Wednesday, October 1, 2014

Why Deindustrialization Is A Good Thing

This study by the Dallas Fed describes the changes that are taking place in the global economy.  Nations typically move from an agricultural economy to an industrial economy.  Productivity improvements in agriculture allow a nation to supply the necessary food products with a much smaller workforce.  The unemployed farmers move to urban areas and take manufacturing jobs.  Eventually, some of the manufacturing jobs move to countries with lower cost labor.  The industrial sector becomes a smaller part of the economy and the services sector expands.  Most of the advanced economies are in the late stages of this transformation they have become service economies.

We are all familiar with this process.  The real issue is how this process has worked out in the advanced economies.  In theory, low skill manufacturing jobs are lost in this process.  The advanced nations retain higher skilled manufacturing jobs, and the industrial sector increases its consumption of high paying services such as consulting, finance and information technology.  Households increase their spending on high paying services such as education and healthcare and everyone is better off except the low skilled industrial workers who need to upgrade their skills in order to participate in the advanced economy.  The advanced economies are at the top of the pyramid in the "knowledge economy".

This paper describes how many nations have gone through this process and it associates the process with increases in per capita GDP which is typically higher in the more advanced economies.  One of the countries that has gone through this process is Japan.  Its economy was at its apex in the 1980's when it became an exporter of manufacturing products to the America and the rest of the world.  Its transformation into a services economy has not worked according to theory.  Economic growth has declined and it has been in a state of recession for decades.  Much of the western world is having a similar experience.  Managing the transition to a services based economy appears to be more difficult than it is described by the Dallas Fed.

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