Suddenly, manufacturing and protectionism have become political issues across the Western world. President Trump has already formed a Manufacturing Council with the aim of “reshoring jobs” from outside the USA, and is threatening to introduce import duties of up to 45%.
The problem, however, as the chart shows, is that this will not help the people who voted for him. Manufacturing is not the key to future success for a High Income economy like the US. Its real importance has always been as the mechanism for Low Income economies to become Middle Income:
The US moved from being Low to Middle Income long ago and is now a High Income economy based on Services
High Income economies are 74% based on Services – Industry is just 25% of GDP (World Bank 2014 data)
By contrast, GDP in Middle Income economies is 35% based on Industry, with Services at just 56%
GDP in Low Income countries is only 48% based on Services, Agriculture is well ahead of Industry at 31%
The real problem facing the US and other developed societies is two-fold:
One is that the the wealthy developed world has moved into the fourth stage of the Demographic Transition. As the IMF noted 10 years ago:
“Industrial countries have largely completed what is called the “demographic transition”—the transition from a largely rural agrarian society with high fertility and mortality rates to a predominantly urban industrial society with low fertility and mortality rates”.
But this has never been explained to voters. Western political leaders didn’t want to have difficult debates about the the key issue raised by collapsing fertility rates and increasing life expectancy – how do we retrain people in their 50s and 60s to ensure they continue to contribute to economic growth? Instead, they preferred to hope that central bank stimulus could somehow replace the loss of babies.
Today, the voters’ patience is starting to wear out. They see little evidence of growth returning to the earlier SuperCycle levels, when most of the population were in the Wealth Creation 25 – 54 generation. And so they are looking for new leaders, who will do a better job of protecting their living standards.
This is where the second problem becomes critical. Unfortunately, Western education systems have not provided every voter with the Basic Skills they need to work successfully in a Services-based economy, as the second chart (from the new UK government Industrial strategy) highlights:
Sadly, 30% of US adults aged 16 – 65 lack basic numeracy and literacy skills to OECD Level 2 standard
Other major economies – Germany, UK, Poland, France, Spain, Italy – are also above the OECD average of 22%
It is therefore no great surprise that large numbers of adults, who have not voted regularly in previous elections, are now becoming more active. Populist policies have an obvious attraction for them, as they feel their country is heading in the wrong direction.
The third chart highlights an even more serious side of this issue, namely the very low levels of computer skills across the OECD. These are critical for an increasing number of jobs, but the OECD reported last year that nearly three-quarters of adults have poor (or lower levels) of computer skills. As they also noted:
“There is a strong positive relationship between problem-solving proficiency (in technology-related areas) on the one hand and literacy, and numeracy proficiency on the other.”
Education policy is not something that can be changed overnight. It will take years, if not decades, to replace today’s failing systems and to provide adults with the Basic Skills they have been denied.
Protectionism, on the other hand, appears to offer almost immediate prospect of change. Only later will it become apparent that its main role has been to turn back the clock on incomes and the economy.
15 years ago, it was fashionable to dismiss eBusiness as a fairy story. I remember those days well, as I had just raised $25m from major companies to fund its development in the chemical industry. Today, of course, eBusiness is everywhere. Nobody would dream of shaking their heads and dismissing the whole concept, as many did pre-2000.
Which takes us to the latest stage of eBusiness development, 3D printing. This is similarly set to revolutionise the role of manufacturing in ways that currently seem unimaginable.
For example, when you bump your car in a car-park in 2020, will the garage still order a new bumper from the factory? Why wouldn’t it simply download the design, and print out the part in its workshop before fitting it to your car?
Equally, why wouldn’t local shops provide 3D printing services for a whole range of modern needs?
‘Why not?’ seems the likely answer to these questions.
3D PRINTING IS ALREADY HAPPENING AT ENTERPRISE LEVEL
Gartner have been providing a reliable guide to all things internet for a long time, and one of their most valuable insights is the annual Hype Cycle chart above:
- The idea is that Innovation starts with an idea, which is usually ignored by almost everyone
- Over time, sometimes slowly and sometimes quickly, people begin talking about it
- Current examples today are the concepts of ‘Consumer 3D printing’ and ‘Big Data’
- Everyone is talking about them, but few people have any real idea about what they might mean
- So they will soon move from today’s ‘Peak of Inflated Expectations’ to the ‘Trough of Disillusionment’
- At this point it will become fashionable to dismiss them as ‘just talk’.
But if we take a closer look at this year’s Hype Cycle, what do we see? Products such as ’3D Scanners’ and ‘Enterprise 3D printing’ are now moving steadily up the ‘Slope of Enlightenment’ to the ‘Plateau of Productivity’. Gartner marks them with a light-blue dot, indicating that they are within 2-5 years of widespread acceptance.
Before you laugh, consider this headline from the Financial Times last year, Rolls-Royce plans 3D printing for jet engine parts. And there are many car and aviation companies for whom 3D printing has now become routine.
Similar developments are also spreading across the pharma industry. If companies only need to manufacture 400 tonnes of high-strength Active Pharmaceutical Ingredients, why would they continue to do this on a large central site?
Instead, new business models are being developed based on the idea of giving local pharmacists the ability to manufacture drugs. This is a logical move, given that genetic testing means doctors will increasingly only prescribe drugs which testing confirms as being suitable for the individual patient.
MANUFACTURING WILL SEE MAJOR CHANGE
These changes in business models have potentially major implications for most areas of manufacturing, as we discussed in chapter 9 of Boom, Gloom and the New Normal.
The issue is simple. In recent decades, plants have got bigger and bigger. In chemicals, world-scale used to mean 200kt – 250kt. Today it can mean 2 million tonnes, a 10-fold increase. We have thus reached the point where new plants effectively create major dis-economies of scale The sums involved also create major financial risk for sponsors.
It also means companies are moving vast quantities of raw materials and semi-manufactured goods around the world. This makes little sense in terms of cost or quality, particularly when market needs can change quite quickly.
China is already moving away from its previous role as the ‘manufacturing capital of the world’. As China Daily has noted, President Xi Jinping’s drive towards the New Normal is now taking China in a completely new direction:
“In terms of structure, as supply of capital, land and other factors is on the decline and resource and environmental restriction become more serious. The proportion of the first and second industries, which consume capital, land and energy heavily and pollute the environment, will fall. The service industry, which relies less on capital, land and energy, will grow fast. The industrial structure will thus be optimized.”
The US has still to confront this reality, however. Its natural excitement over shale gas has blinded it, so far, to the clear risk that much of its planned $140bn of investment may fail to make the expected returns. It still believes, as the baseball movie ‘Field of Dreams’ suggested, that “if you build it, demand will appear”.
Yet in reality, it is adding new capacity in products such as ethylene where it is highly likely that new demand will not appear. One clear sign of this is that current production is actually lower than 10 years ago.
Instead, companies might gain more benefit from looking at low-risk new concepts, such as Bayer’s ‘Factory of the Future’, pictured above. As I noted last year, this enables up to 40% reduction in capital costs, and up to 20% reduction in operating costs – whilst providing major environmental benefits in terms of reduced waste and pollution.
To assume, as they say is “to make an ass out of u and me”. That was certainly the case last week, when financial markets assumed that China’s slightly better PMI index was a sign that its domestic economy was stabilising. They had temporarily forgotten the key message of February’s Research Note, namely that the government would aim to preserve growth levels and jobs by boosting exports.
This is a critical distinction. The leadership is giving no sign of intending to do any kind of major stimulus programme. It knows that domestic growth will inevitably head towards zero as it tackles the property bubble. But at the same time, China does need to preserve jobs. And the only possible means, on the scale required, is via exports.
China’s PTA market provides a good example of what is happening, as the chart of the blog’s benchmark prices shows:
- Slowing domestic demand combined with increasing capacity has taken prices down 12% this year (red line)
- ICIS suggests that June’s operating rates will be a further 10% below today’s 76% level as demand slows
- This slowdown is destroying import demand – yet until recently China was the world’s largest PTA importer
- Imports were just 500kt in January-April versus 2MT in 2012, according to Global Trade Information Services data
- Instead an export surge is underway, with 127kt exported in the same period – the first time this has ever happened
This change of strategy is most advanced in PVC. China used to be a major importer when its construction boom was at its peak, buying 255kt in January-April 2012. This year, its trade is balanced, with exports matching imports at 300kt.
China’s new strategy makes great sense – it aims to close down low-margin polluting businesses and instead expand higher-value exports. Thus it is investing heavily to create a technologically sophisticated auto industry, and car exports are poised to take off as the domestic market weakens:
- China’s gas deal with Russia rightly grabbed the headlines last week
- But Russia’s railway is now also ramping up its connections between China and Germany/Central Europe
- Links to India, Thailand, Vietnam and Indonesia are also planned for the next 2 – 3 years
- The aim is to create a ‘through route’ for China’s cars to key export markets
And whilst it is fashionable to mock the quality of China’s domestic car production, JD Power analysis shows manufacturers moving rapidly up the learning curve:
“Chinese domestic brands achieved tremendous improvement in vehicle quality in 2013, with four domestic brands—GAC Motor, Venucia, Roewe and Luxgen —performing above industry average. We have seen the gap with international brands continually narrow during the past 14 years.”
Meanwhile, as the chart also shows, an ominous calm has fallen in other Benchmark product markets. They have hardly moved in months.
But the blog is keeping a close eye on benzene, its favourite indicator (green line). its prices have suddenly weakened, as Asian demand disappoints. As we move into the seasonally weak Q3 period, this could prove an early warning sign that a new downturn lies ahead.
Certainly performance since New Year supports the blog’s own argument that the Demographic Scenario is far more likely to occur than policymakers’ Recovery Scenario. And even they are now warning of potential trouble ahead. Germany’s chancellor Merkel warned of “deceptive calm”, whilst as Bloomberg reports:
“24 hours of warnings where led by New York Fed chairman William Dudley’s acknowledgement that the slide in market volatility “makes me a little nervous”. Bank of England deputy governor Charles Bean said conditions were eerily reminiscent of the pre-Crisis era, whilst Bundesbank borad member Anreas Dombret said “we do see risks despite the fact the markets are calm“.
The blog’s weekly round-up of Benchmark price movements since January 2014 is below, with ICIS pricing comments:
PTA China, down 12%. “Several producers are planning to shut their units in June because of squeezed margins, and slower off-take in the downstream markets”
Benzene, Europe, down 4%. “Ample import volumes arriving in Europe.”
US$: yen, down 3%
Brent crude oil, flat
S&P 500 stock market index, up 4%
Naphtha Europe, up 5%. “A recent spike in exports to Asia has been followed by a sharp drop”
HDPE US export, up 7%. “Globally, buyers are buying mostly on an as-needed basis, not wanting to build inventories on the assumption that prices will decline”
Outsourcing and offshoring took off in western industry during the 1990s. The babyboomers’ demand supercycle meant new manufacturing capacity was urgently needed. And the entry of East Europe, China and India into the global economy offered a seemingly cheap way of achieving this. But today, new factors are reversing this trend.
The tragic deaths of 1100 Bangladesh textile factory workers will clearly accelerate the process, as consumers pressure retailers to increase manufacturing standards. But the trend has been developing for some time, led by major companies such as GE, whose map above highlights their creation of 16k new US jobs since 2009.
A major MIT study last year highlighted several key reasons for the new approach:
• Desire to bring products to market faster, by making them in the West
• Need to respond more rapidly to customer orders
• Reduced costs for transportation and warehousing
• Better protection of IP
• Higher quality
As an important article in Atlantic magazine noted last December, GE expects 75% of its $5bn Appliance Division’s sales to come from US production by next year, up from 55% in 2012. It notes the real benefit comes from applying new thinking – particularly the concepts of lean manufacturing. Simply recreating old-fashioned assembly lines will miss the point:
“In the simplest terms, an assembly line is a way of putting parts together to make a product; lean production is a way of putting the assembly line itself together so the work is as easy and efficient as possible.”
GE trialled the approach with its dishwasher team and successfully eliminated 35% of the labour required. And once they had reshored assembly, they began to manufacture key parts as well.
The key, as the Reshoring Initiative argues, is to focus on the total cost of ownership, not just wage costs. This is because today’s manufacturing environment is quite different from 20 years ago. Companies who reshore using lean manufacturing models will often find they can achieve lower ‘delivered cost’, even if the initial ‘purchase cost’ appears to be cheaper.
What do you do if your core customers disappear? Go bankrupt, or find new ones? That’s the issue facing many companies as the West heads over the ‘demographic cliff’.
As the Financial Times reports, iconic motorbike manufacturer Harley Davidson has faced this problem and found new ways to sustain profitable growth:
• US Boomers were a strong market for motorbikes when they were younger
• But the following generation was 9 million smaller
• Many bike manufacturers gave up producing bikes as a result
But today, as the picture shows, Harley Davidson is still selling its bikes. It has developed new models designed for ageing Boomers. This New Old 55+ generation is much fitter and has much longer life expectancy than any previous generation. There are also a lot of them, as the Boomers are the largest generation that has ever lived, as well as the wealthiest.
The average age of a US motorcycle rider is now 49 years as a result. The secret of success is that Harley’s bikes have been redesigned to meet the needs of an older customer. They thus feature heated seats and handlebars. Some models also have a gear shift that can be moved with the foot, so the riding position is less hard on the knees.
Most companies will face this kind of win-lose choice in coming years. The constant growth of the Boomer SuperCycle from 1983-2007 has come to an end. But with around 30% of the Western population now in the New Old 55+ generation, there are plenty of new opportunities for those with flexibility and vision.
Affordability, rather than value-in-use, will be key to success for companies as we transition to the New Normal.
This means, as we note in Chapter 9 of ‘Boom, Gloom and the New Normal’, that manufacturing will have a major role to play in achieving the changes required. Waste will need to be greatly reduced, if costs are to remain competitive.
The above chart from a major new UK government report provides a helpful summary of the 4 main areas by which this objective can be achieved. 2 of these areas are, of course, already well understood:
• Waste Minimisation has always been a major focus for businesses
• Green Products are media-friendly, but often have low market shares
This leaves two areas which have been relatively ignored:
• Clean Operations use new technology to reduce waste by design
• Product Service Innovation enables new ways of working with supply chain partners
There is nothing terribly ‘clever’ about either of these approaches. Most companies could achieve quick wins if they decided to move forward with them, as we discuss in the eBook.
Boards and manufacturing unit managers simply need to move them up the agenda. The business justification is clear. Clean operation and product service innovation are the only tools that offer major scope for achieving further cost reductions in the near-term.