February 6, 2006    Volume 13, No. 3

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NAM Finds U.S. Innovation Engine Is Shifting Offshore

BY KEN JACOBSON ken@manufacturingnews.com

U.S. industry's investment in research and development appears to be languishing. It fell to 63 percent of total domestic R&D in 2003, down from its peak level of 70 percent in 2000, reflecting an annual 1.6 percent drop in real terms over the period. But American firms' R&D spending "has not been quite as weak" as those numbers indicate, according to a new report on innovation in manufacturing, and here's why not: It is rapidly being shifted overseas.

"Funds provided for foreign-performed R&D have grown by almost 73 percent between 1999 and 2003, with a 36 percent increase in the number of firms funding foreign R&D," according to U.S. Manufacturing Innovation at Risk, authored by economists Joel Popkin and Kathryn Kobe.

"Among manufacturing companies the increase in funding has been smaller, showing a 42 percent increase, from $12.5 billion in 1999 to $17.8 billion in 2003," they state in the report, released last week by The Manufacturing Institute of the National Association of Manufacturers and the Council of Manufacturing Associations.

The latter figure equates to just shy of 15 percent of the $123 billion spent in 2003 by manufacturing industries on R&D inside the U.S. Total domestic R&D spending by private industry in 2003 was $204 billion, of which manufacturing's $123 billion represents 60 percent. Overall U.S. domestic R&D spending, $290 billion, accounted for 40 percent of all R&D spending in the industrial world.

The growth of R&D overseas is among the chief concerns of Popkin and Kobe's report, which cites manufacturing productivity as "key" to global competition and argues that, if not reversed, recent negative trends in domestic manufacturing "and the innovation process it spawns" will imperil "long-term U.S. economic growth and competitiveness."

Even if U.S. firms weren't sending their R&D work offshore, "recent trends in manufacturing output growth overseas and the relatively modest growth in domestic manufacturing output [make it] inevitable that the U.S. share of worldwide R&D will shrink," the report states.

"As foreign R&D grows, there will be increased demand for the inputs to the innovation process in those countries," Popkin and Kobe predict. "They will develop more advanced educational systems and turn out increasing numbers of trained workers in the science and engineering fields as well." And rapidly growing economies, by their very nature, "are the site of new plants using many of the latest technologies available."

This upward spiral abroad contrasts to a prospective downward spiral at home. The authors call today's low U.S. rates of manufacturing capacity utilization -- 78 percent for finished goods, 82 percent for intermediate goods -- "clearly disturbing."

"The present situation, in which considerable output is imported despite the availability of local production facilities," they argue, "reduces incentives to expand U.S. capacity. That in turn means that innovations embodied in new plants and equipment are not being introduced into the production process."

And innovations are not only embodied in new plants and equipment, they are made there. "As capital goods are improved in speed, accuracy and quality, they rely on and often lead to new processes to make their utilization more efficient," the report explains.

"Reaping the benefits of such improvements in manufacturing processes requires that human capital (labor skills) keep pace. This demand prompts investment in education and training. This process and the investment it promotes leads to productivity gains, the basis for higher living standards."

The slow growth of domestic R&D spending by U.S. industry is only one of "five clear warning signs" indicating that the nation's innovation process -- and, consequently, its future economic growth, productivity and living standards -- are in jeopardy. The others are:

  • Manufacturing output: "Its 15 percent growth since the end of the recession [in November 2001] is only half the pace averaged in recoveries of the past half-century."
  • Manufacturing capacity: "Since the end of the recession, total plant and equipment investment has risen at half the pace averaged in recoveries of the past half-century. Manufacturing capacity has grown at less than 1 percent annually...(compared with 5 percent in the 1990s)."
  • Global trade: "The U.S. share of global trade in manufactures has [fallen] from 13 percent in the 1990s to 10 percent in 2004...Furthermore, the United States now runs a trade deficit in Advanced Technology Products."
  • Skilled workers: "The perception that manufacturing employment is unstable and lacks job opportunities discourages new workers from pursuing career paths in manufacturing [leading to] a growing shortage of skilled workers."

In their conclusion, Popkin and Kobe urge attention to "those factors that will make U.S.-based production a viable and profitable business choice" in any response to the "warning signs" they have identified.

"Currently the U.S. economy and economic policy are consumption oriented," they observe. "That stance is justified, not incorrectly, on the role of consumption in stimulating production. But there is growing realization that the production so stimulated will not necessarily take place in the United States.

"Thus the emphasis of U.S. policy must be placed directly on accelerating production here."

The report is available online at http://www.nam.org/s_nam/bin.asp?CID=202515&DID=236300&DOC=FILE.PDF.

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