Monthly Archives: March 2011

Where are Democrats on Trade?

The Peterson Institute for International Economics had a lunch event on March 29th, 2011.  The guest was Sander Levin, Congressman from Michigan and currently Ranking Member of the House Ways and Means Committee speaking on Reshaping U.S. Trade Policy in a Globalizing Economy.  It is always interesting to hear a Democrat speak on trade issues.  The party as a whole seems deeply divided on international trade: it agrees that other countries should buy lots of American products, it just does not think that we should buy any of theirs.  In an other time this policy was called mercantilism.

Rep. Levin did not say much new.  It was three things he did not say that struck me.   The first the lack of any mention in his prepared remarks about consumers.  An objective discussion of the merits of trade would look at the costs and the benefits of any trade policy.   And one of the large benefits of open trade has been the massive savings realized by the American consumer, including many from Michigan.  The ability to buy products cheaply from other countries has helped consumers in two ways.  The first is through the direct benefit of lower prices and greater selection.  The second is through the reduced prices and higher productivity of American producers responding to foreign competition.  Yet Rep. Levin seems to discount this benefit entirely.  While he talked a great deal about worker’s rights, there was no hint of any possible right that consumers might have to purchase the best products for the lowest price wherever they might find them.

I would argue that the American economy has encouraged consumers too much.  But that is not the fault of other nations.  It is our own desire to live beyond our means and to borrow against the future that has led to trade deficits, low national savings, and heavy debt.   The solution to these problems is certainly not to limit sources of supply.

The second oversight was the plight of workers in developing countries who seek access to our markets.  Here Rep. Levin did have something to say, but it reflected a skewed view of worker welfare.  Over the last few decades a remarkable transformation has occurred in parts of the developing world, centered around China and India.  Hundreds of millions of individuals have gradually escaped poverty.  They are certainly not wealthy, and by Americans standards they might still be regarded as poor.  But their lives have been unquestionably altered for the better and the size of the middle class in these countries has grown significantly from very low levels.  Much of this could not have happened without access to trade, including American markets. Trade has created markets for new industries, expanding employment.  But it has also opened up domestic markets to competition, weakening the privileged status of existing business interests who often have a stranglehold on economic opportunity.  This is why aggressive advocacy for lowering foreign trade barriers helps foreign workers as well as our own.

Yet Rep. Levin distrusts most trade agreements because they do not guarantee “worker rights.”  By that he means the ability of union officials to organize, tax, and speak for a certain set of workers.  But laws to enable this would not help many workers.  More likely the unions would collude with domestic businesses to restrict trade.  The gains from restricted trade would then be shared by a narrow set of privileged workers as well as the business class, but the mass of workers would no longer see much economic progress.   That would suit American unions fine, because for the most part they see free trade agreements as a threat to their jobs.  The plight of workers in developing countries is a cause for great concern.  But it is the result of a lack of economic opportunities and political systems that deny citizens both economic and legal rights.  Trade weakens those barriers.  Trade restrictions protect them.

The third omission was somewhat understandable.  Rep. Levin several times referred to the need to protect workers who are hurt by foreign competition.  While it would be good to have a more efficient safety net in place, two points are worth making.  First, an efficient safety net would probably not look like anything Rep. Levin would support.  It would not pay people to be unemployed for long periods of time, it would not depend on an official government declaration, and it would offer workers a lump sum which they could spend on training as they saw fit.  Second, technological innovation has been a far greater source of job loss (and economic growth) than has trade.  Even in heavily unionized industries such as autos, steel, and airlines, it was new, lower-cost domestic competitors who did much of the damage to the traditional union model.  Yet few people would propose slowing technological progress in order to preserve jobs.  Yet trade is somehow different.  The economic consensus that freer trade benefits a nation remains valid.  Yet some of the gain also goes to THEM as opposed to US and for some people that makes all the difference.

Finally, Rep. Levin several times criticized the Republican party for its reluctance to pass the Korea Free Trade Agreement recently renegotiated by the Obama Administration.  Although Republicans by and large support the Agreement they are insisting that the President also submit Free Trade Agreements that the Bush Administration negotiated with Panama and Colombia.  This is somewhat awkward. Democrats had a large majority in both the House and Senate for the last two years yet neither they nor the president seemed to place much emphasis on trade.  More to the point, a majority of Rep. Levin’s own party is likely to oppose the Korea agreement, largely due to the continued opposition of most unions.  Free trade by and large depends upon Republicans, if Rep. Levin could deliver his own party the President’s negotiating position would be far stronger.

The welfare of the average worker both here and abroad is furthered by opening up trade as much as possible and as fast as possible, wherever and whenever possible.


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What’s Wrong With the Administration’s Innovation Agenda?

Does anyone remember Al Gore’s National Partnership for Reinventing  Government?

The Information Technology & Innovation Foundation had yet another great event on March 9th, 2011.  This one was devoted to the Administration’s innovation agenda.  There were two panels of distinguished speakers, including at least three top Administration officials.  Yet despite the excitement and confidence, the central message seemed hollow.  The reason I think is that, despite their best intentions, the Administration officials do not realize what true innovation would do to existing business models and, to the extent that they do realize it, they are unwilling to let such changes happen.  Yet without these changes, there is little reason to think that we will ever see the significant improvements in quality and cost that innovation can bring.

There were several references to the fact that productivity has lagged in education, health care and government services.  The logical conclusion might for government to withdraw from these activities so that consumers had choices, suppliers faced competition, and disruptive innovators could challenge incumbents.  Yet no one made this leap and there are few signs that the Administration wants to go in this direction.  Despite some positive steps in education, the President has still not challenged the basic power structure for education.  And in health care we have actually taken steps backward.  The hope instead seems to be that we can force change from the top.  Good luck.

Let’s take education.  One of the speakers mentioned a challenge by the President to develop technology that was the equivalent of learning from the nation’s best teacher and as captivating as the best-selling video game.  A great product, but it wouldn’t make a difference to public education.  Instead it would join the long list of technologies including 8 millimeter film, video, and computers which failed to have a significant impact on the cost or quality of education.  The reason is that technology almost always requires significant organizational change in order to have a large impact.   Companies used to have pools of typing secretaries to handle paper work.  Imagine giving each of them a computer but asking them to do the same work.  You get a little productivity improvement but not a lot.  Much of the productivity increase comes in being able to do away with the typing pool and asking executives to learn to type themselves.

The technology that the President is talking about could both dramatically lower the cost of education and improve its quality.  But in order to do that it would have to fundamentally upend the existing model of K-12 education.  There is no way that school boards, administrators and teachers are going to make that change themselves.  There is also no indication that the Administration would support giving parents the power to go around them to new entrants.  Doing so would have an enormous effect.  The District of Columbia spends well over $10,000 educating each student.  If you give 5,000 parents the right to use that money for education in whatever way they want, that’s a $50 million market right there.  Spread that across the country and a lot of businesses get interested.

The need for a different power structure was also illustrated by the personal history of one of the panelists.  Congressman Jared Polis described starting before entering Congress, .  The company’s website states that: “once hand-picked, our flowers are delivered directly to you. Others take a longer route through brokers, middlemen and, finally, a florist’s shop. By the time they reach the recipient, their best days are long gone.”  The value proposition is that it facilitates transactions directly between the customer and the grower.  Its growth could only have happened because Mr. Polis was allowed to start a business that went around the established industry directly to the consumer.  Its success came at the direct expense of many of the middlemen listed on the website.  If the flower industry had been regulated on the K-12 model, change would have had to come from within the industry itself.  Mr. Polis would have been prohibited from approaching customers directly and instead would have had to convince brokers and florists to adopt a business model that was directly contrary to their immediate interests.  He would have been told of the difficulty consumers would have judging flower quality for themselves and the need to have an experienced middleman to provide advice and assure quality.  No doubt florists would have used some information technology, but Mr. Polis would have made very little money and consumers would have experienced little difference in the way they purchased flowers.

Of all people, Congressman Polis should perhaps see the value of new business models like vouchers in education and tax credits in health care.  I suspect he strongly opposes both.

An open business model in health care and education would ensure that patients and parents get to make the choices.  It would put the resources currently spent by government and employers directly in the hands of consumers.  It would eliminate the tax incentive currently given to employer-based health care.  It would allow new entrants to enter the market with a minimum of prequalification.  And it would not insist on a rigid way of delivering services.  Over the past decades the existing model within each industry has been characterized by increasing costs and stagnant, if not declining, quality.  Under an open model within ten years I believe both would show declining costs and improving quality.  Society and the average worker would be far better off.  Yet the transition would be rough.  Large numbers of teachers, schools, hospitals, and health care providers would close and the government would have far less power to dictate outcomes or policy.

Because the Administration is not ready to support such changes we will see incremental progress at best.  Costs will continue to climb, pricing more Americans out of the market.  No doubt ten years from now we will be going to similar conferences to hear a new Administration gush about how the latest technologies hold the promise of transforming health care, education and government services.

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Unions (and Workers) Need a New Business Model

Political battles in Wisconsin and elsewhere have recently given union leaders hope for a revival.  Large crowds have turned out to demonstrate against Republican proposals to cut the incomes and/or jobs of public sector workers and limit their collective bargaining rights.   And although unions have suffered during the last decades, their leaders maintain grand ambitions.  Yet the recent rise in hopes is likely to be dashed against political and economic reality.  Despite whatever public support and member enthusiasm they generate, unions still adhere to a paradigm that cannot compete in an increasingly competitive, fluid, and globalized world.

The traditional union business model is built on two premises that no longer work over the long-term in today’s economy.  The first is the all-or-nothing approach to organizing each bargaining unit.  There is something fundamentally wrong with any private group being able to force an individual to belong to it simply because a majority of his co-workers vote to join.  Although unions have viewed the rule as necessary in order to force members to pay dues and follow union decisions, it has actually hurt them in two ways.  The first is that it excludes workers who would like to join a union but cannot convince a majority of their peers to agree.  As elections become more difficult to win this group grows.  Of course, the traditional model has nothing to offer these workers since unions believe all their power comes from the right to bargain as the exclusive representative of workers.  The coercive membership model also hurts unions in the same way that lack of choice hurts tends to hurt any organization: it makes them less responsive to their members and therefore less willing to adapt as the needs of those members change.

The second false premise is that unions typically see their role as bargaining for labor to get a bigger share of the surplus between the cost of production and the value that the consumer attaches to a good or service.  Each product costs something in terms of capital, labor, land, and other inputs.  No business can survive long if consumers are not willing to pay for at least these costs.  Typically they are willing to pay more, often much more.  This surplus gets divided up between companies (higher profits), workers (higher wages), and consumers (lower prices than they would be willing to pay).  Workers’ interests are then directly opposed to those of companies and consumers.  The problem is that in an increasingly competitive economy this surplus tends gravitate to consumers because competitors, such as foreign car companies, quickly offer competing products or workers, such as in the Southwest, are willing to work for less.

Like companies, unions must survive in what Joseph Schumpeter called “the perennial gale of creative destruction.”  Schumpeter argued that the central fact of capitalism was competition “from the new commodity, the new technology, the new source of supply, the new type of organization (the largest-scale unit of control for instance)–competition which commands a decisive cost or quality advantage and which strikes not at the margins of the profits and the outputs of the existing firms but at their foundations and their very lives.  This kind of competition is as much more effective than the other as a bombardment is in comparison with forcing a door, and so much more important that it becomes a matter of comparative indifference whether competition in the ordinary sense functions more or less promptly; the powerful lever that in the long run expands output and brings down prices is in any case made of other stuff.”

Yet their business model leaves union ill-equipped to make the necessary adaptations.  The traditional model is much better suited for a corporatist economy where markets are dominated by a few large companies facing only slow, incremental change.  In this environment unions can organize most of the industry and then sit down with business and government leaders to decide how much of the market each side gets.  Higher costs can safely be passed on to consumers who have few other choices.  Schumpeter’s competition is not subject to such control.  In a more dynamic world, the sustainable advantage that workers enjoy comes not from a given share of a shrinking producer’s surplus but from increasing labor productivity in the form of higher skills and membership in a more effective business organization.  Yet traditional labor has a difficult time embracing this source of advantage because it inevitably implies that fewer workers are needed in order to produce a given amount of output.  In fact, in traditional industries unions have often insisted on work rules that actually reduce average productivity.

If all-or-nothing membership excludes potential union members and leaves union leadership less responsive to those that are required to join and if the corporatist approach tends to weaken the competitiveness of employers, what would a new business model look like?  First, it would have to be based on voluntary membership by each worker.  Expanding membership would then not depend on winning elections, something unions are having more and more difficulty doing.  Nor would membership be limited to the traditional working class.  All workers, including managers, become potential members.

But why would workers voluntarily join a union?  Presumably because, like other voluntary groups including health clubs, public broadcasting, and the American Automotive Association, the union provided them with a service that was worth the price and that they could not easily get elsewhere.  What might this service be?  Many are possible.  For example, some unions already run health and pension plans.  They could also partner with others to offer health club memberships, life insurance plans, legal advice and other services.  The most likely competitive advantage, however, would come from offering comprehensive career help aimed at helping each member meet their career goals.  Such a service would include career counseling, job training to acquire necessary skills, and job placement.  A union that did this well might even be able to convince employers to use it as an exclusive placement source.  Since turnover and training are both costly to employers, a union that not only did this well but guaranteed the quality of the worker might actually be a welcome development for companies that are having difficulty finding and keeping workers.

The more individualized the advice it gave, the more valuable each worker would find it.  The connection between the union and the worker might then continue throughout the career.  Although vocational training and job placement centers already exist, they typically do not seek to form a long-term attachment to the worker and it can therefore be difficult for an individual to tell whether he or she is truly getting quality advice or training that will lead to a job.  Yet because workers are likely to switch employers more often and their skills are likely to become obsolete more quickly, a steady source of career support that they can periodically turn to is likely to have high value.  Add to this services that deliver continuous value and socialization and a stable business model emerges.

If history is any guide, existing unions are likely to drive the old model into the ground rather than adapt.  They would not be the first managers to do so.  Successful new models, when they come, are likely to emerge from new organizations challenging the establishment than from the establishment itself.

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Do Unions Benefit Workers?

Do unions uphold worker rights?  This seems to be one of the central issues at stake in Wisconsin, Indiana, Ohio and other states where legislation is being introduced to curtail the ability of public and/or private workers to organize and bargain collectively.  In all of the debate about worker rights, the interests of two groups of workers are seldom mentioned, however.

Unions have a long history of difficulty in pursuing even the interests of the majority of their members.   Although their proponents often equate unions with support for policies that help working class Americans, there is no reason to think that the two are natural allies.  There are many cases where unions have taken positions directly at odds with the interests of their own members.  These range from the influence of organized crime, scandals such as the Union Labor Life Insurance Company, and corruption by individual union leaders such as Sandra Bullock of the Washington Teachers Union.  Unions have also taken positions that harm the general long-term interests of workers in general.  A good example is their consistent opposition to trade agreements.  But one might argue that at least union leaderships are subject to elections and can be replaced by a majority of their members.

But there are two categories of workers that unions clearly do not represent and their rights and interests are usually overlooked in debates about union rights.  The first is the large number of union members who do not want to belong to a union but must because a majority of their co-workers have voted to belong to one.  In almost all cases union elections are a relatively close call.  That is precisely why unions supported card check legislation, which would have let them avoid elections.  This means that a large number of union members actually oppose having to join.  Why does not matter.  It may be because the union is corrupt, or charges high dues, or pursues policies that the worker disagrees with, or makes donations to political candidates that the worker opposes, or because the worker thinks he can do better if he is not treated like everyone else.  In any case, under current law in most states the worker has little recourse.  Even if he is allowed to avoid formal membership, he will be charged “dues’ for having the “benefit” union representation.

A common argument for coerced membership is that otherwise even those workers who wanted union representation would be tempted to withhold support once they had received the benefits of higher wages and better working conditions.  This in turn would weaken the union’s ability to function.  The free rider problem is common to all collective groups yet it is not necessarily all that serious.  Many voluntary groups manage to overcome it.  Tocqueville remarked on the degree to which Americans engaged in collective action, yet in almost no form of association other than government itself is a majority allowed to impose membership and obligations on a minority that wants no part of it (agricultural marketing orders are another unfortunate example).  So when we talk of rights, we might think more of the large number of union members, often younger and more confident, who would do away with union obligations and benefits if given the choice.

The second category of worker is even more numerous.  It consists of those standing outside of the factory gates.  Union policy is by and large premised on increasing wages by capturing a higher portion of the surplus between the value that consumers attach to a value or product and the cost of producing it.  This surplus can go to the producer in the form of profits, workers in the form of wages above their average productivity, or consumers.  In a competitive market, consumers would capture most of this surplus.  Firms or workers who tried to capture a greater percentage of the surplus would face competition as others entered the market.   One way to capture more of the surplus is to prevent competitors from entering the market.  Antitrust law wisely prevents companies from taking actions that unfairly restrict other companies from gaining market share by lowering prices.  But unions are not subject to these prohibitions.  In fact, much of the value in unions is their ability to prevent employers from hiring non-union workers at lower wages, even thought these workers might really need and want the work.  In all of the talk about union rights, the right of the worker making $9 dollars an hour to strike a deal with Ford Motors by agreeing to work for slightly less than union wages is never mentioned.  The extent to which union members act in the interest of all workers can be seen from the willingness with which they agree on seniority rules and tier pay rates that treat existing members better than new ones.

The problem for unions is that this model is unsustainable in an increasingly competitive and global world.  Even in the public sector, the barriers that protect unions from competition are slowly being worn down; not by Republicans but by the very world we live in.  In order to adapt unions will have to pursue a much different model.  This will be the subject of the next post.

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