Thursday, April 28, 2005

The United States: A Hollow Shell 

Boeing: Flying Into a MountainThursday, March, 31st, 2005 http://www.jpri.org/members/BoeingFingleton.pdfThe Boeing company has now become so hollowed out that its next plane, the super-advanced 787, will be more a Japanese product than an American one. This article, by Eamonn Fingleton, was first published in the January 31, 2005 issue of The American Conservative. First of two parts.One evening a generation ago, several up-and-coming aerospace executives gathered to commune with the Boeing aircraft company's chief executive Thornton Wilson. The discussion turned to Boeing's vaunted expertise in making aircraft wings. Wilson evidently came across as boastful--so much so that a young General Electric executive named Harry Stonecipher suggested that Boeing was arrogant. "And rightly so," came Wilson's serene reply.The exchange, which was recorded in Fortune magazine a few years ago, is worth recalling partly for what has happened to Stonecipher in the meantime--and partly for what has happened to Boeing.In a remarkable twist of fate, Stonecipher now fills Wilson's old job at Boeing. But whereas the Boeing that Wilson led in the 1970s utterly dominated the skies, today's Boeing is another matter. Its once masterful technological leadership is gone and, in an orgy of indiscriminate outsourcing, Stonecipher is presiding over the destruction of what remains of Boeing's erstwhile manufacturing greatness--not least the world-beating wing business that was the apple of Wilson's eye.As the American press has latterly come to realize, Boeing is an embattled company. But while the media has focused on a defense contracting scandal that has recently engulfed the company, this is a tempest in a teacup compared to the real story: the unpublicized tragedy of Boeing's rapidly declining competitiveness. After decades of short-sighted management, Boeing has become so hollowed out that the impact is clearly visible in America's rapidly worsening trade deficits. Indeed, respected experts fear Boeing is already so enfeebled that it may be forced to exit its core business in commercial airliners within a decade. This in turn would undermine its defense business, with distinctly ominous implications for America's long-term security. Just how important that business is can be judged from the fact that, after decades of industry consolidation, the Boeing group now takes in most of the contractors that executed the Apollo moon project.Part of the problem is that Airbus, a puny also-ran in Wilson's time, has recently leapfrogged to global leadership in airliner sales. But a larger part is a sea change in Boeing's concept of itself. In a philosophical metamorphosis whose significance has been lost on the American press, Boeing is now pleased to call itself a "systems integrator." An unfortunate echo of the New Economy bubble, this self-description effectively reduces America's most Olympian manufacturer to the level of a thousand catch-as-catch-can software consultancies. Boeing's top management has presided over one of the most lamentable downsizing programs in American corporate history. Not only has the Boeing group cut 100,000 jobs in the last seven years, but it has more or less throttled its research and development department. All this while spending $10 billion to "enhance shareholder value" in a buy-back of one-sixth of its outstanding stock.The key to the new Boeing is a Faustian bargain with Japan. In a rerun of earlier American industrial implosions, Boeing has come to rely more and more on Japanese contractors for its most advanced engineering and manufacturing. Heavily subsidized by the Tokyo government, Boeing's Japanese partners are delighted to lowball their contract prices and spend heavily on the sort of advanced research and development that in happier times Boeing would have eagerly--indeed jealously--reserved for itself.All this powerfully props up Boeing's short-term profits. But what's in it for Japan? Plenty. Not only have Boeing's orders long kept Japanese factories nicely ticking, but recently, in a stunning move that has hitherto gone virtually unnoticed in the United States, Tokyo has prevailed on Boeing to transfer large quantities of previously secret American aerospace know-how to a government-funded Japanese aerospace consortium. Adding salt to the American economy's wounds is that much of this expertise was built with help from U.S. taxpayers.In effect, Boeing is burning the family heirlooms to keep the house warm. First into the fire went some throwaway items from the attic, quickly followed by the Empire chaise and the Chippendale chairs. Now a desperate Boeing is torching the Vermeers and Canalettos. This despite the fact that many of these are held in trust for an absent relative--an agreeable bag-holder by the name of Uncle Sam.Boeing's deeply embittered engineers prefer an even more controversial--if distinctly vulgar--metaphor. Outraged at the prone position they have been asked to adopt towards their information-gathering Japanese counterparts, they have been quoted by author Karl Sabbagh as referring to Boeing's technology-transfer deal with Japan as the "open kimono" policy. The erstwhile titan of the American aerospace industry is, of course, the one in the kimono.Just how far Boeing has fallen will be extensively documented later this year when the aerospace experts David Pritchard and Alan MacPherson publish a scholarly analysis of Boeing's "systems integration" policy. Their paper, which is being reviewed for publications in the UK-based journal R&D Management, is likely to cause a firestorm in Washington. Here, based on an advance look at their draft, are some of the points they make:* More of the 7E7, Boeing's major new plane due for launch in 2008, will probably be built in Japan than in the United States.* In total, nearly 70 percent of the 7E7's manufacturing content will come from foreign sources. This compares with foreign content of just 2 percent in the Boeing 727, which was launched in the 1960s.* The Boeing 777--the most advanced Boeing so far launched--contains about 30 percent foreign content. There is no domestic production for the plane's center wing box or its aft and forward fuselage sections.* Boeing's product line is rapidly ageing and its backlogs are low--a signal that further precipitous drops in output are ahead. Production on four of its six commercial product lines (the 747, the 757, the 767, and the 717) is likely to cease within the next few years. This would leave only the 737 and 777 in production until the 7E7 comes on line.* Boeing spent a mere 3.5 percent of its revenues on research and development in 2003. By comparison, Airbus spent 9.5 percent. Boeing moreover allocated only 1 percent of its 2003 revenues to capital investment, compared to Airbus's 9.1 percent.*Boeing's technology transfers to Japan include vital new-materials know-how acquired in long-running eight-year joint research programs with NASA. The materials concerned are composites used in both wings and fuselage.*Boeing has become so hollowed out that its sales should no longer qualify for lucrative federal export incentives such as Ex-Im Bank loans and foreign sales corporation tax status.As Pritchard and MacPherson point out, a particularly telling indicator of Boeing's decline is that the Japanese will make the wings for the 7E7. Not only that, Boeing has been prevailed on to transfer its wing-making know-how to a Japanese-government-sponsored consortium.In outsourcing the 7E7's wings, Boeing is crossing an economic Rubicon. Apart from the Boeing 717, which was not a true-born Boeing, no Boeing plane has ever flown on foreign wings. (The 717 is a souped-up DC9, and its presence in the Boeing catalog reflects Boeing's takeover of McDonnell Douglas in 1997. McDonnell Douglas, it should be added, pioneered many of the eat-the-seed-corn tactics Boeing has now embraced.)In the past, Boeing has always maintained a tight grip on the wing-making process. Whereas in the 1980s and 1990s it let Japan make an increasing array of wing sub-components, these were merely assorted "widgets" churned out to Boeing designs. Now a Japanese aerospace consortium will have full design control and will make its own decisions about which contractors and subcontractors make the myriad widgets. If past is prologue, Boeing will never again regain control of wing-making. For one thing, the Japanese suppliers will have the advantage henceforth of more modern tools and a generally more advanced understanding of the technology.It is hard to exaggerate the significance of all this. As was obvious to Thornton Wilson all those years ago, Boeing's erstwhile global dominance in jet planes was founded on its wing-making secrets. Indeed, when Japanese contractors began to take on an increasingly important role in making aircraft components in the 1980s, Boeing instituted elaborate procedures to control the movements of visiting Japanese engineers at its offices and factories. As Louis Uchitelle of the New York Times recorded in 1989, Boeing's prime concern was to hide its wing-making secrets from industrial spies.In truth, the challenges entailed in designing and making wings for large passenger jets are far more daunting than lay observers might imagine. To come up with an aerodynamically efficient shape, engineers must spend thousands of hours testing endless possibilities in huge wind tunnels. Then the challenge is to make the final design both strong and light, a delicate balancing act that is not made any easier by a further requirement: everything must be machined to tolerances measured in thousandths of an inch. The slightest dimensional error can produce disproportionate aeronautical consequences. Just how disproportionate can be gauged from a well-known law of aeronautics: air resistance increases with the square of an object's speed. Thus the resistance encountered at 500 miles per hour is fully 100 times greater than at 50 miles per hour.It is therefore hardly overstating things to say that the wings are to a plane what the sound box is to a violin--its defining feature. Just as a violin is not a Stradivarius without a sound box made in Cremona by Antonio Stradivari, a plane can hardly be considered a Boeing without wings made in the United States by the Boeing company.Perhaps the best indicator of the challenges involved in making airliner wings is that, apart from the United States, only one nation, Britain, boasts a serious record in the field. British Aerospace's wing-making capability is one of Britain's few remaining world-class manufacturing businesses. Its technology in turn has been a key driver of the success of Airbus, which is backed by the governments of France, Germany, Spain, and, of course, Britain.Wing-making is one of the most advanced sub-sectors of one of the world's most advanced manufacturing industries. But since the United States has been in general retreat from advanced manufacturing for three decades, why should we care what happens to what remains of America's manufacturing heritage? Manufacturing matters for three key reasons:1. Manufacturing jobs generally provide better wages than equivalent service jobs because worker productivity is generally leveraged by more capital and more proprietary know-how.2. Manufacturing provides an abundance of jobs for people of ordinary ability as opposed to the Ph.D. types who get many of the jobs at, say, Microsoft. It thus closely matches the job-creation needs of society.3. Manufacturing companies are big exporters. In my book In Praise of Hard Industries, I calculated that per unit of output American manufacturing businesses export about eleven times as much as service businesses.Few manufacturing businesses score better on these three criteria than the airliner industry. Even if it were not so closely intertwined with America's national defense, the industry would still be of pivotal geopolitical importance. The point is that it has long been America's biggest export earner. Unfortunately, America's imports of aircraft and aircraft parts now equal 45 percent of its exports, up from just 5 percent in the 1960s.Boeing's resort to outsourcing explains much of the increase--and it comes at a time when Americans are rediscovering the importance of trade. For a while in the 1990s, it became fashionable to say that "the trade deficits don't matter" and that the United States could with impunity allow its export industries to die on the vine, but this is now becoming widely recognized as a self-serving canard of the foreign-trade lobby. Certainly the Bush administration can hardly feel secure in the knowledge that the only thing standing between the dollar and total collapse is a massive support operation by the Japanese and Chinese.As Jack Davis, a prominent advocate of an American manufacturing revival, points out, the ramifications of Boeing's decline extend way beyond aerospace. "We're not just losing the airliner industry, but all the scientific, engineering and technological know-how that goes with it," says Davis. "We are talking here about advanced composites, glass, aluminum, titanium materials technology, the castings and foundry industries, precision tooling and machining, not to mention avionics. And since these technologies are used in jet fighters, bombers, tankers and space vehicles, we're hitting the defense industry as well as the commercial aerospace industry."Perhaps the most devastating aspect of Boeing's implosion is what it says about America's overall economic strategy. A principal element of that strategy has been free trade. And for proponents of free trade, Boeing has long been Exhibit A--supposedly unimpeachable evidence that advanced American manufacturers have little to fear and much to gain from the globalists' New World Order.When some of us in the 1980s and 1990s warned that "one-way free trade" was gutting American manufacturing, we were dismissed as Chicken Littles. American manufacturing was not declining, we were told, but rather triumphantly reinventing itself. Free trade might sweep away inefficient, low-tech manufacturers--"buggy whip makers" in our opponents' favored terminology--but America was going from strength to strength in more advanced industries such as aerospace. And true enough, all through the 1980s when the alleged buggy whip makers--companies like Zenith, Xerox, and Chrysler--fell like ninepins before foreign competition, Boeing seemed like a gratifying exception. At least it did to anyone who did not look too closely. As late as 1990, Newsweek described concern about Japan's targeting of various aerospace technologies as "overwrought" and opined that America enjoyed "a lead over Japan that would be difficult to squander."Of course, as far as Boeing is concerned there is no problem. It paints its downsizing not only as inevitable but as a good thing. Unfortunately its excuses are, for the most part, transparent nonsense.Start with the notion that it is now a "systems integrator." To those who can't see through business jargon, a "systems integrator" may sound more impressive than a mere manufacturer. In reality it is a cop-out, as a glance at some of the industry's other systems integrators makes clear. Embraer of Brazil is a systems integrator. So is Aviation Industries of China. Like the new Boeing, these companies lack the advanced know-how and machinery to make key components in a modern first-world plane. Instead they must import such components from more advanced manufacturers in Japan and Europe.Boeing's outsourcing is often excused as merely reflecting a desire to have routine, low-skilled work done cheaply in low-wage countries. This might make sense if Boeing were moving jobs mainly to India or Bangladesh. In reality, about 60 percent of Boeing's foreign-sourced work is done in Japan. While in the 1970s and 1980s companies like Zenith and Xerox had some excuse for going to Japan, any shift of American work to Japan is now an admission of managerial failure. Measured against the dollar, the yen today stands at more than two-and-a-half times its level of 1985. Once a cheap-labor country, Japan today stands virtually at the top of the world wages table with wage rates between 10 and 30 percent higher than in the United States. Boeing's decision to buy more and more from Japan is therefore the economic equivalent of water running uphill.The plot thickens when you realize that foreign outsourcing has not always been a factor in the American aircraft industry. In fact, in the 1950s, the heyday of America's domination of the skies, American planes were made virtually in their entirety with American labor, despite the fact that American wages were then six times those in Japan and four times those in Germany.Boeing's first experiment with foreign contracting came in the 1970s when, in a quid pro quo for plane purchases by a government-owned Japanese airline, Boeing undertook to buy some Japanese-made components. Similar side deals--known as "offsets"--were soon concluded with other industrially ambitious nations.Although the early offset deals were small, they proved to be the thin end of a rather thick wedge. By the 1980s, the Japanese alone were making 15 percent of the Boeing 767, and that is modest compared to the plans for the 7E7. Japanese manufacturers are officially expected to make 35 percent of the plane, but unofficial estimates put their share far higher because in addition to delivering huge fully assembled sections, the Japanese will supply many of the subcomponents needed by Boeing's American and Italian suppliers. An exact calculation is impossible because an undisclosed proportion of the work will be conducted abroad by Boeing itself (in Boeing-owned factories in Canada and Australia), but Pritchard and MacPherson are probably erring on the low side in suggesting that 70 percent of the new plane will be manufactured outside the United States. (Of course their analysis is hotly contested by Boeing -- but then Boeing long ago lost credibility in denying that it is being hollowed out.) While the final assembly work will be done in Seattle, the choice of this location was a token gesture aimed at capturing state tax breaks and cannot cover up the fact that the most sophisticated passenger jet ever built will be more a Japanese product than an American one.The earliest negative impact of the offset system was felt as far back as the 1970s when Boeing's once flourishing roster of American suppliers began to lose orders. One by one such component makers as Avco, Convair, Douglas, Fairchild, Grumman, Lockheed Martin, Northrop, and Rockwell have since been forced to exit the passenger jet business or have even had to shut down entirely. The roster was down to just two as of 2003, compared to ten in the 1970s.Boeing argues that large offsets have often been essential in capturing lucrative export orders over the years. But this is contradicted by Airbus's record. While consistently stonewalling the more damaging requests for offsets, Airbus has nonetheless thrived. As Pritchard and MacPherson point out, Airbus has generally sourced components for each new model initially from within Europe. Only at a later stage in the cycle does it contemplate sourcing from non-European suppliers. By that time, Airbus's European suppliers will have moved on to more advanced work on newer Airbus models. To be sure, in resisting offset requests, Airbus has enjoyed powerful support from European governments. Rather than countenance the transfer abroad of advanced manufacturing jobs, Airbus's government backers have often dangled landing rights at key European airports. They have also used geopolitics to advantage, particularly in the Middle East, where they capitalize on anti-American feeling.As for Boeing, although it cannot copy Airbus's tactics in detail, it has often wasted the considerable geopolitical leverage it enjoys. Take the Japanese market, which happens to be the world's second largest. Boeing has rarely needed to give away jobs to secure orders from Japan. Quite the contrary, Japan has been more or less a captive market. After all, as the Atlantic's James Fallows has pointed out, U.S.-Japan trade imbalances have long been so large that Tokyo has felt obligated to find ways to boost its purchases of American goods. In the absence of compelling technical reasons to buy European, therefore, Japan's highly regulated airlines surely had little choice but to buy American. After all by dint of scale economies, Boeing enjoyed a commercial edge over Airbus well into the 1990s. Certainly, while the transfer of jobs to secure orders has been merely lamentable, the transfer of advanced technology has been utterly inexcusable. Given that Boeing was safe from undercutting by Airbus, it could easily have resisted the more outrageous technology requests, particularly those from Japan.What is undeniable is that Airbus's refusal to sacrifice jobs and technology has done little to hold it back. Airbus passed Boeing in deliveries of new passenger jets in 2003. Part of the story is an enormous advance by Airbus and part of it is a sales implosion at Boeing. With the help of subsidies from European governments, Airbus's deliveries of completed aircraft increased from less than 100 in 1990 to more than 300 in 2003. By comparison, Boeing's deliveries slumped from more than 520 planes in 1990 to fewer than 290 in 2003.If these figures paint a bleak picture, the outlook is even more worrying. Airbus accounted for nearly 70 percent by value of all new passenger jets ordered in 2003. This compares with little more than 30 percent for Boeing, a far cry from the 1980s, when the combined share of Boeing and McDonnell Douglas sometimes accounted for close to 90 percent of all orders, leaving a Lilliputian Airbus with a few remaining crumbs. Perhaps the most telling indicator of the scale of Boeing's fall is that, at the time of Boeing's takeover of McDonnell Douglas in 1997, the two companies together accounted for 84 percent of all planes then in service.Even before the decision to outsource the 7E7 wing was announced, there had been hints that Boeing's top executives were rapidly tiring of the passenger-jet business. Certainly they have given every sign of preferring to develop service businesses, notably a new telecommunications subsidiary named Connexion by Boeing. Following in the footsteps of General Electric, General Motors, IBM, and other erstwhile American industrial icons that have dramatically downsized their manufacturing workforces in recent years, Boeing has also been developing a financial services subsidiary.Top executives inevitably put a brave face on all this, professing to see the new services as high-growth add-ons to the main manufacturing business. Nonetheless, there are strong grounds for questioning the long-term wisdom of Boeing's passionate embrace of services. Experience elsewhere suggests that such diversification is a short-term solution that inevitably dissipates much managerial time that would be better invested in the main business.A further straw in the wind is that Boeing has been increasingly emphasizing defense contracting. In 2003, for the first time in several decades, Boeing's defense division outsold its passenger-jet division. While rising defense sales provide some respite for what remains of Boeing's beleaguered manufacturing workforce, the economic subtext is hardly flattering. Just as patriotism is proverbially the last resort of scoundrels, defense contracting tends to be the last resort of corporate America's also-rans. The point is that defense contracting is not only generally sheltered from foreign competition, but it is often priced on an all-forgiving cost-plus basis. This is how a faltering McDonnell Douglas could continue as a major defense contractor long after its passenger-jet business had imploded.Unfortunately for Boeing, competition from Airbus is likely to become considerably fiercer in coming years. Certainly the evidence is that Airbus now enjoys a clear edge in innovation. Meanwhile, in startling contrast to its history, Boeing has become ever more cautious in the last decade. Founded in 1916 by Bill Boeing, a Yale-educated timberman of German extraction, the Boeing company has always prided itself on its inventiveness. Indeed, in a comment still remembered in Seattle, Bill Boeing himself established innovation as a key objective: "Our job is to keep everlastingly at research and experiment, to adapt our laboratories to production as soon as practicable, to let no new improvement in flying and flying equipment pass us by."Yet by general consensus, the zest for innovation has largely disappeared at Boeing. This need not have happened. After all, when Airbus got its start in the late 1960s, American companies utterly dominated the world aerospace industry--and few American aerospace companies held more high cards than Boeing.Capitalizing on a treasure trove of aeronautical secrets acquired from a defeated Germany at the end of World War II, Boeing had led the United States into the jet age. Thus it was that Boeing developed one of America's first jet-powered bombers, the B-47. Then in 1958 Boeing launched the world's first successful passenger jet, the Boeing 707. By the mid-1960s, Boeing had become the leading maker of passenger planes--from which position it proceeded to bet the company on the 747 jumbo. Launched in 1969, the 747 nearly bankrupted Boeing but went on to become a sensational commercial success. Still, the trauma of the 747's birth seems to have cast a permanent shadow over the company's previously entrepreneurial culture. The era of visionary gambles at Boeing was over. As of the early 1990s, Airbus's chief strategist, Adam Brown, was openly taunting Boeing for having become "reactive." Brown is hardly an unbiased source, but it is indisputable that Airbus has led the industry in several notable innovations over the last three decades.The pattern started with Airbus's first plane, the A300. When it entered service in 1974, the A300 was the world's first twin-engine wide-body. The twin-engine format slashed airline operating costs compared to the three-engine and four-engine formats of earlier wide-body planes.Airbus again stole a march on Boeing in 1988 when it introduced so-called fly-by-wire. Fly-by-wire is the industry term for computerized navigation controls, a concept pioneered in military aircraft in the early decades after World War II. It was later installed on the Anglo-French Concorde and, despite Concorde's dismal commercial failure, the technical success of the Concorde navigation system encouraged Airbus to use it on the A320. Boeing did not follow until 1994, when it introduced a limited version of fly-by-wire on the 777.Fly-by-wire is important partly because it is a major weight saver. Moreover it facilitates "interoperability." This is the industry term for standardized controls installed across a family of aircraft--a pilot-friendly feature that enables airlines to save millions on training costs.Other notable examples of new technical features that enabled Airbus to steal a march on Boeing include:* Two-person cockpits (The first two-person cockpit in a twin-aisle plane was introduced in 1982.)Drag-reducing wingtip devices (introduced in 1985)The use of weight-saving composite materials in primary structures (also introduced in 1985)Boeing's woes over the years were compounded by its engineers' reluctance to move to computer-aided design. Again Airbus pioneered the concept and reaped early efficiency gains. One lasting consequence is that it was a French company, Dassault, that came to dominate the market for aircraft design software. Even Boeing now buys its software from Dassault. Boeing's reluctance to move to computer-aided design is puzzling given America's early lead in computers. The multiplicity of components alone would seem to have been enough of a reason to go over to computers. (In a memorable reference to this multiplicity, an old joke at Boeing has it that a plane represents "four million parts all moving in close formation.")If anything, Boeing has become even more cautious since it took over McDonnell Douglas, which had long been notorious for its failure to innovate--a trait that, as Fortune magazine has commented, allowed Boeing "to all but blow it out of the airliner business." What is undeniable is that, led by Harry Stonecipher, many of McDonnell Douglas's people have succeeded to top jobs at Boeing.Boeing has been reluctant to develop new planes. Of four new models mooted in the last 15 years, it has killed three. Most notably in the wake of the Sept. 11 attacks, it shelved the so-called Sonic Cruiser, a glamorously positioned plane that would have cut the flight time from New York to London by nearly one-third.Even more significantly, in March 2001 Boeing cancelled longstanding plans for a superjumbo that was to have superseded the ageing 747. As a result, Airbus, which announced in 2000 that it was going ahead with its own superjumbo, has a clear run at establishing a highly lucrative monopoly that looks certain to kill off the Boeing 747, for two decades Boeing's cash cow.The Airbus superjumbo, to be known as the A380, will make aviation history as the world's first four-aisle plane. It will also be the first full double-decker passenger jet. Carrying 555 passengers in its launch version in 2006, it is expected in later models to carry as many as 840.Clearly Boeing is in trouble--but how can it be pulled out of its power dive? While there is plenty of room for debate about detailed measures, it is clear that absent a changed mindset--both at the national level and at the company level--Boeing's fate is sealed.Of course, Boeing's problems are part of a much larger syndrome of decline in American manufacturing. If the United States wants to retain control of its economic and political destiny, a whole litany of changes is necessary to reverse the globalist drift of American manufacturing policy. But at the end of the day, such changes are all moot if American policy makers do not change their fundamental mindset. Quite simply, laissez-faire is not enough in an industry as concentrated and geopolitically significant as aerospace.As for America's policy on aircraft trade, this seems doomed to failure. It consists after all of little more than beseeching the Europeans to stop subsidizing Airbus. In years gone by, when Airbus was much smaller and the United States enjoyed more influence, there might have been some hope of being heard. But that time has gone. Even if Boeing could claim that it is without sin in the matter of taking government largesse, it is unlikely the Europeans would listen to American pleas.Under these circumstances, Washington needs to take a more radical approach. On the Left, many observers advocate a wholehearted industrial policy for the aircraft industry. But perhaps a better solution--and one certainly more in accord with America's capitalist tradition--is an idea put forward by economist Pat Choate. Choate, author of Hot Property, a a forthcoming book on the theft of American intellectual property, suggests a "sphere-of-influence" approach similar to that which applied in the chemicals industry in the first half of the last century. Basically the concept is to let Airbus have the run of the European market while Boeing would have North America. These spheres of influence would be defined by tariffs on both sides. In third-country markets, the two companies would be free to compete on level terms and this discipline would provide a strong incentive for efficiency.Given the especially open nature of American democracy, many policy options are likely to be considered--and hotly debated. What everyone can agree on is that it is now past time for something that hitherto has been sorely absent: leadership.Eamonn Fingleton is the author ofUnsustainable: How Economic Dogma Is Destroying American Prosperity (Nation Books, 2003).

Saturday, April 23, 2005

Does Aid Work? 

Does Aid Work?

As we were coming out of World War Two, a great part of the world was in ruins: almost the whole of Europe as well as much of Asia and the Pacific. Weestablished the United Nations Relief and Rehabilitation Administration(UNRRA) to deliver emergency aid. A Commission for the Reconstruction ofDevastated Areas in both Europe and Asia evolved into the United NationsCommissions for Europe (ECE) and for Asia and the Far East (ECAFE). Manydistinguished economists and other professionals worked on these bodies.

The World Bank and the International Monetary Fund were very different bodies from what they are now. Both were expected to help the majorcountries - the G7 of the postwar period, if you like - to avoid themiseries of the Great Depression of the 1930s and achieve full employmentand economic stability. The World Bank would provide funds for relativelyrich countries, such as Britain or Canada or Australia, to embark on majorinfrastructure projects and so enhance their fixed-capital investment,productivity and production. The IMF would enable the same countries - andothers, of course - to maintain stable exchange rates, free convertibilityand non-discrimination in financial transactions.

UNRRA largely succeeded in its work of relief and rehabilitation. The chaos and suffering of the postwar period was cleared away more quickly throughthe food, clothing, shelter and medical supplies that it was able to supply to the needy in Europe, Asia and the Pacific.

The World Bank and the IMF were also successful in their original roles. The World Bank disbursed loans for developmental projects in ways that were, byand large, sound in financial and economic terms and that contributed tohigh and stable rates of economic growth in the postwar period. Just as oneexample, as I recall - and I hope my recall is correct - the Bank made a loanto Australia's Menzies Government in the 1950s for railway constructionto open up the Mt Isa region in northern Queensland to major mining development.

The IMF maintained relatively stable exchange rates, increasingly free convertibility and non-discrimination from 1945 to 1971. There were some major problemspersisting after the war for some countries and especially for sterlingwhich had been the world's major reserve currency before the Second WorldWar. Other currencies in Europe and elsewhere had minor and majordifficulties but, with the strong United States dollar as the linchpin ofthe system, currency disciplines were broadly maintained, exchange rateswere adjusted in a relatively orderly manner and convertibility andnon-discrimination tended to be enlarged for the more than twenty postwaryears up to the late 1960s.

The success of the World Bank and the IMF was founded on the stable economic growth and relatively full employment that had been achieved through theimplementation of what might be called fundamentally Keynesian policies inthe developed economies. These policies differed in some measure from onecountry to another. Americam policies might more fairly be claimed to befounded on the New Deal policies launched by the Roosevelt Administration inthe 1930s. In Australia, they derived largely from the deliberations of theRoyal Commission on Money and Banking of 1936 and especially from thecontribution of such people as Jospeph Benedict Chifley to thosedeliberations. When Chifley became Treasurer and then Prime Minister,Australian postwar stability and growth were founded in particular on theBanking Act of 1944 and the White Paper on Full Employment in Australia of1945.

National policies were reflected in international arrangements. Specialised Agencies such as the Food and Agriculture Organisation, the InternatuionalLabour Office, the World Health Organisation and the General Agreement onTariffs and Trade operated alongside and - as we tried to ensure - incooperation with the Bank and Fund.

Embracing all were the economic agencies of the United Nations itself, centred especially on the Economic and Social Council (ECOSOC) and theSecond (Economic and Financial) Committee of the United Nations GeneralAssembly. Subsidiary bodies of ECOSOC included, most particularly, aCommission on Employment and Economic Stability whose members for themost part comprised eminent economists and policymakers who had been throughthe turmoil of the Great Depression and who were determined that policiesshould be pursued which would avoid any such distress or catastrophe in the postwar period. Both the national and the international arrangements were successful up to the late 1960s. Compared with the pre-war period, the years from 1945 to1969 were a Golden Age. That applied of course to the more highly developedeconomies.

What was the position of the developing countries and how did aid to them evolve?

After UNRRA, there was a brief period of Post-UNRRA Relief during which the cleft between East and West was more sharply defined and the Iron Curtainand the deepening Cold War caused aid to be ideologically directed. Aidbecame a weapon of the West and a means of either winning friends ordiscouraging their departure to the other side.

This was a period in which aid, aid programs and the scope of aid expanded enormously. Such international institutions as the Bank and Fund tended togive more attention to the developing countries and new programs, such as thePoint Four Program of President Truman for Economic and TechnicalAssistance to Developing Countries, came into being. In 1950, the (British)Commonwealth launched the Colombo Plan for aid to the developing countriesof the Commonwealth.

In 1963, when I was Australian Representative on the Second Committee of the United Nations General Assembly, the United Nations passed aresolution establishing the United Nations Conference on Trade andDevelopment (UNCTAD) which looked towards comprehensive development of the developing countries, with such devices as trade preferences and measurable goals for development aid.

In some ways, that was a high point both in the giving of aid and in thededication of the developed countries to it. The Second UNCTAD in 1968 was adisappointment. The course afterwards tended to be down. From July 1969,when the Nixon Administration embarked on polices which would soon introducethe world to stagflation and more especially after 1971, when the United States went off gold and the IMF ceased to exist in its intended form, both delivery ofaid and dedication to it went sharply into reverse.

That does not mean that billions of dollars did not continue to be spent on aid. In money terms, aid continued to go up. Inflation ate away much of its value. The American addiction to humanitarian and economic development programs tended to retreat into cynicism about the way in which their earlier effortshad been received. The American passion died long before the Cold War itself died and, despite periodic promises and protestations, it has not recovered since.

Nevertheless, international aid has disbursed billions of dollars worth of aid since the 1960s. How much good has it done?

The short answer must be that it has done very little good at all or any benefit has been overwhelmed by other negative factors.

I was High Commissioner in West Africa in the middle to later 1960s.Australian aid at that time was mainly technical assistance and equipmentaid in education and agriculture. In itself, it was useful but any suchusefulness in bilateral or multilateral aid was overwhelmed by the two coupsof 1966 and the Biafran civil war. Political instability frustrated aid anddevelopment in the Congo too and other west African countries. In Sierra Leone when I was there, the political situation was stable, the economy wasadvancing on the back of diamonds and other natural resources, and the future seemed promising. Our own Australian aid seemed to be well chosen and effective. However, that stability and promise were devastated in later years partly by forceswithin the country and partly by foreign greed and ruthless exploitation of the country's natural riches. The likeable people of Sierra Leone suffered terribly as a result.

For each country, idiosyncratic features have made foreignaid more or less effective and more or less beneficial to the recipient. However, the global environment for aid - and many other positive things - has been hugely complicated by the failure of economic stability after July 1969. Thatfailure centred especially on use of interest rate policy to curb inflation.Contrary to conventional wisdom, the increases in interest rates by the Fed at that time intensified inflation and introduced the world to the phenomenon ofstagflation. That did not discourage the use of interest-rate hikes as partof monetary policy to control inflation in the more than thirty years since. On the contrary again, it stimulated even more intense use of an instrument of
policy that had manifestly failed to deliver the intended effects.

As a consequence of the effect on the United States dollar, the United States Government terminated the currency's link with gold in 1971 and theessential basis of the IMF was destroyed. From that time forward, stability in world currencies was increasingly diminished and free-floating currencies becameincreasingly common. Currency speculation emerged as one of the maincharacteristics of the world economy. Many more billions could be made outof guessing whether a currency would go up or down than could be made out oftraditional industry or trade. The continuing use of interest-rate changesto "control" inflation caused extreme volatility in asset prices, especiallystocks, bonds and real estate, and further stimulated speculation on a grandand ever-increasing scale.

At the same time, increasing freedom of capital flows - widely regarded as a blessing - helped the monetary forces already in operation to shiftinflation from domestic consumer price increases to deficits in the balanceof trade and payments. These deficits, especially of the United States butalso of some other countries such as Australia which followed the same monetary policies as the United States, became chronic. They moved up and down inresponse to particular stimuli from time to time but the secular trend waschronically upwards. The United States external trade deficit is now running at a rate of more than $US 700 billion a year and the prospect is that it will gohigher. The Australian external trade deficit has steadily increased since the 1970s and is now running at more than $2 billion a month. It might be modified
by the current upward movement in commodity prices but the secular trend will
tend to remain upward over the coming years unless fundamental monetary
policies are altered.

(The trade deficits - and surpluses of other countries - cause fluctuations in exchange rates to such an extent that they often make the World Trade Organisation (WTO) an illusion and free-trade areas a myth.)

What effect have these economic and financial developments had on aid to developing countries?

In one respect, they have performed a miracle. The countries which have been able to respond to the inflationary consumer demands in the United Statesas well as other countries pursuing similar policies, have developed with a speedand intensity that is historically unprecedented.

The countries of East, South-east and South Asia, including now the two giants of China and India, have received "aid" over the last three decadesand especially since the early 1980s, on a scale of which they could neverhave dreamed. It has not been "aid" of the kind we envisaged under UNRRA orPoint Four or the Colombo Plan or UNCTAD. Indeed, the "recipients" have notbeen "aided" in this sense at all. They have simply taken proper and activeadvantage of a world economic opportunity that has been offered to them. The"donors" in turn have, for the most part, been unaware that they have beengiving any "aid" to these rapidly developing countries. If they had, theywould have quickly modified or reversed their economic and financialpolicies - policies that have been self-destructive not only in economicterms but also, of course, in social, political and strategic terms as well.

Not all of the developing countries have been able to take advantage of the shift in inflationary pressures from the domestic scene to the internationalmarketplace. Those countries are especially in Africa but there are alsomany countries in Asia and Latin America whose economies have not only notbenefitted from the economic and financial trends of the last three decadesbut who have suffered declines - declines that appear to be chronic - ininvestment, productivity and production or, in any event, in the rates ofreal economic growth and levels of living of their people.

The developed countries - the so-called "rich" countries - have allexperienced a decline in their motivation to extend traditional forms ofaid. This applies also to those countries which are not or not as severelyafflicted with external-trade deficits as the United States. Virtually allcountries follow the same monetary and interest-rate policies as the UnitedStates, although modified sometimes in important ways, and all therefore tend to suffer from slower growth, high and chronic unemployment and emigration ofindustry, especially manufacturing but also and increasingly some high-profile services.

There is little prospect that any more aid - any more effective aid - will go to these neglected developing countries until the fundamental errors inthe monetary policies of the major developed countries are corrected.

Especially in recent years and increasingly even in recent months, several of them have made extravagant promises but these are unlikely to be carried out.
In any event, the promises are likely to be kept only in the traditionalways of making loans and grants, often on a tied basis, or forgiving debts;and these approaches are not likely to be any more successful in the future than in the past.

The most rewarding approach is to tie in a reform of the monetary-policy errors of the developed countries that have been adumbrated above, with an acknowledgement that aid in the form of fixed-capital investment to the developing countries could and should be linked with policies of renewal of fixed-capital investment at home, tobring new promise to the world economy and new hope to those countriesespecially in Africa, but also elsewhere in the world, where poverty, disease and almost every form of human deprivation flourishes.

Finally, I might just note that recent learned books by people who might be expected to be in the vanguard of thinking and policies on aid to the needydo not seem to have even glimpsed the essential features of the dilemma asoutlined above. Three recent books of this kind are The World's Banker by Sebastian Mallaby (Yale University Press, £19.95); The End of Poverty by Jeffrey Sachs (Penguin, £7.99); and Overcoming Stagnation in Aid-Dependent Countries by Nicolas van de Walle (CGD, $23.95) The author of one of these books, Jeffrey Sachs is in command of the United Nations effort to bring some life into the United Nations Millenium Program to alleviate suffering in the developing countries. He appeared on a recent "Talking Point" program of the BBC on the topic of foreign aid. Although he is eminently respectable in his approach to aid - and participants in the program were equally well-meaning - he had no new ideas to offer and he stimulated no new thinking in those who posed questions to or debated with him.

What this seems to indicate is that we must try to set out on new paths. A first step is to look at the way national economies and the world economy, together with the United Nations and the Specialised Agencies, have developed in the sixty years since the end of the Second World War. We need to analyse more carefully and perceptively the impact of economic and monetary policies, especially in the years since 1969; and we need to research more carefully what approaches have been successful in the development of the world's component economies in recent times and what approaches have failed to bring worthwhile results.

From this, it should be possible to determine how we should proceed. The dilemma is not insoluble. The solution is there waiting for us to grasp. What is more, it is as simple as the solution which, after the Second World War, we applied to correct the economic and other miseries that had plagued us during the Great Depression of the 1930s.

James Cumes

Friday, April 01, 2005

Woltowitz and the World Bank 

What I find objectionable - though hardly extraordinary - is the way Wolfowitz' appointment has been sewn up by the Americans and Europeans between them.
Originally, of course, the IBRD was supposed to "reconstruct" and "develop" everyone. I recall that, at one stage, I think during the 1950's, even Australia qualified for an IBRD loan. (I seem to recall that it was for a railway to open up the Mt Isa area for minerals development.)
At that time, too, the Americans and the US dollar dominated the world of reconstruction and development and the "international community" still consisted of the great imperial powers and those - such as the United States, Canada, Australia and New Zealand - they had spawned in much their own image. India, Pakistan, Ceylon, Burma and a few others were independent and struggling to stand firmly on their own feet; but most of the colonies were still just that until the 1960s flooded the "international community" with newcomers, including many which, for a time or more permanently, qualified as "failed states."
In those days, it was fair enough that the United States should regard the IBRD as pretty much its own creature and should consult only with its quasi-peers in Europe, as well as one or two others such as Canada and Australia.
However, the world is now a very different place and United States standing has diminished, in some ways dramatically. It is reported that the "Board" of the IBRD has approved of Wolfowitz; but whether any detailed and substantive consultation with countries other than those in the EU has taken place I do not know.
Incidentally, what I have seen of Wolfowitz' approach to his task, suggests that he is still placing heavy emphasis on cancellation of debt, freedom of trade along WTO and FTA lines, and an approach generally which, having been adopted for decades past, has resulted in the development only of those countries in east, south-east and south Asia which have made dramatic progress in development only because they have NOT relied on traditional bilateral or multilateral aid and development approaches. The success stories relate almost exclusively to those countries that have managed to grab the opportunities that the muddled and self-destructive policies of the United States and other countries, such as Australia, have offered them.
My guess is that this will continue. Wolfowitz will neither improve the destiny of the poorer, developing countries nor restore the fortunes of the United States. His appointment is a demonstration of the shallowness - or should I say, the aridity - of American thinking and of the fact that they have learned nothing from the experience of the last three or four years - and still less from the experience of the last three or four decades.

James Cumes
"Uncle Rupert is beautifully narrated, with a wonderful sense of warmth and detail."Order your copy from - http://www.magellanbooks.com/jamescumes.html orhttp://www.authorsden.com/jameswcumes

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