Caleb Brown: This is the Cato Daily Podcast for Wednesday, January 11, 2017. I am Caleb Brown. Large multinational companies spend a great deal of time and energy discovering where to locate production facilities. Labor costs, taxes, tariffs, and regulations all play a role. Cato Institute trade policy analyst Dan Pearson comments on how trade gets done and what the new Trump administration should focus on.
When a firm is deciding where it is going to continue its operations or whether it is deciding well, should I really stay in this country or should I move somewhere else, what are some of the key factors that companies use to make that decision?
Dan Pearson: This is not such an issue for businesses that just manufacture in the United States, because most of them will stay here and if there is competitive pressure they do as well as they can for as long as they can, but the real challenge comes from multinational firms that already operate in multiple countries, because they have a very good understanding of what the costs and benefits are of manufacturing in these different locations. So when you have a U.S. firm like Carrier that manufactures in multiple countries, at least in the United States and Mexico at this point, they know what it would mean to shift production out of Indianapolis down to Mexico. And there can be a number of reasons for that.
Caleb Brown: Alright so for a company that decides well, we are just going to move this new plant, or we are going to open a new plant in Mexico versus Canada or the United States, what are some of the key factors that would lead them to make that particular decision?
Dan Pearson: Certainly the labor cost is a potential factor. Mexican labor is, in Carrier’s case, it was about a fourth of the cost in the United States on an hourly basis. However it is hard to know how to interpret that because the productivity of the average U.S. worker is more than three times higher than the average Mexican worker, and so it is not obvious that labor cost alone would cause them to shift.
Caleb Brown: So putting out a cattle call for workers in the United States would yield workers that, walking in the door, could do many different things?
Dan Pearson: On average, the worker walking in the door in the United States would have a higher level of education, more skills, and could step into a wider variety of positions quickly and comfortably.
Caleb Brown: What else contributes to that decision?
Dan Pearson: There’s the broad regulatory environment. You have the OSHA, and environmental, and National Labor Relations Board requirements in the United States. In many other countries those requirements might be less expensive. And I think Mexico would meet that standard. Another issue that is policy-driven that causes U.S. firms to want to move elsewhere is the fact that steel is overpriced in the United States. And I say that not because I don’t think highly of the U.S. steel industry, because they are a very good world-class industry, but what has happened over time is that that industry has brought anti-dumping and countervailing duty cases, and now they have more than 160 of those orders in place. And that has had the effect of raising the steel price in the United States above what it is in most of the rest of the world. So, that’s good for the steel industry, I suppose, but it isn’t very good for the downstream firms that use steel as an input in their manufacturing.
Caleb Brown: So for a company that decides oh, we are going to locate this new plant in Mexico versus the United States, what kind of savings could they expect on imports to their plant in that new country or the United States?
Dan Pearson: Right. It would depend, of course, on the product, because the amount of anti-dumping duty varies by product. But it would be real easy to think of a price benefit of between 5% and 20%. That would not be unreasonable. There are some products coming into the United States, steel products, that have combined anti-dumping and countervailing duties in excess of 500%, so the U.S. steel market now is really very protected, more so I believe than any time since decades ago when the Smoot-Hawley Tariff of 1930 was in the process of being dismantled.
Caleb Brown: So the practical impact then potentially for attempting to protect one domestic industry in the United States is to have companies that make use of the products of that industry move outside of the country that they have been based in.
Dan Pearson: Absolutely. If you are an air conditioning manufacturer or an auto manufacturer in the United States — both those products use lots of steel — your competitor firms, be they in Europe, or Japan, or Korea, or Mexico, those firms are going to have a lower cost for steel. And so they have a distinct advantage. I mean look, in this country people can buy washing machines made in Korea, for instance. Those are heavy things. They have a lot of steel in them. They also can buy cars made in Germany or Japan and one of the cost factors that is helping those overseas firms is the price of steel.
Caleb Brown: President-elect Donald Trump has taken great pains to threaten a company like Carrier, and then ultimately agreed with Carrier that somehow the U.S. government will be providing them some subsidies to stay here in the United States, but if I understand what you are saying, it would make more sense for President-elect Trump instead to be railing against the regulatory environment or the various trade agreements that have sort of created these incentives.
Dan Pearson: The overall U.S. tariff structure for most products, including steel, is really quite low. Most steel products come into the country at zero or low levels of tariff. However, we have a system through anti-dumping and countervailing duties that allows U.S. industries that believe they are being injured by imported products to bring action that allows then, if they are successful, allows the imposition of anti-dumping and countervailing duties. And those duties have become quite high in the steel sector and cover a whole lot of products, such that the effective level of protection for steel is much, much higher in the United States than it is in most countries.
Caleb Brown: Broadening this to beyond steel, when companies are trying to make that decision, that all-important location decision, they are also considering the market that they are trying to serve?
Dan Pearson: Absolutely. Is it more advantageous to have a plant located close to the area where the inputs are coming from, or closer to the area where the customers are? Now there are real advantages in having some facilities in Mexico because Mexico historically was underserved with manufacturing, and so if you are going to build small automobiles in Mexico you’ve got local demand for a lot of them. Attitudes of government toward business as reflected in a wide range of policies are important. This would be tax policy, environmental policy, policies toward labor, policies toward economic freedom in general. And some countries are better at that than others. Some states in the United States are better at it than others. There are reasons why we see more business investment in Texas than in Massachusetts, for instance. Okay? Texas is just much more business-friendly. The same with North Carolina relative to Washington state.
Caleb Brown: If you had one piece of advice for the incoming Trump administration to both attract large firms that might consider locating some of their production in the United States and you know, seeking also to keep our current large firms that produce items in the United States, what would it be?
Dan Pearson: I would recommend that we reform the anti-dumping and countervailing duty system. Now those duties can be put in place when U.S. industries believe that imports are unfairly traded. But there are so many of those orders in place for steel, more than 160, the downstream manufacturers that use steel as an input are paying an abnormally high price. And that is hurting the competitiveness of those firms against firms overseas that make similar products. So I think that we should change U.S. law so that we would not impose anti-dumping and countervailing duties except if it is clear that that duty would increase the economic welfare of the United States. In other words, there would be a net benefit to the economy of the United States from imposing those measures, because right now we are hurting our country with those measures.
Caleb Brown: And in terms of the tax system and the regulatory system that we have in the United States?
Dan Pearson: Yes, the tax system certainly discourages firms from locating here because the corporate tax rate is 35%, one of the highest in the world. The regulatory structures — when you are unable to get a permit to run a pipeline from Canada to the United States because of political pressure from the White House, that’s not a regulatory environment that encourages investment in the United States.
Caleb Brown: Dan Pearson is a trade policy analyst at the Cato Institute. Subscribe to and rate this podcast at iTunes and Google Play, and follow us on Twitter, @CatoPodcast.