Made in the USA
03/31/10
Economic activity in the manufacturing sector expanded in March for the eighth consecutive month, and the overall economy grew for the 11th consecutive month, say the nation's supply executives in the latest Manufacturing ISM Report On Business. "The manufacturing sector grew for the eighth consecutive month during March. The rate of growth as indicated by the PMI is the fastest since July 2004. Both new orders and production rose above 60 percent this month, closing the first quarter with significant momentum going forward. Although the Employment Index decreased 1 percentage point to 55.1 percent from February's reading of 56.1 percent, signs for employment in the sector continue to improve as the index registered a 10 percent month-over-month improvement, indicating that manufacturers are continuing to fill vacancies. The Inventories Index provided a surprise as it indicated growth for the first time following 46 months of liquidation - perhaps signaling manufacturers' willingness to increase inventories based on expected levels of activity." This was one of the more optimistic ISM reports in many years. Say what you will, but despite all the wailing and gnashing of the teeth, manufacturing in this country is alive and well - and thriving. China may be a currency manipulator, even though we will delay calling it that for another two month or so, but the domestic manufacturers have pulled themselves up by their bootstraps and taken care of business. Look at the ISM Indices below. Levels above 50 indicate expansion. Overall activity and employment in the manufacturing part of the economy continue to expand.
It seems contra-intuitive to even hint at a manufacturing renaissance in this country. Made in the USA has not been chic for a long time and everybody from Washington D.C. to Washington, IL is complaining about the decline of the American manufacturer, and yet there are many reasons to be optimistic about the future.
1. The era of ubiquitous, cheap labor in China seems to have come to an end. Salaries in Chinese manufacturing centers are rising at double-digit rates, squeezing manufacturers’ profit margins.
2. China can no longer afford to produce goods for export only. Manufacturers have to produce for the domestic market also otherwise transportation costs will eat up all the meager profit margins.
3. Google’s spat with the authorities has demonstrated that producing in foreign countries carries political risks in addition to business risks. In many cases, it will start to make sense to relocate manufacturing capacity closer to the end markets, which will give managers peace of mind by eliminating transportation costs, political risks and cultural and language problems at the assembly line.
I know, it is very contrarian, but cheap labor is no longer that cheap - not in India and not even in Thailand. No wonder, China is trying to resist currency revaluation as long as possible. It needs to stay competitive because salaries are rising faster than the prices it can demand in the US and Europe. For that reason I find it curious that Timothy Geithner announced just this weekend that the administration would delay the report to Congress on whether to declare China a currency manipulator or not. I expect a quid pro quo. China in return will probably agree to harsher sanctions against Iran. Both decisions should reassure the capital markets that the people in power may talk too much but realize nevertheless that protectionism will hurt both parties equally. The rise in average Chinese compensation will benefit the US in two ways. First it increases marginal competitiveness in Asian countries as well as in the US and second it gives Chinese middle class consumers more discretionary income to purchase the type of high end consumer products that are carrying the label "Made in the USA".
The first chart above shows you that the amount of goods (not services) produced in this country for export tripled between 1992 and 2008. In the same time span the number of employees in the goods producing sector fell by some 19% from over 22 Million to below 18 Million employees, a level we last saw in 1955. While this is hardly reason to cheer, it could be the lowest level that we will see for quite a while. I believe that the low hanging fruit of manufacturing abroad have been harvested and that many new initiatives to move further manufacturing capacity abroad have already come up against the law of diminishing returns. The outsourcing trend of the last 10 years has probably reached its peak and future employers, who are schooled right now in our colleges will learn that there are many arguments in favor of producing closer to your end markets. One recent example has been the "Chinese Dry Wall" disaster. Another has been contaminated toys or drugs that were produced in foreign countries. If you produce for the US market and rely on foreign producers, you may incur a legal liability that may more than offset the tiny profit advantage you have earned by producing abroad. Consumers also will likely pay more attention to the provenance of the goods they are purchasing. If a toy says "Made in China" and only costs 5% less than a similar toy "Made in the USA", who do you think will make the sale? Like I said, not everything is rosy and many obstacles remain, but I am convinced that the US will experience a manufacturing renaissance that will surprise many. Ultimately it may even make sense for entrepreneurs, to move their manufacturing operations back to the US. Remember the 1980s? Remember when the Japanese possessed all the superior management techniques and were buying up the trophy properties in this country? Ultimately it became clear that they were not so much smarter, they were just the beneficiaries of gigantic currency advantages, just like Chinese manufacturers are enjoying today. No need to wail and gnash you teeth. This country thrives on competition and manufacturing for the US market can be done profitably at home. Toyota knows it and BMW knows it, too.
Hermann Vohs
"If goods don't cross borders, armies will."
Frederic Bastiat
Hermann Vohs is president of Cales Investments, Inc., a registered Broker-Dealer. All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions. Opinions expressed in these reports may change without prior notice. Hermann Vohs and/or the staff at Cales Investments, inc. may or may not have investments in any of the markets cited above. Hermann Vohs can be reached at 303-765-5600.
This information is not to be construed as an offer to sell or the solicitation of an offer to buy any securities.
