Coping Strategies

When all the pieces of the global economy work together smoothly, all the players involved benefit. In this decade, a clear pattern emerged: China became factory to the world, the U.S. became buyer to the world, and India began to become back office to the world.

But there are risks for both East and West as the strands of the global economy intertwine. As the world economy interconnects, the U.S., China and India become more vulnerable to local disruptions in each other’s economies. A U.S. recession could force Chinese factories to shut down or lay off workers, most for the first time ever. At the same time, India’s army of computer programmers and call-center employees could also feel the ripple of a downturn in the U.S. economy. Indians wouldn’t be answering so many 800-number calls from shoppers buying plane tickets or other goods.

The potential for trouble goes both ways. Indeed, the scale of U.S.-China trade dependence is worrying even some stalwart free traders. “In the globalized world of today, there is no risk if America, Europe and Japan stop producing T shirts or television sets,” says Jean-Pierre Lehmann, professor of international political economy at IMD, the international business school in Lausanne, Switzerland. “My concern is that the U.S. in particular is far too overdependent on China, not just for goods but also for finance. So there is nothing wrong with the U.S. sourcing its consumables outside the U.S., but it is dangerous that so much of it should be coming from the same source.”

The good news is that growing international economic interdependence is a little like nuclear deterrence: nations with such far-reaching trade and financial ties have an interest in preserving steady economic relations. China doesn’t want to lose its best customer. If Chinese factories selling to Wal-Mart and other American companies shuttered as a result of trade tensions, millions of Chinese workers could find themselves unemployed—and angry at their government. Likewise, if offshoring stalls in India and the economy tumbles, voters will likely hoist their leaders out of office in the next elections. So both the Indian and the Chinese governments are trying to keep their economies growing and globalizing fast, while the U.S. and Europe are finding themselves alarmingly and inextricably linked to the job markets of the international economy’s fast-growing Asian giants. For now, we have a global economic détente.

How should the West respond to the economic metamorphoses brought about by the rise of India and China? Those who fear they will be hurt by the changes at hand usually call for protectionism. Those who expect to benefit tend to insist that the free market instead be given free rein. Neither option works very well. In the U.S. as well as in Europe and other developed economies, every job moved offshore leaves a tiny hole in the fabric of middle-class life. There are gains to the world economy, but those are not so immediate as the pain of a lost job. For those who have been laid off or are worried they will be, it is tempting to fight to stop—or at least delay—the changes that produce such suffering. Already, calls for protectionism are growing louder. In 2006, U.S. senators threatened to slap a 27.5% duty on all imports from China in retaliation for its undervalued currency. Other politicians, aiming at India, have called for limits on white-collar work moving overseas.

These efforts, however satisfying in the short term, tend to backfire. Technology makes it more difficult to engage in protectionism anyway: it is easier to turn back ships pulling into American ports with goods made in overseas factories than it is to regulate—or even measure—what kind of overseas service work crosses American shores via computer connections or phone calls. In addition, protectionism is tough to pull off now that the world’s supply chains have been knitted together. Much of what is shipped back and forth across borders is simply pieces of products heading to the next step in those supply chains, rather than finished articles on their way to customers.

Of course slowing down trade requires only collective will, not regulations. What if buyers decided to resist the siren song of low prices emanating from the nearest Wal-Mart and buy instead from mom-and-pop stores stocked with higher-priced, locally made goods? Globalization would decelerate. Offshoring could be slowed, too, if vast numbers of buyers agreed to pay more for services whose workers are based in their home countries. Such a scenario, however, seems unlikely. In the 1970s, car buyers didn’t hesitate to choose Toyotas and Hondas when they proved cheaper or more reliable than Fords and Fiats. Shoppers didn’t object in the 1980s and 1990s when factories making their toys and tennis shoes moved to Mexico or China. Customers are unlikely to care—or know—whether their computer program was written in India or the U.S. For customers, it doesn’t make much difference if their tax preparer, telephone operator or loan processor wears a sari and works in Delhi or wears a baseball cap and works in Baltimore.

It is tempting to turn to protectionism. But however well meaning, the failure of efforts to keep jobs in developed countries is already on display. The poster child of government attempts to protect jobs is Continental Europe, where companies are reluctant to hire new workers because they must pay costly employee benefits and because it can be difficult to fire workers who are later unneeded. Those restrictions are designed to help workers, but have instead in the long term led to unemployment rates in most of Europe that are twice as high as those in the U.S. Engaging in protectionism in response to the rising fortunes of India and China would leave most of the world’s people from rich countries and poor countries alike worse off in the long run. Not only does protectionism tend to backfire—to eventually cost jobs rather than to save them—but the global economy has already grown so interconnected that bashing China and making a scapegoat out of India could wind up hurting the developed economies. Economists calculate that international trade adds about $1 trillion a year in benefits to the U.S. economy. Even the offshoring of white-collar jobs, despite the hardship it brings for laid-off workers, is a net gain for developed nations like the U.S. and Japan, as well as for the country where the jobs land. Every dollar of spending that U.S. companies transfer to India creates $1.46 in new wealth, according to McKinsey & Company, a management consultancy.

Just when modern technology has dramatically speeded up the connections between East and West, between developing countries and the rich countries of the world, two nations with more than a billion people each have suddenly embraced capitalism and rejoined the world economy. Hundreds of millions of poor people have been lifted from desperate poverty as a result, and the West should not try to stop the rise of India and China. But the powerful, swift changes in the global economy will also trigger strong repercussions in the West. So nations such as the U.S. need to strive to create new jobs and to weave a stronger safety net ahead of the inevitable losses of employment.

The good news is that we know the way forward. “The best response from the high-wage developed world is to uncover new sources of job creation rather than protect the old ones,” says Morgan Stanley’s chief economist, Stephen Roach. “That’s precisely what worked when farmers were displaced by the Industrial Revolution, when sweatshop workers lost their jobs to automated assembly lines, and when the U.S. Rust Bowl was hollowed out in the early 1980s.” Former U.S. Treasury Secretary Robert Rubin agrees, but when he talks about the economic challenges facing the U.S., his tone takes on an edge of frustration. Rubin isn’t really worried about the rise of India and China. He’s worried about the U.S. “What we’ve really got to do is get serious,” he says. “We have to address the various challenges we have and create the best possible environment in this country.” Rubin reels off a rather gloomy list of what the U.S. must do to compete. “We’ve got to have a public education system that’s first-rate. We’ve got to get our basic research back. We’ve got to get our fiscal house back in order” by reining in the budget deficit. He adds that the U.S. must recognize that “in the long run, good environmental policy is good economic policy.” Then he pauses, and his almost perpetually worried look gives way as he thinks about how making those changes could change his nation. “We’ve got to put in place the ability to be the best we can be,” Rubin says. A small smile emerges: “The best we can be might actually be pretty good.”

In readying for a storm of competition, America in particular must return to basics. The most critical building block is education. Despite years of hand-wringing and higher spending than that of other industrialized nations, U.S. schools threaten to leave the nation less competitive in global labor markets. A barrage of test scores shows American students are already far behind the world’s academic leaders. U.S. universities are still considered the best in the world. But compared with their international peers, American eighth graders in 2003 ranked 14th in math—just beating out Lithuania’s kids—and ninth in the world in science.

Business leaders—the ones busy hiring Indian and Chinese college graduates—warn that judging by America’s current education efforts, the nation is already falling behind. “The competitiveness of the U.S. workforce depends on a strong educational foundation, particularly in the math and science skills required to succeed in the information-technology industry,” says Craig R. Barrett, chairman of Intel. “We need to raise our sights and not tolerate the mediocrity we already have.” John Chen, the chairman and ceo of Sybase, a California software company (and a man whose parents fled Shanghai for Hong Kong after the communists took over in China), says: “We are not equipped as an economy to go to the next knowledge base. Yes, we have the best university system in the world, but we’re not feeding that system. We’re not investing in creativity.” Indeed, because U.S. college education has become so prohibitively expensive, the proportion of American workers with college degrees is actually expected to drop over the next 15 years.

Education isn’t the only area in which Americans need to change their ways. Individuals as well as the government are spending beyond their means. Americans became net borrowers, not net savers, in 2005—something not seen since the Great Depression. If Indians and Chinese can earn $5,000 a year and salt away $1,500, Americans earning $40,000 a year should be able to save at least that much each year—but they don’t. Sometimes it is easier to put things in perspective from the other side of the world. “It is not the best feeling in the world to know that I’m taking away someone’s job,” said Sheelan Chawathe, who answers the phone for Delta Air Lines in Mumbai. He offered some advice: “Stop trading in your car every year and a half, and cut down going to Applebee’s seven days a week to once a week. If you cut back, you can keep a pretty high standard of living.”

Stronger educational and financial fundamentals are essential, but the U.S.’s physical foundation—its infrastructure—also needs work. “If you went to Kennedy Airport and Shanghai airport, which would you say is the more advanced country?” asks Rubin. China’s roads are in better shape than many found in the U.S., starting with the potholed, neglected highways near the Detroit auto factories that put America on wheels in the first place. On trains zipping past Indian fields, passengers surf the Internet on their laptop computers. On subway cars deep underground in China, riders chat on cell phones. Not in America. Indeed, Intel and other companies have hired Chinese researchers to work on the next generation of cell-phone and mobile Internet technology because Chinese workers are already using cutting-edge services and technology unfamiliar to Americans.

Much of the responsibility—and the consequences—of facing up to competition from India and China will fall onto individuals and their families. Those who successfully adapt and meet the challenges will be more likely to have stable or growing paychecks. But lots of people will not have the ability to switch quickly to jobs that cater to local customers. Inevitably, Western Europe and the U.S. will become less competitive in the expanded global labor market, and their paychecks will shrink as work migrates to places where it can be done for lower pay. They will need a safety net to catch them. “Displaced workers deserve retraining,” says Stephen Roach, for what he calls “the inevitable global labor arbitrage.” American policymakers could borrow a page here from European nations, who have been much more successful and imaginative at building social safety nets.

Nobody can say with certainty where the rich world’s future jobs will be found. Mostly due to offshoring, the U.S. has lost more than 1.1 million once coveted I.T. jobs in the past five years. On the other hand, since 2001, about 1.7 million new health-care industry jobs have been created. Perhaps the new jobs will be in nanotechnology, or in green engineering because of China’s need to clean up its water and air. Many in the U.S. believe that growing income inequality will create a raft of service jobs to cater to the growing ranks of the rich—high-end hairdressers, personal trainers and closet designers, for instance—none of which are likely to be moved offshore.

Nandan Nilekani, co-chairman of Infosys, who has persuaded U.S. companies to move tens of thousands of jobs to India, says, “People should look at careers which cannot be delivered over a wire. If someone is a cardiac surgeon, they’re not going to be displaced. But if they are a radiologist, somebody from Bangalore is liable to check X-rays over a wire.” And labor-force quality is key. “People will have to really focus on education,” Nilekani says. “That has to happen.” Still, Nilekani is sure that the U.S. will find its way in the internationalized economy. “The capacity of the U.S. to constantly reinvent itself,” he says, “is really extraordinary.” And why not? If inward-looking India and communist China can transform themselves and face the world, so can the U.S. and Europe.