An explanation of how the base of manufacturing suppliers is crumbling in the U.S. and how to reverse this trend.
Though all outward signs suggest unfettered growth, the base of manufacturing suppliers in the United States is fast crumbling away. Here's why it's happening, how American companies have become their own worst enemies, and what to do about it
As his limousine sloshed through the rainy summer twilight in Tokyo a few years ago, a high-ranking U.S. executive explained that his company was about to close a multibillion-dollar aircraft-procurement deal with a con-sortium of Japanese suppliers -- even as the skyrocketing yen made them among the world's most expensive manufacturers. "They come to us with offers to fund and build a complete wing or fuselage," he marveled, "not just for a bunch of parts orders. If we'd let them, they'd design and build the whole airframe.
"Our profit," he continued, "is really in aircraft distribution and service, not manufacturing. Package procurement deals like these save us millions in supplier-oversight and management costs."
Those words ought to chill the heart of every small and midsize manufacturer in the United States. As multinational companies like GM, IBM, and General Electric downsize, they increasingly shift complex design and manufacturing responsibilities to their vendors. Rather than dealing with scores of individual suppliers, those giant companies are willing to pay premium prices to purchase high-quality finished products from trouble-free, self-supporting supply chains -- irrespective of individual company's skills or of national exchange rates.
This new supply-base competition marks an important change in the global economy. In the past a company's efficiency or technical capabilities alone would have generated success, but the big winners in today's global economy are those groups of companies that can offer one-stop design and manufacturing services to brand-name multinationals.
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Supply-base competition
Despite perceptions that U.S. manufacturing prospects have improved, supply-base competition may be bad news for the United States. Unlike those in most of Asia and parts of Europe, U.S. manufacturers and policymakers barely recognize the profound changes taking place in international economic rules. Too often, they pursue outmoded strategies that fail to achieve anticipated business or employment growth.
Nowhere is that more evident than in manufacturing, where the United States' primary competitors have built regions with fully integrated production networks involving literally hundreds of companies to provide one-stop shopping for product-hungry nameplate multinationals. According to the industrial logic of the recent past, the late 1980s and 1990s should have been the heyday of U.S. manufacturing, driven by a remarkably weak dollar and unparalleled domestic cost advantages. Instead, while the total value of manufacturing industry shipments rose 75% from 1980 to 1990, roughly keeping pace with the growth of the U.S. gross domestic product, the rate of company creation in manufacturing was the most anemic of any U.S. sector, increasing just 18% over that decade and slowing even more in the '90s. Over the same period, manufacturing employment actually fell by 10%, the only major U.S. industrial group to register a workforce decline.
More troubling still, and largely unexpected by conventional U.S. industry and policy experts, foreign penetration of the U.S. supply base -- especially by manufacturers in high-cost places like Japan and Europe -- rose dramatically despite the weak dollar.
To a nation weaned on the dream of individual entrepreneurship, those statistics are sobering evidence of the unanticipated new challenges of international supply-base competition. It's no longer enough for a small or midsize company simply to be the lowest-cost or most efficient producer; the company must also contribute to and help maintain the highest standards among each of the suppliers with which it collaborates to design and build products for global markets.
Throughout the world, each company's survival increasingly depends on the weakest link in the supply chain it supports. Chrysler once tried to learn why a key engine part was failing at an unacceptable rate. Tracing back along the product's supply chain, it found that all the assemblers, designers, finishers, and machinists adhered to world-class standards. But a clay vendor for a casting company that sold raw metal to the downstream manufacturers had gone bankrupt; no other company sold clay with the proper consistency. Scores of efficient, quality companies were threatened by the failure of a seemingly insignificant link in their supply chain.
That's the new supply-base competition. And because the United States is behind the pack when it comes to meeting those novel challenges, it risks the accelerating loss of its high-growth small and midsize suppliers; employment declines in major industries (even as U.S. multinational companies' sales grow); and the continued disintegration of the nation's premier urban manufacturing centers.
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The phantom manufacturing boom
The United States' failure to adapt to the new supply-base competition helps explain why the anticipated exchange-rate-triggered manufacturing boom never seemed to materialize here. To be sure, nameplate companies' sales in many U.S. industries did rise in the '90s. But the United States continues to measure its manufacturing success almost exclusively on the basis of the number of "American" products sold by its dominant multinationals. However, with the absence of close ties between domestically based multinationals and suppliers, which are typical in countries like Japan, U.S. nameplate companies' sales are an increasingly misleading indicator of the true health of the country's supply base. U.S. multinationals are more and more meeting their distribution and service needs with goods designed and manufactured by much more integrated, capable, and responsive production networks from abroad.
Other countries strongly discourage domestic-supply-base displacement by promoting joint efforts among large and small companies to solve price, quality, or other market problems. If foreign procurement levels in Japan were even a small fraction of what they are in the United States, Japanese multinationals would face enormous political and industrial pressure from the government and the nation's well-organized suppliers.
Even in late July 1995, after a bruising trade battle with the United States over opening domestic markets and with the yen still at absurdly high levels, a Japanese government survey of more than 1,200 suppliers and their large-company customers revealed that 95% of the respondents were seeking joint price or quality-improvement strategies to deal with growing cost disadvantages. Just 5% stated that they would even consider increasing their overseas production or procurement activities. Minimal domestic-supply-base disruption provides Japanese suppliers with a stable market from which they can develop and offer increasingly sophisticated, coordinated production services to multinationals worldwide -- a strategy that overcomes their country's severe competitive-cost disadvantages.
