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A fellow at the United States Business and Industry Council, Tonelson is the author of The Race to the Bottom: Why a Global Worker Surplus and Uncontrolled Free Trade are Sinking American Living Standards. In this interview, he explains how recent international trade agreements -- particularly with China -- have sent many American manufacturing jobs offshore and created a massive trade imbalance that threatens the future of the American economy. "The problem is that U.S. trade policy writ large has encouraged large and politically powerful multinational companies to supply the U.S. market from China," he argues. "It gives these firms the ability to charge U.S. prices for goods … but to pay Chinese wages." Tonelson warns that unless the government reigns in these trade imbalances, a growing U.S. debt will mean that Americans will no longer be able to afford goods from overseas. "… [U]ltimately American consumers have to earn U.S. wages to pay U.S. prices," he says. This interview was conducted May 27, 2004.

 

Mr. Tonelson, you follow business and industry [for the United States Business and Industry Council]. ... Who are your members?

Our members are mainly small and medium-sized manufacturing companies; that is to say, companies that employ fewer than 500 workers.

Small and medium-sized manufacturing companies in this country have never seen a threat to their survival like the threat that's been coming from the recent trade agreements that we've been signing.

And all kinds of industries?

That's right, but mainly what people often refer to as smokestack industries, medium-tech industries; industries that bend and cut and shape metal in various ways, and they supply larger industries like the auto industry or the machine-tool industry or the plastics industry. ...

So what have you seen in the last several years in terms of your members?

Small and medium-sized manufacturing companies in this country have never seen a threat to their survival like the threat that's been coming from the recent trade agreements that we've been signing. It's important to remember that the firms in our organization -- and they're pretty representative -- they are family-owned companies. They have been under the same management for generations. These are firms that by and large survived the Great Depression of the 1930s, and lots of them tell us if things continue as they are, we won't survive this.

And just describe what "this" is. ...

What they've been suffering from has been the indiscriminate opening of the U.S. market to all comers from all around the world, not only high-income countries like the countries of Western Europe, Japan, but increasingly the low-income countries of the Third World: Asia; Latin America; in particular, and certainly since the mid-1990s, China most of all.

So what's been the Chinese impact on American manufacturing in the last six, seven, eight years?

The Chinese have steadily been gaining market share in the U.S. at the expense of U.S.-based producers in a broad range of increasingly technologically sophisticated manufacturing industries, industries that have really formed the backbone of the U.S. manufacturing base and that have supplied tens of millions of our countrymen with the ability to lead middle-class lives. So there's been an enormous economic impact, an enormous technological impact and an enormous social impact as well. ...

So if you had to tick them off, what are the industries that you see that have been hard-hit by the Chinese trade in competition?

The U.S. industries that have been very hard-hit by Chinese trade and competition would include: clothing, toys, sporting goods, furniture, automobile parts, tires, machine tools, ball bearings, electrical machinery of all types like motors -- we use motors for fans; we use motors for lots of large construction equipment -- and various industrial equipment systems of all types: big industrial machinery, construction equipment, agricultural machinery, semiconductors, telecommunications equipment -- not only the phone that you use in your home or on your office desk, but advanced telecommunications equipment, routers that can handle millions of calls with units of electronic information. Internet backbone equipment is coming from China. The lasers that send light through fiber optic communication systems are now coming from China. Aerospace parts are coming from China. And the list goes on and on. ...

So when you look at these various industries, what do you see happen? [What's the impact?]

You see U.S. companies, in particular, moving production over to China, not to supply a rapidly growing Chinese market -- because the Chinese market is actually much smaller than we have been told -- but to supply the U.S. market. And the kinds of companies and U.S. industries that have gone over there grow in sophistication with every passing year, starting with something like, let's say, machine tools or relatively simply consumer electronics, moving up very rapidly to information technology products, like semiconductors and advanced telecommunications gear. Again, it's U.S. companies building those factories or buying their products from Chinese companies or from Japanese companies or other countries' companies that operate in China.

We've heard this before. There was a time when people were worried about what was happening with Japan. The Japanese were gobbling up semiconductors and telecommunications and one thing and another, to television sets, consumer electronics, appliances whatnot. We heard it about Korea; then we heard it about Taiwan; then we heard it about Hong Kong. So we've heard this story before. Is there something different in the story of the Chinese exports to America? ...

The biggest difference between Japanese exports to America and Chinese exports to America is that most Japanese exports to America have been manufactured by Japanese companies, Japanese-owned companies operating in Japan itself. Sometimes they've moved over here, but they're still Japanese companies. A large and growing share of Chinese exports to the United States are manufactured by U.S.-owned companies that have set up shop to manufacture in China. ...

... [Aren't] we just seeing a normal process of globalization? ...

We're seeing U.S. companies and the U.S. government trying to compensate for a big economic mistake made in the late '80s and early '90s: the failure to open up the Japanese market in particular, and to a somewhat lesser extent Europe's market, to American exports. This created problems for U.S. companies that if you are going to try to maintain an open world trading system, which was the goal of the U.S. government, U.S. companies had to find a cost advantage somehow to compete against the Japanese and Europeans. And the way that they did [that] was they went to Mexico, and they went to China. So it's critically important to understand, they didn't go to Mexico and China to serve those markets. They went to Mexico and China to try to hang on to their markets in the United States.

Why China? ...

China provides multinational companies with enormous advantages over industrialized countries as a manufacturing base. It's got a very large pool of very cheap workers. It also has a very large pool of very smart folks who can easily be trained and who work hard. In addition, China has no labor unions. There are no labor rights in China, so that when Chinese workers have problems, they have no option of going to management or going to their union to get help. ... China also has an enormous unemployment rate, so there is a big surplus of labor in China, and that alone keeps workers well-behaved because everybody is afraid of losing their job.

And the Chinese government has also provided many incentives for foreign multinational companies to come to manufacture in China. Many business costs are very lavishly subsidized. Land costs are very lavishly subsidized. Taxes are very light or nonexistent. Fuel costs, which are a big problem for U.S.-based manufacturers now because oil prices and gas prices have been rising so steeply lately, these are largely subsidized in China, so the manufacturers don't have to pay them at all.

So China has used its own government and government policy to lure manufacturers from all over the world to China on top of these natural advantages that it enjoys from its enormous population and its huge glut of workers.

So what has happened? So you've got the lure. You've [got] the cheap fuel and cheap land and low tax, all these advantages. If you look over the last decade, do you see a big shift? How would you describe it?

Oh, sure. You have seen literally hundreds of billions of dollars of investment in manufacturing flowing into China from all over the world. And you have seen an enormous shift in world trade flows. You have seen China, for example, taking market share from other Asian countries in this U.S. market because China has been attracting much more manufacturing investment than other Asian countries have been. One big reason: They're more expensive than China.

... What has been the Chinese impact on manufacturing in America? ...

China has lured many industries, many manufacturing jobs and much output that used to be done in this country. It's been a zero-sum [game] in many respects, and the problem now is that, whereas in the past China was mainly drawing labor-intensive industries, what we Americans often refer to as Third World industries -- the clothing industry, the toy industry, even the furniture industry -- now China is attracting jobs and production for much more technologically sophisticated industries that we thought would be immune to Chinese competition for a long time to come. ...

... Soon we will be seeing information-technology, service-type jobs coming from China: software writing, software design, and also the white-collar jobs that have been associated with all of the manufacturing industries, from clothing to semiconductors, the research and development jobs. It is across the board, and the movement is also vertical within industries. The more and more lucrative jobs, the jobs that take more and more skills and more and more education, are moving to China as well, and very, very rapidly.

So you're saying they're moving from low end to high value?

Very quickly. Much more quickly than anybody had ever expected.

And at enormous volume, I guess?

Enormous volume. ...

What we hear from people who are advocates of free trade is this is a good thing; that the American economy is benefiting. We're getting cheaper consumer products; we're getting cheaper components for more sophisticated high-technology products; that this is globalization, and this is the way it's supposed to work; that this is a good thing, and this is free trade. We have to go with it. It's inevitable. This is how economics operate. What's your response to that?

The main problem with the argument that so-called free trade with China has been generally good for the American economy is that this trade with China has unleashed trends that are completely unsustainable and that will crash and burn, especially if you believe in economics, because one thing that economics teaches you at the very beginning is that if you don't earn your way in the world, if you don't have a way of making money, which usually means producing things -- and it could be goods, and it could be services -- but if you lose the ability to produce things, eventually you will lose the ability to consume things, and that is one of the big dangers that I see emerging from these ongoing U.S.-China trade patterns.

You're ... suggesting there's a hollowing out of American manufacturing that's going on, which is eventually going to cost us all as consumers as well as workers?

Absolutely. U.S. trade with China is basically stripping the United States of its ability to earn its way in the world, to finance its consumption by producing goods or by producing services.

Because we're losing productive capacity to China?

Exactly. And the only option that we'll have left once we've lost production capacity to China is somehow borrowing the money we need to consume at the levels that we've grown used to.

Is this inevitable from free trade?

... These trends of China stripping the U.S. of its capacity to consume responsibly, they are not the inevitable result of free trade. They are the inevitable result of our current trade policies with China.

And what's wrong with our current [trade policies]? ...

We launched these trade policies toward China because a completely misleading impression of the China market was created by supporters of current trade policies, both in the U.S. government and in private business, especially among the ranks of multinational companies. The picture painted for the American voter was that China was a big emerging market for U.S. exports and that U.S. workers and also U.S. companies -- companies that made their products here -- could profit tremendously from the opening of trade flows with such an enormous country like China. After all, it had 1.2 billion people. What they never told us was that the vast majority of the 1.2 billion people earned virtually nothing and therefore have no ability to consume.

To buy American products?

Exactly. However, they do have an enormous ability and an even greater potential to produce. And the gap between China's production potential in the near term, in the foreseeable future for that matter, is so enormous that it's created imbalances in American finances that can't possibly last.

Are you saying that it was a myth that we were going to sell lots of American cars and television sets and lawn mowers and bicycles and you name it across the board to the Chinese? ...

One of the main myths of U.S.-China trade was that we would be able to sell lots of products that the Chinese would consume. It's very important to remember that not all products that get traded back and forth among countries are consumed in the countries that buy them. There is much trade in what are called consumer goods, ranging from clothes and shoes and toys and goods to jet airplanes. We sell a finished product to a foreign country like China, it gets consumed there. ... But a large percentage of our trade with China doesn't look like that at all. These parts and components are shipped to Chinese factories. They're called exports, but they really are not like traditional exports. They get manufactured or assembled, often in U.S.- owned factories, and the end market, the consumption market, is the U.S. ...

Nobody expected that U.S.-China trade flows would ever be perfectly balanced or anywhere close, but the gap today between what we sell to China and what the Chinese sell to us is unprecedented in human history. It stands, as of 2003, at $125 billion a year, and it shows no signs of slowing its growth whatever. ...

So what kind of a mess did we get into, and why?

The myth of an enormous and growing China market wound up locking the United States into a trading partnership with China that had to benefit China much more than it could benefit us.

Because?

And the reason was China would always be able to sell the United States much more goods than Americans could sell to Chinese because Americans had the incomes that are needed to buy Chinese products. Chinese consumers overwhelmingly don't have the incomes needed to buy American products.

The whole idea was wrong?

It was completely wrong, and the folks in the U.S. government and in the multinational business lobbies in Washington who spread this myth knew that it was wrong. They had a very clear idea of the market in China, and they understood very well that the market for goods, for anything that can be consumed by the average Chinese, that market simply didn't exist, or it was so insignificant that it couldn't possibly have a major effect on the trade [pace].

How do you know that multinational [companies] aren't interested in selling to the Chinese market? ... How do you know what the multinationals want to do in China?

Well, we know that multinationals aren't interested in selling to the Chinese market because ... they say this themselves. And you can look at the Web sites of any U.S. multinational company you can think of, from GE to Kodak to GM to Ford, and they will say quite explicitly, "We're in China mainly to make goods for sale outside China." And the biggest market for those goods is the United States. Almost none of these companies ever talk about making goods in their factories in the United States and selling those goods to the Chinese. That idea doesn't even seem to be on their screens.

So what they were telling us publicly was their agenda, selling to China, was really not their agenda?

That's absolutely correct. They misled the American people, and they misled American policymakers. ...

Are we seeing a huge production shift from America to China?

In recent years, a large percentage, and a rapidly growing percentage of the U.S. manufacturing base, has gone to China. One of the main reasons has been relentless pressure from big American retailers that buy much of the output that these U.S. companies make in countries like China. Big retailers always want to get the lowest possible price for the products that they offer to us. Wal-Mart is always going for the lowest price from any company that supplies it with any goods. Wal-Mart can then sell this product for as high a price as it can get on the free market. It's a great way to widen profit margins.

So Wal-Mart is so big that it's able to tell the companies that sell products to it: "We want to pay X dollars for this product and not a penny more. It's up to you to supply us with that product at that price. If you can't do it, we'll go to somebody else." And the companies that do business with Wal-Mart don't have much of an option to sell to someone else because there aren't that many big retailers left. ...

You said producing in China or buying production made in China is a great deal for a company like Wal-Mart because its profit margin is going to be much higher. In fact, is a company like Wal-Mart able to enjoy higher profit margins from products made in China than products made in America? ...

China is a godsend for companies like Wal-Mart because low Chinese production costs let it widen profit margins. Wal-Mart can't really widen profit margins by raising its own prices very much, but it can widen profit margins by lowering costs, and going to China is a great solution for lowering the costs. ...

So what you're saying is Wal-Mart is not only supplying consumers with lower-priced goods from China, it's boosting its own profits by using stuff that comes from China?

Wal-Mart is clearly boosting its profits by encouraging its own suppliers to move to China. Wal-Mart is a very well-managed firm. It's got the art and science of retailing down, and it makes a lot of money doing that, but getting more and more goods from China is a big driver of Wal-Mart's rising profits.

What do you see happening in Wal-Mart's relationships with its Chinese suppliers?

Wal-Mart is able to squeeze the same kinds of cost reductions out of its Chinese suppliers as it's been able to do from its American suppliers. In fact, Wal-Mart has realized that in many respects it doesn't need American-owned suppliers at all. It is now so big it can go directly into China and deal with Chinese-owned firms and play Chinese-owned firms off each other in this race to supply Wal-Mart with ever-cheaper products in the same way that it played U.S. firms off of each other to deliver the lowest price to Wal-Mart. ...

And do you see Wal-Mart doing this more than the others, or is it just symptomatic of industry-wide situation?

Wal-Mart's success at using the China market is not unique, but Wal-Mart has attracted so much attention just because Wal-Mart has been so good at it. It's been so successful, and it's really established itself as head and shoulders above the rest of the mass retail crowd.

What's wrong with this? What's wrong with Wal-Mart going over and getting the lowest prices for the American consumer?

There is nothing wrong with any individual company going anywhere in the world, including China, to get the lowest possible prices for U.S. consumers. There's nothing built-in that's wrong with this.

The problem comes in when most, if not all, U.S. companies are going all around the world in search of the lowest possible prices for U.S. consumers, because when they go all over the world and leave the U.S., they wind up firing U.S. workers. The problem from their standpoint ... is U.S. workers are their best customers. They may be producing all over the world, but it's mainly for sale here. If Americans can't earn enough income to buy these products, the business model breaks down. So if one company does it, or one industry does it, fine. And in fact we all, or most of us, benefit. If the whole economy is based on this kind of outsourcing, the whole economy breaks down. It can't finance it because it can't pay for the consumption. ...

Wal-Mart says it's lowering the cost of living by delivering everyday low prices. What's wrong with that idea? ...

Wal-Mart certainly does lower the cost of living for American consumers by offering low prices, but it also lowers the standard of living, because as jobs leave the U.S., the country's wage level gets lowered, too. And so we're no better off than we were before.

That's a lose-lose rather than a win-win?

It's a lose-lose, and it's a race to the bottom in terms of living standards. The lowest costs have to lead to the lowest wages and to job loss and to lower living standards. ...

Most people are thinking that Wal-Mart is good for America. I think you're saying that Wal-Mart is not good for America.

That's right.

Why isn't Wal-Mart good for America?

... Wal-Mart, in my view, hasn't been good for the American economy because even though it's offering more and more people lower and lower prices, by encouraging job flight, it's helping to drive down the wage level of the entire American workforce. And as the wage level falls, Americans become less and less able to pay for products, however low the prices are, in a responsible way. Their only choice is to go deeper and deeper into debt.

And what about the country?

The country goes deeper and deeper into debt as well, and the country is encouraged to import from countries like China much more than it can possibly export. Wal-Mart alone imported an estimated $15 billion worth of goods from China in the year 2003. That's about one-tenth of all the goods that the entire U.S. economy imported from China that year.

So that's in a way contributing to our national debt -- our debt to China, in effect?

Our debt to the entire world, because we pay for these imports by borrowing from all over the world. In fact, Wal-Mart imported almost as much from China as the entire American economy exported to China in the year 2003. ...

So you're saying that we're not seeing a level playing field in our trade with China. Is that right?

We're not seeing a level playing field with our trade with China at all. And one big reason is that the Chinese government massively subsidizes industry. Industrial development, which creates jobs that China desperately needs, is a very high priority for the Chinese government, and they're willing to pay a lot of money to make sure that that happens.

What do they do? How do they subsidize their own industry?

They subsidize land costs. They forgive taxes. They subsidize fuel costs, and they also give a subsidy when you export. We don't subsidize exports at all. We don't subsidize production. The Chinese not only subsidize production; on top of that, they subsidize exports, because again, exports create jobs, and the Chinese government desperately needs to create jobs if it's to remain in control. And as a result, there is anything but a level playing field between the U.S. and China.

In addition, China routinely breaks the terms of the trade agreements that it signs with this nation. For example, most of the subsidies that China provides to manufacturers in China, whether they are U.S.- or Chinese-owned, it doesn't matter, you get a subsidy. Most of the subsidies are illegal under world trade law, under the set of rules that the world's trading countries have developed since the end of World War II to make sure that trade can proceed efficiently and profitably for everyone.

China routinely breaks trade agreements and trade rules. The United States government, though, doesn't do much about this. Why not? Because many of the companies that benefit from the breaking of Chinese trade rules are U.S. companies that produce in China. If you produce in China, you benefit from China's breaking of the trade rules. These multinationals are extremely powerful in Washington, and they have told the U.S. government: "Don't enforce the trade agreements. We'll get hurt."

But if they're breaking the rules, American companies can bring a trade case [against them], can't they?

Well, you have to remember that trade cases are very expensive to bring. You have to hire very expensive lawyers, who charge very high ... rates for cases whose research can take months and even years. Since most of the victims of the breaking [of] trade laws are small and medium-sized companies, the costs are usually prohibitive.

In addition, the trade law system in this country can take such a long time to come to a verdict that a U.S. company, especially a small or medium-sized one, can be dumped out of business during that time. And even worse, if the case does win in this country, it can be challenged by China in the World Trade Organization. Those cases also take forever to be resolved. And China has the ability to wait out virtually any American plaintiff in any trade case. It's a very cumbersome, very user-unfriendly system for U.S. companies.

So you're saying, essentially, we can't deal with the China problem case by case?

Dealing with the China problem case by case would be a formula for deindustrializing this nation. It takes too long; it's way too expensive. And the problem is more systematic than that. The problem is that U.S. trade policy writ large has encouraged large and politically powerful multinational companies to supply the U.S. market from China. It gives these firms the ability to charge U.S. prices for goods ... but to pay Chinese wages. And this is a wonderful formula for increasing profits in the short run. What business would say no? ...

But if every or if most businesses and industries in the United States tried to charge U.S. prices and pay Chinese wages, the American economy will break down, because ultimately American consumers have to earn U.S. wages to pay U.S. prices. If American consumers aren't earning U.S. wages, they can't pay for the goods made in China.

So what do we do as a nation to deal with this mess?

We have to recognize that our trade and manufacturing crisis has become so grave that we have no choice but to start thinking seriously about restricting trade in various ways. It's a shame that it's reached this point, but we're there. And by postponing the decision to start imposing tariffs on goods coming into this country, we will only be sure that the problem gets worse and worse, and that the medicine we eventually have to take will be harsher and harsher.

We also have to seriously renegotiate lots of the misguided trade agreements that we have reached, including our membership in the World Trade Organization, which is basically made up of 150 countries that have an overwhelming interest in keeping the U.S. market much wider open to their goods than [their] markets are open to our goods, because despite 10 years or 12 years of breakneck globalization, where the globalization supporters have gotten everything that they wanted, almost no country in the world has figured out how to grow other than exporting to the United States.

The only country that is growing strongly that's not exporting to the United States is the United States. Everybody else depends on us, and the World Trade Organization's politics are very profoundly shaped by that imperative. It's turned into an anti-American kangaroo court. We need to either make sure that the structure is changed completely, or we need to get out and deal with these trade problems as they come up one by one, using our market power -- which is enormous, because everybody has to sell here if they are to prosper -- to set equitable terms of trade for American workers and for U.S. companies, companies that make their products here.

[How will the consumer be affected by trade restrictions?]

... There is no question that trade restrictions are going to exact a short-term economic cost. There is no way to bring the economy back into a balance without some kind of an austerity program. The longer we wait to impose this, the more austerity we'll have to experience. And if we are nervous or dead set against trade restrictions, we have to understand that once we lose the ability to import because our living standards have sunk so low, trade is going to be restricted anyway, but the trade restrictions are going to be imposed by foreigners. ...

Why do you say foreigners are going to restrict trade eventually if we don't?

Because we're not going to be able to pay for the products that they sell, and they won't be willing to loan us the money that we will need in order to buy them. We won't be a good credit risk. Our debts will be way too high. No one will have much confidence that Americans will be able to repay what they actually borrowed. ...

At least if we act decisively in the short term we can choose which trade restrictions we impose, and we can ensure that this process remains under our control. And that's the best formula for ensuring that the kinds of economic changes that happen reflect U.S. interests and not foreign interests.

There is a growing middle class in those big cities along the Chinese coast. You can't go into the Chinese cities with out seeing high-rises and fancy stores and people driving more and more cars and all kinds of signs of growing affluence in China. Isn't it going to work itself out?

It may work itself out in the very long term, and of course we have to understand we have to make it through that very long term. I'm worried that the course we're on now will lead us into a crackup long before that long term takes place. ...

Even though China's ability to consume has grown tremendously in recent years -- because there is a new Chinese middle class, possibly 200 million people who can buy Western brand products from time to time -- China's ability to produce products is much larger and growing much faster. And therefore China's ability to sell to us for the indefinite future is going to remain much greater than our ability to sell to China. And that gap between what we can sell to China and what China can sell to us is going to continue to exert very powerful downward pressure on American wages and on America's national finances. ...

We do know that since the American economy very consciously opened itself up to imports, starting really in the early and mid-1970s, the wage for the typical American worker, when you adjust for inflation, [has fallen]. We have never in our country's history before that had a 30-year period -- now going on 35 years -- where the wages of the typical American have fallen. That's unprecedented in U.S. history. I'm not saying that the trade opening was responsible for all of that, but surely it's not a pure coincidence either. ...

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