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Act II for American Manufacturing? Act II for American Manufacturing?

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The Next Economy / Next Economy

Act II for American Manufacturing?

Say bye-bye to the likes of River Rouge, and hello to smaller, smarter factories surrounded by industrial ecosystems that nourish innovation. But the next wave of manufacturing may require government’s helping hand.

To the untrained eye, the new-wave manufacturing at AK Steel's Lyndora plant looks a lot like the old.(Patrice Gilbert)

photo of Bruce Stokes
December 9, 2010

LYNDORA, Pa.—Is American manufacturing dead? Those who think so point to manufacturing’s plummeting share of the national economy as a predictor of its eventual demise. But they likely have never been to Butler County. Here, north of Pittsburgh, in the heart of western Pennsylvania, basic manufacturing still drives the local economy. It has survived around here—indeed, thrived—suggesting that America, too, has an industrial future.

Butler County’s economy has long depended on making steel and fashioning it into precision tools, industries that most Americans think have largely fled overseas. To survive, companies here have successfully adapted, using flexible manufacturing techniques that marry computers with a skilled workforce to craft products for international markets. And in the wake of the worst economic downturn since the Great Depression, the unemployment rate in Butler County stood at just 6.8 percent in September, far lower than the national average.

The Obama administration’s hopes for a second act for U.S. manufacturing center on high-tech, future-oriented products such as solar panels and biotechnology. There is reason to think these goods will play a big role. Their track record has been impressive, and their cutting-edge nature inspires public imagination. The wind-energy industry, for instance, is roughly a $20 billion business and is growing by leaps and bounds. Still, these technologies’ contributions to the overall economy are statistically insignificant. Jobs in renewable energy, broadly defined (including wind, solar, and hydroelectricity), accounted for just 0.1 percent of total employment in the United States in 2007, according to Moody’s Analytics. The makers of steel, aluminum, and other primary metals employed three times as many people.

 

 “When it comes to new industries, it takes a while for them to grow,” said Sophia Koropeckyj, a managing director at Moody’s Analytics. So, for the foreseeable future, they’ll be dwarfed in economic significance by existing manufacturing. Despite the near-disappearance of the American textile, apparel, and shoe industries, and the recent troubles of the auto industry, the United States remains—if tenuously so—the world’s leading manufacturer, led by industries that rely more on technological precision and brainpower than on low-skilled labor—aircraft, sophisticated machinery, medical devices, and the like. But manufacturing’s staying power is also thanks to old dogs, such as high-end steelmakers, that have learned new tricks.

An unlikely testing ground for the second act in American manufacturing is in western Pennsylvania, where the first act had its heyday. To the untrained eye, the two eras look much the same. Showers of sparks and unspeakable heat still mark the pouring of steel. But Andrew Carnegie would not recognize this steelmaking. To compete in an increasingly competitive world market, even traditional manufacturers must operate on the technological frontier. In its Lyndora plant, AK Steel operates the world’s fastest and most productive coating and final annealing process, which chemically aligns grains on the surface of electrical steel so that—when it is used in a transformer that generates electricity—the electrons pass over it more quickly.

This is the future of American manufacturing, according to Sherle Schwenninger, who directs the economic growth program at the New America Foundation in Washington. “We need a broad-based manufacturing economy to provide jobs in the United States,” he said. And it can be done, he believes, because America’s competitive advantage in the world market lies in “sophisticated and higher-value-added, fundamental manufacturing—things such as earth-moving equipment and safer mining and drilling technologies—that can meet the needs of emerging economies.”

“This is manufacturing’s moment,” said John Engler, president of the National Association of Manufacturers, “precisely the right time for manufacturing to have a comeback.” A broad-based manufacturing economy, however, may well depend on the right policy environment: lower taxes, smart regulation, a weaker dollar, better training for workers, and the preservation of local industrial clusters of large and small firms that feed off one another. That, in turn, requires the public’s recognition that manufacturing has a meaningful role to play in America’s future and a government-guided plan to make it happen. “Without a plan,” warned Leo Gerard, president of United Steelworkers International, “American manufacturing will continue to atrophy.”

SECRET TO SURVIVAL

The departures from the first act in American manufacturing may be more than technological. The geography will change, as will its configuration. Huge facilities with tens of thousands of workers are out. Factories won’t look like the gigantic River Rouge auto-making complex that Henry Ford built in Dearborn, Mich., in the 1920s. Compact plants surrounded by clusters of small firms that service them will likely populate tomorrow’s manufacturing landscape. Many of the factories will be in the South, where lower wages may help establish a new industrial heartland.

Manufacturing can also survive in the Rust Belt. AK Steel, for example, isn’t merely surviving; it’s flourishing. With more than 1,300 employees, it is Butler County’s largest industrial employer. The company specializes in producing electrical steel (used in power transmission and distribution) and exports half of that. AK Steel is in the midst of a $135 million capital-expansion program, replacing three 1960s-era furnaces with a single, technologically advanced furnace. This will increase the plant’s production capacity by 40 percent while improving productivity and quality. It will also give AK Steel the flexibility to make various steels, depending on customer demand.

A few miles away, in downtown Butler, Wise Machine is helping AK Steel become more productive. Workers at Wise are adapting one of AK Steel’s continuous casters to resolve routine maintenance problems in hours, rather than days. Wise’s two-dozen workers are traditional machinists who may soon be outfitted with iPads to boost their productivity.

In the nearby town of Cabot, Pa., more than 500 machinists at Penn United Technologies turn out a variety of precision parts, some for instruments used by orthopedic surgeons, others for the armature that reads computer hard drives. Thanks to automation, one person—instead of four—now operates four machines that load, monitor, and spot-check the quality of each machine tool to produce more widgets, with no defects, for customers worldwide.

The secret to Butler County’s manufacturing success is not only a willingness to adapt but also the presence of an industrial ecosystem of sorts: a local network of companies and resources that help one another survive. At its core is AK Steel, which stayed in business while countless other steel mills in the Rust Belt succumbed to foreign competition. As a result, smaller businesses—such as Wise—that build parts and perform repairs for AK Steel have also survived. These companies are hothouses of innovation, spawning entrepreneurs who spin off to form their own firms. This, in turn, has preserved a skilled, local workforce.

Industrial ecosystems are important both in preserving traditional manufacturing and in developing cutting-edge, renewable-energy technologies, such as solar and wind. “Renewables have the benefit of being the new kid on the block,” said Bruce Sohn, president of First Solar in Tempe, Ariz., the world’s largest manufacturer of thin-film solar modules. “But finding the ability to compete and manufacture in the United States will be an ongoing challenge even for us, unless we make significant changes in our public policy.”

NO. 1, BUT …

Measured as an engine for employment or as a chunk of the economy, American manufacturing has been retreating for two generations. The economy has shifted steadily from generating wealth by making things to counting on finance, insurance, real estate, and other white-collar activities to fuel growth. In 1947, manufacturing accounted for more than 25 percent of the nation’s gross domestic product, while finance, insurance, and real estate produced less than 11 percent. (See graphs on p. 14.) By 2009, manufacturing had shrunk to 11 percent of the economy, while those other activities’ share had doubled to 21 percent.

Moreover, the profile of American manufacturing has been transformed. Labor-intensive, low-value-added production has all but disappeared. The textile, leather, and apparel industries, which in 1977 accounted for nearly 7 percent of all manufacturing activity, shrank to less than 2 percent by 2008.

Increasingly, U.S. manufacturers have focused on producing capital-intensive goods: computers, electronic products, chemicals, and, soon, energy technologies. “The nuclear business has come alive again,” said Eric Garrard, president of Wise Machine, whose shop is making coils for a nuclear reactor. “[It] may be the saving grace for a lot of the manufacturing firms.”

But the new American manufacturing sector employs far fewer workers. Only 11 million people now make things in the United States, the lowest number since World War II.

Before the recent recession, however, the value of U.S. manufacturing output had reached an all-time high. The United States still hosts the world’s mightiest manufacturing economy, producing 21 percent of all goods made globally. Japan is a distant second, at 13 percent. China, at 12 percent, ranks third.

The reason that the United States has remained the world’s manufacturing leader while in relative decline is, in a word, productivity. U.S. manufacturers are the most efficient in the world. AK Steel, for instance, produces more steel today than in the 1970s, with a third of the workforce. This productivity has also helped fuel the rest of the economy. For every dollar that manufacturers spend directly, they foster another $1.40 in economic activity—a multiplier larger than for any other sector.

Manufacturing remains critical to American economic success. Exports of goods account for three-fifths of all U.S. sales abroad, paying the bill for imports of consumer products and oil. Without them, the U.S. trade deficit—at record levels before the recession—would be even worse.

Despite the recent boom in exports of goods, the nation’s share of the world’s manufacturing trade has been shrinking. China is predicted to overtake the United States next year as the world’s leading producer of manufactured items measured by value. And the future looks bleak. From 1989 to 2001, the United States recorded a trade surplus in advanced-technology products, including biotech. Those are the same capital-intensive goods that economists have long argued would naturally be Americans’ domain, as the production of labor-intensive wares, such as apparel, moved overseas. Since 2002, however, the U.S. has run a deficit in advanced-technology trade.

Graphic

Other hindrances may lie ahead. Workers can produce only as much as their plant and equipment permit, and until recently, U.S. industrial production capacity had grown robustly—through good times and bad. In the past decade, however, companies have shown a reluctance to invest in new capacity, which has grown at a third of its 1990s pace. When the economy eventually rebounds, this may limit U.S. manufacturers in satisfying domestic and foreign demand.

Manufacturers are also an important source of innovation, accounting for more than two-thirds of all research and development conducted in the United States. Since 1999, however, American manufacturers have increased their research-and-development investments outside the United States three times as fast as at home.

Manufacturing wages also bolster the economy. Manufacturing workers get higher pay and more generous benefits—20 percent higher in 2007—than Americans in nonmanufacturing jobs, although wages have recently been growing slowly, if at all.

“If you give up on manufacturing,” New America’s Schwenninger cautioned, “you give up lots of future productivity gains—and gains in the standard of living.”

HOW TO INNOVATE

The conventional wisdom is that the United States can thrive simply as a place for research and development—that the country no longer needs to actually make things. But this assumes that new products spring full-blown from the minds of laboratory scientists. The reality is that in most industries, the manufacturing process itself is a critical factor in developing radically new products.

In Butler County, the presence of multiple manufacturers has been self-reinforcing. “People don’t understand how much manufacturers feed off each other,” said Diane Sheets, the business-development manager of the Butler County Community Development Corp. That symbiotic relationship is vital, she said, in prompting innovation and an entrepreneurial spirit.

For one thing, creating and sustaining a network of competitive manufacturing entails day-to-day interaction between suppliers and customers, which allows each to learn from the other. “The knowledge underlying emerging technologies requires person-to-person contact among manufacturing industries and between manufacturing and services,” said Gregory Tassey, a senior economist at the National Institute of Standards and Technology. That interaction is harder when a company’s supply chain stretches around the world.

New manufacturers also rarely emerge in a vacuum. They typically morph from existing businesses, when coworkers who think they can build a better gadget than their current employer go out on their own. In the 1970s, the founders of Penn United did just that, spinning off from Oberg Industries, another precision-tool firm down the road. This was history repeating itself: Oberg Industries, too, got its start when its founder left a larger local company in the late 1940s. If U.S. manufacturers move abroad, foreign entrepreneurs create these start-ups.

Consider what happened when the U.S.-based manufacturing of semiconductors and flat-panel displays for computers and televisions moved to China more than a decade ago, as Harvard Business School professors Gary Pisano and Willy Shih have recounted. At first, American economists saw no cause for concern, arguing that these weren’t part of the core manufacturing capability that the United States needed. The experience that the Chinese gained in making computer chips and screens, however, taught them how to process ultrapure, crystalline silicon into wafers and to apply thin films of the silicon onto large glass sheets. By so doing, they created a solar panel industry that has become a major international player.

“The United States cannot continue to rely on outdated economic-growth strategies that fail to understand the complexity of industrial technology and the synergies among supply chains,” economist Tassey said.

MEANS OF REVIVAL

During the past couple of years, a national preoccupation with Wall Street’s meltdown and the ensuing recession has crowded out any serious debate about how to revive American manufacturing. So has the customary aversion to government-directed industrial policy, often demeaned as “picking winners and losers.”

These attitudes, however, may be changing. Despite the distrust of government that Americans displayed in the November congressional elections, four of five Americans support a national manufacturing strategy, according to a poll that the Alliance for American Manufacturing conducted last spring. Proponents of a government-led strategy say that it needs to be comprehensive, with tax cuts, helpful regulations, and interrelated efforts to preserve and rebuild core industries, the small companies that cluster around them, and their skilled managers and workers.

So far, the specter of such a strategy hasn’t raised the tea party’s hackles or provoked a political furor over government’s proper role. Indeed, political antagonists have found points of agreement. Recommendations issued in November by a bipartisan budget commission suggest growing sentiment that the corporate tax rate—among the highest in the world—ought to be reduced to encourage companies to base their operations in the United States.

Similarly, Democrats as well as Republicans support a tax credit for research and development, which lapsed a year ago for the 14th time in the past three decades. The United States accounts for about a third of the world’s R&D spending, far more than the second-place Europeans. Still, relative to the size of its economy, America’s spending on research and development ranks eighth among major industrial economies.

But R&D isn’t enough. “An R&D policy should not be confused with a manufacturing policy,” First Solar’s Sohn warned. “The worst thing would be for us to tap into the ingenuity of our engineers and come up with products and manufacturing processes, and then go and put [them] overseas because that is the only place that it makes sense to make things.”

Manufacturers gravitate to societies that show they want them, said Sohn, whose company operates factories in Germany, Malaysia, and Perrysburg, Ohio. “We were attracted to Malaysia,” he noted, “because of their focus on manufacturing. It starts with a tone in the country. Politicians and businessmen there have acknowledged the utility and value of having manufacturing as a base, and they have established a set of policies that were attractive,” including lowering taxes and providing access to low-cost capital.

Subsidies can dry up, of course, and tax benefits can be withdrawn. Manufacturers also look for stable—preferably growing—domestic demand. That’s one reason First Solar built a factory in Germany and is expanding it. German utilities are required to buy electricity produced by consumers’ roof-top solar panels
at a price set high enough to enable them to pay for its installation. Giving every consumer a chance to earn money as an electricity producer has sent German demand for solar panels skyrocketing.

 

R&D alone won’t assure a future for American manufacturing.

A vibrant American market for manufactured goods will be harder to achieve, given the likelihood of continual slow growth. The 2009 economic-stimulus package sought to encourage the market by requiring that projects it funded include substantial U.S.-made content. Many economists and foreign governments decried the provision as inefficient and jingoistic. Yet it enabled United Streetcar in Clackamas, Ore., to begin the first production of streetcars in America in more than half a century. “The buy-America provision took the risk factor out, so we could make the start-up investment,” said Chandra Brown, United Streetcar’s president.

Foreigners, too, can be lured into making in the United States more of what they sell to Americans and to the rest of the world. Because of the recent decline in the dollar and the slow growth in American wages, it’s become cheaper in many cases to manufacture in the United States than in Germany or Japan. As a result, Volkswagen is building a plant in Tennessee, and BMW’s factory in South Carolina has become the largest exporter of U.S.-built cars. The federal government might also attract and keep manufacturers by matching the investment subsidies and tax breaks that China and Singapore offer.

Lowering the value of the dollar would preserve and expand the U.S. manufacturing base by making homemade goods a better buy for Americans and foreigners. The dollar is estimated to be overvalued against the Chinese renminbi by at least 20 percent. Reducing that to zero, according to the Peterson Institute for International Economics in Washington, would create about a half-million well-paying American jobs, mainly in manufacturing.

THE SKILL, THE DESIRE

But something more is needed to assure a vibrant future for American manufacturing: a skilled workforce. That’s a scarce commodity these days, even in Butler County. “Every kid who grows up here wants to go to college and work on Wall Street,” said Wise Machine’s Garrard, “not follow their fathers into AK Steel.”

Butler High School has a highly regarded vocational education program that teaches the latest in manufacturing techniques. Almost all of its graduates find jobs. But there are only 43 participants—more students choose training to become beauticians than machinists. “If we want to replicate the highly skilled German workforce,” said Scott Paul, executive director of the Alliance for American Manufacturing, “we need a seamless four-year program that starts in high school and goes through community college or technical schools that prepare students for manufacturing jobs.”

That proposal costs money. Butler County Community College conducts extensive training programs for local manufacturers, but demand is down, partly because of cuts in the state funding that picked up much of the cost. Nationally, only 0.17 percent of America’s GDP is invested in worker training. Germany spends nearly five times as much.

If skills are an obstacle, more money can help. But if it’s desire that’s lacking, all bets are off. In the past few decades, as manufacturing’s share of the American economy and workforce has slipped precipitously, the perception has grown that U.S. manufacturing has no future. No doubt this has contributed, in turn, to the Butler County youths’ tepid desire to pursue a manufacturing career.

Yet in Butler County, where the surviving manufacturers are showing some spunk, these fears seem premature. “There will always be a manufacturing sector in the United States—there has to be one,” said Frank Vargo, NAM’s vice president for international economic affairs. “The question is what kind of manufacturing. And that is a matter for policymakers to shape.”

In any event, there is reason to hope. “The future is still in our hands,” said Kent Hughes, director of the program on America and the global economy at the Woodrow Wilson International Center for Scholars in Washington, “if we don’t sit on them.”

The author, a senior fellow at the German Marshall Fund, is a contributing editor to National Journal. 

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