Why not Make Phones and iPods Here? Part 2

October 1, 2012

I have been writing about the many thoughtful responses to my column “Apple, Offshoring and the Decline of the American Middle Class.”

Michael Reinhold wrote: “The cost of doing business is higher in the United States even without the labor differential. Ten years ago, I moved printer manufacturing from the United States to China for a $24 million annual cost savings. It was $5 per printer less expensive in China even when our total U.S. labor content was only $2 per printer. The government here doesn’t understand they are the biggest cause of the cost differential.”

I agree completely that the labor differential alone does not account for the cheaper prices available from Chinese suppliers—that was the core argument of my article. But, the cost difference is not entirely the fault of our government. More accurately, our government is a better global citizen than the Chinese government, and there are costs to being a good global citizen.

Here are a few reasons why Chinese suppliers can sell for less than our manufacturers:

Pollution regulations. We have them; much of China doesn’t. We demand clean air and clean water, but maintaining that clean air and water is expensive. The costs involve more than the obvious factory filtering and scrubbing. Electricity and water—typically major manufacturing costs—are more expensive because utility companies also must meet pollution requirements. The air on China’s industrial east and south coasts verges on toxic. I have spent weeks in Shanghai and never saw the sun. Senior government officials have air purifiers in their offices and homes; the rest of the population gets by with masks or nothing at all.
 

Worker safety. A worker death or serious injury here can easily cost millions of dollars, but the costs of practices and technologies for preventing injuries or death are themselves significant. Much high-risk maintenance and handling here are performed by machine, but Chinese workers commonly perform tasks that would be inconceivable to us here. In China, I never see signs showing how many days the plant has operated without an industrial accident.
 

Currency manipulation and other government subsidies. Like Japan 30 years ago, China pegs its currency at a very low value relative to the U.S. dollar. As a result, all inputs from labor to raw materials (except imports) cost Chinese manufacturers much less than they would with a fairly priced currency. Japan used currency manipulation for several decades to support its manufacturing “miracle.” This is a very big deal.
 

The government as partner. Many Chinese companies combine private and public sector shareholding. Maximizing profit, which drives Western industry, is often a secondary objective for those companies.
 

Protected domestic market. Chinese trade flows basically in one direction—out. That’s the reason China owns so much U.S. government debt. Japan did the same thing, except it bought U.S. real estate (at greatly inflated prices) in the ’70s and ’80s. The lack of foreign competition in domestic markets subsidizes domestic manufacturers.
 

Certifications. ISO certifications (there are so many now) are only the tip of the qualification-cost iceberg. I see all the usual certifications (and some I have never encountered before) everywhere in China, but the real ones don’t cost nearly as much, and many of them are clearly not genuine. The certification demands buyers impose on domestic suppliers are out of control.
 

Cheap and available capital. The Chinese government ensures that manufacturing companies get whatever operating capital they need at low to no interest. The official cost of money here is also close to free, but our banks don’t lend. Except for the largest corporations here, most companies fall back on expensive sources like credit cards and factoring.


Which of those costs can our government eliminate? Not pollution and worker safety. Americans tend to expect that we won’t be killed by the air we breathe, the water we drink, the medicines we consume, and the tools we use. Similarly, workers expect to survive their jobs with all body parts intact. As long as China allows its factories to pollute at will and ignore basic worker safety, those factories will have lower operating costs than competitors in the West.
 

Pressure to end currency manipulation and other bad trade practices is exerted at every bilateral meeting right up to the presidential level. Our government does have some ability to impose sanctions on products from countries that compete unfairly, but approval from the World Trade Organization is typically required before penalties can be imposed. The United States has filed 14 complaints with the WTO against China during the Obama presidency and has won six. The remaining eight complaints are still being adjudicated. (A very good review of U.S. claims against China can be found here.) Nonetheless, a strong case could be made that domestic manufacturing has been sacrificed in favor of better diplomatic relations.
 

The certifications burden is real, but it’s not imposed by government. Purchasing agents have run amok. Part of the reshoring movement must involve educating purchasing agents about the needless cost burdens they are placing on domestic suppliers.
 

That leaves the availability and cost of capital. If you haven’t noticed, our financial system is a mess. There’s certainly a need for government to get capital flowing again. More government backing of company loans would be the logical step, but the anger over the collapse of Solyndra has spooked the politicians for now.
 

The bottom line is that government requirements do impose a cost burden on our manufacturers. But most of the requirements are unavoidable. We simply place a much higher premium than China on health and safety.
 

The picture seems bleak. Happily, the advantages of domestic production—avoiding long lead times, communication problems, labor strife, quality issues, and suppliers that turn into competitors—increasingly outweigh the lower piece prices available from China. Moreover, it is by no means certain that China’s piece-pricing advantage will continue. Mr. Reinhold might find much smaller savings if he compares the full costs of domestic sourcing today compared with the difference of a decade ago. Within the next five years, the all-in cost advantage of sourcing from China will be minimal.
 

What do you think? Am I being too easy on government? If so, where should the corrective actions begin?


Editor’s note: Before “Shipulski on Design,” “Leading Lean,” and “Uncommon Sense,” there was ASSEMBLY magazine’s longest running and most controversial back-of-the-book column, “Unconventional Wisdom” by Jim Smith. A nationally known expert on electronics assembly, Smith never hesitates to question the sacred cows of manufacturing and economics. You can read more from him at his “Science of Soldering” blog.

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