By Kevin Meyer
Seven years ago, yes seven, we started to wonder something about the seemingly rosy U.S. productivity numbers:
At its most fundamental level, productivity is manufacturing output divided by labor. If a company can produce more with less labor, the productivity number goes up. If a company moves an entire factory overseas, that manufacturing output and its associated labor are removed entirely from the domestic productivity number.
The complication arises with the increasingly common practice of sourcing intermediate components from overseas factories. The final assembly is finished at a domestic factory, therefore the manufacturing output is counted. But the labor is only what was used at the domestic facility. The same output divided by a lower domestic labor content creates a higher domestic productivity number… even though the conversion efficiency of that factory was not necessarily higher. The reported productivity number has increased and jobs were sent overseas.
This troubled us and since we didn't claim to be economic experts, we enlisted the help of some notable economists like Alan Reynolds, Donald Luskin, Russell Roberts, Alex Tabrarrok, Steve Conover, and Brad Setser. They added their take to our analysis, basically agreeing that "there might be a problem."
And, seven years later, it appears we were right. A report in the latest Manufacturing News describes how government statisticians are studying the issue and now believe that output growth may be 50% lower than than previous reported.
The federal government's statistical agencies have acknowledged that they have not measured — and have even mis-measured — the real impact on the U.S. economy of surging imports and outsourcing of U.S. production and services to low-cost foreign locations. As a result, the U.S. government has substantially over-reported productivity growth, manufacturing output and gross domestic product. Inflation and import data may also be wrong, as well as the assumption that automation is the primary cause for the loss of millions of American jobs.
"The shift by U.S. manufacturers from domestic to low-cost imported intermediates has likely imparted a significant upward bias to measured growth in the sector's real value added," according to researchers from the Upjohn Institute and MIT. " 'Offshoring bias' occurs because the price decline associated with a shift from a high- to a low-cost supplier is generally not captured in the import or input price deflators. As a result, real import growth is understated, and the growth in real domestic value added and multifactor productivity is overstated."
This statistical lapse is the likely reason why productivity rates have increased, but wage gains have not — a situation that poses an intellectual quagmire for most economists who have been ignorant about the statistical anomalies associated with globalization's impact on the United States.
The good news is that the outsourcing trend appears to be slowing and in some circles even reversing. The bad news, as we see now (or seven years ago in our case…) is that the baseline of where we thought we were may not be correct.