October 21, 2011    Volume 18, No. 16

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China Trade Apologists Know a 'Reality' That Is NOT True

By Charles McMillion

Even in this awful economic time, the well-financed efforts continue to deny and minimize the immense damage being done to United States and world production, jobs, wages and tax revenues by obsolete "free" trade practices in the face of China's muscular, highly successful protectionist and industrial policies.

One of the loudest and most prominent "serious" current claims derives from the fact that traditional trade statistics do not capture the country of origin for all "value added" because it omits inputs from the global supply chains of component parts and services in almost all advanced products. This new argument is being used to make misleading and clearly false claims which, repeated unquestioningly by virtually all major media (see links at the end of this article) has led to the point where these claims are now "known" by those who believe themselves truly informed, including by some who should have learned by now to be more skeptical (see http://prestowitz.foreignpolicy.com/posts/2011/03/08/why_isnt_ the_iphone_made_in_america).

First Some Key Global Context

Since 2000, the United States has paid -$22.9 trillion globally to import goods and services that, net of all U.S. export earnings, displaced -$6.5 trillion of American production globally along with the jobs, wages and tax revenues this represents. Paying for this trade deficit has undermined U.S. financial independence forcing net borrowing of this -$6.5 trillion from competing foreign interests such as China. (Only trade deficits, not government budget deficits, which exist in China and Japan, too, require net foreign borrowing.) And this foreign borrowing does not include domestic personal and government borrowing that is required by the huge trade-related losses of jobs, incomes and tax revenues.

For the first time on record, global U.S. trade deficits even spread to the most Advanced Technology Products in 2002. Worsening rapidly, U.S. ATP goods deficits now exceed the total net foreign earnings on all Intellectual Property royalties and fees (including franchise fees) by all "U.S." incorporated companies, from Apple and Intel to Starbucks and McDonald's. Using a broader measure, the global U.S. trade deficit for all types of machinery and components (HS 84-85) -- from nuclear reactors and machine tools to all computers, mobile communications devices, semiconductors and the component parts thereof -- has soared to -$1.4 trillion since 2000 including a new record -$173 billion in 2010 alone.

During this time, China's enormous full global current account trade surplus surged to as much as 11 percent of its GDP, with even more immense global surpluses in manufactured goods totaling $2.7 trillion. China's exports and imports of all types of machinery and components first achieved a global surplus only in 2004, and yet, since 2000 have achieved a global surplus of just over $1 trillion including a record $212 billion surplus for 2010 alone. Perhaps I should emphasize that, as with China's massive surpluses in total global trade, its stunning surpluses in machinery trade fully take into account all of China's imported components.

I should also note that China achieved 10 percent annual GDP growth throughout this period -- five times faster than U.S. growth and more than twice the global growth rate. It is normally expected that countries growing faster than world growth (like China) will draw in so many imports as to register trade deficits while countries growing more slowly than world growth (like the U.S.) will inhibit imports and register trade surpluses. Unprecedented global trade surpluses allow China quickly to amass a war chest of over $3.4 trillion in hard currencies that it now uses to acquire, well. . . just about anything it wants. On the other hand, unprecedented trade losses contribute enormously to unprecedented U.S. debt levels and belt tightening.

I have yet to see a single reference to this massive and sustained global imbalance of trade for the U.S. and China in any of the value-added "research" or media coverage, although some make a good living ridiculing those who pay attention to the global data (http://www.cato-at-liberty.org/lies-damned-lies-and-trade-statistics/). Indeed, except for research showing the systematic undercounts of U.S. unit imports through unit over-pricing by the BLS -- thereby underestimating the real size and effects of U.S. trade losses -- there is no serious question about the overall value-added that is being lost in the United States and gained in China from global trade. Failing to emphasize this key global reality of gross imbalances leaves critics' claims, at best, extremely misleading.

Value-Added Critics Focus Only on Bi-lateral Trade and Misunderstand their Own "Data"

Critics have focused exclusively on the bi-lateral trade imbalance between the United States and China, which has reached -$2.5 trillion for the full current accounts since 2000, including a -$2.2 trillion U.S. deficit in manufactured goods of which over -$1 trillion is in overall machinery and components and almost -$600 billion is in Advanced Technology Products.

Ignoring global imbalances, critics insist that U.S. losses to China are exaggerated because much of the value of China's exports comes from global supply chain imports from third countries to China. Curiously, I have not seen any critic even note that China is flooding Canada, Mexico and much of the rest of the Western Hemisphere with its component exports, which also are assembled into products that are then exported to the United States but are similarly not counted in bilateral U.S./China trade statistics. Similarly, except for one WTO critic's recent passing mention of the fact that only 37 percent of the production value of a typical "U.S." car was generated in the U.S. in 1997, I have seen no recognition among the critics that China's exports are not unique in relying on global supply chains.

Critics have received special attention recently for claims in a "case study" of Apple's iPhone. A previous "case study" of the iPad suffers the same fatal weaknesses. Usually referred to by the major media as extensive analytical "reports," the WTO (see http://www.wto. org/english/res_e/statis_e/miwi_e/background_paper_e.htm), the UN (see http://unstats.un.org/unsd/trade/s_geneva2011/Global%20 Forum%20on%20Trade%20Statistics%20-%20Report.pdf), the U.S. Department of Commerce (see http://www.bea.gov/about /ppt/1_Global%20 Manufacturing.ppt) and others have repeated as fact the assumed conclusions of a very slim working paper by Yuqing Xing and Neal Detert for the Asian Development Bank (see http://www.adbi.org/working-paper/2010/12/14/4236.iphone.widens.us.trade.deficit.prc/how. iphones.are.produced/).

But the only actual "data" in the Xing and Detert paper, which is footnoted, is merely to reprint the result of a routine "Teardown Analysis" by a trade publication, iSuppli, of the component brands used in one 2009 iPhone 3G S (see http://www.isuppli.com/Teardowns/News/ Pages/iPhone-3G-S-Carries-178-96-BOM-and-Manufacturing-Cost-iSuppli-Teardown-Reveals.aspx).

The original data compiled by iSuppli of 15 major iPhone components and their assembly by Taiwan's Foxconn in Shenzhen, China, includes the transnational corporations that own the branded components, its primary country of incorporation, the likelihood of multiple brand sourcing for each component, a brief description of the component and the estimated unit cost. Except for noting that all iPhones are assembled by Foxconn in China, iSuppli makes no comment about the extent to which any or all of the components are produced in China, in their "home" country or in some third country.

Xing and Detert omit any mention of the possibility of multiple sourcing for components and merely assume that although Taiwan's Foxconn assembles the iPhone in China the total value for every component part resides with the country from which the transnational corporation branding each component is primarily incorporated. Xing and Detert footnote only their assumption regarding the entire value of "U.S." transnational corporation-branded components but they also assume and assign all the value for every other component to their transnational parent's third country "home."

These assumptions are the entire basis of Xing and Detert's very widely repeated conclusion -- that the only "value-added" in China for a $179 iPhone is their estimated $6.50 (3.6 percent) per unit production cost for Foxconn in China. The authors include not one word of analysis regarding the possible production location of any component. There is not even a single interview with nor a single quote from a single executive from any company producing components.

Yet, each of these assumptions are doubtful because each transnational corporation providing a branded component (Toshiba, Samsung, Infineon, Broadcom, Numunyx, Murata, Dialog Semiconductor, Cirrius Logic) has a major and fast growing engineering, research, testing and production presence in China (see http://broadcom.jobs/chn/jobs/). All iPhones are assembled in China providing a strong market incentive for all its component makers also to produce there. Still, because the iPhone is known as a uniquely "next" generation product with cutting-edge components, it is perhaps remotely possible that any or even all of its components are produced outside China where IPR concerns are very real. But China's authorities have been remarkably successful in luring or bullying powerful technology firms to move key production and technology to China in exchange for wider access to, for example, by far the world's largest mobile phone market with over 950 million current subscribers and growing by over 10 million each month.

The bottom line is that the iPhone "case study" merely assumes and in no way confirms its sensational and improbable finding. Furthermore, the only reason the conclusions of the iPhone claims are even remotely possible is because of the iPhone's uniquely iconic, next generation, short product-life nature. Even in the unlikely event that the case were ever actually demonstrated that the iPhone is "Not Made in China," it is such a unique product with such a marginal total value (barely $2 billion compared with total U.S. global imports over $2 trillion per year) it would represent and signify virtually nothing except to someone unaware of the actual realities of today's global commerce.

Finally: beware of some "analysts" who dress these sets of bald, highly unlikely assumption in language that implies they may be part of a sophisticated International Input/Output model that is far superior to current trade data. This is nonsense meant only to intimidate non-economists -- although it might also be helpful for institutional fund-raising. The fact is, even in the United States, the most detailed Input/Output model is for 2002 and it only tries to estimate products at the six-digit industrial code -- barely capable of identifying a mobile phone much less could it differentiate an iPhone or any of its components. And funding for the U.S. data program has just been slashed due to federal revenue shortfalls caused by all of the U.S. production, jobs and incomes off-shored to China and elsewhere.

Articles describing the iPhone case study:

-- http://www.theatlantic.com/business/archive/2010/ 12/the-iphone-is-1-of-the-us-china-trade-deficit/68208/

-- http://www.npr.org/blogs/money/2010/12/15/ 132085311/why-the-iphone-adds-1-9-billion-to-our-trade-deficit-with-china

-- http://www.chinalawblog.com/2010/12/the_truth_ about_us-china_trade.html

-- http://www.chinahearsay.com/debate-on-international-trade/

-- http://www.foxbusiness.com/technology/2011/10/12/ punishing-china-no-boon-for-us-manufacturing-jobs/

-- Dr. Charles W. McMillion, president and chief economist of MBG Information Services in Washington, D.C., is a former Contributing Editor of the Harvard Business Review and Associate Director of the Johns Hopkins University Policy Institute.

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