Some Hard Truths About Globalization and Jobs

I find myself in Stockholm, an old capital city of a small economy animated by the drive of ingenious entrepreneurs and the extraordinary global success of more native companies than any other nation its size, from Ikea and Erikson to the Tetra Laval packaging giant and the Axel-Johnson conglomerate. Sweden’s economic drive and success are predicated on an acute understanding of the particular demands that globalization imposes on most business enterprises. So, Sweden seems an appropriate place to think about the special difficulties that American economic policymakers face. The United States has been economically dominant for so long that we too easily overlook how unforgiving global competitors and investors can be when our parochial politics produce simplistic fixes for complicated challenges. 

Exhibit One is one of the final actions by the House of Representatives before its Memorial Day recess. The majority, convinced that they’ve found a new, economic wedge issue, passed legislation to strip our most successful global companies of a “tax break” which allegedly encourages them to “ship jobs overseas.” The provision in question lets U.S. multinationals defer paying the U.S. corporate tax on the profits of their foreign subsidiaries until those profits are formally transferred back to the U.S. parent company. The claim that this provision leads Microsoft, Google, Amgen or General Electric to ship jobs abroad is an appealing slogan, but it’s one with no real economic foundation in a global economy.  

The slogan and the policy behind it depend on what is, at best, a nostalgic view of how companies actually operate in global markets. In the 1970s and 1980s, U.S. companies that went global did so by setting up production facilities in places with lower costs – wages, real estate, construction and so on – and then shipping the products produced there back home or to their major markets in Europe. That shift in production was a big factor in the hemorrhage of manufacturing jobs back in the 1970s and early 1980s.  But the truth is, the globalization of the last 20 years has changed most of that.

First, our international advantages now come not from producing standard goods more cheaply in other places, but from developing and applying new ideas to the creation and production of countless goods and services. That’s why our globally competitive industries today are no longer automobiles and steel, but the companies that create and provide goods and services based on new intellectual property – from Internet content and infrastructure, and software and advanced IT hardware, to pharmaceuticals and biotech, business services and entertainment. Moreover, the critical, idea-based services that these industries rely on, along with the idea-based headquarter services that all global companies depend upon, remain firmly entrenched in the United States. That tells us what the rest of world knows all too well: In a global economy, America’s core economic advantage is simply that we perform these idea-based operations better than anyone else.

The result confounds the basic proposition that “tax deferral” costs American jobs. As a stream of recent research has demonstrated, increases in investment and jobs by the foreign subsidiaries of U.S. global companies no longer come out of investment and jobs at home. Instead, as those foreign subsidiaries expand, mainly to serve foreign markets, their demand for and use of those idea-based, headquarter services expands too. So, the data and the operations behind them now show that increases in jobs and investment by foreign subsidiaries are now accompanied by increases in investments and jobs by the parent companies back home. For all of these reasons, raising the tax burden on American companies with foreign operations would reduce investment and job creation not only in abroad, but here at home as well.  

It’s true that American multinationals, especially in manufacturing, hemorrhaged jobs again over the last decade in the face of globalization. But most of those jobs have been lost to domestic outsourcing, as companies increasingly turn to other U.S. firms for services such as maintenance, legal and accounting advice, and so on. The culprit here is the fast-rising financial burden of providing health care and pension benefits, especially in a competitive global economy that makes it much harder to pass along those costs in higher prices. Raising the tax burden on the foreign earnings of U.S. multinationals won’t begin to touch this daunting challenge.    

The recent House action actually could be even more damaging than these developments suggest. The reason that our tax system has provided this tax “deferral,” for nearly as long as we’ve had a corporate income tax, is that America is nearly the only major country that taxes its businesses on their worldwide income, regardless of where it’s earned.  Britain, Germany, Japan, China and nearly everyone else of economic consequence have “territorial” tax systems that tax international companies only on the profits they earn within each nation’s own borders. On top of our distinctive “worldwide” tax system, we also now find ourselves with nearly the highest corporate tax rate of any major economy. So, without deferral, America’s globally successful industries would face a much higher tax burden than their European or Asian rivals. And that would mean lower rates of return for U.S. companies, which in turn would lead to less investment, less innovation, and ultimately fewer U.S. jobs.  

Ending deferral could not only cost tens of thousands of American jobs. It also could create an illusion that Congress has already done what it has to, in order to create more jobs. The slowdown in U.S. job creation has emerged as a very serious, new challenge over the last decade.  But the way to address it has to begin with recognizing the real sources of the pressures on jobs in a global economy. The problem is not efforts by businesses to build a global presence, which after all is a fundamental part of global success. Rather, part of the real issue here lies in the American economy’s increasing and distinctive reliance on ideas rather than physical assets to create value. This historic development puts a big economic premium on people’s ability to operate effectively in workplaces and factories dense with the information technologies that create and manage ideas and information. The reasonable response to that, again, is not higher taxes on foreign-source earnings, but a new domestic program of grants to community colleges to provide free computer and Internet training to any adult who walks in and asks for it. The pressures on jobs and wages also now come, as suggested earlier, from the fast-rising costs for business of providing health care coverage. The answers to that lie in serious measures to contain the pace of medical cost increases. The President’s recent health care reforms contain a number of modest steps in this area, and the Congress would do American workers a genuine service by strengthening and expanding them.

After all that the American people have endured in the last two years, surely it’s time to resist the siren call of facile slogans and easy answers, and become truly serious about both jobs and globalization.