BKPM (Indonesia Investment Coordinating Board) once stated that one of the main advantages to invest in Indonesia is the relative abundance of cheap labours. While BKPM had erased the “cheap labour argument” as a key advantage following the directive of Office of President to eliminate cheap wages, many (if not most) of emerging economies try to lure investments, especially in manufacturing industries, by boasting educated, semi-skilled cheap labours. The labour advantages, that is abundance of educated (albeit rudimentarily) and cheap supply of labours, have drawn investments needed for emerging economies to expand its manufacturing base from developed countries through the mechanism of outsourcing for the last 40 years. The promotion of cheap labour wages in the early stage of development in many emerging countries have been met with considerable successes. Some early emerging economies that used to rely on cheap wages to attract investments, such as Taiwan, Malaysia, and Mexico, has emerged from low income countries into upper middle income countries by the turn of 21st century.
Since the 1990s, not only the biggest of corporations are taking advantage of cheap labours in most part of Asia; many mid-sized corporations in Western Europe, North America, and Japan have offshored (in the form of outsourcing) their manufacturing jobs to China, India, Southeast Asia, Latin America, and (recently liberalised) Eastern Europe. With low oil price during the 1990s and early 2000s (hence lower transportation costs) and increasingly fierce competition drive corporations that used to hire local workers in developed countries to developing countries like Indonesia in search of higher profit margin, much to the resentment of politicians and manufacturing workers in the developed countries. Even with incentives to boost manufacturing sectors in developed countries, e.g. tax credits for products made locally to rising waves of protectionism that proliferates after the late-2000s global financial crisis, we are still seeing loss of manufacturing jobs in the United States and many other countries globally.
Notwithstanding, the prevailing long-term trend of manufacturing job loss due to offshoring may be halted due to recent high-profile in-shoring/re-shoring (moving back manufacturing jobs to developed countries) program by big corporations, such as General Electric’s plan to reopen its appliance plant in Kentucky and National Cash Register’s plan to build ATM in Georgia. Boston Consulting Group projected that reshoring will bring back 5 million jobs to the United States’ economy by 2020. This trend may reverse the trend of decaying manufacturing sector in developed economies, especially United States and significant enlargement of manufacturing sector in developing nations.
Despite the rising cost of labours in emerging economies, especially in China, which is expected to rise by 18% annually (also the souring industrial relation in Indonesia regarding minimum wages) often cited as the reason of reshoring, the trend of bringing back manufacturing jobs to developed (home) countries is somewhat more perplexed than what it seems to be. Amongst other significant reasons are the need of faster shipping time, lack of coordination between offshored factory with engineers and other creative workers back home, and rising shipping costs due to higher fuel prices. Another reason, the one that may accelerate further trend of reshoring, is the difference in productivity due to differences in human capital. While it is obvious that workers in developed countries are better educated, hence deliver higher productivities, the changing dynamics of manufacturing sectors will make human capital differences a major determinant in the rise or fall of manufacturing sectors in every economies, developed or developing.
What will be the changing dynamics of manufacturing sectors worldwide? It is new technologies that are continuously being perfected, namely intelligent robotics and three-dimensional printing (3D-printing). These two technologies have one common denominator: (almost) complete automation. Rifkin (2012) even advocated that three-dimensional printing may be the manufacturing driver of Third Industrial Revolution, a concept that has been endorsed by European Union. Advanced robotics may also be a part of Third Industrial Revolution, as the new generation of robots are able to acquire skills in a way human acquire skills and do things in a far greater precision and far more extreme circumstances, eliminating the needs of most manual jobs in manufacturing process. Facing the more automated manufacturing process, one should take caveat that the automation will drive structural change in labour market, which will be discussed further.
Structural Change in Labour Market: Theoretical & Practical Background
In order to see the companies hiring and firing decision in the presence of automation process (three-dimensional printing and advanced robotics), we first discuss the mechanism of automation, the cost structure of automation process, and the type of labour used in such process. We will then analyse the cost structure of contemporary manufacturing process (with or without presence of basic robotics) and determining the break-even cost of capital in respect to cost of labour. However, since the cost structure vary by firms, the cost structure presented in this paper will be analysed qualitatively. Further, we will analyse the impact of structural change to how variation of quality of human resources between countries will affect their manufacturing sector continuity and its implication on emerging economies’ labour market, especially in the case of Indonesia.
As per usual in the labour economics model, we will assume perfectly competitive labour market and goods market (firms are price taker for labour wages and price of firm’s goods). Firms, therefore, are assumed to have zero economic profit. However, in this model, firms do not have to adhere the assumption of zero hiring & firing costs. This model also assume zero income tax for firm’s accounting profit. We also assume labour supply function and price in the output market remain constant.
How is the present cost structure of labour affecting a firm? Eventhough being a price taker, a firm faces a non-linear long-run workers’ cost function as the result of decreasing marginal productivity. Firm firstly will experience downward average total cost function due to reduction of average fixed cost as the firm produce more Up to certain point, nevertheless, firms should eventually encounter the upward sloping cost function, either due to overtime pays for working for longer hours, increased supervision and management costs for overseeing large sum of workers. In order to retain focus on the employment issues, we will assume that for any alternatives, costs outside the labour and capital costs remain constant. That way, we will find that variation of long run average total cost depends solely on wage (non-linear or linear) and the cost of capital (constant or almost flatly linear).
In current situation, labour costs may compose considerable portion of cost structure of a firm, adhering to Marshall’s Rule of Derived Demand. This is especially true in emerging economies, where cheap labours disincentivise a firm to operate with greater portion of labour to capital. However, given the nature of workers that are prone to diminishing marginal productivity, propensity to demand wage increase, characteristic differences across workers, and physical limitation to work in extremes condition (non-stop operation, extreme manufacturing needs, etc.) has led workers to have dynamic level of productivity given the static wage. After workers’ wage level has increased high enough, firms are compelled to switch to capitals or send the work to be done overseas, where the wage level are significantly lower compared to the home countries (offshoring). Many firms, given the limitation of machineries development, have historically off-shored manufacturing works after resorting to capital have become unfeasible, as argued earlier.
The cost structure of automated works, whether by advanced robotics or three dimensional printing technologies (or both), are significantly more predictable to current manufacturing cost structure. Three dimensional printing allow manufacturers to create arrays of bespoke goods (often with extreme needs that cannot previously be achieved with current manufacturing process) without the associated increased costs of production due to increased variations (as assumed by neoclassical economic theories). Advanced robotics will be nearly perfect substitute to manufacturing workers as-we-know-it; new generation robots are able to be trained in the way human workers are trained (lower cost compared to maintenance for current generation of robot and program coding) and are able to work almost continuously without diminishing marginal productivity in the short run and surely will not ask for raise.
In economic sense, more automated works will significantly reduce the ratio of wages to the overall cost structure, hence making firms less affected by increase (and also decrease) of wage level and workers more flexible to ask for raise. Since automated works command linear total cost in respect to quantity produced and relatively low share of wages to cost structure, the firm’s average total cost will remain fairly constant or flatly linear, assuming ceteris paribus. Such constancy will reduce uncertainty and (surprisingly) spur investments in manufacturing sector, creating additional jobs in manufactoring sectors, although may not replace the number of workers to the level without presence of comprehensive automation.
When will firm decide to automate? Since the capital used between the option to fully automate and to use the current state of technology used by firms, we cannot assess the options with isocost-isoquant assessment. Rather, we will focus only on cost-structure comparison between the options, and find indifference point, given the parameters and exogenous variables in the cost structure.
A rational firm, according to the equation, will change the structure when the present value of savings incurred by shifting to automation exceeds the severance costs, given the same quantity produced by the two alternatives. When we assume the severance costs as zero, the equation may be reduced and the decision to shift occurs when the automation lower the total cost of production compared to the manufacturing process occured given the same quantity produced. We have to bear in mind that the shift to automation as given above does not necessarily imply that the quantity produced by firm stays the same; when (and most likely) the quantity produced rise, the total costs are proportioned to the initial quantity produced so that the comparison can be feasible. For example, when initial quantity produced is 8,000 and automation (whether by using advanced robotics or three-dimensional printing) drive up production to 10,000 unit, we then will multiply the total cost by the factor of 80%.
The equation does not require the wage for the two production to be the same. In fact, it will be an exceptional case when we have the same wage level for the two manufacturing process. While in the traditional manufacturing process we are considering “workers” as the people who manually operate the machines on the assembly line, manufacturing workers in the era of advanced robotics and three-dimensional printer will be of much higher skills, such as robot trainers, CAD (Computer-Aided Design) drafter, quality controller, and (more) maintenance workers, leaving almost none of the manual jobs performed even in today’s most sophisticated factories. As these workers possess higher skills that can be obtained only in vocational colleges, workers with lesser education, namely high school graduates and lower, will be hit the most when the price of advanced robotics and three-dimensional printer have been low enough to be economically feasible.
The temporary relief for low- or semi-skilled manufacturing workers are these technologies are not yet ready for the mass production. Three-dimensional printers’ uses are still limited to prototyping in large corporations or artisan and hobbyist products, which have low quantity output and subject to high degree of customisation. Advanced robotics are also still in its development stage, with only perfected prototypes so far have been produced. However, given the trend of technological progress in the course of modern human history, we may expect these full-automation technologies to revolutionise the manufacturing sectors worldwide in as late as two decades. By then, we will see the decline in the number of manufacturing jobs worldwide, with the available jobs reserved to specialised, highly-skilled workers.
Effects of Automation and Policy Implications
We have so far noticed that once the three-dimensional printing and advanced robotics become available for mass-production manufacturing process, the number of manufacturing jobs will eventually decline globally. However, another part of the story is that the job losses are not distributed proportionately. Assuming the maintenance of status quo until the arrival of the two automation processes, we will find that while the total jobs are declining, the manufacturing job losses in the industrialised countries will likely be assuaged or even add jobs (in certain circumstances) due to more technology-ready population. Industrialised countries have advantages over developing countries or even economically-stagnated developed nations in terms of higher quality education system that is available to most of the population. Emphasis on creative culture and hard working cultures will be of much help, since the need of creative works, which put emphasis on mental ability, will extend to automatised world of manufacturing works.
While the manufacturing job losses are ameliorated on developed countries, developing countries and struggling developed countries will be disadvantaged by automation. The relatively lower level of educational attainment of the population, lower level of affluence to afford additional training to suit in another industries, and lower level of creative class on the society will make once thriving manufacturing sectors, propelled by outsourcing demand from developed countries, will be downsized, for the automated manufacturing process does not rely on cheap labours, rather on proximity to main market and the availability of highly skilled labours. This trend is magnified by the reality that many high value-added, innovation-driven corporations are based on a few countries, especially United States, Germany, South Korea, and other traditional center of innovations, leaving most developing countries relying on service sectors, basic manufacturing, and extractive industries.
The potential challenge posed by automation trend in the future will be a key issue for struggling Indonesia’s manufacturing sectors. While constantly adding jobs since the 1998 crisis, the manufacturing job growth have been significantly lower compared to the pre-crisis era. The manufacturing problems today may be attributed to internal, unsystemic factors such as inefficient bureaucracy, rampant corruptions, souring industrial relations, and poor infrastructures. While the governments are working hard on eliminating these obstacles to the manufacturing sectors, we cannot guarantee that manufacturing job figures will improve even after elimination of high-cost economy should the improved investment climate comes when the automated manufacturing process have been widely implemented and Indonesian workers cannot compete globally with manufacturing workers in developed countries, which have significantly higher productivity.
The almost-certain possibilites that the world will move toward fully-automated manufacturing processes leave us no option in order to strengthen and prevent the significant loss of manufacturing jobs but to increase the human capital of Indonesian workers and especially future generations of workers. The increase in human capital to harness high-skilled workers can only be attained by significant reform in the education system. However, the current curriculum of Indonesia, which gives weak emphasis on creativities (more emphasis on rote memorizing than putting theories into analysis in examinations) and IT literacy are not good starting points to compete with workers in the foreign soils. Moreover, the availability of decent and proper education (up to the standard set in the curriculum) to mass population is poor, with only few percentiles of students in Indonesia are introduced to basic proper knowledge of information technology and practical applications to harness the benefits of information technology.
In qualitative terms, Indonesian workers and future workers are ill-equipped to face the wave of manufacturing automation and are prone to significant loss of manufacturing jobs. If government is commited to protect and adapt Indonesian manufacturing sector, the primary homework for the government is to update the curriculum, teachers’ competences, and educational infrastructures across the nation, so that the students will learn the relevant skills that are needed to thrive in the age of three-dimensional printing and advanced robotics. Only with relevantly-skilled workers will Indonesian manufacturing sector adapt in the Third Industrial Revolution, without having to deal with the painful loss of a sector that employs more than 11 million workers.