Now, most people know what Accounting profit is. For instance, if the total cost of making a wrench is 5 bucks (btw ...the numbers are not accurate, just for the purposes of making a point), and you sell it for 8 bucks, you just made yourself an accounting profit of 3 Dollars. In a nutshell, accounting profit is total revenue minus total explicit cost. Makes sense so far.
However, we now have economic profit. Economic profit looks at both explicit AND implicit costs ....which means that OPPORTUNITY COSTS are now taken into consideration. A quick example of an opportunity cost is as follows:- imagine John dropped out of high school, and now works at Burger King making 7 bucks an hour. However, had he finished high school, he could have gotten a job transcribing medical data that paid him 12 bucks an hour. Thus, dropping out of school had a cost amounting to 5 Dollars per hour.
So, going back to our first example ...you have two companies. Spetz's Wrench firm, and Cat's Super-Wrench firm.
Both of them, while based in the US, have a total cost of making a wrench of 5 Dollars, and they both sell their wrenches for 8 bucks ...thus both have accounting profits of 3 Dollars.
Now, Spetz's Wrench Shop decides to move production to Indonesia, where the cost of production goes from 5 per wrench to 1 per wrench. Now, instead of making a profit of 3 dollars, I am now making a profit of 7 dollars (selling at 8, producing at 1 buck).
Now, let's have a look at Cat's Wrench Shop ...he decides to stay in the US. He keeps making wrenches at 5 bucks an hour, and selling them at 8. Thus, he is making a profit of 3 Dollars per hour! A profit ...an accounting profit.
It looks all good at first, until you look at Cat's Economic Profit ...had Cat gone to Indonesia, he would have made a profit of 7 rather than 3. Thus, while he has an accounting profit of 3, he has an economic LOSS of -4 Dollars (8-5-7).
Thus, even though he has an accounting profit, he has an economic loss.
Now, also look at it from another perspective ...the money that Spetz's Wrench Shop has made/saved, can now be used for better marketing and advertising, or by better enriching its owners, or even simply by going into some rainy day fund just in case some day the market for wrenches dips for a year or three. Furthermore, Spetz's shop is better positioned to compete with new entrants, wrench substitutes, or whatever (anything from a shift of tastes, re-tooling, to even an all out price war) as compared to Cat's shop, which would be living on borrowed time.
That is the main reason for offshoring. Sure, it can be masked under 'they are only going there because of the slave labor' and such talk, but the fact is that it boils down to the hard financial difference between accounting and economic profit.
And as long as the opportunity gains/costs are significant enough, companies WILL continue to offshore. The only way it would change is if some external factors came in to shift the implicit costs (e.g. say cost of freight becomes too high, or wage differential between, say, Indonesia and the US evens out, or say some MAJOR incentives are given for firms to stay onshore, or the heavy stupid clumsy hand of government). Also, there are some disincentives for offshoring (e.g. the fact that your customers may speak to some person with a weird accent ), but the fact of the matter is that most customers do not really care about that! Some will, and some of those will cancel the service, but most customers will not. Thus, the economic profit garnered far exceeds the handful of customers who say no mas.
Anyways, I am not here to advocate for offshoring ...however, that is the hard financial truth behind it. This is why, unless your company has a very STRONG domestic demand market (who are willing to pay EXTRA to cover Cat's Wrench Shop from its economic cost element ....say, instead of paying 8 bucks per Wrench paying 16 bucks per wrench) ...unless that happens, companies will offshore. Looking at FR, there are many who speak against offshoring, but are not willing to pay (much) extra to 100% American companies. For many people, a wrench is a wrench. Some bemoan the fact that there are no American companies left to give them that option ...the reason for that is that many went offshore, and those that did not simply died (could not compete) with those that did, and were not fortunate enough to find American consumers willing to pay (double ...at times more) much more.
One thing about our FReepers, as well as the silly DUmmies in DUmmieland, is this ...both sides of the aisle will always buy the cheapest good/service that satisfies their need. You can be certain that the cheapest good/service that satisfies your need was not made in the US of A (outside a very defined sub-set that bucks the trend).
That's the truth.
An important note: I did NOT even add some of the unique costs that can be found in the US ...such as some unique labor costs that can be both explicit and implicit. Some of these 'costs' (to take a simple one, say Unions ....or say, some rather restrictive regulation) simply make offshoring all the more attractive. I decided not to include these for the purpose of simplicity. Add them, and Spetz's Wrench Shop would kill Cat's Wrench Shop even faster.
Also, I did not include the amplifier effect that would arise if both Spetz's Wrench Shop and Cat's Wrench Shop were LISTED COMPANIES. If we are listed, then suddenly our quarterly performance becomes VERY VERY VERY KEY (I am a Fund Manager ...though for emerging/frontier markets, and based in Africa, and I can assure you that analysts can definitely kill a company if your quarterly numbers buck projections negatively). Suddenly, if we are both listed companies, my stock jumps up ...while your stock first stagnates, and then plummets ...leading to very bad analyst calls, and shareholders asking why the heck you as Managing Director are not cutting your cost base, and before you know it the Board of Directors calls you in for a very short and shocking discussion about your future in the company! That is another factor I did not include that also has a significant impact.
Do you understand the concept of national technical advantage. Example if we invented a drug that will make old people ten years younger and cure most cancers, you keep the technology to yourself so the whole world will come to your doorstep and be willing to pay a good price for it. From that good jobs will be created, government will get good tax revenues so they can create and maintain a strong military and the whole world will be beholden to our technical, economic and military prowess. If the secret is well kept, we can have generations of prosperity derived from this one discovery.
If we use your logic, we would teach the Chinese to manufacture it, we will share this knowledge with Chinese and Indian universities so we will have available low paying technically competent biotechs to manufacture it. Unfortunately as the Chinese and Indians learn of this process thru US tech transfers and sharing manufacturing techniques they will learn to manufacture it themselves. How convenient for the globalist and corporate America because they now cry that they cannot compete (a situation they created) unless they offshore the manufacturing and labor. All they wanted to do was manipulate the global, technological and financial system to benefit themselves. The people on Main Street are onto their game and they will not tolerate it anymore.
I know what the next argument will be, no one can keep a secret, well read about the Secret of Silk and how it kept China, Persia and India prosperous for centuries.
Exactly.
But the uneducated public, which apparently includes a majority of our congress, doesn’t understand any of this.
They think that it is just a matter of the lower wage.
Wages in Asia were much lower than in the US before I was born, and that was 81 years ago.
Yet we still were king of the industrial world.
So what happened over the ensuring years?
You described it perfectly.
I hear what you’re saying. Of course, my offshoring, we put take some jobs way from our people. So people who once made a middle class living, now make a lower class living. As a result, they will buy less of product X. In theory, that is what should happen.
However, Americans have actually increased their consumption. Why? I think most of us know the answer is entitlements and Government jobs. More people work for the Government, less for companies that actually make things. This has a cost, however, as we are borrowing to finance the trade deficit and entitlement spending. This can’t go on forever and it won’t. However, it HAS gone on long enough to trick enough people into thinking it will go on forever—people who should know better. Unfortunately, people can make a lot of $$ by think short term, so its hard to argue against.
Once upon a time, we had leaders who did what was in the best LONG TERM interest of the American people. Short term think has dominated for the last 50 or so years. So, while the Economic Cost you speak of is real, its only short term. Long term, we are shooting ourselves in the foot.
“One thing about our FReepers, as well as the silly DUmmies in DUmmieland, is this ...both sides of the aisle will always buy the cheapest good/service that satisfies their need...”
“That’s the truth.”
Not for me!
I learned a long time ago that cheaper is never better nor always the same as a higher priced item. At age 58 it has been a lesson learned a long time ago - read the label for purity of ingredients (food) and especially origin, either where grown or manufactured.
I will not buy from China. I will buy from Canada or Mexico (sometimes manufactured goods, never food items from Mexico).
Always, I try to buy American made or grown, and no, I am not rich but neither am I poor. Often it is cheaper to buy second hand, particularly tools. Those made 60 to 80 years ago are usually very durable and purchasing those help the local resale market. Similiar with food. Buy at local farmer’s markets and help small farmers stay in business.
As an example using food, why should I buy French wine shipped thousands of miles to the Pacific Northwest (where I live) when we produce award-winning wine right here? Wine does not travel well so for folks on the Pacific coastline, French wine is not a good choice.
I know this doesn’t exactly address what you’re discussing in your statement but as a consumer I have to tell you, Mr. Fund Manager, that people like me look for bargains in certain things, like phone service (I rarely talk on the phone) or eliminate services such as cable (never have time to watch TV) or garbage service (I’ve found an alternative). So yes, I do have money to invest but right now it is NOT going into overseas markets but into real estate, diamonds, and gold.
Thank you for explaining in simple terms, a little bit of the technical side of decisions between domestic and foreign labor. The information enriches us in various ways. Some of those who study historical intra-national and international interactions and outcomes do see influences beyond such necessary specificities. I’m sure that you see some of the more general likelihoods yourself. This world won’t be perfect.
IMO, the US dollar will probably continue to fall, off and on, more than rising. Oil prices will rise, and so will foreign product prices (if so many investment advisors are correct about Asia).
In meetings of counties here and there, I’ve become acquainted with “environmentalists” who were employed by or related to international corporates. They were involved in zoning and other regulations against new business starts and homeowner attempts to cut their household energy costs. Nearly all of the local government employees are family members of local other business interests.
I see a country of very aggressive and defensive sole proprietors in our near future. Companies like Monsanto apparently see the same (re. ag. bills against small farms).
Quality.
When I first went from UNIX machines to Windows based (many years ago), I was appalled that anyone would voluntarily put up with the unreliable crap OS.
But business people didn't have a standard of comparison, they didn't know any better.
And from the point of view of the company *doing* the offshoring, what happens is that an easily identifiable, discrete line-item cost gets diminished, but at the cost of a lot of fuzzy, not-easily-attributed items getting larger -- turnover, schedule slippage, re-work time, customer dissatisfaction, etc.
If all major competitors offshore at once, or, if the marketing and sales and legal departments can erect enough of a barrier that customers are locked in for a time, then companies can get away with selling sh*t for a long time.
Cheers!