6 Trading Myths Shocker

Get ready to have your bubble busted. Too many economic and business decisions by national political leaders, corporate executives, their suppliers, and their customers are based on unfounded, yet generally accepted and oft-quoted, myths, according to a research company.

Some of these myths, alleged by McKinsey Global Institute, a division of research and consulting firm McKinsey & Co. in a recent report, will seem counterintuitive. In fact, you may either dump the entire report straightaway after reading the summary or, out of sheer curiosity, read further to see if you can join the ranks of myth busters.

I decided to read the entire report. It was an eye opener. And while the empirical evidence may require additional work, I am inclined to agree with the research firm on many of its conclusions. If it is true, for instance, that such common nostrums as "Trade is at the heart of the loss of manufacturing jobs," or "Manufactured goods drive trade deficits" are fallacies, then our national leaders must rethink of some of the economic policies being implemented in Western economies.

In addition to the two putative myths cited above, McKinsey researchers Charles Roxburgh, James Manyika, Richard Dobbs, and Jan Mischke also offered the following four as erroneous beliefs: Mature economies are losing out to emerging markets in trade and thus face increasing trade deficits; mature economies create jobs only in low-paid, low-value domestic services; service trade is small, and emerging economies with low-cost talent will capture any increase; and service economies such as that of the United States are the world leaders in service trade.

Are these really myths, or did McKinsey base its conclusions on inadequate data? I will explore this question further in a future blog. For now, let's look at the six myths identified by McKinsey and why the researcher believes that rather than implement economic policies founded on these false premises, Western businesses and governments should instead explore opportunities in emerging economies. It's not only Western governments that should review their positions, though. Leaders in emerging economies should also consider the long-term implications of their obsession with manufacturing; it just might not be in their best interest.

Here are excerpts from the McKinsey report on the six economic myths and the "reality" as presented by the research firm:

1. Mature economies are losing out to emerging markets in trade and thus face increasing trade deficits. Reality: The trade balance for mature economies in aggregate has remained largely stable and in fact has begun to improve. Wide variations exist between individual countries, but there is no evidence to support the view that there has been a wholesale deterioration in the trade balance between mature and emerging economies over the past decade. In fact, the balance of trade in goods and services of minus 1.5 percent of GDP in 2011 was slightly better than a decade earlier.
2. Manufactured goods drive trade deficits. Reality: Imports of primary resources, whose prices have been rising sharply, were the largest negative contributor to the trade balance of mature economies. In 2008, mature economies ran a deficit of 3.3 percent of GDP in their trade in primary resources. In contrast, mature economies ran a small surplus of 0.3 percent of GDP on all manufactured goods and a significant surplus of 1.3 percent of GDP in knowledge-intensive manufacturing in 2009.
3. Trade is at the heart of the loss of manufacturing jobs. Reality: The decline in manufacturing jobs in mature economies—and the shift in jobs among sectors overall—is dominated by changes in the composition of demand and ongoing increases in productivity...

   In the case of the United States, the 5.8 million manufacturing job losses from 2000 to 2010 largely reflected ongoing productivity increases coupled with weak domestic demand... According to our analysis, around 20 percent of the decline can be attributed to trade or offshoring. Closing the entire 2010 US current account deficit of 3.2 percent of GDP by improving the manufacturing trade balance would be equivalent to approximately 2.2 million more manufacturing jobs—well short of the job losses of the past decade alone.

4. Mature economies create jobs only in low-paid, low-value domestic services. Reality: Mature economies continue to create high-value, knowledge-intensive jobs in tradable sectors—but more in services than in manufacturing.
5. Service trade is small, and emerging economies with low-cost talent will capture any increase. Reality: Service exports already make up one-quarter of the overall exports of mature economies, and that share could rise to one-third by 2030. When we adjust for the high services and import content in manufacturing exports, services value added exported greatly exceeds the manufacturing value added embedded in exports in a number of economies. And, despite fears of offshoring, mature economies are running increasing surpluses in services, particularly in knowledge-intensive services that generated a strong and rapidly growing trade surplus of 0.7 percent of GDP for mature economies in 2008.
6. "Service economies" such as the United States are the world leaders in service trade. Reality: The European Union (EU) is ahead of the United States in service exports in both gross and net terms, even when we look at only extra-EU trade. In 2009, Germany’s service exports amounted to 7.1 percent of its GDP (of which 3.3 percentage points were extra-EU exports), compared with 3.5 percent for the United States.

I am interested in others' perspective on the McKinsey report. Please chime in by leaving a message on the EBN message board. In my next blog, I will further explore the implications of these "myths" for policy makers, corporations, and the global economy.