Economic Realities

Anatole Kaletsky, who is a partner at GaveKal, hits on a very important point in a recent editorial printed in the London Times:

Particularly relevant to the contrast between Japan and Britain are two. First, manufactured goods, whose production is readily transferable to low-cost economies such as China, are falling relentlessly in price. Secondly, this process of outsourcing has created a new type of business, called “the platform company” by Charles Gave, the French economist (and my partner in an economic consulting business).

Platform companies sell everywhere but produce nowhere — businesses such as Dell, Nokia, Ikea, Glaxo, Apple or L’Oréal. Where, for example, are the factories owned by Ikea or Dell? They do not exist, because these companies subcontract almost all their manufacturing to other businesses, mostly in developing countries. Any business process can be divided into three stages — design, production and marketing — and platform companies have perceived that the relative value of these stages has fundamentally changed. In the 20th century, control over production was the key to business success. Today the other two stages add most value, because production can be shifted to subcontractors in developing countries that compete intensely to reduce costs.

This outsourcing is familiar enough, but its macroeconomic implications are less well understood. Because the manufacture of physical goods is the most volatile and capital-intensive part of the business process, outsourcing does not just transfer jobs and factories — platform companies also outsource to China and other developing countries much of the economic volatility that goes with capital investment, inventory cycles and the unionised factory employment.

At the macroeconomic level, therefore, the platform company model has produced several unexpected results. Large trade surpluses and high levels of investment, which used to be indicators of economic dynamism, may now be symptomatic of a country’s reluctance to integrate fully with the world economy and capitalise on the opportunities presented by free trade.