Services and Manufacturing Are Inseparable

by Reihan Salam

In a review of Vaclav Smil’s new book on U.S. manufacturing, Mark Mills of the Manhattan Institute observes first that conventional statistics understate the role of manufacturing in the U.S. economy:

[T]he word “manufacture” has become misleading and anachronistic. For many, it conjures visions of smokestacks and hardhats, or perhaps the iconic Rosie the Riveter poster that symbolized the role of American manufacturing in winning World War II.

Manufacturing means much more than that today, though you wouldn’t know it from consulting the North American Industry Classification System, which, as Smil points out, categorizes custom assembly of computers as “retail.” I would add electricity production to the miscategorization list. NAICS categorizes it as a “service,” but electricity is manufactured. Similarly, while a century ago you might reasonably have classified the oil and gas industry as “extractive mining,” today’s tech-centric oil and gas businesses manufacture hydrocarbons from rock. But perhaps more importantly, Smil notes that much of what NAICS sweeps into “services” really belongs in the manufacturing sector. Fully 30 percent of the value of manufactured goods, Smil shows, is found in “services” integral to manufacturing. The NAICS’s faulty categories contribute to the impression that a service-centric economy can prosper without manufacturing much of anything.

Manufacturing “translates” inventions and innovation “into all the material riches [and] convenient services that are the hallmarks of modern societies,” Smil writes. He reminds us that, given the world’s current state of “material deprivation,” durable goods will continue to see enormous future demand. The European Union quantifies material deprivation as a household lacking two or more basic manufactured goods; television, telephone, car, shower, toilet, and a sound dwelling. By this standard, deprivation remains about 15 percent in the U.S., runs from 20 to 40 percent in poorer EU states such as Spain, Portugal, and Greece, and reaches 80 percent to 95 percent in developing nations. In short, far more people lack stuff than have it. The demand implications for manufactured goods should be obvious.

And advances in knowledge-intensive services are driven by “fundamental innovations in manufacturing,” e.g., “the construction of jetliners and gas turbines, the development of xerography, and the design and mass production of ever more powerful microprocessors and higher-resolution screens.” But Mills believes that Smil discounts the role of the unconventional oil and gas boom in spurring a domestic manufacturing revival:

The U.S. is now the world’s Number One producer of oil and natural gas and a net exporter of refined hydrocarbons (“manufactured” gasoline and diesel). The Energy Information Administration forecasts some $2 trillion in private investment in this sector in the next decade. This dramatic growth has not resulted from new discoveries or the opening up of federal lands, but from the emergence of new technologies and techniques that enable the manufacturing of liquid and gaseous hydrocarbons from solid shale rock. The energy-intensive manufacturing ecosystem’s expansion will catalyze other manufacturing, both upstream and downstream; that’s how industrial and economic ecosystems work. Already, the new energy boom is driving a massive resurgence of investment into everything from plastics to fertilizers. The American Chemical Council has catalogued nearly 100 chemical-industry investments valued at over $70 billion due to come on line by 2017, generating over 1 million jobs and adding over $300 billion to GDP.

Mills’ basic point — that the manufacturing sector is important, and that global demand for manufactured goods is likely to remain robust — is well taken. But even if we see more “reshoring” of manufacturing, it’s not clear to me that this will lead to a substantial increase in mid-skill employment in the manufacturing sector. Smil makes a related point in his book:

I will not answer the question of whether American manufacturing will experience a true renaissance, as its dwindling proponents hope, or whether it will, in employment terms if not in total output value, become an ever more marginal economic sector.

The point is that American manufacturing can both experience a true renaissance (in terms of total output value) and become “an ever more marginal economic sector” in employment terms.

The Agenda

NRO’s domestic-policy blog, by Reihan Salam.