The Large Stake of U.S. Small Business in an Expanding Global Economy

June 13, 2007 • Testimony

Chairwoman Velázquez, Ranking Member Chabot, and other members of the House Small Business Committee, thank you for allowing the Cato Institute to testify today on the important subject of the foreign and domestic market access issues faced by America’s small companies.

America’s growing engagement in the global economy is not just a story of the Fortune 500. Increasingly, small and medium sized U.S. companies are entering global markets not only to sell but also to buy and invest. In response, Congress and the administration can and should do more to open new opportunities for U.S. small businesses to remain competitive in a globalized economy.

Members of Congress should start from the premise that expanding trade and globalization are not a threat to American companies but an opportunity. We should reject the protectionist and defeatist arguments that portray the U.S. economy in general and American manufacturing companies in particular as victims of global competition. Nothing could be further from the truth.

How Expanding Trade Benefits Small Business

First, globalization is a reality for American companies of all sizes. Americans have never earned or spent a higher share of our income in the global economy than we do today. In 2006, as you can see in Figure 1, what we earned through the export of goods and services and income from foreign investments abroad reached a record 15.6 percent of gross domestic product. What we spent for imported goods and services and payments on investments in the United States reached a record 22.2 percent of GDP. Small businesses that shun global markets are missing the growth opportunity of our time.

Second, U.S. small businesses have benefited as exporters into a growing global market, including China. Last year, U.S. exports of goods to the rest of the world topped $1 trillion for the first time ever. U.S. exports of services also reached a record $422 billion. The Internet, global telecommunications, and an increasingly complex global supply chain have opened opportunities for smaller U.S. firms to supply goods and services to global markets or to larger U.S. companies that sell to those markets.

China is no exception, despite misguided complaints about China’s currency and trade practices. Between 2000 and 2006, U.S. exports of goods to China increased from $16.2 billion to $55.2 billion‐​an annual growth rate of 22.7 percent. U.S. exports to China grew more than five times faster than U.S. exports to the rest of the world during that same period.1 America’s leading exports to China are soybeans, cotton, and other agricultural products; plastics, chemicals, wood pulp, and other industrial materials; civilian aircraft; and semiconductors, computer accessories, industrial machines and other machinery.2

China’s market has also created expanding opportunities for U.S. investors and service providers. In 2003, according to the most recent figures, U.S. companies sold $48.8 billion in goods and services in China through majority owned affiliates located in China.3 In addition, U.S. companies exported $9.1 billion in private services to people in China in 2005, making China our third largest service customer in Asia.4 Given China’s spectacular, double‐​digit growth, those opportunities will continue to grow.

Large multinational companies have not been the only beneficiaries of expanding exports to China. According to the U.S. Department of Commerce, more than one‐​third of U.S. exports to China are produced by small and medium‐​sized enterprises (SMEs) in the United States. In 2003, the most recent year for figures, a total 16,874 U.S. SMEs exported to China, more than five times the number of SMEs that were exporting to China in 1992. China is now the fourth largest export market for American SMEs and the fastest‐​growing major market.5 An “undervalued” yuan does not appear to have dampened the ability of U.S. companies, large, small or in between, to sell in China’s rapidly growing market.

Third, U.S. small businesses benefit from import competition. Granted, some U.S. companies find it difficult to compete in more competitive global markets, but many have also benefited from access to more affordable raw materials, intermediate inputs, and capital machinery. In fact, more than half of what we import each year are not consumer goods but goods U.S. companies use to make their final products. Imported petroleum, lumber, iron ore, steel, rubber, computer chips, bearings and other parts are used by small and large U.S. firms alike to produce their final products at more globally competitive prices. Imports allow smaller U.S. firms to acquire the capital equipment they need, including computers and industrial machinery, to meet their competition. Import competition thus promotes innovation, efficiencies and ultimately the productivity gains that lead to both higher profits for shareholders and higher real wages for workers.

A more open U.S. market also feeds back into more export opportunities in foreign markets. Foreign producers who can sell more freely in the U.S. market thus earn more dollars in which to spend on U.S. products and services for export. More efficient U.S. producers are better able to gain and expand market share abroad. Foreign governments are also more likely to negotiate greater access to their own domestic markets if the U.S. government offers more access to our market. As research by my Cato colleague Daniel Ikenson has shown, U.S. companies have enjoyed the fastest export growth to the very same countries that have also seen the fastest growth of their imports to the United States.6

For all those reasons, exports, imports and output tend to grow together, all to the benefit of U.S. small businesses. Further research at the Cato Institute has shown a strong positive correlation between the amount of manufactured goods we import and the amount we produce domestically. Figure 2 shows the change from the previous year in real (inflation‐​adjusted) manufacturing imports7 and manufacturing output8 in the United States for each year since 1989. The percentage change in real manufacturing imports from the previous year is plotted on the horizontal axis, and the percentage change in manufacturing output from the previous year is plotted on the vertical axis. As the chart shows, U.S. manufacturing output grows most rapidly in the very years in which imports of manufactured goods also increase the most rapidly. For small, medium and large U.S. companies alike, trade and prosperity are a package deal: The more we prosper, the more we trade; the more we trade, the more we prosper.

Fourth, U.S. small firms benefit from access to global capital. Foreign producers who sell in the U.S. market can also use their earnings to invest in our domestic economy. In fact, the large surplus of foreign capital flowing into the U.S. economy each year is the mirror image of the U.S. trade deficit. The net inflow of foreign capital can be invested directly in U.S. factories and other facilities, creating direct employment for more than 5 million Americans and creating customers for domestic U.S. suppliers. Foreign capital also puts upward pressure on bond prices and thus downward pressure on long‐​term U.S. interest rates. According to a recent study from the National Bureau of Economic Research, foreign investment in the U.S. economy has lowered long‐​term interest rates by almost a full percentage point.9 Lower rates, in turn, mean lower mortgage payments for American families and lower borrowing costs for U.S. small businesses, allowing them to expand their productive capacity. Lower borrowing costs have also stoked demand for durable goods such as cars and appliances, benefiting U.S.-based manufacturers.

Fifth, U.S. industry, including small and medium sized manufacturing firms, can thrive in a globalized market. It is a myth that America is “de‐​industrializing” or that our manufacturing base is shrinking. Tens of thousands of U.S. manufacturing companies are producing a higher volume of goods today than ever before. As Figure 3 illustrates, the total volume of output of U.S. manufacturers has reached record territory. Since 1994, when both the North American Free Trade Agreement and the World Trade Organization came into being, manufacturing output has grown by more than 50 percent. Thousands of small U.S. manufacturers have participated in the expansion fueled in part by our nation’s growing globalization.

A Trade Agenda for U.S. Small Business

America’s small companies need a trade policy that expands their freedom to sell, invest and buy in a growing global economy. In general, U.S. small businesses can grow and compete most effectively in a domestic economy that avoids uncompetitive tax rates and burdensome paperwork and regulations. Small businesses also need flexible labor markets that allow them to hire the workers they need to meet the needs of their customers. Comprehensive immigration reform and an increase in visas for highly skilled workers would enhance the ability of U.S. companies to meet global competition.

On the trade front, U.S. small businesses benefit when the United States signs bilateral, regional, and multilateral trade agreements that reduce trade barriers with our major trading partners. Those agreements not only reduce barriers to trade but they also establish predictable and enforceable rules that increase transparency when smaller U.S. companies venture abroad. Free trade agreements with the countries of Central America, Chile, and other trading partners have already stimulated an increase in U.S. exports and have opened up new opportunities for U.S. companies to reach new customers, just as the North American Free Trade Agreement has expanded opportunities in Canada and Mexico. Absent trade agreements, Congress should reduce remaining U.S. trade barriers unilaterally.

What U.S. small businesses do not need are higher trade barriers to our domestic market or more federal subsidies to supposedly promote exports or foreign investment. Punitive tariffs against a country such as China would threaten to drive up costs for U.S. small businesses that import intermediate products from that country. A trade war would also jeopardize export opportunities in growing markets abroad. Antidumping orders and other tariffs against such imports as steel or agricultural commodities drive up costs for domestic producers, many of them small businesses, who use those imports in their final products.10 For the same reasons, a dramatically weaker U.S. dollar, while benefiting certain U.S. exporters, would drive up the costs U.S. small businesses pay for imported energy, parts and capital machinery.

Nor do U.S. small businesses need a larger share of federal subsidies for international trade. While small and medium sized companies do qualify for such programs as the Export‐​Import Bank and the Market Access Program, they account for a small dollar share of total federal support. U.S. companies do not need federal subsidies to compete effectively in global markets. Our research at Cato has shown that U.S. exporters have outperformed their counterparts in Great Britain, Germany, France, Canada and Japan even though the share of U.S. exports receiving government support is much lower than exports from those countries. Most U.S. export subsidies go to firms that do not experience subsidized competition abroad.11 U.S. and global markets are currently awash in private capital ready to finance new trade and investment opportunities. Federal export subsidies do not promote more exports but only reshuffle the export pie in favor of larger U.S. companies, crowding out smaller exporters.

If Congress and the administration want to increase opportunities for U.S. small businesses to compete and thrive in a global economy, they should work together to reduce barriers to international trade and investment wherever they exist.

Figure 1.
America's Growing Globalization

Figure 2.
U.S. Manufacturing Imports and Output

Figure 3.
U.S. Manufacturing Output, 1980-2006

1 U.S. Department of Commerce, “U.S. Trade in Goods (Imports, Exports and Balance) by Country,” www​.cen​sus​.gov/​f​o​r​e​i​g​n​-​t​r​a​d​e​/​b​a​l​a​n​c​e​/​i​n​d​e​x​.​h​tml#W

2 U.S. Department of Commerce, “U.S. Exports to China from 2001 to 2005 by 5‐​digit End‐​Use Code,” www​.cen​sus​.gov/​f​o​r​e​i​g​n​-​t​r​a​d​e​/​s​t​a​t​i​s​t​i​c​s​/​p​r​o​d​u​c​t​/​e​n​d​u​s​e​/​e​x​p​o​r​t​s​/​c​5​7​….

3 U.S. Department of Commerce, Survey of Current Business, July 2005, p. 25.

4 U.S. Department of Commerce, Survey of Current Business, October 2006, p. 44.

5 U.S. Department of Commerce, “The Role of Small and Medium‐​sized Enterprises in Exports to China: A Statistical Profile,” December 2005, p. 3–4.

6 Daniel Ikenson, “Leading the Way: How U.S. Trade Policy Can Overcome Doha’s Failings,” Cato Trade Policy Analysis no. 33, June 19, 2006, pp. 11–12.

7 Manufacturing imports are defined as industrial supplies and materials, capital goods, automotive vehicles and parts, and consumer goods. See U.S. Commerce Department, “National Income and Product Accounts,” Bureau of Economic Analysis, Table 4.2.6., Real Exports and Imports of Goods and Services by Type of Product, www​.bea​.doc​.gov/​b​e​a​/​d​n​/​n​i​p​a​w​e​b​/​i​n​d​e​x.asp.

8 Manufacturing output is measured by the annual average of the Federal Reserve Board’s monthly index of manufacturing output. See U.S. Federal Reserve Board, “Industrial Production and Capacity Utilization: Historical Data,” Industrial Production, Seasonally Adjusted, Tables 1 and 2, www​.fed​er​al​re​serve​.gov/​r​e​l​e​a​s​e​s​/​g​1​7​/​i​p​d​i​s​k​/​

9 Francis Warnock and Veronica Warnock, “International Capital Flows Alter U.S. Interest Rates,” National Bureau of Economic Research, NBER Working Paper No. 12560, October 2006.

10 For the impact of steel tariffs, see Daniel Ikenson, “Ready to Compete: Completing the Steel Industriy’s Rehabilitation,” Cato Trade Briefing Paper no. 20, June 22, 2004, pp. 5–6; for the impact of agricultural trade barriers on U.S. producers, see Daniel Griswold, Stephen Slivinski and Christopher Preble, “Ripe for Reform: Six Good Reasons to Lower U.S. Farm Subsidies and Trade Barriers,” Cato Trade Policy Analysis no. 30, September 5, 2005, pp. 4–6.

11 Aaron Lukas and Ian Vásquez, “Rethinking the Export‐​Import Bank,” Cato Trade Briefing Paper no. 15, March 15, 2002.

About the Author
Daniel Griswold
Former Director, Herbert A. Stiefel Center for Trade Policy Studies