Building the New Economy

Ahead of the Oct. 29 'Building the New Economy' conference in Washington [1], one can state the obvious: something has gone terribly wrong with the U.S. economy. But chalking up the blame to a few bad apples on Wall Street and their risky financial instruments, and responding by simply providing appropriate regulation in the financial services sector, will ultimately be unsatisfying. There are much deeper, structural issues which must be urgently addressed. Otherwise, the absurd positive feedback loop will continue: consumer debt, subsidized Chinese imports [2], American job loss and factory closures, the growing U.S. current account deficit, burgeoning Chinese currency reserves reinvested in American debt ... These will only inflate new bubbles and reinforce our current problems.

Some of us warned that this day would come. We knew that an economic strategy predicated on replacing wage growth with debt and credit to maintain a certain standard of living was doomed to fail. We knew that this nation could not replace manufacturing jobs and their multiplier effect, as well as their positive impact on the trade balance and wealth generation, with lower-wage service and retail jobs. We knew that our national security would begin to suffer if we did not have a vibrant manufacturing base to resupply our troops and provide armaments for the future. We knew that if our leaders viewed international trade as a foreign policy tool and a path to cheap imports, rather than as an essential element for economic growth and domestic production, the consequences would be disastrous.

The warnings came not only from labor leaders, domestic manufacturers, and an insightful group of elected officials -- they came also from very traditional economic quarters. Well before this new, great recession began, Warren Buffet said "Our trade deficit has greatly worsened, to the point that our country's 'net worth,' so to speak, is now being transferred abroad at an alarming rate. A perpetuation of this transfer will lead to major trouble." Martin Feldstein -- former Chairman of President Reagan's Council of Economic Advisors -- said, "The present level of the current account deficit is enormous, it is unprecedented and I believe it is unsustainable."

The consequences have been dire. More than 50,000 manufacturing facilities have shut their doors over the last decade. They weren't making buggy whips; they were manned by some of the most efficient workers in the world. Now, we already have large and growing trade deficits in sectors such as advanced technology and clean energy, even though these supposedly represent "new economy" sectors and the jobs of the future in the eyes of many.

The failure of our domestic and international trade policies to support manufacturing must be quickly reversed. We urgently need a national manufacturing strategy. The idea of a manufacturing strategy or industrial policy is hardly a radical concept. Alexander Hamilton constructed America's first industrial policy in 1791. Setbacks during the War of 1812 due to a lack of domestic capacity to build naval vessels and military equipment cemented the determination of the federal government to grow manufacturing, a policy that continued until the end of World War II. Globalization and economic approaches such as a strong dollar policy favoring domestic consumption have helped to steadily erode manufacturing as a percentage of Gross Domestic Product, private sector employment, and other key measures. If today's leaders spent more time focusing on Hamilton and less time on Adam Smith and David Ricardo, I don't think we'd be facing the prospects of a jobless recovery.

The idea of a manufacturing strategy is also not a partisan one. President Reagan -- spurred on by a Democratic Congress -- adopted a flurry of measures to counter a grossly imbalanced trade relationship with Europe and Japan in the 1980s. The Plaza Accords, which raised the value of currencies in Japan and Europe relative to the dollar in a managed way, had a positive effect on lowering our trade deficit. Key government investments in the semiconductor industry and other technologies spurred their development and commercialization. President Reagan signed into law enhanced Buy America requirements for certain infrastructure projects to boost domestic employment. His Administration implemented the Market Oriented Sector Specific ( MOSS) talks with Japan that focused on market access with measurable results.

Apply those principles to the economic challenges of today, and you have the foundation of a manufacturing strategy: raise the value of China's yuan to market-based levels, invest in value-added manufacturing such as clean energy and industries with strategic significance, and engage in serious bilateral talks with China to ensure that it honors the commitments it made upon entry into the WTO in 2001 to eliminate its myriad mercantilist and protectionist policies. Finally, keep Buy America requirements in place so that tax dollars are re-invested in our economy and the employment benefits of infrastructure spending accrue not only to the construction industry, but also to our manufacturers.

But a successful manufacturing strategy must go deeper than that. We must provide access to much-needed capital for small- and mid-sized manufacturers to help capture new clean energy markets, both here and abroad. At a time when access to capital is still very tight, a public commitment like this is essential. Moreover, those who say the market alone should dictate winners and losers forget three important lessons. First, some of the greatest innovations since World War II -- the semiconductor and the Internet -- were developed with public assistance. Second, our policies already pick winners and losers, but we tend to pick the wrong winners -- those who profit through selling cheap, subsidized imports, or those companies heavily invested in fossil fuels. Let's pick winners in more productive, sustainable, and wealth-generating activities like domestic manufacturing instead. Third, other nations are aggressively supporting emerging industries like clean energy. Unless we want green manufacturing jobs created in Shanghai instead of Cincinnati, or Dusseldorf instead of Denver, we must support domestic development of these industries.

A key component of any manufacturing strategy must be public investment, especially in infrastructure. The American Recovery and Reinvestment Act made a down payment on infrastructure investment, but our nation will still be hampered by what the American Society of Civil Engineers estimates is a $2.2 trillion deficit in infrastructure investment over the next five years. Improving our infrastructure provides a greater return on investment for taxpayers than tax cuts and virtually every other form of spending. In the process, it boosts construction jobs, stimulates demand for manufactured goods, and improves productivity and economic growth by making transportation more efficient. According to a recent study by economists at the University of Massachusetts at Amherst, ensuring that the materials purchased with tax dollars for infrastructure projects are sourced domestically creates 33 percent more domestic manufacturing jobs.

The cost, supply, and composition of energy resources consumed by our manufacturers must also be considered, especially in the context of federal and international efforts to reduce greenhouse gas emissions. It would be a grave mistake to put our energy-intensive industries at a competitive disadvantage as an unintended consequence of seeking to control greenhouse gas emissions. America can lead on climate change, but only if we can also prevent job and carbon leakage which would make our economic and environmental challenges even more difficult.

We must also look at changes to the federal tax code to incentivize domestic production, allow hard-hit manufacturers to make investments, and explore a Value Added Tax structure to give our exports a boost. Finally, our skills and training system has been decimated. We need to invest in a seamless, four year program of high school vocational and technical programs and community college-level technical training to prepare young people for manufacturing careers.

Does anyone still believe it is a good thing to outsource not only our manufacturing but also our debt financing to China? Revitalizing manufacturing, reducing our trade imbalances and bringing down our public debt are interconnected. We need a results-oriented trade and manufacturing policy. Let's put our ingenuity and innovation to work, and let's get government policy working for us.