Productive Destruction

Jim Davidson takes issue with the ‘jobless recovery’ and suggests an alternative way to view the recession that wasn’t.

Much has been made of the claim that 3 million manufacturing jobs (actually 2.7 million) have disappeared, notwithstanding the ‘recovery’ we’re experiencing. Many of these jobs may never be refilled, because productivity has increased so much in recent years that fewer workers are required to make the same real goods.

The mainstream press also maintains that the good life in America is threatened by free and open international competition. You are told that the living standards of middle-class Americans are doomed to sink to the level of Haiti or Liberia because increasing numbers of well-paid jobs of all kinds will be exported to India and China.

Hence, the widely decried ‘jobless recovery.’ It has become a main theme of the emerging presidential campaign, as Democrats lash President George W. Bush and wax eloquent over the fantasy of ‘protecting good jobs.’ Opposition to productivity-enhancing job reduction and outsourcing has begun to take on an increasingly anti-capitalist tone. The media, who as a rule are blissfully ignorant of economics, seem to believe that prosperity can be insured by keeping labor costs high, if necessary, by thwarting the growth of productivity.

But no one is particularly informed about, much less excited over, the increment to higher living standards that will be achieved in the future by improving productivity today. Understanding of and interest in the workings of the free market is meager and diffuse. In the simplest terms, it seldom pays for anyone to advocate free market principles, because they benefit everyone, but no one in particular.

On the other hand, political demands for exceptions to free market policies almost always entail concentrated benefits to a distinct group of people, a special interest that is readily identified. Hence, there is a robust demand for rationalization for departures from free market principles, much of which is promoted by politicians trolling for votes. This is the driving force behind the Bush administration’s misguided push to ‘protect good jobs.’

Paying artificially high wages means paying more for less. It can no more make the economy richer than could systematic featherbedding. Just as hiring four people to do a job that one person can do is a recipe for falling living standards, so is paying one person four times more than necessary to do the same task that someone else will do as capably for less.

It is difficult to even begin to sort out the confusions surrounding outsourcing, innovation and economic progress. You are repeatedly told that America has lost its manufacturing base, that the U.S. economy has been ‘hollowed out,’ and that just as auto jobs and jobs in other high- paying manufacturing sectors were lost, so now high-paying service jobs are being outsourced. This is a logical fallacy. America is producing more real goods as a percentage of GDP in 2003 than in the peak years of the 1950s and ’60s.

But this doesn’t answer the critics, because they are not concerned with dynamic tendencies in the economy. What they really want to do is not improve economic prospects, as they pretend, but dampen them. They want to slow the rate of change and keep the economy much as it is. Their model for economic policy is a ‘freeze frame’ photograph, to make people ‘safe’ from the disruptions implied by rapidly improving productivity.

Technology consultant Gartner Inc. has forecast that one of every 10 jobs in information technology will move offshore by the end of 2004. Kathleen Madigan, the excitable Business Outlook editor at Business Week, laments:

"This is no longer about a few low-wage or manufacturing jobs. Now, one out of three jobs is at risk….Outsourcing is hitting skilled jobs that were once thought ‘safe’ across a far wider swath of white collar America. What’s more, the new outsourcing is occurring at a breathtaking pace….From just-in-time inventories to nanosecond technologies, business practices now turn on a dime. As soon as work can be made routine – whether it’s reading an X-ray or creating blue prints – the job can potentially be outsourced. That promises big, and often disquieting, changes ahead for many. It means the career you studied for – and spent oodles of tuition money on – in college probably won’t sustain you for your working life. Someone in India or China will be able to do it far more cheaply."

Far from being bad news, this is exciting and encouraging. It is evidence that many types of service jobs long thought to be immune to productivity gains may finally be susceptible to greater efficiencies. Among other things, this implies that the cost of government, which has risen so remorselessly while the costs of real goods have generally fallen, may actually be subject to downward pressure from technology, though perhaps not enough to cancel the upward pressure for spending arising from constituents worried about saving their jobs. Theory aside, the Bush administration seems to have accepted the policy imperative of being seen to be working to curtail the disappearance of jobs. Recently, the administration has made a show of trying to browbeat the Chinese into devaluing the yuan, allegedly to protect American jobs. This has undermined our prospect of getting Chinese help in disarming North Korea, while doing nothing to enhance the economic benefit to U.S. firms for hiring more high-priced labor.

The ill-advised steel tariff imposed by Bush to court voters in Pennsylvania and other steel-producing states represented an earlier case of pandering to special interests at the expense of consumers and manufacturers who use steel to produce products. A reasonable estimate is that three times more jobs were lost in steel-using industries because of the higher cost of steel as an input than were ‘saved’ in steel production.

I say this to show that ‘job saving’ seldom tallies as a rational endeavor, even in its own terms. More fundamentally, the whole enterprise of tallying ‘jobs’ created or saved runs counter to economic logic. Seen in economic terms, trying to ‘save jobs’ from cheaper substitutes is a concession to stupidity. It is an enterprise that reduces living standards.

Seen in the light of economic logic, the politician who could accelerate productivity growth and make more jobs redundant would be doing the most to raise living standards for his constituents. Jobs are a cost of production. You are better off when you reduce your costs. Hence a truly ‘jobless recovery’ would be a great thing. Too bad this isn’t one.

Unhappily, nothing is more vain than expecting politicians to confront the illogical or irrational beliefs of their constituents. In a system of popular government, the people tend to get the policies they ask for, if not the wonderful results they pretend will follow.

The fear of "creative destruction," which, as Joseph Shumpeter told us, is the driving engine of capitalism, probably intensifies as progress accelerates and life expectancy increases. Two centuries ago, about 80% of Americans were farmers. Today, scarcely 2% of the work force are farmers, and many of them are hobbyists, or part-time farmers who work second jobs at Wal-Mart to make ends meet.

If you had asked a divine genius in 1800 to explain what activities people would take up two centuries or more hence when they no longer earned their bread by tilling the soil (the Labor Department lists 400,000 job categories), you would have drawn a blank. Forward vision about innovation is dim, at best, and most people have little capacity to imagine how change will transpire. But the fact that future growth in living standards based on new economic arrangements is difficult to envision doesn’t mean its impact is minimal.

In 1800, Haiti was richer than the United States on a per- capita basis. Indeed, as researcher Kenneth Sokoloff reports, "Haiti was likely the richest society in the world on a per-capita basis in 1790." In 1800, living standards in Cuba were 12% higher than those in the United States.

Today, Haiti is no longer the richest economy on Earth. It may be the poorest. Indeed, many Haitians are still living much as their ancestors did in 1800. And Cubans, far from enjoying living standards 12% higher than the United States, are lucky to live 1/12th the level. Since 1800, U.S. per capita annual income has soared from $807 per year (in 1985 dollars) to $20,230 per year (as of 1997). In other words, income has multiplied at least 25-fold in six or seven working generations. And this really understates the payoff to you from productivity growth.

Yale University’s William Nordhaus looked at the price of light and concluded it has fallen from 40 cents per 1,000 lumen hours in 1800 to a tenth of a cent today, a decline of 99%. But the statistical measures economists employ miss most of that dramatic gain. Inflation accounting shows a 180% increase in the price of light bulbs and fixtures over the years. But this underestimates the growth of living standards. Remember, the total impact of economic innovation has been to slash your cost of light by 99%. Because of this you can afford to stay up at night and read, as well as perform all sorts of other activities in hours when natural daylight is unavailable. Your actual standard of living is probably more than a hundred times higher than Americans enjoyed in 1800.

This is entirely due to the fact that Americans were quicker to depart from the low productivity activities they were doing in 1800 to take up new roles with higher productivity. In other words, it is precisely the fact that Thomas Jefferson did not institute a comprehensive program to "preserve yeoman farming" that permitted the United States to be first and fastest to adopt productivity-enhancing farm technology, like the McCormick reaper, which drove up the productivity of agriculture, while driving most farmers to find other occupations. This accounts for the fact that you and yours can live better today than Haitians and others who were reluctant to move ahead with innovation.

Except for a small measure contributed by population composition, the key to a better life is precisely the fact that rising productivity displaces people from familiar work and obliges them to find new occupations.

Improvements in standards of living and material productivity that used to take millennia to accomplish now pass us by between youth and middle age. The past six generations of modern economic growth mark the greatest advance in human technological capabilities and material living standards since humans moved beyond hunting and gathering 10,000 years ago. And there is every reason to believe that we are poised on the threshold of even more astonishing productivity advances.

If politicians don’t mess things up by ‘trying to save jobs,’ you can expect to enjoy an even more plush ‘free ride’ from productivity-enhancing technological advances in the years to come. Free enterprise is the greatest welfare system ever.


Jim Davidson,
for the Daily Reckoning

October 09, 2003

James Dale Davidson has enjoyed astounding personal success founding new companies in a variety of industries. A graduate of Oxford University, Mr. Davidson is also a renowned venture capitalist and the author of bestsellers such as Blood In The Streets and The Great Reckoning.

"I don’t like the numbers," says veteran market forecaster Richard Russell.

We have never met Russell, but we rarely read a comment from him with which we disagree.

The numbers Russell doesn’t like are the very same numbers that the rest of the world seems to find so appealing. While others are pleased to see consumers continuing to spend and borrow…Russell worries about when they will have to stop spending and pay back the money. While others are happy to see investors rushing to buy stocks at high prices…Russell looks ahead to the day when they will have to sell them at low prices. While most people delight in low mortgage rates, rising house prices and the refinancing boom…Russell warns that the day will come when the housing industry goes bust and homeowners will be stuck owing more on their houses than their houses are worth.

And behind all these numbers are still more numbers Russell doesn’t like. He points out that a new researcher on Wall Street costs as much as $150,000. A similarly trained researcher in India can be had for only $35,000.

No wonder jobs are moving overseas.

We mentioned earlier this week that jobs would continue to migrate abroad until the dollar falls. Why? Because there’s too much of a gap between labor costs. Americans earn too much and foreigners – especially in Asia – earn too little. This has been the case for a very long time, but never before has there been such a globalized economy. And never before has there been so much cash and credit available to foreign producers…and so much demand from American consumers. These things are the peculiar fruit of the Dollar Standard System that, since the early ’70s, has permitted Americans to spend money they really didn’t have…and to keep spending.

Before the Dollar Standard, Americans would have been forced to pay up – to settle their worldwide debts in gold. This would have forced them to cut back on spending. It would also have reduced the flow of cash and credit overseas. Instead, Americans were able to send more and more dollars overseas…dollars that were used to build factories, train people, and, ultimately, compete with U.S. producers.

Never having to settle the accounts with real money – gold or foreign currency – meant never having to buckle down, save money, and get to work. As we point out in our book, Financial Reckoning Day, Americans now work more hours than anyone in the world. But they don’t produce enough to pay for the lifestyle to which they’ve become accustomed; each year, they’re about $500 billion short. That is another number Richard Russell doesn’t like – the difference between what the U.S. imports from overseas and what it sells to foreigners.

A falling dollar will take care of some of the problem; it will make Americans poorer. We don’t know how far or how fast the dollar will fall. Nor do we know exactly what tears and travails it will bring to pass. But we suspect Americans will see a lot of numbers they don’t especially like.

More news from Addison below…

But first, a note – if you haven’t yet purchased a copy of Financial Reckoning Day, and you’re not keen on buying the book on-line, we’re told by our publisher that copies will begin appearing on bookstore shelves across the nation tomorrow.

Unfortunately, if you go to the bookstore, you won’t be able to take advantage of the great discounts offered by the on- line firms…like that excellent company…


Addison Wiggin in Paris…

– Debt.

– We continue our theme from yesterday. Not because we want to, but having dwelled on it for so long, like a bubble- headed teeny-bopper with a pop-song stuck in her mind, we seem only to be able to hummmm that singular tune as we view the day’s market news.

– Yesterday we learned that in August, American consumers borrowed their way to 20% of the nation’s GDP on an annualized basis. That tune will surely rise to the top of the charts…but it may never reach #1. For today comes word from the Treasury Department that through the second quarter of 2003, U.S. "gross external debt" topped $6 trillion dollars. That’s sure to be a chart-buster.

– The Treasury report, which, according to Reuters, was issued in an attempt to comply with new ‘transparency’ rules established by the IMF, shows that the U.S. government now owes nearly 59% of the nation’s GDP to foreign governments, central banks, private banks and other investors. In the next three months alone, $1.2 trillion in principal, and another 53 billion in interest, will come due. With tax receipts of only $2 trillion per annum…argh…why bother? Don’t they distribute calculators among the pocket-protected policy wonks in Washington?

– Better yet, how do you suppose John Snow gets any sleep at night? As we have made abundantly clear, most of America is juggling debt payments: mortgages, car loans, skyrocketing tuitions, credit card debt etc., etc., etc. But what must it be like to have to come up with $1.2 trillion in principal in the next three months? Come to think of it, John Snow must sleep well at night, after all – it’s not his money!

– The market shrugged the Treasury report off like an aging professor’s wife sweeping dandruff flakes off her husband’s lapels before he heads off for the lecture hall. The Dow lost ground, but only by 23 points. The old lady of Wall Street closed her doors at 9,630…a full 2,453 points higher than its 52-week low, reached tomorrow a year ago. The S&P 500 closed down 5 to 1033…it, too, is well ahead of its 52-week low. The S&P also bottomed out a year ago tomorrow…265 points lower than yesterday.

– John Snow is not the only hapless politician blowing hot air at the world currency system. Vladimir Putin yesterday said he wouldn’t rule out suggestions by German Prime Minister Gerhard Schroeder that Russia begin pricing its oil in euros rather than dollars.

– Russia is the number-two oil exporter behind Saudi Arabia, so the change could further threaten the stability of the dollar…or at least, that’s the way the conventional wisdom has begun to emerge. Remember? At the outset of the Occupation of Iraq, reports swirled around accusing the U.S. of a thinly veiled attempt to force Iraq to conclude contracts under the oil for food program in euros – right. A short paragraph at the end of the NY Times piece on Putin’s press conference reveals the whole show is just that – a show. Most Russian oil companies are privately owned and the Russian government has little influence over their activities. If they want to trade in dollars…they will.

– The Pao Mo bubble in China got another breath of hot air itself, yesterday. At the conclusion of the Asean trade block meeting in Bali, Indonesia, China extended its involvement in the 1976 Treaty of Amity and Co-operation. The BBC reports that under deals signed by China and Asean, "a vast free-trade area of 1.7 billion people is envisaged by 2010." During the summit, Japan and India jumped into the fray and are said to be negotiating their own deals with Asean countries. Adding the Japanese and Indian populations to mix would bring nearly half the world’s population into one free trade block by 2020.

– Such a move, perhaps, might present the appropriate opportunity for the Chinese apparatchiks to de-peg their currency from the buck. And why not? If current trends continue, by 2020 the dollar will be all but worthless, anyway. New research from the World Currency Research Unit at shows that "since the June 1986 creation of the Dollar Index – a basket made up of the currencies of six major trading partners – the data clearly shows the value of the U.S. dollar eroding by a fairly steady rate of 1% a year."

– Specifically, between June 1986 and September of this year, the dollar has declined by over 18.5% versus both strong and weak currencies in the index. Had an investor left his money stashed in assets backed by the ‘traditionally well-managed’ Swiss franc, the report indicates, he would have kept nearly 65% more in value by virtue of ‘purchasing power’ than the same assets denominated in U.S. dollars.

– Canuck and Aussie dollars have each put in multi-year highs against this week v. those of the Yank genre.

[Ed note: Since March, when we recommended that readers take a look at Everbank’s Commodity Currency Index CD, certificates are up 13%. According to a study conducted by UBS Warburg, brought to our attention by friend and colleague Dr. Steve Sjuggerud, the four currencies in the Commodities Currency Index CD are undervalued versus the U.S. dollar as follows:

-17% New Zealand -26% Australia -13% Canada -41% South Africa

You can learn more about safely diversifying your money away from U.S. dollars by contacting the FDIC insured Everbank directly.


Bill Bonner, back in Granada…

*** "Well, here’s another bubble…"

We walked the streets of Granada, Nicaragua, yesterday. By some quirky trick of happenstance, we come here often and have gotten to like the place. Yesterday, we looked for a house in town.

The typical property is about 50,000 sq. feet, surrounded by thick walls. There tend to be beautiful exposed woodwork and ancient clay tile roofs around tropical interior courtyards. There also tends to be little else…almost everything needs to be rebuilt, renovated or restored. Locals live among the ruins of once-grand houses like barbarians in Rome. Chickens scratch around the ornamental fountains…trash collects in the corners.

Yet the prices for these broken-down houses near the town square are about the same as you would pay for a habitable house in the U.S.. Driven up by gringo buyers, you will have to pay about $200,000 for one with potential. Then, you may spend another $200,000 bringing it up to an acceptable standard. The result, though, will be a house with far more grace and style than in the typical yanqui casa.

We found one we liked and made an offer. It had been shown to us by two separate agents, who had to negotiate with each other to split the commission.

While this was going on, we marveled at how the world has changed. For while one agent held a cellphone to his ear, in a frantic attempt to sell a ruined house to a dim-witted gringo, a remarkable scene developed in the town square. A large crowd had gathered, egged on by a man with a loud voice and a megaphone.

"What’s going on," we wondered. "Are we going to see another revolution?"

We had caught only a few words:

‘Gringo’…’corrupción’…’Sandinista’…and some lament about the poor and downtrodden. It was probably as pathetic as any other stump speech, but it seemed to go over well with the crowd on the square.

Curiously, none of the world-improvers seemed to notice the fat woman on the corner. She had smeared something red on her face and stood there in a filthy brassiere and a torn skirt. Except for the fact that she was nearly obese, she looked as though she might have been a desert island castaway ready for rescue. Clearly, she had lost her mind and could have used a little help to find it.

But the crowd paid no attention. Neither did the police, nor any of the group gathered under the "Christ is the only way" banner. Nor did any of those men whose job seemed to be to whip the bony horses…nor those hundreds more who seemed to do nothing but hang out on park benches all day.

"What the hell is he talking about," asked another gringo, referring to the political fulminator.

"I don’t know," replied our local partner. "But it’s not good for business. What are the tourists going to think? They’re going to go home and tell their friends that Nicaragua isn’t safe….that the country is on the verge of rebellion or something."

The Daily Reckoning