GDP for 3Q 2010

The GDP number out today of a 2% growth shows an economy growing at a slightly greater than last quarter’s 1.7%. But this is still weak relatively weak growth (see stories in the New York Times, Wall Street Journal and Washington Post.
And the numbers are subject to revision as the trade data is a month behind. The advanced estimate assumes a worst trade picture this quarter compared to last quarter. Given the last two months data (see previous postings), that is a safe assumption.
Still, as I’ve state before, we still have a lot of work to do to improve the numbers (see earlier posting). In the meantime, we should remember that the data always contains an element of uncertain and should be treated accordingly.

Offshoring and manufacturing

Here is a new paper from the W.E. Upjohn Institute for Employment ResearchOffshoring and the State of American Manufacturing. Written by Susan Houseman of the Upjohn Institute and Christopher Kurz, Paul A. Lengermann and Benjamin Mandel of the staff of the Federal Reserve Board, the paper take a new look at the productivity and output numbers and finds them lacking:

First, the robust output and productivity growth in manufacturing is largely attributable to one industry: computer and electronic products manufacturing. The average annual growth rate of value added in manufacturing excluding computers–which accounted for about 90 percent of manufacturing value added throughout the period–was less than a third of the published growth rate for all manufacturing. As a result, the aggregate numbers do not accurately characterize trends in most of manufacturing.
Second, the price declines associated with the shift to low-cost foreign suppliers generally are not captured in price indexes. The problem is analogous to the widely discussed problem of outlet substitution bias in the literature on the Consumer Price Index (CPI). Just as the CPI fails to capture lower prices for consumers due to the entry and expansion of big-box retailers like Wal-Mart, import price indexes and the intermediate input price indexes based on them do not capture the price drops associated with a shift to new low-cost suppliers in China and other developing countries. A bias to the input price index from offshoring implies that the real growth of imported inputs has been understated. And if input growth is understated, it follows that the growth in MFP and real value added have been overstated.

Bottom line:

These biases have implications not only for the industry statistics, but also for the analyses based on them. Because the growth of these imports will be understated in real terms, offshoring will, at least to some degree, manifest itself as mismeasured productivity gains. As a result, studies that endeavor to assess the impact of low-cost imports on the American economy and its workers may well understate the true effects.

As with our efforts to keep up with measurement of the shift to an intangible economy, so too must we continue to improve our economic statistics on the affects of globalization. Otherwise we will make bad policy decisions.

Describing the transformation

Tom Friedman’s column on Sunday was about the election and economy. But it contains a great description of the transformation. He conceds the point that areas are doing well, such as new technologies.

But not everyone can write iPhone apps. What about your nurse, barber or waiter? Here I think Lawrence Katz, the Harvard University labor economist, has it right. Everyone today, he says, needs to think of himself as an “artisan” — the term used before mass manufacturing to apply to people who made things or provided services with a distinctive touch in which they took personal pride. Everyone today has to be an artisan and bring something extra to their jobs.
For instance, says Katz, the baby boomers are aging, which will spawn many health care jobs. Those jobs can be done in a low-skilled way by cheap foreign workers and less-educated Americans or they can be done by skilled labor that is trained to give the elderly a better physical and psychological quality of life. The first will earn McWages. The second will be in high demand. The same is true for the salesperson who combines passion with a deep knowledge of fashion trends, the photo-store clerk who can teach you new tricks with your digital camera while the machine prints your film, and the pharmacist who doesn’t just sell pills but learns to relate to customer health needs in more compassionate and informative ways. They will all do fine.
But just doing your job in an average way — in this integrated and automated global economy — will lead to below-average wages. Sadly, average is over. We’re in the age of “extra,” and everyone has to figure out what extra they can add to their work to justify being paid more than a computer, a Chinese worker or a day laborer. “People will always need haircuts and health care,” says Katz, “and you can do that with low-wage labor or with people who acquire a lot of skills and pride and bring their imagination to do creative and customized things.” Their work will be more meaningful and their customers more satisfied.

And so where are the government policies to help bring about this transformation?

Baldrige Performance Excellence Award

One of the recommendations I have been making for some time is the re-orientation of the Baldrige Quality award into something broader. (See our 2008 report Crafting an Obama Innovation Policy). Over the years, the criteria for the Baldrige Award have changed with the times. As these criteria have shifted and broadened, the award has become much more productivity and innovation focused. Much of this shift, however, has not been recognized. The change in the name would both better advertise the broader nature of the award and provide an opportunity to review and modify the criteria to reflect this broader view. In addition to changing the name, the award should be given greater visibility by the President. By presenting the awards personally, the President could use it as an opportunity to showcase innovative American companies and collaborations.
This would obviously be more of a symbolic act. But it could be used to highlight the issue. And the reorientation of the criteria would help promote organizational performance.
Earlier this month, the Commerce Department announced that it was changing the name of the program to the Baldrige Performance Excellence Program. The Dr. Harry Hertz, the program director, put it this way:

Today, the Baldrige Criteria focus on the way a successful organization can effectively plan and mange its operations for current success and long-term sustainability. The Criteria form a management framework covering everything from leadership, strategic planning, and knowledge management to a focus on the workforce, customers, and all performance results. To reflect the 23 years of changes since our program was created, as of October 2010, our name is changing from the Baldrige National Quality Program to the Baldrige Performance Excellence Program.

I think this is a step in the right direction. But I was disappointed to see how quietly this was rolled out. I hope with the new name there will also be a reinvigorated effort to publicize the program. The program was successful in meeting the quality challenges of the 1980s and 1990s. A reoriented and reinvigorated program can help address the transformation and innovation challenges facing us today.

A defense of government procurement as a driver of innovation

I have long argued that government procurement is an important tool in spurring innovation. Here is a piece from Steven Hayward of the American Enterprise Institute on energy policy. The article (originally published in the conservative Weekly Standard – which makes it even more interesting) outline a cross-ideology proposal for increasing innovation in the energy sector as a means of attacking our energy problem.
The first two recommendations are straight forward: increase spending on research in the basic sciences related to the energy sector and improve mechanisms for development and diffusion of new technologies in conjunction with the private sector. The third is more intriguing:

Third, driving innovation and price declines requires that the government act directly as a demanding customer to spur the early commercialization and large-scale deployment of cutting edge technologies. Today, firms get subsidies that reward production of more of the same product, instead of innovation that results in lower prices. This framework should be turned on its head. Energy technologies should receive federal deployment funding only to the extent they are becoming cheaper in unsubsidized terms. Either technologies continue to come down in price or they are cut off from future public investment.
The Department of Defense has a long track record of using the power of procurement successfully to drive the commercialization and improvement of everything from radios and microchips to camera lenses and lasers. In contrast, the Department of Energy has never really played this role. Energy Secretary Steven Chu deserves applause for his efforts to make his department a more effective funder of breakthrough research, but the agency has no way to either procure or use energy technologies at commercial scale. The Department of Defense should help fill this void, once again using procurement to advance a range of potential dual-use energy innovations.

I would note that the government can also serve as the “thin opening wedge” for technology development. In many cases, a new technology is not necessarily much better than the technology it replaces. Yet it is better on a few specifics — which may be of specific importance to a governmental activity. Case in point is semiconductors and the space program — where size and power requirements outweighed the costs. Having the government as a early adopter of a new technology provides that first real world utilization test so critical for the refinement and further development of a technology.
Interestingly the piece also contains a defense of greater government involvement in R&D:

No doubt critics will say this level of state involvement in promoting technological innovation doesn’t sound very Reaganite, but they are wrong. Just as Reagan’s Strategic Defense Initiative was intended to be a long-range game changer rather than just another weapons system, this energy strategy is intended to reestablish the United States as the global leader in energy innovation and potentially upend the geopolitics of energy. I share all of the general reservations and skepticism about government-sponsored research and development. Yet for all of the boondoggles one can rightly point to, such as Jimmy Carter’s hapless Synfuels Corporation, there is also a record of government-sponsored technology achievement that it would be churlish to overlook. The lesson is that government investments succeed not when they are blanket subsidies but when they are targeted to specific outcomes, such as developing computers to enable rocket systems, building a communications network to survive a nuclear attack, or creating increasingly efficient and powerful jet engines. These public investments and supporting regulatory changes paid off handsomely in personal computers, the Internet, and both commercial air travel and the gas turbines used in modern natural gas power plants. Government-sponsored research in biochemistry has played a substantial role in the development of new pharmaceuticals.

These are great suggestions — and proof that we can bridge the ideological (and partisan) divides. I hope the policymakers and politicians will take these recommendations to heart.

Management as an intangible

Good management is one of those intangible assets that is often taken for granted. But it shouldn’t be — since good management makes a big difference in the performance of an organization (and conversely bad management hurt performance). But how to prove that? The general answer is that well managed companies thrive and poorly managed companies fail.
Unfortunately, that is no answer at all. Many other circumstances may account for the overall company performance. Badly managed companies in a favorable situation can limp along — succeeding but not living up to their potential. So how can we ascertain the importance of good management?
Here is a new study from Stanford University and the World Bank — Does Management Matter?: Evidence from India — see also the short description on the World Bank’s “All about Finance” blog and a video. The study is really a report of an experiment. The World Bank teamed up with the management consulting firm Accenture to provide 5 months of management training to a group of Indian textile factories. A similar group that was not given the training was identified as a control group. The result was that for the group receiving the training, the product defect rate declined, inventory levels fell, output improved, and productivity increased.
Now, the training was pretty basic stuff. As Ray Fisman notes in his article in Slate on the project:

The study’s authors enumerate 38 practices that define good management. These include routines to record and analyze quality defects, production and inventory tracking systems, and clear assignment of job roles and responsibilities.

One could argue, therefore, that these companies lacked the basic tools of modern management. They were essentially still family owned, owner run companies — straight out of Alfred Chandler’s description of “family capitalism.” In fact, one of the outcomes of the training was that the companies moved away from direct family control to greater involvement by middle management.
Thus, the report is evidence that “management” writ large helps. The shift from family capitalism to managerial capitalism increases performance. What it does not address is the question of incremental improvement — that “better” management increases performance.
So “management” is an important intangible asset. What we need to focus on two fold:
1) how to create that asset in the hundreds of small businesses in the US
2) how to improve that asset once it has been created.
The study is useful on the first point. We need more work on the second.

Economic growth – and the need to go beyond the laissez-faire view

The Economist recently published a special report on the world economy — specifically a look at how to restart economic growth. In the concluding piece in the report, they lay out the bottom line:

If the rich world really wants to go for growth, it must get away from its narrow focus on public debt and embark on a broader economic overhaul.

The nature of that economic overhaul is discussed in greater detail in an earlier piece in the report on productivity entitled “Smart work”. In that piece they make an important point:

More important, the politicians’ current focus on fostering productivity growth via exciting high-tech breakthroughs misses a big part of what really drives innovation: the diffusion of better business processes and management methods.

Right on!
Unfortunately, their policy solution to make this come about is simply laissez-faire deregulation of the service sector:

The best thing that governments can do to foster new ideas is to get out of the way.
. . .
All this suggests that for many rich countries the quickest route to faster productivity growth will be to use the crisis to deregulate the service sector.

I won’t argue that part of the service sector in some countries need reforming. But it is absurd to argue that in light of the recent crisis of a key service sector — the financial sector — the best thing to do is “get out of the way.”
In fact, “getting out of the way” will not transform the service sector. Much of actions that the Economist would tout as the benefits of reform are in fact left over from the industrial age. When they talk about the need to open up European economic boundaries to greater cross-national competition, they are talking about the industrial age idea of consolidation and economies of scale. Take for example their praise for Sweden’s retail sector: “Large stores and vertically integrated chains rapidly gained market share.” That is straight out of Commodore Vanderbilt’s playbook on the railroads in the 1870’s.
There is so much more to the transformation that extending economies of scale and scope to certain service sectors. Rather than get out of the way, the government needs to actively promote the transformation. It mean changing the regulations to foster innovation — not eliminating them. As I’ve noted before, regulations can spur innovation as well as retard them.
Governments can also increase support for broad knowledge creation (what we often call in a limited way “R&D”) and mechanism to diffuse that knowledge. The UK’s NESTA has done path breaking work on “hidden innovation.” Where are the tax and investment policies to support business invests in that type of innovation?
I have long promoted the idea of a knowledge tax credit. We have long understood that increased private investment in plant and equipment is necessary for continued economic growth. As a result, there are various tax incentives for investment in equipment. So why would we treat our people — which everyone says are companies’ most important asset — worse than equipment? If a tax incentive for investment in machinery is appropriate, so is a tax incentive for investment in workers. It is as simple as that.
We need to do more to understand the transformation and the development of high performance work organizations. This means a greater understanding of how to create a high road strategy — includes helping companies better manage and utilize their intangible assets. It also means developing a better understanding of the service-manufacturing linkage.
We need to find creative ways to help companies utilize that understanding. We especially need to help the smaller supplier move up the value-chain to take advantage of this shift. Here we have a valuable tool in the Manufacturing Extension Partnerships. The MEPs were on the front lines helping small and medium size companies during the quality revolution. They need to be on the front lines of the intangible asset, innovation and “customer solution” revolution.
We should expand the National Science Foundation’s (NSF) Engineering Research Centers program to support the creation of Design Research Centers as well as promote research and teaching of integrated design thinking. Innovation success is heavily reliant on design as a key component but not simply involving the physical appearance of products. A new approach to applied problem solving and innovation is emerging under the rubric of design thinking. Successful models include the Stanford Design School and the Institute of Design at the Illinois Institute of Technology (IIT), among others.
These are a few of the positive actions government could take. I’m sure there are thousands of others we could think of if we all tried.