embarked on its economic miracle under Deng’s pragmatic leadership, what leverage did it have over the US or, for that matter, any nation in the West? It had only two things: (1) cheap labor and (2) a big potential market. In many cases, the big market remained potential, not actual, until the standard of living of enough Chinese rose to a level that could support the purchase of expensive products like radios, TVs, cars and modern kitchen appliances. That transition is still ongoing, especially in China’s remote west and countryside.

Yet both the lower labor costs and the big market potential were strong inducements to our own capitalists. America’s economy had begun to mature after its postwar boom, and many domestic markets for goods began to saturate. Our Western competitors in Europe and Japan had still not recovered fully from their wartime devastation, and so their labor costs were generally lower than ours. Therefore manufacturing in China, with its lowest-of-all labor costs, was an attractive proposition for owners of our businesses.

China’s lower labor costs offered three benefits. First, they let us undercut the prices of our competitors in Europe and Japan. Second, if our firms could sell at the same prices with lower labor costs, they could make more profit.

But the third benefit was the clincher. When lower labor costs lets you lower your prices, the economic law of supply and demand lets you sell more product. Lower prices mean more sales. By managing their prices right, our capitalists could expand their businesses and make even more profit from bigger markets and increased sales.

So exploiting China’s lower labor costs was a no-brainer for our factory owners. Not only did it allow efficient entry into China’s huge and untapped market, which for many of our manufacturers was virgin territory. More important, by allowing factories in China to make goods at lower prices than ever before possible, it boosted our sales in Europe and here at home. We could sell more product even in saturated markets, and even against European and Japanese competition.

So of course our capitalists were eager to strike trade agreements that opened our domestic markets to goods made in China. Their doing so was hardly a concession, but a measure in their own direct interest. At the outset, our domestic markets were bigger than China’s, and the lower prices that cheap Chinese labor made possible made our own markets bigger still. It was only as time went on that Chinese markets, especially for more “high-tech” goods, developed to the point of rivaling our own markets for sales.

Making goods inside China also had another benefit, for the Chinese market. Products made in Chinese factories, even if owned by Americans, were domestic products in China and therefore not subject to Chinese tariffs or other Chinese entry barriers.

Thus manufacturing in China was imperative for any American company that could manage it. The lower prices it permitted increased sales here at home and in the developed world. The presence in China avoided Chinese entry barriers. So the resulting increase in sales and profit was low-hanging fruit. (It was only later that entry barriers on services like banking became important, after we lost so many manufacturing jobs to China.)

Our capitalists could even convince themselves that manufacturing in China was good for American consumers and workers. After all, with China’s low labor costs lowering prices for imports into America from China, American workers could buy more stuff. In fact, China’s low wages were part of what led to the rise of “big-box” stores like Wal Mart and Costco, where workers could buy low-cost goods, many from China, in bulk.

Of course it was and is the business owners, through their lobbyists and bought pols, who determine trade policy. Trade policy was never much on workers’ or even unions’ radar, at least at the outset.

Anyway, it all seemed like such a win-win proposition. Chinas workers got lifted out of poverty. China slowly moved from economic pariah, to rapidly developing country, to (some day soon) the world’s number-one economy. And American firms with factories in China became world-leading multinationals by virtue of their lower prices and their advanced technology, which American capitalists willingly transferred to their Chinese factories in order to achieve and maintain global market leadership.

The problem was that American capitalists did not see (or care much about) the inevitable long-term consequences of manufacturing in China. All they saw was the easy money and the chance to build their global empires quickly. It was all just another reflection of our dismal national penchant for short-term thinking—the same kind of thinking that led our bankers to perpetrate the Crash of 2008.

Now we are suffering at least three consequences of this “strategy,” if you can call it that. First and foremost, millions of American manufacturing workers have lost their good jobs. As more and more did, their standards of living declined, and they became unhappy Trumpets. After all, cheap goods at Wal Mart don’t increase your standard of living if you have no job, or if you have to work at Wal Mart instead of at a $25-per-hour factory job with lifetime employment and full benefits.

This is the sad reality that has made Trump president. It might even have made Bernie president if Hillary hadn’t stood in the way.

The second consequence of the manufacturing exodus to China is just coming to our attention now. Some goods are strategic: they are essential to any nation’s economic and military strength. As you send more of your ability to make them abroad, your economic and even military power begin to depend on the kindness of strangers.

Some goods in this category are basic commodities, such as steel and aluminum. The fact that they are strategic is one reason why Trump is proposing tariffs on Chinese and other foreign-made counterparts.

But some goods in this category are high tech—things like integrated circuits, computer chips, cell phones, and organic computer screens (OLEDs). As time goes on and China’s manufactures become more sophisticated, the number of categories of strategic manufactures controlled by China will rise. This is already happening, for example, with solar panels—a fact that motivated Trump’s imposition of tariffs on them.

The final consequence of our capitalists’ transfer of manufacturing to China is perhaps the most important in the long term. That very transfer has been the primary driver of the economic inequality that is tearing our country and our politics apart, that has motivated a turn to the hard right, and that has brought us Trump’s authoritarian leadership.

The sad fact is that millions of American workers did not gain any net benefit from the massive transfer of factories to China. The vast bulk of the net benefits went to the business owners and the investing class, the 1%.

Not only did millions lose their good manufacturing jobs or have to take jobs at lower pay and with fewer benefits. Those who remained in manufacturing here at home often had to take lower pay and fewer benefits due to competition from China. In fact, competition from China and other low-cost places like Mexico and Bangladesh is primarily responsible for the decline of unions and collective bargaining that used to guarantee American workers useful social leverage and a good life. (The recent teachers’ strikes in West Virginia, Kentucky and Oklahoma remind us that, at the end of the day, collective bargaining is about the only reliable leverage that ordinary workers will ever have.)

So who’s responsible for these consequences? Trump blames China. But should China have foreseen and avoided them when American leaders didn’t, thereby perhaps foregoing or lessening China’s own economic miracle? When in human history has any nation done the like for a trading partner, or a rival, whose own leaders failed to act?

Trump also blames unnamed prior trade negotiators, calling them “stupid.” But should trade negotiators get the blame for what the industrialists for whom they ultimately work failed to see or demand? Maybe labor unions should have had more foresight and been more proactive. But they had their hands full just overseeing multi-employer bargaining agreements in which each American employer played its own workers off against the others’, as well as against foreign competition. Our unions were blindsided by the whole “ship-plants-abroad” phenomenon and had little leverage over it.

Today, as these consequences become patent and painful, four things are also becoming clear. First, blaming is not going to reduce the pain one whit. Indeed, blaming historically has been un-American. We Americans used to solve problems, not just complain and blame. At least we did (with a few deviations by Nixon) until Trump came along. Not only that: blaming China when the prime movers were our own capitalists is only going to make negotiation and diplomacy harder, incite counterproductive nationalism in China and our other trading partners, and accelerate the already dangerous worldwide trend toward fascism.

Second, China is well aware of the problems. That’s probably why Xi Jinping has already made conciliatory gestures and an open offer to negotiate with Trump. Xi knows enough about our domestic politics to threaten tariffs on agricultural goods that will hurt Trump’s rural supporters. Surely he’s smart enough to see that increasing worker unrest and economic inequality in America is no good for long-term geopolitical stability or for China’s continuing sales here. And recall that China has additional massive investments in America through its ownership of trillions in treasury bills.

Third, the problem is, in essence, an international and global one. China and America must negotiate a fair allocation of manufacturing—including of strategic goods—that maintains both economic stability and strategic, geopolitical balance. If they don’t, the alternatives are an unsustainable and unstable global economy and increasing political unrest or, worse yet, a devastating trade or even “hot” war. Those outcomes are in no one’s interest, let alone our or China’s children’s.

The fourth clear thing is the most challenging. The very principles of “free trade” and the so-called “international order” need rethinking.

The starting point can no longer be some pure, abstract model of maximizing “economic efficiency,” divorced from practical effects on workers and politics. The world’s leaders have tried that, and it hasn’t worked. The results have been despair and rebellion among workers in “advanced” countries, a global backlash against immigration, and an increase in nationalism and populism to rival that which led to World War II. The new international trading order must be based on practical political horse-trading that improves people’s lives worldwide, not on abstract economic theory that often neglects vital human realities.

Fortunately, Xi Jinping is among the smartest and most skilled national leaders in human history. From the earliest days of his emergence as a national leader, he has done his best to keep Chinese nationalism in check, even as China has broken its two-century slump and become the most rapidly rising power on Earth. That’s all to the good.

But I’ve been scratching my head trying to figure out why a man so skilled destroyed one of the world’s most advanced political executive systems (China’s) by making himself president for life. The only answer that makes sense is that he knows how difficult and how long will be the negotiations to arrive at a new world trading order that takes employment, workers’ lives and economic equality into account. So perhaps he installed himself as China’s permanent leader in order to make achieving that new order peacefully his life’s work. Only by doing so can Xi allow China’s economic miracle to continue and avoid another long slump for China.

If I’m right about that, we will need a leader of similar skill, finesse and intelligence on our side to serve as Xi’s negotiating partner. Trump self-evidently doesn’t qualify, so Xi will have to manage him, at least until Trump can be impeached and/or replaced. That shouldn’t be too hard; in modern times Chinese leaders have consistently thought longer-term than ours; and now Xi is in a position to take the long view.

In contrast, Trump’s core focus is on an angry and deluded “base” and the explosive forces of nationalism, xenophobia, bigotry and worker angst. These forces will not be helpful in the difficult, sustained and delicate negotiations to arrive at a new trading order that treats all workers globally fairly and doesn’t leave large swaths of workers clamoring for economic vengeance or even war. That sort of clamoring leads directly to fascism. In the nuclear age and with global warming accelerating, it threatens extinction of our species.

At the end of the day, part of the blame lies with economists. Classical economists focused on abstract notions of economic efficiency and avoiding “distortion” of purely abstract models of “free markets.” They failed to take into account the practical effect of so-called “free trade,” as practiced by Western capitalists, on workers’ lives and fortunes and, indirectly, on politics. Now those effects have risen up to bite us all, worldwide and big time. So we’ve got to adjust and revise the system to reduce global human angst. There is no other way.

Having failed even to anticipate the developed world’s current distress, economists should have little to say about how negotiations play out. The goal should not be satisfying abstract, theoretical economic models that somehow always tend to neglect important human realities. It should be satisfying the needs of the world’s people for some semblance of stability, equality and a secure future for themselves and their families, through political horse-trading year-by-year and decade by decade. Pols will have to keep an eye on economics, but they will have to take the lead.

The task will be even more difficult, and probably will take longer, than establishing the current postwar trading regime. But the goal will be just as serious and important: avoiding geopolitical dislocation and military conflict at a time when our species must cooperate assiduously to find substitutes for fossil fuels as they run out, and to curtail the global warming that burning them causes. If we cannot do at least as good a job as we did in creating the existing trading regime, our future as a species is not auspicious.

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