NCPA - National Center for Policy Analysis

Deindustrialization Myths

May 12, 1997

In the early 1980s, many commentators became alarmed about the decline of manufacturing employment and the sharp rise in the share of jobs in services. This was called deindustrialization, and it was said to be a cause of American economic decline that ultimately would affect everyone. As Massachusetts Institute of Technology Professor Lester Thurow put it in a 1984 column, "Like it or not, if American industry goes down the tubes, most of the rest of us will go down with it."

Americans were told over and over again that we should emulate the Japanese and Europeans and adopt an industrial policy to halt the decline in manufacturing and stem the rise of services. This was to be done by adopting trade protection and providing government subsidies to manufacturing firms. A prominent advocate of this approach was Robert Reich, then a professor at Harvard, who went on to become Bill Clinton's Labor Secretary.

Eventually, the industrial policy bandwagon broke down when it became clear that there was no political support for corporate welfare. However, the idea that manufacturing is good and services are bad remains in the back of many people's minds. But a new study from the International Monetary Fund strongly refutes this notion, arguing that growth in service employment is actually a sign of economic strength, not weakness.

In a background paper prepared for the IMF's recently released World Economic Outlook, economists Robert Rowthorn and Ramana Ramaswamy look at the causes and implications of deindustrialization.

  • They find that the rise of the service sector is a worldwide phenomenon, and that service employment has actually grown more rapidly in Europe and Japan than the U.S.
  • Manufacturing employment is also falling in Taiwan, Hong Kong, Singapore and Korea.
  • Yet manufacturing's share of national output has remained steady.

The explanation for this apparent contradiction is that manufacturing productivity has grown much more rapidly than productivity in the service sector. Looking at all industrialized countries together, Rowthorn and Ramaswamy estimate that output per man hour rose 3.6 percent per year in manufacturing from 1960 to 1994, but only 1.6 percent in services.

In the end, the study finds that diverging productivity trends account for all of the shift out of manufacturing and into services. Interestingly, the authors find that international trade played an insignificant role, contrary to popular belief. They conclude that deindustrialization is "not necessarily a symptom of the failure of a country's manufacturing sector....On the contrary, deindustrialization is simply the natural outcome of the process of successful economic development, and is in general associated with rising living standards."

Source: Bruce Bartlett, senior fellow, National Center for Policy Analysis, May 12, 1997.


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