Thursday, November 10, 2011

Econ 101: Dynamic Comparative Advantage

This past weekend, the Oregonian reported on something that has been fueling the rumor mill in Corvallis for a few months: HP is most likely scaling down its Corvallis operations.  A few weeks ago they also reported on the shuttering of the Hynix plant in Eugene.  What gives in the Willamette valley?

Well, as a friend who works for HP in Corvallis explained to me, HPs printer business is not growing and in modern business you have to grow revenues.  So without growth in sales, you need to cut costs and a big cost savings is to employ engineers in Asia rather than in the US.

When I teach comparative advantage, the relative productivity advantage that leads to gains from trade, I try to stress that though in the classical Ricardian example there exist static differences in productivity, such productivity differences evolve through time.  Countries like India and China for a long time had a major comparative advantage relative to the US in light manufacturing and other labor intensive activities that came from an abundance of unskilled labor and a relative paucity of skilled labor.  But over the last ten to twenty years, this has begun to change quite dramatically.  India and China have begun to produce more and more skilled engineers, to use but one example.  Thus the relative productivity advantage that the US used to enjoy in engineering is disappearing fast.

Why has the US lost this advantage?  One need only look at the sorry state of the US higher education system to figure this out.  Federal funding for basic research is almost non-existant, states support for public higher education is drying up and the K-12 system is sending (and not sending) kids to college without proper preparation.  From my vantage point it is not hard to feel pretty pessimistic about the future.  Our best hope is to try and hold on to all of the incredibly talented foreigners that come to get advanced degrees (for the time being at least) in the US.  But with stricter immigration policies and ever improving opportunities at home, many foreign students are choosing to return, leaving the US talent-poor and loosing more and more industry.  

So back to Oregon.  What can a state do to combat these job losses?  Produce skilled individuals who have the ability to be high productivity participants in the 21st century.  This takes time and resources for the entire educational system.  Failure to do so will leave us in the unfortunate position of having a comparative advantage in low value-added activities.   

6 comments:

Fred Thompson said...

Absolutely!

Nevertheless, I think your discussion of where things are done is only partly relevant to the instant case. HP has consistently abandoned businesses when the contribution of design/development to value added drops below 40-50 percent. The printer business has reached that point.

In the future most of the value-added in this business will come in fabrication and assembly and will take place not where folks have a comparative advantage in product and process design, but in manufacturing and control. Once upon a time, that would have meant that when HP dropped a business, it would have been picked up by a US-based firm like TI. But the US hasn't had a comparative advantage in manufacturing and control for decades, except where it makes sense for fabrication and assembly processes to be fully automated or nearly so.

So there is nothing new about fabrication and assembly jobs moving abroad. The important question for your story is where the next new business HP creates will be built or maybe whether it will be created by HP at all.

The failure of the US to grow (or import) its human capital, especially in its investment in the best and brightest and in the most creative and imaginative, and in working together and communicating effectively will, I suspect, largely determine the answer to questions like that. And, therefore, the relative wealth of Americans in a richer world.

For the last 30 years, America's major source of comparative advantage has been the best system of post-secondary education in the world. Prior to that it was our system of K-12 education. We have long since lost any advantage we once had in K-12 and, indeed, on many important dimensions our elementary and secondary education systems now lag those of most of the developed world and even those of some transitional and developing states.

The key questions in my mind are how we retain our lead in post-secondary education and, perhaps, increase it? And, what are the characteristics of this system that have allowed it to maintain its relative standing where the K-12 system has not? More closely to home, why has the relative standing of Oregon's educational sector, both post-secondary and K-12, declined relative to the rest of the US and what should be done about it?

Dave Porter said...

Patrick,

I have posted a response of sorts on my own blog here.

It's about my frustrations with our educational and political leaders. That they are not moving fast enough to expand Mandarin and study abroad programs. But I also quote UPS CEO Mike Eskew on the six traits he would like to see in future employees. The first trait is "trade literacy." Such a skill/trait seems essential to keep our state's economy vital. So my question back to you as an economist is "Do Oregon schools (universities, whatever) teach "trade literacy" well enough for our students to be hired by UPS?"

Fred Thompson said...

Dave,

If by trade literacy you mean appreciating the gains from trade, the sources of those gains -- absolute and comparative advantage --, and the the statics and dynamics of foreign exchange markets, yes. Most folks who take university level economics are given the opportunity to gain such an appreciation. But, you can lead horses to water, you cannot make them drink.

Oregon high school students are required to take an economics course to graduate, but based on the texts used, the teachers teaching the courses, and the fact that these courses are graduation requirements, I suspect that on balance they do more harm than good.

Dann Cutter said...

Hey Fred,

Ignore the Econ High Schoolers are required to take. The class, and the topics and methods are considered a joke... there is no depth there.

Econ in college... yup, if you take Econ (at OSU for example) you 'can' get a grasp on trade - but I took macro (Econ 202) over the summer from a grad student who barely spoke english, and who curved a C at 30% and an A at 60%, so I am not sure, to use your horse/water analogy, the trough was all that full.

Beyond that, and this is a complaint I have made to the department, the class offerings get few and far between. Patrick has expanded this by actually teaching online (yeah!), but the other instructors are content (or browbeat, I am not sure which) to let key sequence courses get relegated to lousy times in lousier classrooms. (Patrick - find a way to teach 311 and 315 online!)

As a Finance major, almost complete, I wouldn't say I feel comfortable with my trade literacy... and I am an Honors student with a deep interest in Econ. So... all this is to say, I am not sure our competitive advantage in higher education is all that, at least in the undergraduate level in Oregon.

- dann

chris farrell said...

Dominance in many aspects of high tech still resides in this country. Look at the Apple Ipod. It is manufactured in China, but the majority of the profit on each Ipod goes to Apple. Maybe because they designed it.
As far as education not being as good, not as good in what respect? For example, the fact that American high school kids aren't as advanced in math as in other countries may make less of a difference than their ability to think creatively and come up with new applications and directions in technology. That was the deal with the Ipod, anyway, designed by a college dropout, Steve Jobs.

That's just another point for discussion.

Marvinlee said...

I doubt that funding explains our poor output of STEM graduates. More relevant is the choices we make in our education system. We don't often pay STEM relevant teachers more in K-12, our required minimum math education in K-12, and thus we send weakly prepared students to college where they suffer a 20-50 percent dropout rate in entry level college math.

Stem salaries are high because we have a mismatch between STEM graduate output and demand. Until we lower STEM pay by supplying many more graduates, our labor costs will continue as incentives for American firms to move R&D and production overseas.