I’m sorry to say Holding's mercantilist rot is also to be found in the Liberal Party. In August 2006 the Victorian Liberal Party held its 144th State Council meeting, during which the Berwick Branch called on the Federal Government to “rejuvenate Australian manufacturing industry”. The branch had correctly noted that as a proportion of GDP manufacturing had fallen from 25 per cent in 1975 to about 11 per cent today.

It therefore concluded that this decline had damaged “Australia’s export capability” and also production for domestic consumption, a “situation that has significantly contributed to our continuing Current Account Deficits and present Net Foreign Debt of over $500 billion”. Only fallacious thinking could lead the Berwick branch to conclude that the decline in manufacturing as a proportion of GDP adds in anyway to Australia’s current account deficit or to an increase in our foreign debt.

The likes of Holden, including those in the Liberal Party are greatly confused on economic matters, particularly with respect to what I call the value-added fetish. These people confuse value-added with profitability and advanced technology. Therefore, if we ‘nurture’ those industries that have the greatest number of value-added products the more prosperous Australia will become. This line of thinking misses a vital economic point:

If value-added is a measure of profitability, firms will move capital and labour into these lines of production and compete away the profits. So why aren’t firms creating a more “value-added structure” in, fore example, the TFC industries? Could it be that they have not done so because they prefer solvency to bankruptcy?

Economic theory, something Holden is ignorant of, suggests that the greater the ratio of capital to labour in a firm the higher value-added will be. This is because as firms become more capital intensive labour costs as proportion of total costs fall. The problem for the TFC industries should be blindingly obvious. They are labour intensive by nature. To turn them into the kind of “value-added structure” that our mercantilists seem to have in mind would require investing in the kind of technology that does not exist.

Let us assume that there emerged a technology that would transform the footwear industry into a high value-added process per worker. What is not understood is that if such a thing was to happen the industry would still have to shed a considerable amount of labour unless the increased productivity sufficiently lowered prices as to increase the demand for the product to the extent that the industry would still require the same amount of labour.

(To deduce from this that technology causes unemployment would be to fall into the trap of the fallacy of composition. The overall effect of technology is to increase the aggregate real demand for labour, even if the demand for labour might fall in certain industries. (George Terborgh, The Automation Hysteria, W. W. Norton & Company Inc., 1966).

It is abundantly clear that it is being assumed that if the TFC industries develop a high value-added structure they must automatically become more profitable. Yet as we can see there are absolutely no grounds to support this assumption. Any accountant or economist worthy of the name could tell them that profit and loss figures reveal absolutely nothing about any firm’s level of value-added.

I’ll wager that if one were to look at the steel industry or petroleum processes like refining one would find an enormous amount of value-added per worker. The reason? These are extremely capital intensive industries. On the other hand, production of computers and other electronic gadgets would probably be average in value-added per worker because they are labour intensive.

This mercantilist argument is based on the desirability of maintaining employment in manufacturing. It never occurs to these that firms exist to meet the demand for goods and services, not to create jobs. Moreover, capital is always scarce, regardless of what monetary cranks claim. Therefore, if the state directs resources into the TFC industries it has to deny those resources to other industries where they are more highly valued. Anyway, as I have already pointed out, demanding these industries become more value-added is the same as ordering them to be more capital intensive.

The problem is that industry policy has a way of turning into central planning if it is not abandoned. The reason is that the greater the degree of state intervention (interference in the allocation of resources and investment) the greater will be the number of unintended and undesirable consequences, leaving the government with only two choices: proceed with wealth-damaging policies or allow greater market freedom.

Gerard Jackson is Brookes’ economics editor

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