The Enemy Within

An explanation of how the base of manufacturing suppliers is crumbling in the U.S. and how to reverse this trend.

By David Friedman | 
 

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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