Can Insourcing Be A Major Source of Job Creation?

Can insourcing  be a major source of job creation for the U.S.?  The answer is yes, with a caveat. Widespread insourcing–or import recapture, as I like to call it–won’t happen without some help from government policy.  In particular, the main role of the government is to provide better data about the relative cost of insourcing vs outsourcing.

Why would better statistics help create new jobs in the U.S. and accelerate insourcing?  The reason is hysteresis. Hysteresis is defined as  a “lag in response”  when the forces acting on a situation have changed.  Originally hysteresis worked in favor of keeping jobs in this country, because businesses didn’t want to switch their production to a country thousands of miles away, even if it might be cheaper.But now, with production firmly established in China, India, Mexico, and other low-cost countries,  hysteresis is working against the U.S.

As a result,  even if production costs have converged, there are three big obstacles to bringing  jobs back to the U.S.

First, it is expensive to switch suppliers, especially for noncommodity purchases. Contracts have to be negotiated, the quality of the product has to be checked,  suppliers have to be integrated into a supply chain.  Wal-mart would rather work with suppliers that it already has been doing business with.

Second,  it may be expensive and time-consuming to recreate a production ecosystem here in the U.S., especially if an industry has been hollowed out.   That is,  if you want to start making shoes in the U.S.,  it’s easier if you have a repairman in the area who knows have to fix shoe manufacturing machinery.

Third, it may be expensive for small and medium-size companies to determine if switching suppliers will raise or lower costs. That’s especially true if all of their current suppliers are in one country.   Big multinationals can afford to run studies on relative costs of the different countries, but small and medium businesses cannot.

One cheap way of boost insourcing is for the Bureau of Labor Statistics to provide better data about the relative costs of production in the U.S. versus production overseas. The BLS already collects information on import prices and domestic production prices, but it doesn’t compare the two.

Assuming that production costs really are converging,  better information would make it easier for companies to justify the decision to bring jobs back to this country. Right now the safe decision for executives is to continue sourcing from China and India, since they are generally accepted to be ‘low-cost’ countries.  It’s like they used to say, you can’t get fired for buying from IBM.  It’s the same today–execs can’t get fired for buying from China and India, because everyone assumes that prices are lower there.

In November 2011 PPI proposed a Competitiveness Audit, to be done by the BLS, to help boost insourcing of jobs.  For each industry, the Competitiveness Audit would compare import and domestic prices, and give a sense about the size of the gap and whether it was widening or narrowing.  This information would be crucial for identifyng the industries where insourcing makes sense. The Competitiveness Audit would also give executives a sense of security that they were making the right decision by bringing back jobs.

A Competitiveness Audit is a good way of accelerating the rate of insourcing. The goal here is to overcome hysteresis and inertia, and create a sort of bandwagon effect of jobs moving back to this country.  Better information is essential to create new jobs.

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