'Reshoring' Fad: Fed by 'Made in the USA' Fad?

I am in the minority over at Yahoo! News

Country of origin remains a sticking point in IPE no matter what economic liberals say. Today, let us look at a possible 'multiplier effect' where inviting manufacturing back home to America may be complemented by retailers advertising that more of their products are made there. In case you missed it, there's a 'reshoring'  fad going on Stateside wherein manufacturers who once decided to go to China and coming back since the cost savings they expected did not materialize. Often, transaction costs in the from of chronographic, geographic or linguistic differences negated labor cost savings. With China rapidly industrializing and its working age population falling, it was perhaps inevitable that even the labor cost advantage would be eroded. Whatever the cause, the net effect is more American firms coming home to America:

The Boston Consulting Group survey found 21 per cent of a sample of 200 executives of large manufacturers were either already relocating production to the US, or planning to do so within the next two years. A further 33 per cent said they were considering it, or would consider it in the near future.

Retailing giant Wal-Mart recently put more emphasis on selling US-made goods for obvious reasons. In difficult times, it becomes harder to justify selling boatloads of goods made elsewhere regardless of cost savings passed on to consumers. There's even a feature trumpeting "Made in the USA" products on their website. With Wal-Mart setting a quota for Stateside purchases, it was perhaps inevitable that the reshoring movement gained even more momentum:

Wal-Mart's new emphasis on U.S. goods spells opportunity for Lip Yow, a Malaysia-born entrepreneur who until recently made everything in China. Mr. Yow's company, AFC Trident Inc., Ontario, Calif., uses contract manufacturers in Shenzhen, China, to make plastic cases that shield smartphones and tablet computers. In April, Trident began production at a small factory in Rancho Cucamonga, Calif. Mr. Yow aims to shift most production from China to the new California plant, partly to appeal to retailers like Wal-Mart.

Getting on the shelves of Wal-Mart, the nation's largest retailer, is "very important," Mr. Yow said, showing a visitor his new plant where an American flag hangs from an overhead crane. [Yeah! USA #1!]

Wal-Mart has promised to increase purchases of U.S.-made merchandise by $50 billion, which would work out to an average of $5 billion a year. That affects just roughly 2% of what Wal-Mart spends annually on merchandise at U.S. stores, said Matthew Nemer, an analyst at Wells Fargo Securities. It is less than 1% of the U.S. trade gap in 2012. 

It could be a perverse sort of trade diversion if US retailers expressed trade preferences for buying American despite the economic case not being there. However, it appears that, in certain instances at least, doing so only reinforces the incentives manufacturers increasingly have of making stuff Stateside.

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Screw Panama; Chinese & $40B 'Nicaragua Canal'

It's been a long time since we've had a video feature, but now is as good a time as any. Recently, a young Chinese telecoms magnate came to an arrangement with the (rather impoverished) Nicaraguan government to develop a Panama Canal alternative slicing through that Central American republic:

Wang Jing, a 40-year-old Chinese telecommunications billionaire, has emerged as the next mogul to give it a go. Nicaraguan President Daniel Ortega, who fought the U.S.-backed contras in the 1980s, signed a 50-year concession on June 14 that grants Wang’s HK Nicaragua Canal Development Investment Co. (HKND) rights to develop a $40 billion project that includes a canal, an oil pipeline, two deepwater ports, an interoceanic railroad, and two airports.

Apart from his youth, question marks surround whether a telecoms guy knows anything about infrastructure development. Certainly there is no lack of such projects in the PRC--it just so happens that Wang has no experience with any of them. So obscure is this guy that the Nicaraguan leader even described him as a "ghost" during the signing ceremony:

Wang, whose HKND Group launched its website just days prior to the concession signing, is relatively unknown. “Why Wang Jing?” asks Margaret Myers, China and Latin America program director of Inter-American Dialogue, a Washington research group. “He has no experience in canals or large infrastructure projects. He is a telecommunications guy in China.”

Wang is chairman of more than 20 enterprises in 35 countries, including Beijing Xinwei Telecom Technology, according to the website. He’ll be owner and chief executive officer of HKND, which describes itself as an international infrastructure developer that will design, build, and operate the canal, its first project. “Here is the ghost,” Ortega said when Wang appeared to sign the concession on June 14. “He’s flesh and bone.”

Still, there is a commercial oportunity here insofar as cargo ships become larger and larger. Pretty soon, the Panama Canal may no longer be able to handle all the volume passing through:

The project comes as Panama prepares to finish a $5.25 billion expansion of its 99-year-old canal. On June 20, Honduras announced plans to work with a Chinese company on an Atlantic-to-Pacific railroad to boost trade across the Central American isthmus. “I think it is the right time now given the expanded ship sizes out there,” says Bill Wild, a former deputy CEO of Australia-based contractor Leighton Holdings (LEI:AU) and HKND’s chief project adviser. “Even the Panama Canal can’t come close to handling the big ships being built.” The Panama Canal Authority refutes this.

Despite the understandable scepticism, it will be interesting to watch whether this is a work of genius or a boondoggle on the part of the Nicaraguans in placing their bets on an unknown quantity.

UPDATE: It seems Ortega and Wang have already disagreed in public over the canal's route. Once more, I am not so optimistic about it coming true since so many grand plans to build this canal have been mooted over several decades.

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Car Talk: Detroit is Dead; Long Live S Carolina!

Despite giving up its distinction of being the world's largest car market to China in 2009, the United States remains comfortably in second place. What's more, the average price of a passenger vehicle sold in the US remains higher than one sold in China for the simple reason that US income per capita remains higher despite income being on an opposite, downward trend. We've talked a lot about cars recently, from the demise of Detroit to its replacement by (foreign-owned and non-unionized) plants in the American South alike in Alabama. Today, let's turn our attention to another rising Southern state.

It is well known that BMW chose to site in South Carolina while deciding where to put an American factory to meet US demand (especially for super-sized SUVs popular with these super-sized people). It was only natural that key suppliers would follow BMW Stateside, such as the legendary German transmission manufacturer ZF. Despite not being widely known outside of car cognoscenti circles, its reputation for cutting-edge engineering is unimpeachable. Their latest product blows the mind: a nine-speed automatic transmission boasting superior acceleration, imperceptible shifts, superior economy and smaller size.Truly, the best of all worlds is possible. Nine speeds! When I was growing up, the move from 3- to 4-speed autos was regarded as a technical achievement, but nowadays those are primitive. As it so happens, South Carolina will once more benefit from ZF marketing more of these super transmissions to German and other automakers operating Stateside. From the press blurb:

ZF Friedrichshafen AG has opened a new plant for automatic passenger car transmissions in the U.S. Located in South Carolina, ZF Transmissions Gray Court, LLC is the manufacturing site of the 8-speed automatic transmission, which is already successful in the market, as well as the world’s first 9-speed automatic transmission [...] About 1.2 million transmissions are expected to be produced at this plant annually; this includes 400 000 8-speed and 800 000 9-speed automatic transmissions. The new plant expands the existing capacities at the Saarbrücken location to produce 8-speed automatic transmissions.

Confidence is such that ZF's largest investment ever regardless of country just so happens to be FDI in America:

So far, ZF has invested around EUR 300 million in building the new location, which is around 130 kilometers north-west of Columbia, the capital of South Carolina. A total of approx. EUR 450 million is planned for investment into the new location. “It is the largest single investment in the almost century-long history of ZF,” emphasized Dr. Konstantin Sauer, ZF Board Member responsible for finance and the North American region. This reflects ZF’s vision of great potential for the region and the company’s desire to continue expanding its successful course with adequate production capacities.

And here's an important point for ZF locating in South Carolina aside from all those incentives offered by the state. Unlike bombed-out and deserted Detroit, opportunities for hiring and training workers in German-style apprenticeships is much greater:

ZF chose South Carolina because numerous automobile manufacturers and suppliers are already located in the area, and the local government provided a number of great opportunities to build a new facility. In addition, Piedmont Technical College established a new facility near ZF to aid in the training of a skilled workforce. With Clemson University in the area, it provides a great opportunity to recruit future engineers. Furthermore, the new ZF U.S. employees have been trained in the subtleties of transmission assembly by experienced, specialized ZF workers from Saarbrücken via the “Buddy Program”. The employees, trained internally through this program, now work as multipliers in Gray Court and are passing on their knowledge to the subsequently recruited U.S. colleagues.

There's no substitute for on the job training for cutting-edge production  Meanwhile, I eagerly await the 12-speed automatic transmission. [German] progress marches on. 

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End of an Outsourcing Era: 787 Nightmareliner

There is a justifiably very well-cited article in the Review of International Political Economy by Gary Gereffi, John Humphrey and Timothy Sturgeon concerning "The Governance of Global Value Chains." (I think it's required reading for anyone with an interest in the field; simple as that.) Here, the authors discuss different sorts of arrangements possible in global value chains which range between the two extremes of hierarchy (you make everything yourself), and market (you exchange for everything and make virtually nothing yourself). Table 1 on p. 87 is very helpful in summarizing these different ideal types:

Again, anyone with a familiarity with the global commodity chain, global value chain or supply chain literatures--they're basically similar IMHO--should know there is no one "best" arrangement for everyone. See, for instance, the so-called "reshoring" movement. As with most things, "it depends" on such things as the need to maintain proprietary information in-house and the transaction costs of dealing with far-flung suppliers. In the latter respect, the 787 set new standards for a modular type of arrangement in the terminology of Gereffi et al. First, aviation contracting is obviously of high complexity unlike, say, garments manufacture. Among other things, you have fly-by-wire avionics systems, fuel-efficient jet engines...and water-efficient toilets [?!] Second, the conceit of Boeing at the time of the 787's conception was that it could do what it thought it did best--design airplanes--and then simply leave subcontractors to fill in the smaller details since the ability to codify transactions in airplane assembly was also high. Third, Boeing obviously thought that the supply base was high enough in skill to outsource the required engineering work.

Earlier on, students of business practice including yours truly were enamoured with what Boeing was going to do. Remember, this was at the height of the outsourcing craze--again different from offshoring since having things made by others does not necessarily mean they were made outside of the US of A (30% of the 787 was supposedly made abroad):

Boeing's new manufacturing template has captured the imagination of the aerospace industry. Recently officials from Airbus told analysts that the company will up its outsourcing to become more competitive. "For any company that wants to be successful in aerospace manufacturing, Boeing's new strategy is the way forward," says Aboulafia. "Which is ultimately good news for small business."

With the benefit of hindsight, more than half a decade later we realize that Boeing's vision was shambolic and that many of us were similarly deluded into thinking this was "the future." Drawing from Gereffi et al. once again, the assumptions were wrong. First, the complexity of the transactions was indeed high--so high that Boeing and its contractors suffered from the "Humpty Dumpty effect" wherein the plane could not be put together as intended despite the best minds in aviation working together since they were only doing so after the fact. Hence the many delays this plane suffered prior to its delivery. Second, Boeing vastly overestimated its ability to state what needed to be done by the others. Once more, the fit of various subcomponents from different suppliers with each other left much to be desired. Third, it is fair to say that Boeing had too much confidence in these suppliers to come up with designs compatible with the 787. Whereas it would once provide detailed blueprints, it assumed with the 787 that the suppliers would have enough engineering expertise to ensure their delivered products would be compatible with everything else.

Of course, Boeing is not without fault. There is probably nothing wrong with attempting to revolutionize passenger jet manufacture. That's part of the innovation process. Instead, the fault lies in simultaneously introducing a radical new production process and a novel airplane design. It may have been more feasible if Boeing either (a) followed the template of previous jets alike the 777 in contracting but moved to more subcontracting as the plane rolled out smoothly or (b) tested much more subcontracting of previous designs alike the 737/747/777 before attempting to do the same with a wholly new design. One step at a time, as they say.

Alas, we now know what's happened. The 900+ subcontractors have caused no small amount of problems for Boeing in delaying the rollout of this plane. Now we also get word that the American aviation regulator is looking into the safety of this design so many years after it first rolled off the assembly line. For an airplane manufacturer, I suppose that's nearly the equivalent of a drug recall due to fatalities in the field in terms of embarrassment short of grounding the fleet. To be sure, the customer list of Boeing for the 787 remains long since it is an outstanding design in terms of fuel efficiency, range and carrying capacity for a model in its class. That said, Boeing may not be able to fulfil its order book given further delays that may occur as various authorities look into its business.

Fearless (but predictable) prediction: Boeing will soon move back to a more relational arrangement based on more processual coordination and iterative testing of fewer subcontracted components. If it worked with the 777 and previous models, I guess why mess with a good thing in the name of specious or probably non-existent savings?

As the saying goes, if you want something done right, you might as well do it yourself.

1/17 UPDATE: Me and my big mouth. Now Japan Airlines and ANA have grounded their fleet of Boeing 787s. Sometimes you hate being prescient.

1/18 UPDATE: Now almost all 787s in commercial operation are grounded. It's getting even worse for Boeing...

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Back in America: Is "Reshoring" Overblown?

There's an interesting feature over at The Atlantic on how more American manufacturers are moving back to the United States since expected savings from moving more production to the likes of China didn't materialize. To be sure, the world economy has also changed since the offshore fad peaked (see this earlier post on why offshoring and outsourcing are not synonymous--and why the article should have been entitled the "reshoring boom" instead of the "insourcing boom" to be more accurate). How has the world changed? They given the following bullet points:

• Oil prices are three times what they were in 2000, making cargo-ship fuel much more expensive now than it was then.
• The natural-gas boom in the U.S. has dramatically lowered the cost for running something as energy-intensive as a factory here at home. (Natural gas now costs four times as much in Asia as it does in the U.S.)
• In dollars, wages in China are some five times what they were in 2000—and they are expected to keep rising 18 percent a year.
• American unions are changing their priorities. Appliance Park’s union was so fractious in the ’70s and ’80s that the place was known as “Strike City.” That same union agreed to a two-tier wage scale in 2005—and today, 70 percent of the jobs there are on the lower tier, which starts at just over $13.50 an hour, almost $8 less than what the starting wage used to be.
• U.S. labor productivity has continued its long march upward, meaning that labor costs have become a smaller and smaller proportion of the total cost of finished goods. You simply can’t save much money chasing wages anymore.

These are all to an extent true--especially the one about the excesses of American organized labour being reined in. Moreover, as the article does state, there isn't much logic in sending production half a world away if you're mainly just going to service the US market. (Mexico makes more sense for that, though the hardest core reshoring fanatic would consider going across the Southern border a step too far unless you are again using the land of El Tricolor for an entry to point to increasingly lucrative Latin American markets.)

At any rate, (American) firms thinking of moving to China at this point--you're kinda late, buddy--can play around with the "Total Cost of Ownership Estimator" provided by Harry Moser's Reshoring Initiative. While I would naturally suspect the output is skewed towards staying bank in the US of A, freight information and whatnot are readily obtainable for those actually making this kind of decision. You also have to factor in cultural, linguistic and time zone issues--although these kinds of transaction costs are not readily computable I believe. Anyway, Moser is mentioned in the article as one of the champions of this movement in the article, and the calculator provides...

Most companies make sourcing decisions based on price alone, resulting in a 20 to 30 percent miscalculation of actual offshoring costs. With the Total Cost of Ownership Estimator, users account for all relevant factors when determining their total cost of ownership including overhead, balance sheet, corporate strategy and other external and internal business costs.

Once your unique data is input into the calculator, you will receive your total cost of ownership analysis complete with:

• Calculations of each source’s cost
• An accumulation of all costs into cost categories
• A grand total cost
• Line charts showing each source’s current price, total cost of ownership and 5-year forecast
• Line charts showing your cumulative cost by category

Have a look and see. Me? I am generally agnostic about location as a sometime consumer as long as the product is of good quality and is readily accessible when needed, so more power to those who "reshore" if improves either or both for American consumers. Still, the emphasis here is probably too Amerocentric for truly multinational firms that are neither American nor serve a largely continental US market.

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Gadgets Make the World Go Round: 15 Yrs of ITA

During these dark days of Doha Round deadlock, good news from the WTO is hard to come by. But, even your ever-pessimistic correspondent has managed to fetch--wait for it--reasonably good news involving the WTO. Although many people do not know of it, the Information Technology Agreement (ITA) signed under the auspices of the WTO way back in 1996 was a seminal event in the formation of global value chains in  the electronics industry. By gradually encompassing more and more countries in tariff-free arrangements in the production of electronic goods, disparate nations have benefited. To use commercial lingo, ITA enabled both Super Mario and Samsung to each have their own (export) Galaxy.

Just to show you how I am in such a generous mood, I will even let Mr. Doha Round Failure himself, WTO Director-General Pascal Lamy, fill you in on ITA's importance:

The 21st century is the era of information and communication technology, and the ITA has played a vital role in promoting affordable access to those technologies. This sector is crucial for the world economy – not only due to its considerable size, but also because it is an important driver of productivity, innovation and, ultimately, economic growth. Over the past 15 years, world exports of IT products have almost tripled in value since 1996, and reached an estimated US $1.4 trillion in 2010, accounting for 9.5 percent of world merchandise trade. Together, ITA participants account for 96 percent of world trade in IT products. And because they provide duty-free treatment to imports on a most-favoured-nation basis, they have created opportunities for exporters in all WTO members, including those in least-developed countries.

With the most recent participation of Colombia, the ITA has now grown to include 74 WTO members, and the majority of them are developing participants. Developing countries have consistently increased their participation in world trade of IT products since 1996, accounting for approximately 64 percent of exports and 51 percent of imports in 2010. While a growing share of the investment in both the production and use of these products is made by developed country IT industries, IT spending is increasing considerably in some emerging economies, such as China, India and countries of the Association of Southeast Asian Nations (ASEAN). These investments have been the catalyst that has allowed countries as diverse as China, Costa Rica, and some ASEAN countries to develop their capacity for manufacturing IT products and become important players in global production networks. In addition, other developing nations used these IT products and technologies as tools to become key players in other areas. For example, access to affordable IT equipment was instrumental in enabling India to become a powerhouse in consulting services, software development and other services. 

Good stuff, and there's much more information on the ITA's history, mechanics and future in the publication I excerpted Lamy from. As ever there's far too much interesting stuff to read if you're interested at all in international political economy. Rest assured that, sometimes at least, the WTO works.

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Pol Eco of Trade Stats: Value-Added, Anyone?

Can it be that a large part of economic conflict in the world is down to artifactual statistical considerations? That in fact could be the conclusion you would draw if the latest effort to change the way the world records trade comes true in due time. Everyone is by now aware of the fact that the United States is the world's largest net importer, and this fact has been lamented far and wide by Americans decrying their diminishing exporting prowess in recent decades. On the other hand, export-focused Asian nations alike China and before it the Asian tigers and Japan have routinely been accused of using unfair trade practices to gain an advantage on others, and their significant trade surpluses over the years have provided ammunition for this accusation.

The problem to many trade followers goes like this: the recorded trade balance ultimately boils down to the final international transaction--say, between China and the United States--while ignoring the intermediate steps in the process. Especially now when supply chains range far and wide, a computer labelled or recorded as "Made in China" by American customs officials may actually made up of components from different countries, perhaps Thailand for the hard disk and South Korea for the DRAM chips. Moreover, if the computer is a Dell, HP, or what else have you, the value-added contribution of the American firm is not really that well-recorded.

Hence, tucked in somewhere below a recent Reuters article is a mention of the OECD, WTO and UNCTAD working on a way of recording the value-added contribution of each nation in international trade. And, as I like to keep repeating, the value-added of trade is more in the branding and distribution, not simply in making the bits and bobs:

"For example between the United States and China, we are going to be able to present a new logic, a new way of appraising the benefits. We will see, we know, that mostly it is going to be knowledge that drives the benefit of international trade, rather than where you are producing the bits and pieces."

To that end, [OECD Secretary-General Angel] Gurria said a joint effort by the OECD, WTO and the United Nations' trade body, UNCTAD, to recalculate global trade in terms of value created at each stage of the production process as opposed to final sales terms, should help to defuse trade tensions when the data is published in December.

"We will make a very decisive change in the way we look at trade and in the way the benefits of trade and investment flows accumulate in different countries. We believe this is going to remove the edge on the protectionist tendencies that there are today," Gurria said.

So, taking the US-China trade debate as an example, perhaps US presidential contenders would not be competing to outdo each other in bashing China if the trade balance were not so hugely in favour of the PRC. Conversely, Chinese officials understand that the heat may be lessened on them by the ongoing effort and thus support it wholeheartedly. An earlier China Daily article expresses China's logic in doing so clearly by way of illustration:

"Worked out by conventional trade calculation methods, China has a huge trade surplus. But this does not reflect the real scenario of international trade and is often misused by foreign politicians to criticize China's policies on foreign trade and its exchange rate," Yu Jianhua, assistant minister of commerce, said on Tuesday at a forum on global value chains in Chengdu, Sichuan province...

With the past two decades of economic globalization, products are made in no single country but instead "Made in the World" through global value chains. Thus a transition has been made from trade in goods to trade in tasks "Traditional trade statistics based on customs data may not always give the picture needed for factual decision-making," Pascal Lamy, director-general of the WTO, said last year.

Under the traditional method of calculation, the value of an exported product is attributed to the country of origin, but very often that country accounts for only a small portion of the total added value created through the export. For example, an iPhone 3G assembled in the country is exported to the US at the price of $179, which is taken as China's export value. But in fact the country accounts only for $6.50 of the total added value, according to a calculation by Xing Yuqing, a professor of economics at the National Graduate Institute for Policy Studies in Tokyo.

Lamy said early this year that "the statistical bias created by attributing the full commercial value to the last country of origin can pervert the political debate on the origin of the imbalances and lead to misguided and hence counterproductive decisions." Traditional trade statistics place China's trade surplus with the US in 2008 at $285 billion. "But if calculated by the value-added trade, the trade surplus was just $164 billion," Yu said.

It looks like a win-win situation all around, but there are other practicalities involved that we ought to consider:

1. Will value-added measures of trade better match actual capital account transactions than the current system?
2. Will developing countries in particular have the ability to modify their trade accounting systems to capture the value-added contributions in trade?

These are questions that require investigation as well as we anticipate the said December 2012 unveiling of the recalculated trade data . That is, would we need to change conventional balance of payments accounting and the system of national accounts to accommodate these changes introduced by value-added trade statistics? Also, can the many countries in the world actually record these value-added transactions accurately? What may look like arcane matters for bean counters to ponder actually has far-reaching political-economic implications.

Indeed, there is a political economy of statistics since the way we measure "the world" affects the way we perceive it.

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Japan, PRC & Dumbly Shooting Down Flying Geese

The migration of the so-called "Flying Geese Model" has been responsible not only for integrating more regional economies into the world economy's fold but also raising living standards in East Asia as the centre of economic gravity is rapidly heading towards our part of the world. The essentials of this story are well-known: high production costs due to a strong yen and dearer labour have encouraged Japanese firms from the first wave of industrialization in our region to set up shop elsewhere as long as comparative or competitive advantages are found. In turn, the likes of Taiwan and South Korea have followed in Japan's wake by extending their production facilities elsewhere in the region such as Southeast Asia when their production costs in turn increased. And so on down the line, with China being the largest beneficiary of this process in recent years.

Hence, it was with no small amount of displeasure that I noted the re-emergence of territorial disputes in Asia flaring up, especially in mainland China. While the politics of territorial disputes have until now been fairly contained, there has always been the danger of these tensions spilling over into economic disruptions. With tightly integrated production schedules alike "just in time" processes nowadays, such disruptions could easily affect the global availability of important consumer alike automobiles or consumer electronics if prolonged. The cause this time, though, does not involve an earthquake, a tsunami, or a torrential downpour but simple human insensibility.

These past few days have witnessed Chinese protests spilling over into outright hostility against Japanese foreign investment and investors--or factories and expatriate personnel alike. Left with few alternatives, many Japanese companies operating in China have closed offices and factories. The BBC reports on this across-the-board demolition derby prompting widespread Japanese closures that threaten $345B in bilateral trade between these two giants of the region:

• Panasonic - shut factory in Qingdao
• Canon - suspended operations at three plants
• Honda and Nissan - stopped production for two days
• Mazda - stopped production at Nanjing factory for four days
• Toyota - suspended some production
• Sony - closed two of its seven plants and is discouraging non-essential travel to China
• Seven & I Holdings - closed 13 supermarkets and 198 convenience stores
• Fast Retailing - shut 42 Uniqlo clothing stores and advised Japanese employees to stay at home
• Aeon - closed 30 out of 35 supermarkets
• Komatsu - the construction equipment maker has halted work at three plants in Shandong province

As I said, it's not a small incident as there has emerged a witch hunt against all things Japanese in many Chinese cities. In turn, I've given some thought about how we can settle quell disputes, but it will require compromises from all sides:

1. Japan would do itself a lot of favours if it finally issued an apology to all the countries it rather savagely occupied during WWII. Germany did so long ago, and it is never too late for Japan to follow suit since Asians apparently have very long memories. The grievances extend practically everywhere--from China to South Korea and on to Southeast Asia--while the offences are undoubtedly grave--forcing women into prostitution, [subsequently American exploited] human experimentation, arbitrary torture and execution, etc.
2. OTOH, the others--Chinese, Koreans and Southeast Asians in particular--ought to discourage obtaining cheap political points by distracting people from more significant matters. Unpopular at home? There is always the temptation to "blame Japan."
3. Insofar as territorial disputes in Asia will not likely be solved through arbitration at bodies alike the International Court of Justice due to the reluctance of certain parties, the promise of much-needed fuel supplies in the East China Sea can be brought to fruition by joint exploration. Yes, there will be issues as to what each party will contribute and get in return, but such matters are comparatively trivial to the gains from exploiting these resources in the here and now and easing territorial disputes in the process.

Just my two cents' worth for now. Meanwhile, what's going on is beyond comprehension since there is tacit approval of such senseless violence that threatens to destroy what has taken years of cooperation to build in the aftermath of WWII. Economic ministers whose role is to create trade ties may shake their heads in disgust, but rest assured that there are others who believe their political standing may rise by stoking the flames a wee bit more.

UPDATE: Also see the Lowy Interpreter on the possible demise of "Factory Asia."

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Strange Tales of Delta Air Buying an Oil Refinery

With airlines being almost universally unprofitable these days--even Thai Airways is reportedly going to have an unprofitable 2012 or only its second unprofitable year in 51 years of operation--saying that costly aviation fuel is having negative effects on the airline industry is an understatement. From the Land of Smiles' flag carrier, let's turn our attention to the Land of Fats' largest carrier, Delta. A few weeks ago, I noticed an interesting feature about this perennial money loser considering the purchase of a refinery to deal with sky-high fuel costs. Now it's almost a fact: Delta nears completion of a deal to buy a refinery that ConocoPhillips is offloading:

 Delta Air Lines Inc. (DAL) is bringing some jet-fuel production in house, breaking with U.S. carriers’ reliance on outside providers, by acquiring a refinery that Phillips 66 had targeted for shutdown. The world’s second-biggest airline will pay $180 million for the complex in suburban Philadelphia, according to a statement yesterday. Pennsylvania’s state government is putting up $30 million in assistance to defray the expense.

An airline-owned refinery is an experiment in the U.S. industry, said Ray Neidl, an airline analyst at Maxim Group LLC in New York. Atlanta-based Delta estimated the accord will save $300 million on its annual fuel bill, which was $11.8 billion last year, or about $32 million a day. “Nothing ventured, nothing gained,” said Neidl, who has a buy rating on Delta shares. “Delta likes to try new things and I’m sure they studied this for months and ran the calculations. Nobody has done something quite like this before.”

Well that's one optimistic take on the Delta purchase. However, more analysts are skeptical about the costs savings available here, instead focusing on Delta's expansion of non-core functions and its implications for its flight operations. It goes back to time-tested debates about supply chain management and when the vertical integration or "make" decision outweighs the "buy" decision. To be sure, what we have here is a supremely commodified product, so there's no novelty factor involved which usually points in the direction of a "make" decision. Delta's counterargument though would be that these are extraordinary times during which it's better to make certain things in-house. At Bloomberg, Virginia Postrel outlines the sensible case against Delta's plan:

“If markets work well, you’re always better off using the market. Let somebody specialize in what they do and trade with them,” says Richard N. Langlois, an economist at the University of Connecticut whose work on what he calls the “vanishing hand” looks at why corporations have become less vertically integrated in recent decades. “If there are markets that are well functioning for your inputs and there aren’t high transaction costs or other problems, you’re generally better off buying things in markets than owning them yourself.” The vertical integration that Alfred Chandler chronicled in his influential 1977 book “The Visible Hand,” Langlois argues, was “an adaptation to particular historical circumstances” -- specifically, underdeveloped input markets...

In Delta’s case, that means flying airplanes, not refining oil. Delta doesn’t need its own refinery to obtain jet fuel, which is traded in a thick worldwide market, any more than it needs to own a peanut farm to supply in-air snacks. And it seems unlikely that Delta would be noticeably better at running a refinery than any other potential buyer--or, for that matter, ConocoPhillips, which plans to close down the refinery if it can’t make a deal.

The proposed purchase “doesn’t make a huge amount of economic sense -- in fact quite the opposite,” says Craig Pirrong, a finance professor and director of the Global Energy Management Institute at the University of Houston’s Bauer College of Business. You might think that owning a refinery would at least protect the airline from price fluctuations. But, Pirrong notes, crude oil prices affect the profits of airlines and oil refineries exactly the same way. When oil prices go up, their profits go down. Owning a refinery would simply magnify the effect. “If anything,” he says, “it increases the risk exposure that has bedeviled the airline industry for years.” 

I believe these arguments make sense: it's the price of crude oil, not refining it, that is primarily behind costly aviation fuel. Moreover, if a dedicated energy concern alike ConocoPhillips couldn't make ends meet, what better chance does an energy industry neophyte like Delta? Still, you can't deny Delta's chutzpah. For its next act, I'd like to see it buy an inflatable woman doll maker to produce floatation devices. Delta may be losing lots of money, but it might as well have fun doing so.

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Apple & Samsung: Who's Got Whom by the Balls?

[NOTE: For those who don't get the title, play this AC/DC song.] There are two broad debates going on regarding the current dominance of Samsung in the consumer electronics space. First we have the perennial question about the role of industrial policy for its success. Widely lauded for being a source of South Korea's competitive advantage during its rise to "Asian tiger" status, industrial policy was subsequently derided as a mechanism for harmful corruption during the Asian financial crisis. Surely there are those who criticize the continued state favoritism shown towards chaebol and its effective stifling of the emergence of smaller, nimbler Korean startups.
Me? I say the results speak for themselves.

Second and more interesting to me at the moment is the ongoing legal battle being waged by Apple against Samsung. At the same time that the Korean firm manufactures a number of the components used in the Apple iPhone, it makes its own line of smartphones. Samsung has been very successful in this regard, overhauling Apple as the world's largest seller of such devices in Q3 2011. Samsung's explanation for this strategy is that being a parts maker and a branded seller helps achieve economies of scale which it otherwise would not have had if it did not spread development costs to other customers. On the other hand, Apple is very much in line with the modern vision of an American "knowledge economy" firm that does not concentrate on manufacturing (the gritty stuff whose value-added tends to fall over time) but on branding and design (the glamorous stuff whose value-added tends not to fall). That is, who wants to be stuck with plant, property & equipment when they eventually become obsolete--isn't it worth a lot more "up there" in your head?

In many ways it's a next-generation debate between those who see the "knowledge economy" or a broader shift towards services as a source of comparative advantage (especially Americans) and those who perceive that industrial policy is still viable in the 21st century with tweaks here and there (especially Asians). Yet to paraphrase an ad slogan from long ago, Korea no longer practices its grandfather's reverse engineering but one wherein it sets the pace in new industries ahead of its Western competitors. It has certainly done well in this regard during the 21st century with bets that have paid off:

In 2000 Samsung started making batteries for digital gadgets. Ten years later it sold more of them than any other company in the world. In 2001 it threw resources into flat-panel televisions. Within four years it was the market leader. In 2002 the firm bet heavily on “flash” memory. The technology it delivered made the iPhone and iPad a reality, and made Samsung Apple’s biggest supplier—and now its biggest hardware competitor.

Or so the Koreans would like to think. As you know, Apple has taken Samsung to court over, indeed, copying the look and feel of its products (imitation is the sincerest form of flattery and all that):

Competitors also balk at the way that Samsung scales up quickly to supply parts to other firms as well as to price its own gadgets keenly. Supplying the rest of industry drives down Samsung’s costs yet further, with its rivals in effect financing its success. This strategy can create problems. Samsung is Apple’s most important supplier in the smartphone and tablet-computer markets. Samsung components, which include all the product’s application processors, account for 16% of the value of an iPhone. It is also Apple’s greatest competitor in those markets. Apple is now suing the socks off the company for copying the look and feel of its products. At the same time it is urgently seeking new ways to diversify its supply chain.

There may thus be limits to the symbiosis said to be going on between these firms. Apple may want to broaden its component supplier base in case Samsung tries to get back at it for legal contretemps. Meanwhile, Samsung may want to devote more attention to the software side as the hardware side of the consumer electronics equation. That is, an amount of overlap in expertise is perhaps inevitable for each to maintain competitiveness vis-a-vis each other. While the Economist views this relationship as rather unique, B-school professors Brandenburger and Nalebuff already noticed how widespread the phenomenon of "co-opetition" was back in 1997 when Steve Jobs had yet to sell a single iProduct (having just rejoined Apple). Been there, done that, saw the movie, bought the T-shirt.

Returning to the post's title, who has whom by the balls? In the short term it's to an extent mutually assured electro-destruction if either backs out in a significant way. In the long term it's probably not a question we will be asking as Apple seeks to broaden its supplier base and Samsung does what it's done many times before and moves on to other industries it deems more promising--which are not necessarily those in the consumer electronics space. Remember, Samsung was not originally a consumer electronics company. Tis but a momentary convergence of interests.

That said, the broader debate on the prospects for the "knowledge economy" which America has in large part bet its economic future on compared to those for the reworked conception of industrial policy which Asian nations have staked a claim to should be interesting to watch. Who says both cannot work--and purchase stocks of both firms to diversify one's portfolio? More importantly from a political economy perspective, which specific strategy will be most beneficial to their home nations? I've already criticized the Apple model for not doing much that is good for America, for instance.

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