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2003 Annual Report—Federal Reserve Bank of DallasA Better Way
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 Trade increases productivity in both exporting and importing nations. |
Manufacturing provides an ongoing case study of productivity in action. Since the Industrial Revolution, the sector has endured wave upon wave of reorganization, largely because of new technology that increased average worker output per hour. The number of factory workers peaked in 1979 at 20 million and slipped to a low of 14 million in 2003. Manufacturing has also been falling as a percentage of total employment since World War II, hitting a low of 11 percent in 2003.
The job losses didn't mean consumers lacked manufactured goods. Bolstered by greater productivity, domestic factory output has held its own, ranging between 15 percent and 17 percent of an expanding GDP since 1977. At the same time, we've been able to trade our farm output, services and other products for foreign manufactured goods.
While U.S. manufacturing employment shrank, the overall labor market kept moving forward (Exhibit 2). From 1979 to 2003, Americans filed more than 114 million initial claims for unemployment benefits, a figure that captures just a fraction of the number of job losses. Yet during this same period, America created enough work for a growing labor force, with total employment rising from 91 million to 130 million. For the most part, the additional workers produced new goods and services, expanding the size of the economic pie.
Despite the job losses during the recent recession, the U.S. unemployment rate has been relatively low in recent years. And out of all the shuffling and reshuffling, productivity marched ever upward, posting an increase of 67 percent from 1979 to 2003.
Strong productivity and job growth go hand in hand because the United States hasn't tried to thwart the reorganization of the labor market with excessive regulation. In 2003, Forbes magazine concluded that the United States had the world's freest labor market—by a wide margin.
Countries that impede economic change become laggards, not just in the race for productivity but in living standards as well. Laws making it hard to fire workers and mandates for excessive severance pay hinder the changes that are the lifeblood of productivity. The cost of good intentions continues to be high in Latin America, for example. Most nations in the region thwart reorganization by favoring entrenched economic interests. By doing so, they've cheated themselves out of economic progress.
 With computers, tiny cameras and robotic arms, doctors can now operate by manipulating delicate instruments by remote control. Surgeons in the emerging field of telemedicine have already performed procedures on distant patients, creating potential savings in travel time while using facilities more efficiently. |
Labor mobility, of course, isn't the only driver of macroeconomic productivity. As the economy reorganizes to produce more, it also lowers prices relative to wages, so that our paychecks buy more. The price effect is particularly visible with the productivity gains from trade, where cheaper imports make consumers' budgets go further. To illustrate how exchange generates greater productivity, let's simplify the world to just two countries and two goods—the United States and China, producing soybeans and shoes.
In a world without trade, each country makes both products. Their combined output totals 800 pairs of shoes and 7,000 bushels of soybeans. Introducing trade into this stylized world allows the United States to specialize in soybeans while China makes shoes—a reflection of comparative advantage. (See Exhibit 3.)
What happens? The total output of shoes increases to 2,000 pairs, all made in China. At the same time, production of soybeans rises to 10,000 bushels, all grown in the United States. Both countries consume more of both products and pay less for the one they import. Calculating productivity, we find increases of 122 percent for China and 47 percent for the United States.
The added productivity represents a bonus from trade—and trade alone. Labor forces and money supplies stayed the same in both the United States and China. Neither country raised output per hour in either shoes or soybeans. Trade made both of them more productive, even though firms and workers didn't get any more efficient on their own.
Trade can be every bit as powerful as technology in making us productive. To achieve the same results without trade, the United States would require new technology good enough to double its productivity in shoes. China would need to become four times more efficient in soybean farming.
 Using radio scanners to collect tolls makes transportation more efficient, saving motorists time. Open-road toll lanes can handle about 2,000 cars an hour, compared with 750 for automated coin boxes and 360 for human toll-takers. |
The example highlights what occurs with a wide range of goods and services in the real world. Like technology and other sources of productivity, trade makes a powerful contribution to the economy's overall efficiency. Trade's productivity gains provide a strong justification for open markets. Enormous benefits are lost when countries bow to their producers' narrow interests and enact protectionist measures that block imports or raise their price.
Productivity gains from trade often entail overseas outsourcing, a controversial trend because of its impact on U.S. jobs. Moving employment offshore is not new in manufacturing, but the Internet and other networking technologies have made it possible to shift some service jobs to lower-wage countries. Computer programmers are writing code from distant lands. Call centers in India, not Indiana, are handling inquiries from American customers.
Technology and open markets dictate that production will continue to shift overseas. Outsourcing does mean some job losses at home, but we can't ignore the corresponding gains: Companies reduce costs. Consumers see lower prices. The economy becomes more productive, fueling growth and new jobs. A more efficient global division of labor will give the U.S. economy a big productivity boost for years to come.
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Trade seems to create productivity out of thin air. To illustrate how, simplify the world into China and the United States, each endowed with a hypothetical labor force, money supply and production capacity. As the more advanced nation, the United States maintains an absolute advantage in producing both products.
Without trade, each country meets its own needs. Both China and the United States allocate labor to produce soybeans and shoes. Given their labor supply and productivity, the nations turn out a combined 800 pairs of shoes and 7,000 bushels of soybeans. With free trade, China exploits its comparative advantage in producing shoes. The U.S. edge lies in growing soybeans. Trade increases total output: Shoes rise to 2,000 pairs, while soybeans increase to 10,000 bushels. With increased output, both China and the United States consume more shoes and more soybeans.
Imports lower prices. U.S. soybeans cost Chinese consumers 80 percent less than those grown at home. Chinese shoes cost Americans 50 percent less than domestic ones. Neither country became more efficient in producing shoes or soybeans, but an hour of work now buys more than it did before. Simply through trade, productivity grows 122 percent in China and 47 percent in the United States.