More times than not, complex economic issues reduce down to motivations. It doesn’t matter whether you are talking about consumers or producers – It is important to understand the motivations of both if you hope to understand the market and propose solutions to problems. If you fail to accurately understand the motivations that drive the Market then any solutions you propose is akin to throwing darts while blindfolded.
The economic questions of motivation are infinite. Why would a consumer buy an iPad instead of a Kindle Fire? Why would a consumer shop at Target versus Wal-Mart? Why would Netflix change their product offering and pricing strategy? Why would a US company choose to manufacture its products outside the US?
This last question is the one I’ll explore in this post and show how Obama’s recent Tax Plan that he introduced on 22-FEB-12 can best be described as a 3rd grader who walks into a Quantum Physics convention, listens to the conversations for a while then grabs the microphone and starts lecturing the crowd.
Moving a manufacturing operation to a country like China is no trivial matter and the rewards for this decision would have to be huge for a company to do it. The motivations for the a company doing this distills down to mainly increased profits so let’s explore some of the reasons a company would move its manufacturing outside the US.
Sometimes a company can save distribution costs (which will increase profits) by manufacturing the products in the country that will be a large market for your product and this is a reason many companies choose to move additional facilities to locations outside the US. Sometimes a country will also make a stipulation that you must have a manufacturing presence in the country before they will allow you to sell the product there and in the case of a large market like China, a company will have to concede. But the two main reasons to move manufacturing outside the US is to take advantage of cheaper labor and lower corporate taxes.
I have shown in a previous post that lower labor rates outside the US should be utilized by companies to take advantage of the global market to make their products that don’t require a highly technical workforce. The textile industry in the US is a prime example of this and these jobs have mostly left America and won’t be coming back so we should stop pining for them. Here are a few quotes from my previous post on this topic.
“I am a proponent of the Knowledge Based Economy and I’d rather have the US involved in the higher paying manufacturing jobs such as product development, engineering, purchasing, finance and management. It makes smart business sense to let Mexico, China and India be involved in the labor intensive (and sometimes dangerous) work of manufacturing products that lend themselves to mass production. I’m also a proponent of the Free Market and since the Information Age has shrunk the size of the world as it relates to supply chains, it makes better business sense to have the high tech, high paying jobs in the US and the low tech, low paying jobs in countries that need them and price their labor accordingly.”
“But here is the rub. Moving to a Knowledge Based Economy demands a workforce that is highly skilled and those employees are required to have more education than a high school diploma provides. Americans need to recognize this now, better yet we should have recognized it 10 years ago, or we will be left behind. China, Mexico and India are not going away and there is no way to put the genie back in the bottle. America needs to set a priority on producing a highly skilled workforce which means more graduates from technical schools and traditional 4-year colleges.”
Labor Unions contributed to this exodus of manufacturing jobs and some Liberals think that strengthening unions will keep the jobs here but they are trying to put a genie back into a bottle and that never works. That ship has sailed, the US is now competing in a global economy and we have to realize that. The shift in manufacturing jobs from the Midwest (high percentage of labor unions) to Right to Work states also validates this reality that labor unions have provided motivation for companies to relocate manufacturing to lower cost labor markets. Other than continuing to reduce the Union influence that provides motivations for companies to move jobs outside the US, there is really nothing else that can be done to prevent this off shoring of jobs. Companies have responded with improved efficiencies, automated manufacturing and increased the technical expertise of their employees to compete on a global scale and more of this is needed but we will not return to the glory days when 33% of all jobs in the US were in the manufacturing sector.
Now we get to an area where the federal government can make changes to alter companies’ motivations and keep more jobs in the US. American companies fall prey to the 2nd highest corporate tax rate in the world (39.54% for combined state and federal) and you don’t need a PhD in Economics to realize that a company can make more profit paying zero percent corporate taxes (which is the case in most countries) versus 35% (which is the current federal corporate tax rate). You are a fool if you don’t realize that this is a powerful motivation to move manufacturing jobs outside the US!
The GOP candidates realized this last year and that is why we saw serious tax reform proposals from all of them. It started with Herman Cain and his 9-9-9 plan (corporate tax rates at 9%), then Rick Perry which (corporate tax rates at 20%), then Ron Paul (corporate tax rates at 15%), Gingrich (corporate tax rates at 12.5%), Santorum (corporate tax rates at 17.5%) and Romney (corporate tax rates at 25%) who all promised to drastically lower corporate tax rates, eliminate loop holes and keep the tax rates flat.
Now, after over 3 years as President, Obama has come to the party and wants to lower corporate tax rates to 28% but in traditional Liberal fashion, the details were fuzzy. Obama’s plan eliminated loopholes (but didn’t detail those) and included a new tax on profits for items manufactured outside US (but didn’t detail what those would be either).
Jim Pethokoukis wrote a great analysis of the Obama plan but let me expand on that from the perspective of someone who actually works in manufacturing for a Fortune 500 company.
Obama’s corporate tax reform plan gives us another peak into the Liberal Worldview and how they wish to solve problems. US companies are motivated to move manufacturing outside the US because of the extremely high federal corporate tax rates and when conservatives see this problem they recommend ‘carrots’ to companies by lowering the federal tax rates dramatically that will provide motivation to keep jobs in the US but when liberals see this problem they bring out ‘sticks’ to punish companies for manufacturing products outside the US.
It’s a subtle difference but an important one. Conservatives would like to reduce the federal government’s role in providing motivations to US companies where they build their manufacturing sites. With lower corporate taxes, they’ll move (or retain) more jobs in the US which will increase federal tax revenue from workers who pay income tax and keep profits equal to or greater than we see now. The Laffer Curve predicts higher tax revenues from lower tax rates and a WSJ editorial analyzing a couple of the GOP candidates’ tax plans reminded us of that.
“After the Reagan reform of 1986 that reduced tax rates to 28% from 50%, tax revenues rose by 36% from 1986 to 1990.”
Liberals want to increase the federal government payrolls (it will take teams of people to police these foreign manufacturing sites to make sure they pay their ‘fair share’) and punish companies for manufacturing outside the US. Liberals are like a carpenter who only has a hammer – all problems look like a nail. Liberal solutions to all problems involve more government oversight and increased regulation.
This different approach to solving economic problems is very telling and should not escape the voter come November. Do you vote for motivations that originate from increased government policing or do you vote for motivations that originate from the Free Market?