CHINA
30 October 2014
From Outsourcing to Insourcing
As some US companies start insourcing or onshoring production back home, could Asia lose one of its motors of growth?
As some US companies start insourcing or onshoring production back home, could Asia lose one of its motors of growth?
A big driver of Asia's export-led growth these past few decades has been the outsourcing (or offshoring) of production from the US and other advanced countries to lower cost destinations, like China and other Asian economies, Mexico and elsewhere.
This has been facilitated by the fragmentation of supply chains such that different phases of the production cycle are now located in different countries, according to their comparative advantages.
A classic example of this has been Apple's i-Phone, which is designed in the US, sources high-tech components from Korea, Germany, Japan and Taiwan, and is finally assembled (the lowest value-added stage) in China by the Taiwanese company, Foxconn. The coordination and monitoring of this complex process is made possible by sophisticated information technology.
Over the past year or so, there has been a reversal of this trend.
Apple has begun producing more of its products in the US, and intends to spend $100 million to begin building Macs in the US this year. General Motors plans to insource 90 per cent of its IT jobs within three years.
After years of offshore production, General Electric is moving some of its far-flung appliance manufacturing operation back to Louisville, Kentucky. And Ford, Starbucks, Caterpillar and Google are all making insourcing moves.
What is driving this insourcing (onshoring) boom?
In a fascinating article in The Atlantic, focusing on the case of GE, Charles Fishman identifies several factors. The trebling of oil prices since 2000 makes shipping more expensive. The natural gas boom in the US reduces domestic energy costs. Wages in China are now five times higher than in 2000, and will keep on rising. American union attitudes are softening. US labor productivity has continued its long march upward. And as labor costs are now account for a smaller share of the total production costs, a labor cost advantage is less important.
It is also clear that outsourcing became a fad, with many companies being seduced by low labor costs and not taking account all of the hidden costs. Poor quality control has been major issue. Outsourcing also puts you at a time-disadvantage in getting products to market. And insourcing makes it easier to protect intellectual property.
In another insightful article in The Atlantic, James Fallows argues that the increasing costs and frictions of doing business in China, and shifts in technology that allow very rapid cycle production close to the market inside the US, will encourage new companies to do more of their manufacturing work in the US, rather than outsourcing it to China.
Obviously, there is no likelihood of everything being brought back to America. Things like toys, TV screens, computer chips, electric motors and non-designer clothing will remain outsourced. But in addition to some American firms coming back home, many Chinese manufacturing companies are now investing in the US. And some US government agencies are also insourcing.
For their part, some Japanese manufacturers have also encountered problems with outsourcing to emerging economies in Asia. Damage and supply disruptions were caused by flooding in Thailand. And recent social unrest in China associated with the Senkaku Island dispute, has also generated much damage and supply disruptions.
In conclusion, Asia's fast growing emerging economies may be reaching a turning point in their development model. They may no longer be able to rely on, as much as in the past, the outsourcing of labor intensive manufacturing activities from advanced economies. Remaining an attractive outsourcing destination in the future will require being more competitive, with higher quality labor, improved technology and better protection of intellectual property.
The insourcing boom is yet another reason why emerging Asia should remove the pro-export biais in its development, and promote domestic-demand driven growth.
Executive Director
Asian Century Institute
www.asiancenturyinstitute.com
A big driver of Asia's export-led growth these past few decades has been the outsourcing (or offshoring) of production from the US and other advanced countries to lower cost destinations, like China and other Asian economies, Mexico and elsewhere.
This has been facilitated by the fragmentation of supply chains such that different phases of the production cycle are now located in different countries, according to their comparative advantages.
A classic example of this has been Apple's i-Phone, which is designed in the US, sources high-tech components from Korea, Germany, Japan and Taiwan, and is finally assembled (the lowest value-added stage) in China by the Taiwanese company, Foxconn. The coordination and monitoring of this complex process is made possible by sophisticated information technology.
Over the past year or so, there has been a reversal of this trend.
Apple has begun producing more of its products in the US, and intends to spend $100 million to begin building Macs in the US this year. General Motors plans to insource 90 per cent of its IT jobs within three years.
After years of offshore production, General Electric is moving some of its far-flung appliance manufacturing operation back to Louisville, Kentucky. And Ford, Starbucks, Caterpillar and Google are all making insourcing moves.
What is driving this insourcing (onshoring) boom?
In a fascinating article in The Atlantic, focusing on the case of GE, Charles Fishman identifies several factors. The trebling of oil prices since 2000 makes shipping more expensive. The natural gas boom in the US reduces domestic energy costs. Wages in China are now five times higher than in 2000, and will keep on rising. American union attitudes are softening. US labor productivity has continued its long march upward. And as labor costs are now account for a smaller share of the total production costs, a labor cost advantage is less important.
It is also clear that outsourcing became a fad, with many companies being seduced by low labor costs and not taking account all of the hidden costs. Poor quality control has been major issue. Outsourcing also puts you at a time-disadvantage in getting products to market. And insourcing makes it easier to protect intellectual property.
In another insightful article in The Atlantic, James Fallows argues that the increasing costs and frictions of doing business in China, and shifts in technology that allow very rapid cycle production close to the market inside the US, will encourage new companies to do more of their manufacturing work in the US, rather than outsourcing it to China.
Obviously, there is no likelihood of everything being brought back to America. Things like toys, TV screens, computer chips, electric motors and non-designer clothing will remain outsourced. But in addition to some American firms coming back home, many Chinese manufacturing companies are now investing in the US. And some US government agencies are also insourcing.
For their part, some Japanese manufacturers have also encountered problems with outsourcing to emerging economies in Asia. Damage and supply disruptions were caused by flooding in Thailand. And recent social unrest in China associated with the Senkaku Island dispute, has also generated much damage and supply disruptions.
In conclusion, Asia's fast growing emerging economies may be reaching a turning point in their development model. They may no longer be able to rely on, as much as in the past, the outsourcing of labor intensive manufacturing activities from advanced economies. Remaining an attractive outsourcing destination in the future will require being more competitive, with higher quality labor, improved technology and better protection of intellectual property.
The insourcing boom is yet another reason why emerging Asia should remove the pro-export biais in its development, and promote domestic-demand driven growth.
Author
John WestExecutive Director
Asian Century Institute
www.asiancenturyinstitute.com