With the 2006 elections, we have a federal government divided on
partisan lines between the legislative and executive branches. But
enhancing the international competitiveness of the American economy
and capital markets needs to be a priority for both parties.
Just as the Sarbanes-Oxley Act was a bipartisan political
overreaction to the scandals of its day, we now have bipartisan
recognition of its excessive cost and its damage to U.S.
competitiveness in the global markets. An overall perspective on
what are the possible sources of competitive success makes clear
the need to protect the last fundamental American global advantage
from the structural effects of Sarbanes-Oxley and related
problems.
Each fundamental factor of production gives rise to a potential
international competitive advantage. According to the classic list
of Adam Smith, these factors are Land, Labor and Capital. A more
complete list would contain five fundamental factors or sources of
possible advantage:
Natural Resources
Labor
Capital
Knowledge
Social Infrastructure
A few explanations: Natural Resources are a more general version
of Land. Essential to Labor is education. The most relevant
Knowledge is science and its offspring, technology, but also
knowing how to manage complex organizations. Social Infrastructure
includes the laws, property rights, financial practices, culture,
and — most importantly — political stability and lack of stifling
bureaucracy that allow markets, particularly capital markets, to
function well.
Our hypothesis is that in the global competition of today,
America no longer has any special advantage in the first four
factors, but a continuing advantage in the fifth. This advantage,
however, is being weakened or undermined by unwise Sarbanes-Oxley
bureaucratic overreaction, escalating litigation, and the
interaction of the two.
Historically, America arguably had important advantages in all
five fundamental political economic factors, helping establish its
position as the dominant economy in the world. But global
development has greatly reduced the former advantages. This is
without question for the overall good of mankind, but does suggest
that the U.S. political economy will be continuingly challenged at
how to provide higher pay than elsewhere in the world for the same
work — otherwise known as a higher standard of living — and that
it has less room than before for subsidizing political
mistakes.
Consider Natural Resources. Commodities trade
actively in world markets, move among countries with very low
transportation costs, historically speaking, and are available
everywhere. Being a natural resources-rich country — as the U.S.
is — matters much less. Making Land more productive by the
scientific agriculture of the 19th century land grant colleges, as
well as the 20th century technology of the green revolution, is
also available everywhere in the world. Given the high price of oil
relative to its very low marginal cost of production, being a net
exporter of oil is still an extremely important economic advantage
for a number of countries, but the U.S. is on the opposite side of
this effect.
Consider Labor. The great historical revolution
of public education has spread around the world, while the problems
of U.S. public education are well known. The ability to organize
large, capital-intensive enterprises to make Labor productive has
also spread around the world. Not only unskilled labor, but large
pools of educated, technically proficient labor are increasingly
available at far lower cost, notably of course in China and India.
Napoleon observed that China was a sleeping giant, and recommended
that he should never be awakened, “lest he move the world.”
Needless to say, we now we have two giants, with huge advantages in
educated Labor, fully awake. If America wants to provide higher pay
than they do for the same work with the same level of education,
this must be based on a different fundamental advantage — which
one?
Is it Capital? No. Savings available for
investment as Capital now flow quickly around the world, finding
the best opportunities wherever they may be. The U.S. has a very
low savings rate, far below its historical average. While Capital
is essential to all risk-bearing, growth and productivity, and is
still raised and employed in huge amounts in the U.S., it is no
longer a source of American international competitive
advantage.
Consider Knowledge. The great economic
revolution or modernization of the last 250 years, empowering first
Britain, then America and Western Europe with early leadership
advantages, has as its most fundamental source mathematical
science. Scientific Knowledge, turned to technology and harnessed
to production by entrepreneurial energy, then matched with learning
how to manage large organizations, created the modern world.
Mathematical science began as a monopoly of Europe and America, but
now it is fully globalized, the most cosmopolitan of human
achievements, where national borders are irrelevant. America has
world-leading research universities, but Knowledge is available
everywhere and Asia in particular is fully incorporated into the
global scientific endeavor.
So we come to Social Infrastructure. The
political stability and safety of America has long served to
attract investment as a safe haven. By designing a stable political
order which continued to work for an extremely large republic, the
American Founding Fathers also created an economic competitive
advantage. This advantage was augmented when Europe destroyed
itself in the First World War, and New York replaced London as the
center of world capital concentration and allocation. This
advantage continues and helps explain how the U.S. can finance its
large trade and budget deficits.
John Makin has instructively written, “The fact that global
savers accommodate U.S. consumers…by keeping the dollar stronger
than it otherwise would be is simply a manifestation of
America’s comparative advantage at supplying wealth storage
services.” (“America’s External Balances,” August 2006,
emphasis added.) Dr. Makin explains: “The United States offers the
largest menu of wealth storage options, not only in terms of
variety, but also in terms of liquidity (defined as the ability to
move huge sums — tens of billions of dollars worth — with only a
small impact on price).”
This advantage in “wealth storage services,” which yields not
only economic, but also key political and military benefits, is
derived from the advantage in Social Infrastructure. But no
competitive advantage, including this one, is automatic or
incapable of being lost. The dead weight bureaucracy, cost and
accountants rampant unleashed by the Sarbanes-Oxley Act are doing
their best to dissipate America’s last international competitive
advantage. So are the plaintiffs lawyers, the sometimes abusive
enforcement behavior of the SEC staff, the Byzantine complexities
and costs of the convoluted accounting rules invented by the
Financial Accounting Standards Board, and the actions of
manipulative short sellers — all attacking our international
competitiveness in Social Infrastructure.
By doing so, they also undermine our ability to maintain high
relative wages or a high relative standard of living. The ability
to pay more than other countries for the same work with the same
level of education depends upon having a competitive advantage in
one or more of the other fundamental factors of production. We are
down to one— Social Infrastructure — and need to protect it.
It is certainly ironic that the forces undermining America’s
competitive advantage in Social Infrastructure all claim to be
improving it, when in fact they are doing the opposite. Meanwhile,
London sees the chance to reclaim its lost role as the leading
global capital market, just as it achieved becoming the capital of
the Eurodollar market in the 1960s, when regulations of those days
made the U.S. non-competitive. It is certainly instructive that the
London Stock Exchange markets itself as a “Sarbanes-Oxley free
zone.”
The strongest competitive advantage, with however great a
history, cannot support an indefinite amount of political,
bureaucratic, legal and accounting economic parasitism. We need to
protect our last international competitive advantage. There are
numerous anti-competitive factors to work on, as suggested above,
but bipartisan reform of the Sarbanes-Oxley Act would be a good
place to start.
Alex J. Pollock is a Resident Fellow at the American
Enterprise Institute.
