Onshoring: production returns
What's in it for Canada?
Boston Consulting Group
Take Back Manufacturing
Production and jobs are returning to North America, but benefits to Canada will be limited.
Onshoring, reshoring, inshoring, backshoring: all terms coined to describe a phenomenon that’s bringing US manufacturing jobs back from places such as China where low-cost advantages are quickly diminishing.
Whatever one chooses to call it – let’s settle on “onshoring” – it’s giving manufacturers a much needed lift as rising wages in emerging markets, a high-value renmbini and volatile transportation costs make China a less attractive place to run lower-cost production.
Offshoring – the process of substituting foreign factors of production for domestic ones to produce goods and services abroad and then import them – is slowing down. According to a report by TD economist Michael Dolga, Offshoring, Onshoring and the rebirth of American manufacturing, an upswing in onshoring activity accounts for about 25% of the 200,000 US manufacturing jobs created since 2011.
The report goes on to say rising capital-intensity across the manufacturing sector is also gradually eroding the benefits of producing goods abroad.
It’s happening for a number of reasons. More companies are embracing the domestic benefits in the US thanks to factors such as intellectual property protection, tighter supply chains, mass customization and an abundance of natural gas that’s lowering energy costs.
“The manufacturing sector is ripe for revival as changing global conditions, domestic advantages and productivity gains are making North American manufacturing more attractive, which will hinge on increasing competitive advantage in key industries,” writes Dolga.
Another report by the Boston Consulting Group, Made in America again: why manufacturing will return to the US, suggests American manufacturing is headed for a renaissance.
By as early as 2015, it will become more cost effective to make goods in the US, the report says, estimating up to 30% of the goods imported from China will shift production to America. That would reduce the US unemployment rate by 2% and lower the nonoil-related merchandise deficit by up to 35%.
So what does this all mean for Canada?
Nigel Southway, chair of the Toronto chapter at the Society of Manufacturing Engineers (SME), says onshoring benefits for Canada aren’t rosy, but he’s not waving the white flag. Prosperity will depend on getting the government to support manufacturing and address the over-valued dollar
“If you’re a business owner with a plant in the US and one here, where are you going to move production? It’s probably not here,” he says. “The dollar is a huge problem for some people.”
Southway also heads SME’s Take Back Manufacturing (TBM) initiative, a campaign launched in mid-2011 to help manufacturers rebalance what’s made offshore and what’s made here.
The plan is to raise awareness and prepare for the return of jobs, while getting governments involved to work on tax, trade and education policies that enhance manufacturing competitiveness. TBM is also working to ensure manufacturer’s have the resources they need to improve technology development, productivity and innovation, and to create a stronger career development infrastructure.
“I’m not giving up, but the government needs to realize that manufacturing’s important. If it did, it would look at some way to offset the dollar for Canadian manufacturers,” he says.
Skills needed to grow
Southway says the focus should be on being more competitive with the US because onshoring will boost demand for goods.
“It’s scary that we’re not even focusing on the US, that we’re looking outside the US to compete. But if you can’t compete with the US, how can you compete?” he says.
A 65 cent loonie wouldn’t help. Southway is concerned manufacturing has been hollowed out so much in the last decade we wouldn’t have the skills needed to compete.
“We’ve trapped ourselves with a lack of skills because people have redeployed themselves,” he says.
Indeed, the jobs coming back aren’t what they used to be. The work will be more capital intensive. Companies that produce low-value goods, such as apparel and textiles, will stay away, while computers, electronics, machinery and fabricated metals are most likely to return. Those sectors, along with plastics and rubber products, mean an additional $100 billion in US output.
That’s where Canada has an advantage, says Martin Lavoie, director of manufacturing policy at Canadian Manufacturers and Exporters (CME). Canada is on a path towards a more advanced manufacturing, but continuing down that path will depend on productivity boosts through investments in innovation and technology.
“Boosting productivity means boosting investments in machinery, equipment and ICT, and we’re far behind the US in that respect,” he says. “If there’s a shift in the economics of Canadian manufacturing, it has to be in productivity, and that may require less focus on job creation.”
But jobs have stabilized, he adds, and those in manufacturing now represent about 10% of Canadian employment.
The government also needs to step in and do a better job creating incentives for manufacturers to boost investment intentions as well, he says. With efforts to attract manufacturers in US states such as Pennsylvania, Tennessee and Virginia ramping up, Lavoie says the government needs to rethink its incentive strategy and boost R&D grants instead of cutting budgets for innovation.
Harry Moser, president of the Chicago-based Reshoring Initiative (www.reshorenow.org), an industry-led endeavour to bring manufacturing jobs back to the US, says to understand why onshoring is happening, you have to go back to why offshoring happened in the first place.
“The overwhelming reason to go offshore was wage rates, which translated into lower purchase prices for goods brought in,” he says.
Wiggling around regulatory roadblocks was a lot easier and cheaper in China, and it simply made sense to do business in a market home to more than 1.3 billion people where population growth is about 7% a year.
“If you were a big company, you had to be there. You’d build a factory there and keep it busy by sending stuff back to the US and Canada until demand in China caught up,” he says.
The Reshoring Initiative is encouraging companies to use its free Total Cost Estimator (TCO) calculator to approximate the costs of doing business abroad versus at home. Moser says most companies make sourcing decisions based on price alone, which amounts to up to a 30% miscalculation of actual offshoring costs. The calculator accounts all relevant factors (29 in all) to determine total cost of ownership including overhead, corporate strategy and external and internal business costs.
Although onshoring is giving a wobbly manufacturing sector a boost, Dolga estimates the US has recouped about 500,000 jobs, compared to the 5 million lost since 2000. Canadian manufacturing jobs suffered a similar fate, down more than 320,000 between 2004 and 2008.
But wage rates in China are growing 18% per year thanks to a combo of wage increases and currency appreciation, says Moser. This is helping to close China’s cost advantage gap – a welcome advantage for both US and Canadian companies who are dealing with currencies exchanging near parity.
Wage rates are rising
In 2000, average wages in China were roughly one-fortieth of what a US worker is paid. Dolga’s report says wage inflation has averaged 12.8% since – more than triple the pace in the US. And Chinese wages are expected to rise to about one-tenth of the US equivalent this year.
At that rate, and should Chinese wage rates continue to climb at a 20% clip in coming years, the gap will close to within 15% of US wages by 2015.
This is also thanks to struggling labour productivity growth, which hasn’t kept pace with rapidly increasing pay, causing Chinese unit labour costs to double between 2001 and 2011.
Moser, who has advised the Obama administration about onshoring, says Canada will enjoy about 10% of US onshoring activities, but most of the opportunities will go to Mexico.
“Canada is at a bit of a disadvantage when it comes to labour costs, but so is the US in that respect. It’s not so much about getting the US companies to put new factories in Canada, it’s about getting Canadian companies to come back too so the US firms can decide whether or not to source from them,” says Moser.
Southway agrees Mexico will get much of the benefit, but that doesn’t mean there aren’t opportunities.
“Mexico is going to the biggest opportunity for teaming up. If you’re manufacturing in Canada and you’re struggling with costs and looking for a trade offset, it’s probably a Mexican facility,” he says.
Diana Petramala, an economist at TD Economics in Toronto, says Canada will find onshoring benefits in supply chains.
“There’s a lot of two-way trade in the production process between Canada and the US, we’ll benefit from supplying those facilities that are ramping up production,” she says.
But Canadian manufacturers will have to get serious about closing their productivity gap with US competitors; otherwise they risk being spectators rather than beneficiaries of this industrial resurgence.
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This article appears in the Nov/Dec 2012 edition of PLANT.