Responses

The Fight over Competitiveness

A Zero-Sum Debate?

Playing to WinCLYDE V. P R E S T O W I T Z , JR.

Paul Krugman first achieved a measure ofpublic recognition with a study of com-petition in the aircraft industry, whichproved mathematically the potentialefficacy of strategic—that is to say man-aged—trade. That this analysis was con-sidered important might seem odd inview of the fact that the German-Ameri-can scholar Friedrich List had done moreor less the same work nearly 150 yearsago and in view of the experience ot theJapanese, who had been practicing strate-gic trade for more than 40 years at thetime of Krugman's study. But given thenarrow scope of the research consideredpermissible by the conventional wisdomof U.S. economists, as well as their igno-rance of history and other disciplines,Krugman's analysis was a notable, icono-clastic achievement.

Indeed, it may have been too daringbecause ever since its publication Krug-man has been running away from theimplications of his own findings. Hisdiatribe in Foreign Affairs (March/April)against the concept of competitiveness

and those who espouse it is only themost recent example.

Krugman not only claims that concernwith competitiveness is misplaced. Heattacks all those who think otherwise—including leading members of the Clin-ton administration such as Robert B.Reich, Ira C. Magaziner, Laura D'AndreaTyson and the president himself—asprotectionists whose work is careless ifnot dishonest and whose motives runfrom simple greed to chauvinism anddemagoguery.

Krugman contends that concern about'competitiveness is silly because as a prac-tical matter the major countries of theworld are not in economic competitionwith each other. He attempts to provethis by making three points. First heargues that trade is not a zero-sum game.Trade between the United States andJapan is not like competition betweenCoca-Cola and Pepsi because whereasPepsi's gain is almost always Coke's loss,the United States and its trading partnerscan both be winners through the dynam-ics of comparative advantage.

Although true to some extent, thisrationale ignores that different kinds oftrade take place. Surely Krugman is cor-

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rect in the case of trade between theUnited States and Costa Rica, whereAmerica imports bananas it does not growand ex'ports airplanes and machinery thatCosta Rica does not make. Both countriescome out winners by devoting theirresources to what each does best. But whatabout the kind of trade typified by therecent Saudi Arabian order tor $6 billionot new airplanes? Why were the Euro-peans so upset and Clinton so happy whenthe Saudis announced that U.S. producerswould win all the orders? Both the Euro-peans and the Americans make airplanes,and this order means that the United Stateswill gain jobs and income that Europemight have had but lost. This was largelya zero-sum trade situation, and ironicallyit was precisely the case that first broughtKrugman to prominence. Maybe he wasright the first time.

IT'S LIVING STANDARDS, STUPID

In fact, Krugman later concedes thepoint by allowing that "in principle"competitiveness problems could arise

between countries. But he insists thatthey do not in practice because trade is arelatively small part of GNP in the majorcountries. Consequently, living standardsare determined almost wholly by howwell the economy works domesticallyrather than by international perfor-mance. In this vein, he observes thatexports constitute only lo percent ofU.S. output, apparently leaving 90 per-cent of the economy to purely domesticfactors. Moreover, he attributes 91 per-cent of the 1973 to 1990 stagnation inU.S. living standards to decliningdomestic productivity growth and only 9percent to deteriorating terms of trade.

But competitiveness proponents havenever denied the importance of domesticeconomic pertormance. Indeed, virtuallyall competitiveness prescriptions empha-size domestic savings and investmentrates, education, cost of capital andresearch and development. Trade is typi-cally treated as a secondary issue—more asymptom than a cause of subpar competi-tiveness. Second, Krugman ignores

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growth. Of course, if Britain could enterother high-growth, high-wage indus-tries, the U.S. position would make nodifference. But at any one time the num-ber of those industries is limited; missing

Clyde V, PrestowitZy Jr.

America's imports—which equal u per- tries as potential avenues of Britishcent of GNP and nearly half of U.S. man-ufacturing output. Thus, overall trade isequivalent to about 21 percent of GNP,and by some estimates the impact oftrade is felt directly by at least half theU.S. economy. Take the U.S. auto indus- the boat on one can mean losing poten-try. It is not a big exporter, and imports tial gains in living standards. In theaccount for only about 15 percent of the extreme, loss of economic competitive-U.S. market. But the prices and quality of ness can weaken national security andthose imports help determine the retail cause greater vulnerability to politicalprices U.S. automakers can charge, wages regimes and international cartels thatof U.S. auto workers and incomes of may severely constrain a country's eco-those who service the U.S. auto industry, nomic potential. This competition is,

Krugman does not explain the slow-down in U.S. productivity growth, but heimplies that domestic factors are the soleculprits. Yet the slowdown came justwhen U.S. imports were soaring andentire industries such as consumer elec-

after all, what imperialism and its oppo-sition has been all about.

SPLITTING HAIRS

To buttress his arguments, Krugmanattacks his critics' arithmetic as careless,

tronics were being wiped out by foreign Yet Krugman's own arithmetic is carelesscompetitors pursuing mercantilist tactics, and selective. His analysis of how manu-Surely these dislocations had some facturing job loss affects real averageimpact on U.S. productivity growth. wages ignores the relationship between

Krugman's third and final argument is service and manufacturing wages. Amer-that although countries may be rivals for ican barbers are not notably more pro-status and power, such rivalry is some- ductive than Bangladeshi barbers. Butthing apart from economics and has no their wages are much higher becauseimpact on living standards. A high rela- their customers work with much highertive growth rate may enhance Japans sta- productivity than the customers of theirtus, for example, but it does not reduce Bangladeshi counterparts. Loss of high-

wage U.S. manufacturing jobs alsodepresses not only manufacturing wages,but service industry wages as well. Krug-man, however, fails to mention this drag.

Krugman's discussion of value added iseven more questionable. He may have apoint in that "high value added" hasbecome a kind of shorthand for technol-

the living standard of other countries.Although this notion may be true in theshort-term, absolute sense, it is not nec-essarily true in the long-term, potentialsense. Since the end of World War II,the United States has grown faster thanGreat Britain. The United States hasdone so in part by taking British inven-tions such as jet planes and radar andcommercializing them faster than the

ogy-intensive and high-wage industrieswhen that is not always the case. But

British, thereby closing off those indus- Krugman uses very broad industry cate-

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The Fight over

gories to make his point, although thedata he draws on clearly show that a hugeindustry like electronics consists of manysectors, some with high value added andothers with low. Overall, Krugman notesa figure ot value added per worker in theelectronics industry of only $64,000. Butwhy did he ignore the tables showing thefigures ot $443,000 tor computers and$234,000 for semiconductors?

Krugman concludes by expressing fearot the possible distortion of the U.S. econ-omy through the application of flawedcompetitiveness policies. He could, ofcourse, be right. But can the United Statesbe confident that an analyst who has suchobvious gaps ot his own and who has nowargued both sides ot the competitivenessissue can be relied on as the guide? Per-haps he is wrong, and competitiveness,tar from being a dangerous obsession, isan essential concern.

CLYDE V. PRESTOWITZ, JR.

President of the Economic Strategy Insti-tute and Director-General of the Pacific BasinEconomic Council

Microchips, NotPotato Chips

LESTER C. THUROW

The Gang of Eight (Bill Clinton, JohnMajor, Jacques Delors, Robert Reich,Laura D'Andrea Tyson, Mickey Kantor,Ira Magaziner, Lester Thurow) pleadsnot guilty to Paul Krugman's chargesthat it is grossly exaggerating the impor-tance of international competitiveness.

Krugman asserts that, economically,nations have "no well-defined bottom

Competitiveness

line." Wrong! Nations seek to raise theliving standards of each citizen. Higherliving standards depend on rising produc-tivity, and in any economy the rate of pro-ductivity growth is principally determinedby the size of domestic investments inplant and equipment, research and devel-opment, skills and public infrastructure,and the quality ot private managementand public administration.

I have written articles reterring tostrategic trade policies as the "seven per-cent solution." Ninety-three percent oteconomic success or tailure is deter-mined at home with only seven percentdepending on competitive and coopera-tive arrangements with the rest of theworld. My book. The Zero-Sum Solution:Building a Wortd-Class American Econ-omy, contains 23 pages on competitive-ness issues, 45 pages on the importanceof international cooperation and 333pages on getting things right at home.The centrality of domestic inventionand innovation is precisely why I agreedto lead the Lemelson-MiT program ininvention and innovation, one part ofwhich is a $500,000 prize for the Amer-ican inventor and innovator of the year.The corpus ot writings, speeches andactions of the rest of the Gang of Eightcontains similar quotations, proportionsand actions.

But remembering this sense of pro-portion, what is the role for competi-tiveness? Clearly something is wrongwith Krugman's arithmetic that showsinternational trade cannot make muchdifference to American productivity. Ifhis arithmetic were correct, then it fol-lows that a lot of American protectionmight be quite a good thing.

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