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Does it matter if Australia no longer manufactures things?

Manufacturing is an important driver of economic growth. AAP

History will mark 2014 as the year in which the Australian motor vehicle manufacturing industry finally gave up its fight for survival. What the future of our manufacturing sector will look like once Ford, General Motors Holden (GMH) and Toyota close their factories in the next 2 to 3 years is uncertain. However, it will depend on the policy choices the federal government makes in this critical window of opportunity.

How did we get here?

The origins of the Australian car industry can be traced back 100 years to the First World War when the federal government introduced a ban on the importation of car bodies in order preserve shipping capacity. This decision triggered a growth in small car body building firms who emerged to fill the local demand. It was the first act of intervention by the Australian government to help stimulate a local car manufacturing industry.

In the years following the end of the First World War the federal government continued to use tariff barriers to restrict the importation of motor vehicle parts. As with body building, this government intervention helped to stimulate local manufacturing. The major American car companies such as Ford and General Motors responded by setting up operations in Australia.

One of the largest of the local car body builders was Holden, which formed an alliance with General Motors in 1923. Under this agreement Holden had the contract to build all GM’s car bodies. By 1932 GM and Holden merged to form GMH. Ford had used a wide range of local car body builders across Australia. However, in 1925 it opened its production plant in Geelong and concentrated all production in Victoria.

A century later Australia is planning to abandon the local manufacture of cars and rely solely on imports to satisfy its needs. Government intervention in the economy created the conditions for a local car industry in the last century. A withdrawal of government support has seen the demise of the industry in the current century.

The “big shift”

Last year I prepared a discussion paper on the future of our manufacturing sector for the Council of Economic Development of Australia (CEDA). As that document explained, the Australian car industry was too dependent on government support for its survival. Its ability to survive depended on increasing the economies of scale in its factories, and designing products for a global rather than a domestic market.

I also noted the work of John Hagel and John Seely Brown from Deloitte, who proposed the notion of the “big shift” in global manufacturing. This refers to the transformation of the manufacturing business model. The shift is from competing through the control of assets and stocks, to an ability to tap into the global flow of knowledge.

The vertically integrated companies of the 19th and 20th Centuries built their competitive success by controlling assets and building economies of scale. However, in the 21st Century the game has changed. Competitive advantage is now dependent on how quickly a business captures and employs knowledge. Driving this change is the rise of digital mobile data, 3D printing and customers empowered with greater access to information.

Success in these conditions requires that firms engage actively in global knowledge networks. They must also employ digital technologies to share ideas and use them to rapidly develop products for global markets. Innovation and the ability to apply creative thinking to commercialisation opportunities are critical to maintaining a place in the global economy.

Does it matter whether we still make things in Australia?

The announcements that car manufacturing would cease by the end of this decade stimulated a lot of debate about whether it matters if we manufacture such products. In July 2012, following the decision by Ford to scale back its operations, I wrote an article in this column suggesting that manufacturing does matter to the national economy.

In that article I noted the work of Economist Nichloas Kaldor (1908-1986) who had proposed that economic growth and enhanced living standards were positively correlated with the overall health of the nation’s manufacturing sector. An examination of the recent academic literature suggests that Kaldor’s thesis may still be correct.

For example, in a paper published in the journal Applied Economics in 2009, Miao Wang from Marquette University, examined the relationship between inbound foreign direct investment (FDI) and economic growth within 12 Asian economies over the period 1987 to 1997. This analysis found that FDI inflows into non-manufacturing sectors did not play a significant role in enhancing economic growth. However, FDI flows into manufacturing industries had a significant positive impact.

As stated in the conclusion of the paper:

“Inward FDI in the manufacturing sector plays a very important role in enhancing the economic growth, but FDI in non-manufacturing sectors does not…If FDI inflows in the manufacturing sector have a stronger impact on economic growth, then favourable policies can be made to attract more FDI in that sector…To be more specific, non-manufacturing FDI in the agricultural and the mining sector might not have a significant impact on the overall per capita GDP growth, but it might promote growth in agricultural and mining sectors.”

Was Kaldor right?

In another paper published in 2012 in the Journal of Post Keynesian Economics, David McCausland and Ioannis Theodossiou from the University of Aberdeen, discussed and analysed the views of Kaldor. They examined data from 11 countries over a period of 20 years.

Their paper concluded that Kaldor’s original theories over the importance of manufacturing to national economic growth remained valid. Further, this was supported by a number of other studies undertaken in recent years.

It seems that investment in the manufacturing sector helps boost national economic growth for both developing and developed countries. However, they did raise the question of what impact digital and information technologies might play in supporting or refuting Kaldor’s views.

One of the problems with digital technologies is that they are not concentrated into a clearly identifiable sector. They are dispersed across all sectors and this makes it more complex to measure their impact on productivity figures. As their paper concluded:

The results show that growth in manufacturing output is an important determinant of both productivity growth and GDP growth and that despite its increasing size, the service sector does not appear to play a similar role.

So what does this all mean?

The loss of our car plants should not be the end of all manufacturing in this country. However, their closure will impact significantly on the large supply chain of components suppliers who feed into these existing factories.

There will also be a substantial impact on the employment and general economic conditions in areas where these manufacturing operations are concentrated. This will require some policy response from state and federal governments.

Over the longer term there is a need for Australia to reinvent its approach to manufacturing. It seems that our economy’s ability to maintain sustained economic growth may depend on how we rebuild and refocus our approach to manufacturing.

If the economic analysis cited above is correct, the Australian economy cannot maintain long term growth and high living standards on the back of agriculture, mining and services alone. Manufacturing still matters.

Australia has always been a high labour cost country and this situation is unlikely to change. Government policy in the last century addressed high labour costs by imposing tariffs to make it more economical to produce products locally than to import them.

The process of removing tariffs and other government imposed barriers to foreign competition commenced in the 1980s. It has continued through to the present and seems set to remain the status quo into the future.

If Australia’s manufacturing sector is to survive it must innovate and embrace the “big shift” proposed by Hagel and Brown. This will require an emphasis on enhanced R&D investment, the embracing of leading-edge design as a core function in all that we make, and the fostering of a globally minded manufacturing sector.

Note: Tim Mazzarol is President of the Small Enterprise Association of Australia and New Zealand (SEAANZ).

SEAANZ is a not-for-profit organisation founded in 1987. It is dedicated to the advancement of research, education, policy and practice in small to medium enterprises.

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