In Producing Prosperity: Why America Needs a Manufacturing Renaissance, Harvard Business School professors Gary Pisano and Willy Shih explain their view that when U.S. companies outsource their manufacturing operations, much of the country’s ability to innovate and compete goes overseas, as well. Shih, a professor of management practice, spoke with MDM staff writer Angela Poulson on why a manufacturing renaissance would bolster the U.S. economy. He also discusses the importance of building and maintaining “industrial commons” to fuel this revival.
MDM: Why did you write this book?
Willy C. Shih: Our main purpose was to elevate the discussion in this country on what we think is a very important topic. There is a lot of high-level, circumstantial discussion about manufacturing and jobs, and what we really wanted to do is get a more detailed discussion going so that policy makers and leaders in the industry and the public sector can have a more intelligent discussion about core issues.
MDM: Your book’s subtitle is Why America Needs a Manufacturing Renaissance. Broadly speaking, why does the U.S. need a manufacturing renaissance, and how in this case do you define one?
Shih: Manufacturing is important to sustaining the ability to innovate, and when you boil it all down in the book that’s really what we’re arguing. I don’t think anyone questions innovation’s importance to the future of the economy. And what we’re saying is that the ability to make things under many circumstances is important to your future ability to innovate.
MDM: What was the impact of the Great Recession on the health of the manufacturing sector in the U.S.?
Shih:I think the Great Recession has had a broad impact. One thing it did is it sharply curtailed demand across the board, which forced many industries into a very defensive posture where they had to cut costs. That included more outsourcing and offshoring in many cases.
MDM: Why don’t you agree with the perspective that it’s a normal evolution for manufacturers to move production out of the U.S. and for R&D/design capabilities to stay here?
Shih: The normal argument supporting the view that this is a healthy evolution for the industry is that as you move up the value chain, we can do more knowledge work, and we can engage in services and the like. One argument against that view is that our net trade surplus in services doesn’t nearly cover the deficit on the manufactured goods side.
The even more important argument is that closeness to production, especially when your manufacturing processes are not mature, is really fundamental, because there is so much back-and-forth between the people doing R&D and product design in the manufacturing process. When I was in the industry in the 1980s, my manufacturing guy used to be really proud of how the engineers sat just off the edge of the factory floor, because there was rapid communication. You could easily see a lot of the problems that occurred in production, and the ability to understand what was and what was not doable on the production side was a very important influence to your R&D path and your product design path.
One example of that is in the manufacture of protein-based drugs in the biotech sector. One of the things people in that sector will tell you is that there’s a huge difference between being able to manufacture a few milligrams of something in the lab versus being able to make a year’s supply of some protein-based drug. Oftentimes, doing research in the labs, they may use a process, or a solvent, or certain conditions that you cannot possibly scale up. So there’s a lot of knowledge work in the commercialization which is very important in R&D.
MDM: In the book, you describe the importance of industrial commons to manufacturers. What is an industrial commons, and why are they so important?
Shih: What we mean by industrial commons are the complementary know-how and capabilities embodied in, for example, your component suppliers or your tool and equipment manufacturers, and all these complementary technology providers which surround you in your ecosystem. It also involves things like human resources – your engineers, your scientists, your technicians and the institutions like the universities and research labs that train them. Other sources of this capability might also be in your competitors and your customers.
Let me give you an example that really drove the thinking that led to this, from my time with Kodak. Before I started with Kodak in 1997, back in the 1960s and 1970s, the U.S. consumer electronics industry had moved offshore, because manufacturers like RCA and Zenith moved their production to companies in Asia, to guys like Panasonic, Toshiba or Sony. In the 60s Kodak realized that all the money in photography was in making film, not in making cameras. So some smart person said, ‘Well, we don’t need to make the cameras anymore,’ and they stopped making film cameras and let all of the production go over to Japan. And their profitability improved.
But when digital technology came along, and you wanted to make a digital camera, you needed things like zoom lenses, or the plastic lens barrels for the zooms, or shutter buttons or viewfinders, or you needed the electronic sensors that all the Japanese consumer electronics companies were using for camcorders. Or you needed the little electronic displays from the flat panel industry, which the U.S. had let go overseas. So all of the complementary things you needed to put together a digital camera no longer existed in Rochester, NY, even though it was once the optical capital of the U.S. The commons had eroded.
MDM: Are some industries lost forever, or can they be brought back?
Shih: I think the battery industry is a great example. When consumer electronics moved offshore, that drove the development of battery technology offshore, so the Japanese and then the Koreans ended up developing all the rechargeable battery technology. Then all of the sudden you get hybrid and plugin hybrid vehicles like the Chevy Volt being made and 50 percent of the bill of materials for the Chevy Volt is batteries. We can’t make them in the U.S., because the process for manufacturing them requires a lot of specialized skills and capabilities that we no longer have.
The federal government put a lot of money into companies like A123 and into re-establishing battery manufacturing in Michigan, but that’s met with very mixed success. A123 had to go into bankruptcy a couple weeks ago. So, can you rebuild a commons? Sure, you can rebuild it, but it takes time, and it takes a lot of money.
MDM: What’s the importance of industrial commons to the suppliers or distributors of the manufacturers that are located within them?
Shih: One question companies should be asking themselves is: Do they maintain strategic or transactional relationships? Transactional relationships in my book are very much what the Big Three automakers did with their suppliers. They’re all about price, and nothing else. Companies like Toyota, though, have relationships that are more strategic. They are interested in and will invest in capability development of their suppliers as well, which I think fosters the growth of a commons.
One of the purposes of this book is to help companies think about their responsibility in nurturing a commons rather than just letting it decline. To do that, you have to recognize the importance of capabilities on your strategy agenda and invest in capability development.
MDM: What has been the impact of government policies and investments on U.S. industrial commons? How has that affected the manufacturing sector?
Shih: If you look at the period of roughly the late 1960s and early 1970s, there were many products that could only be made in the U.S. I would trace the roots of that to the education system in the U.S., where the government invested in broad-based education, in particular the Land-Grant College Act. The government also invested, going all the way back to the Revolutionary War, in the armories and what became the American system of manufacturing which led to interchangeable parts and mass production.
Those earlier investments really spilled over into the textile machinery industry and into machining and machine tools and so on, and ultimately led to Henry Ford and mass production. Coming up to World War II, the U.S. dominated mass production worldwide, and the government made huge investments postwar during the Cold War period in basic R&D.
All of those things grew the commons in terms of developing capabilities in companies and in people. Government investments in those public goods, things like education and basic scientific research, really help a lot.
MDM: Much has been made of some manufacturers moving facilities/production not back to the U.S. but to Mexico. Is this any better than China or Southeast Asia? Could you address the potential impact of what’s been called “near-sourcing” by some manufacturers on the arguments you make in the book?
Shih: I think that goes back to the whole tradability equation, which is usually driven by the shipping costs relative to the value. I think we always knew the value of keeping production close to R&D, but when the labor cost differential for production between Asia and the U.S. was as high as it was in the mid-late 90s, people decided to have their labor done elsewhere.
But I think what’s happened is the cost of shipping goods has increased with increasing oil costs. It also costs a lot to have people constantly traveling overseas to work, and people are also recognizing that having inventory in the pipeline for a long time is a hidden cost they hadn’t necessarily factored in.
As the cost of labor in China is starting to increase, people are starting to revisit the tradability of that. Mexican costs have been relatively stable and there are some good locations for manufacturing in Mexico. They’re closer to the market, so the basic tradability equation is driving that movement. Mexico benefits from being close to the U.S. market, but that’s kind of separate from the idea of locating manufacturing close to product development. It doesn’t help build up industrial commons in the U.S., but it certainly builds it up in Mexico.
MDM: In your opinion, how might the re-election of President Obama affect the ability to form and maintain industrial commons in the U.S.?
Shih: There are a number of people in the Obama administration that have looked at the book, so we’re hoping they have some influence there. I think they do recognize the importance of some of these investments in rebuilding. I also think it’s really important that the tax burden on businesses, which translates into additional cost in locating in the U.S., be looked at. I think we need to be really sensitive to what other counties around the world are doing in that regard. My hope is that they will focus on making the U.S. an attractive location for companies to invest, and a lot of that is in tax simplification.
Shih’s book is available at www.hbr.org.
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