Outsourcing and other trivial pursuits

Alan Reynolds
Posted: Mar 11, 2004 12:00 AM

The unemployment rate has fallen by half a percentage point over the past six months. If it merely continues to drop at the same pace, unemployment will be 5.1 percent in another six months (August) and below 5 percent before the election. Unemployment would then be the lowest ever for any president seeking reelection -- lower than it was for Nixon in November 1972 (5.3 percent) or for Clinton in November 1996 (5.4 percent).

If Sen. Kerry had hoped to make a big political issue out of an unemployment rate that is likely to be below 5 percent by election time, he had better start trying to change the subject as soon as possible. And his never-ending wisecracks about Herbert Hoover could to backfire, too, because Hoover enacted the same policies key Democrats now recommend -- namely, higher tax rates and tariffs.

Another non-issue that is sure to grow tiresome within a few more months is the maniacal anxiety about imports of business services -- a trivial pursuit that would have gotten no attention at all had it not been deviously mislabeled as "outsourcing."

That is not what outsourcing means. Outsourcing means having business services done by specialist firms rather than inside a manufacturing or financial firm. When I was a vice president at a Chicago bank, we had an entire floor of attorneys and a few dozen economists on the payroll. The bank could have gotten better service for less money by putting legal firms and economic consultants on retainer. It often makes sense to also let specialist firms handle accounting, employee benefits and payroll. That is outsourcing.

What uninformed politicians and journalists mean by "outsourcing" is importing services. They would have you believe the United States has suddenly been importing many more services. Yet the increase in service imports last year was precisely zero.

From 1997 to 2000, by contrast, U.S. service imports grew by 9.7 percent a year. So why did the media start fussing about imported services only after such imports stopped growing? Politics aside, this makes no more sense. Outsourcing is a senseless name for nonsense.

U.S. imports of both goods and services grew by 10.5 percent a year from 1992 to 2000 in real terms, but by only 1.5 percent a year from 2000 to 2003. Nobody complained about losing jobs to imports while imports were growing rapidly. The pretense that Americans are losing jobs to imports did not gain political traction until imports turned stagnant. Turning facts on their head is, of course, a familiar symptom of election-year mania.

Trade warriors have been staring down the wrong side of their canons -- imports, rather than exports. Imports have been weak for three years, but exports have been even weaker. That matters because the United States is by far the world's largest exporter of goods -- China ranks fifth. U.S. merchandise exports rose by 6 percent a year from 1990 to 2001, while exports from Europe grew by only 4 percent a year and exports from Japan by 3 percent. The United States is the world's largest exporter of services by an even wider margin -- India ranks 21st. Like China, India's imports of commercial services have doubled since 1995. Although India did achieve a tiny surplus in services in the past two years, the country has a sizable overall trade deficit.

By the fourth quarter of 2003, real U.S. exports of services were 5.2 percent higher than a year before. That is, the United States was exporting more "outsourcing" services, though service imports were flat. Real exports of goods were 7.2 percent higher. But those gains were still not enough to get exports back to where they had been before the global recession. Real U.S. exports in 2003 were still 0.6 percent smaller than they were in 2000.

Here is the problem: Just as U.S. imports grow only when the U.S. economy is growing (and shrink only in recessions), other countries' imports also grow only if and when their economies are growing. Strong economies, including ours, need more industrial imports and can afford to buy them. Unfortunately, the economies of our biggest trading partners have not been strong.

Canada accounted for 23.8 percent of U.S. exports last year, Mexico for 13.7 percent, Germany and France for 6.4 percent, and other OECD countries (mainly Europe) for 17.6 percent. If these economies don't grow, then neither can U.S. exports.

By the fourth quarter of 2003, real GDP in the United States was 4.3 percent higher than a year before, compared with only 1 percent in Canada and 2 percent in Mexico. GDP was up by a pathetic 0.2 percent in Germany and 0.5 percent in France -- two countries with unemployment near10 percent. When your biggest customers are broke, it is not easy to sell them more.

Blame Europe and Canada's weakness for relatively weak U.S. exports, not China's strength (which is helping Japan). As the year-end 2003 report from the U.S. trade representative noted, "Over the last three years, while U.S. exports to the rest of the world have decreased by 10 percent, U.S. exports to China have increased by 66 percent."

The United States would benefit greatly if there were more strong economies in the world, such as China and India, and fewer laggards like Germany, France and Canada. The latter countries could learn something from China and India, both of which found prosperity only after doing the exact opposite of what Herbert Hoover did in 1930-32 and what the Democratic Party now threatens to repeat.

The economies of China and India grew by drastically reducing tariffs and tax rates. China's average tariff on imports has fallen from well over 50 percent in the early 1980s to about 10 percent now, but actual tariff collections average less than 3 percent because so many goods are tariff-free. India slashed tariffs, too, and cut the top income tax rate from 62 percent in 1984 to 30 percent today, becoming just another in a long list of supply-side miracles.

Politicians now proposing that the United Stats should do the opposite of what China and India have done, and instead move closer to emulating Sweden and France, are amazingly slow learners.