Can International Competitiveness Be Quantified?

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Penn Law Professor Michael S. Knoll explains how to develop better measures.

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Can the United States compete in the global market? Are the policies emerging from Washington making us more internationally competitive or less?

Despite the significance these questions hold for regulatory and tax policy, economists have failed for decades to answer them due to their reluctance to adopt a clear, common definition of what “international competitiveness” even means, says Michael S. Knoll, an economist and law professor at the University of Pennsylvania. Knoll wants economists back in the game and in a recent paper has proposed two definitions of competitiveness that he believes will invite economists’ return.

Knoll concludes that international competitiveness can be usefully understood in two ways. Either we focus on the amount of global production by U.S.-based businesses (the ownership model), or we focus on the amount of production occurring within the United States (the location model).

The ownership model looks at the total productive assets, both domestic and foreign, of companies based in the United States. For example, an American corporation will be considered more internationally competitive if it is able to purchase and operate a manufacturing plant in India. Economists can evaluate how competitive any company is under this metric by measuring its productive assets. An entire industry’s competitiveness can be evaluated by summing these measurements, and a country’s competitiveness can be evaluated by aggregating the numbers across all industries. As long as a company’s owners are based in the United States, then its productive assets are included in the calculation of United States competitiveness. Under the ownership model, government policy hurts competitiveness if it makes it more difficult for American-owned companies to purchase and own productive assets.

The location model, on the other hand, does not take ownership into account. Rather its sole focus is the amount of production that occurs within the United States. Global competition therefore takes the form of competing to attract investment and labor. Thus, if an Indian company opens a manufacturing plant in the United States, the United States will be considered more internationally competitive. Under the location model, government policy hurts competitiveness if it makes it more difficult for businesses, no matter where their formal ownership may be based, to operate in the United States. For example, imposing more stringent environmental standards on manufacturing plants in the United States might adversely affect the ability to attract foreign firms to operate in the United States.

According to Knoll, both conceptions – ownership and location – map closely onto prevailing understandings of competitiveness that are present in the policy literature but too often conflated. For example, the Treasury Department’s 2007 Report on Competitiveness fails to define competitiveness, but, according to Knoll, refers repeatedly to both conceptions of competitiveness.

Knoll points to a pair of articles written by members of President Bill Clinton’s cabinet, each separately adopting one of the two conceptions. In a 1990 article, future Secretary of Labor Robert Reich argued that the American worker, as opposed to the American company, stands to gain from increased international competitiveness – a focus on location rather than ownership. By contrast, Laura d’Andrea Tyson, who later chaired President Clinton’s Council of Economic Advisors, argued that “the competitiveness of the U.S. economy remains tightly linked to the competitiveness of U.S. companies” – an understanding of competitiveness closely mirroring the ownership model.

Knoll also notes the presence of both of his conceptions in the ongoing debate over international tax neutrality. He argues that the Capital Export Neutrality (CEN) model of taxation mirrors the location model of competitiveness, while the second neutrality model, Capital Import Neutrality (CIN), mirrors the ownership model of competitiveness.

Professor Knoll does not claim that one model of international competitiveness will always be superior to the other. He does suggest, however, that economists can and should play an important role in evaluating American economic policies. Greater attention to defining international competitiveness through the adoption of either of the two models would therefore be a step in the right direction, he says.

In addition to serving on the faculty of the University of Pennsylvania Law School, Knoll serves as Co-Director of the University of Pennsylvania’s Center for Tax Law and Policy.