War, the US economy and its manufacturing base

Gerard Jackson
BrookesNews.Com
Monday 2 February 2004

Much as recently been said about American military might. The common thread is that American power will eventually decline or be superseded by another nation. This raises a vitally important question: Can America retain its superpower status without a strong manufacturing base? The unequivocal answer is no.

Let's see why. Manufacturing consists of the material means of production that makes the projection of American military power a reality. That is why America could reach into the very caves of Afghanistan in search of the murderous bin Laden, and bring down Saddam's sadistic regime in a mere three weeks.

But none of this means that American manufacturing is fundamentally strong in the sense of being able to sustain let alone successfully expand the American military if that should become necessary. Although I'm rather pessimistic about the state of US manufacturing (something to which frequent readers can testify) others are cheerfully blasé, reciting such facts as manufacturing productivity averaged 3.4 per cent a year in the 1980s and that between 1981 and 1989 total output rose (in real dollars) by about 39 per cent.

It's also pointed out by optimists that the US still leads the world in the production of all types of jet aircraft, high-tech petrochemicals, telecommunications, computers, and by 1996 was producing 46 per cent of the world’s semiconductors. Then there is the vast range of consumer goods being produced, as one would expect given the size of the economy.

Pessimists charge that much of what is being touted as economic success is mere floss, a view they would claim the recession vindicated. They cite as evidence the decline in manufacturing employment, stressing that it has fallen from 32 per cent of the workforce in 1960 to about 17 per cent today. Without a large manufacturing employment base, they argue, real wages are bound to fall as average productivity per worker declines.

Now I have to admit that this is not strictly true. In 1851 the per centage of the occupied workforce in England and Wales employed in manufacturing (including textiles) was about 33 per cent and about 37 per cent for Scotland. Today, it's about 17 per cent for the whole of Britain. But no one would argue that British living standards have collapsed.

What is frequently overlooked is that the fall in manufacturing employment has been relative and not absolute, the difference being made up by massive increases in output. In addition, the US workforce has increased enormously in the last 20-odd years. That living standards still rose as employment fell during this period is an enormous tribute to the productive power and flexibility of the American economy, despite the onerous burdens politicians have imposed on it.

The steel industry is an example of increased productivity. From 1980 to 1992 it shed 400,000 jobs leaving it with less than 180,000 employees while still producing the same level of output. This amounted to a 230 per cent increase in productivity. The optimists call this an impressive performance — and they're right.

So why the pessimism? In my opinion several things are eating away at this rosy picture. To begin with, I'm not fond of aggregates, firmly believing that they hide more than they reveal, especially the national accounts. These show that consumer spending makes up about 66 per cent of total spending.

Utterly wrong. If spending between stages of production were included consumer spending would probably drop to about 33 per cent or less. In other words, the amount spent on producer goods is what drives the economy, not consumer spending. And should the former go into a steady decline, so will living standards.

In 1928 the Dutch economist M. W. Holtrop estimated that America spent about nine times as much on producer goods as it did on consumer goods. This ratio of capital spending to consumer spending shows how massive gross savings were at the time. A ratio that made America the allies' arsenal during WWII.

So if the ratio has fallen, why haven't living standards dropped? Because of what I call the treachery of aggregates. True, the ratio has fallen but it must never be forgotten that capital is not only heterogeneous it embodies technical progress. The capital structure of 1928 is therefore not the capital structure of today, which is vastly more productive.

I believe the massive increase in the productivity of capital that has taken place during the last 80 years has concealed, with the help of Keynesian fallacies, the fact that the growth in America’s capital structure has been retarded by a combination of heavy taxation (I consider regulations a form of taxation), Keynesian inspired assaults on savings and Keynesian monetary policies, the latter being particularly pernicious.

It's is my contention that Keynesian so-called pump-priming which was fuelled by artificially low interest rates skewed the economy towards consumption at the expense of expanding the capital structure at a greater rate. In addition, this monetary manipulation has not only severely distorted the capital structure by misdirecting production it has also led to periods of overvaluation which has caused some manufacturers to shift operations abroad when undistorted marketed conditions would have led them to remain in the US.

The effect has been to keep American living standards lower than they would otherwise be. This means that it now requires greater sacrifices by Americans to expand and maintain a 21st century military structure. As technology progresses and becomes more complex, weapons and the means of defence become more expensive. A B1 costs a lot more in any currency than a B17.

I conclude that unless America encourages a significant increase in savings and abandons the Keynesian monetary policy of manipulating interest rates, she will not be able to maintain the necessary military machine to deter attack by potential enemies in the decades to come. When Japan attacked the US in 1941 she awakened a sleeping economic giant. Let us hope that 2041 will not see an attack that will destroy what remains of what was once the envy of the world.

Gerard Jackson is Brookes' economics editor

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