America`s New Economic Problem

Few economists have come to terms with the meaning
that offshore production of goods and services has both
for the US economy and for the operation of US economic

One of the main reasons for the rapid expansion of
the US trade imbalance is offshoring. When a company
closes a plant in the US and moves its production for US
markets offshore, domestic production is turned into
imports. Some additional impacts of offshoring are
rising foreign ownership of the US stock of capital,
increased payments to foreigners that result from the
growth in this ownership, and pressure on the

US dollar`s value
and role as

world reserve currency.

There is also impact on the efficacy of US economic
policy tools. Traditional methods of stimulating
consumer demand are now less effective. They might cause
a rebound in sales, but the follow- through to domestic
employment is diluted as the response to demand is met
by foreign labor. There is now a large new "leakage,"
as increases in domestic demand are met by offshore

This leakage from offshore production is in addition
to the traditional leakage from foreign trade.
Economists have long understood that some part of rising
consumer incomes during an economic recovery will be
spent on imports and can result in leakage if the
domestic economy is expanding more rapidly than the
economies of trading partners, thus resulting in a trade
deficit. With so many American brand name goods now
produced offshore, a pickup in domestic demand
immediately translates into jobs and wages for offshore
workers. During the current economic recovery, three
million US manufacturing jobs have been lost, hours
worked have declined, and there has been no gain in real

for the vast majority of Americans.

Moreover, as US capital and technology are shifted to
the employment of labor abroad, there is less boost to
US consumer demand from productivity-based growth in
real income. The effect, then, of offshoring production
for US markets is to weaken the effectiveness of
traditional economic policy tools.

As official US economic reports make clear, and as
Charles McMillion at

MBG Information Services
has emphasized, the current
economic expansion has been driven primarily by US
household dis-savings and by government red ink. For the
sixth consecutive quarter, consumer spending has
exceeded total disposable income.

There are limits to a debt-based expansion. The
housing boom, which stimulated consumer spending through
refinancings, has come to an end, and more households
have reached their limit on credit card debt.

As the high tax rates of the

pre-Reagan era
no longer exist, supply-side tax rate
reductions cannot deliver the

punch of a quarter century ago.
Easy money can
encourage more debt, but households have fewer assets
and income streams to mortgage. New domestic investment
spending by US business weakens as cheap foreign labor
draws US capital, technology and business know-how
abroad. The bulk of new foreign investment in the US
consists primarily of the acquisition of existing assets
rather than new investments in plant and equipment.
Therefore, the move abroad of US capital and technology
is not offset by foreign investment in the US.

The access of US corporations to low wage foreign
labor has produced an effective divergence of interests
between US shareholders and US labor. With stock prices
and CEO remuneration closely tied to quarterly results,
there is strong pressure to move jobs offshore in order
to lower labor costs and improve reported earnings.

In the past unions and managements fought over the
level of wages and benefits. However, most economists
believed that wages were in keeping with labor
productivity. With offshored production, the large
excess supplies of labor in countries such as China and
India keep wages associated with offshore production
below the productivity of labor.

Consequently, the measures used in the US to
determine the success and tenure of corporate management
and boards result in a divergence between the interests
of capital and labor that favors capital.

As the large excess supplies of Asian labor are
unlikely to be absorbed except over the long-run,
addressing the new American economic problem would seem
to require a change in the criteria used to measure
corporate success.

Economists refuse to acknowledge the problem, because
they believe it has protectionist implications and that
nothing can be worst than protectionism. Indeed, so many
economists have emotional commitments to free trade and
professional commitments to globalism, that they are
incapable of acknowledging that there is a problem.


Herman Daly
and I have emphasized, offshoring is not
a manifestation of free trade based on comparative
advantage. Offshoring is labor arbitrage or capital`s
pursuit of absolute advantage in low cost labor.

Moreover, the classic case for free trade has
troubles of its own. The case depends on

two conditions that no longer exist
: the relative
immobility of capital internationally, and different
relative cost ratios of producing tradable goods in
different countries. Today capital is as internationally
mobile as traded goods, and knowledge- based production
functions are not affected by climate or geographical
location. Their operation is the same regardless of
location. New original work in trade theory by

William Baumol and Ralph Gomory
challenges the
correctness of the classic case for free trade even when
its two conditions are met.

The longer economists wait until they address the new
economic problem, the more the ladders of upward
mobility in the US will be dismantled and the more
political stability will drain from the US. In the 21st
century, US job growth as been restricted to domestic
services. The longer the growth of new US jobs is
restricted to domestic services, the more difficult it
will be to restore job growth in export and
import-competitive sectors of the economy and the more
the US will come to resemble a third world economy.

I call on economists to get their heads out of the
sand and to put on their thinking caps.



Paul Craig Roberts

] was Assistant
Secretary of the Treasury in the Reagan Administration.
He is the author of

Supply-Side Revolution : An Insider`s Account of
Policymaking in Washington
and the Soviet Economy

Meltdown: Inside the Soviet Economy
and is the co-author with Lawrence M. Stratton of

The Tyranny of Good Intentions : How Prosecutors and
Bureaucrats Are Trampling the Constitution in the Name
of Justice
. Click

for Peter
Forbes Magazine interview with Roberts
about the recent epidemic of prosecutorial misconduct.