[Economics] We systematically underestimate poor countries' economies

Yesterday I read a blog post by Paul Krugman and was astonished; how could he write of South Asian sweatshop workers as if they had a low productivity?
Sure, in raw turnover per hour they have a low productivity, but that's not why they earn almost nothing.

Two generations ago there were two kinds of tailors in Germany: Industrial workers (mostly females) who produced most clothing and craftsmen (also many females) who mostly customised and repaired clothes.
Today there's almost only the latter kind left. Very few of the former were replaced by robots (for production of curtains, for example), while most lost their jobs to foreign low wage country workers.

Now why did the (few) craftsmen tailors survive in this sector in Germany? The common answer is that customising and repair cannot be outsourced to South Asia, for example.
But that's not what's really interesting, and it doesn't explain why there is such a huge difference in income between tailors in Germany and in Bangladesh.
They still don't earn well in Germany, of course - unless you apply Bangladesh's standards.

The reason why they 'earn' so much more here than there is about power. Bargaining power is a huge input to market prices. If in doubt, check the economic theories about monopolies et cetera.
The customising and repairing tailors in Germany do not compete with Bangladeshi workers, so their bargaining power is not diminished and they can actually get a decent price for their services.
They couldn't do so any more once they would compete with Bangladeshi workers. Their bargaining power would be diminished, their revenues and thus income would drop to a level where they could barely afford one noodle meal per day for it in Germany and they would be forced out of their job.
The services (customising, repair) which are now still worth a couple Euro per hour would drop in 'value' to cents, as the powerless workers of Bangladesh can survive on this level of income and are not forced out of their job if paid so poorly.

Is the productivity of a factor tailor in Bangladesh really much inferior to a German tailor's?
Certainly not. It's the structure of market power and the exportability of their product which diminished the revenues for their output and thus their income. The very same work and output would be worth much more if it was done by Germans in a protected German clothes market - even if the German tailors would only work a fraction as quickly.

Oligopolistic market structures which benefited wealthy countries' workers fell away with trade liberalisation. Other workers lost bargaining power due to busting or erosion of labour unions. The result was in many sectors that the labour input into production became much cheaper, even though the actual generation of value (appreciation of the product or service by consumers) did not change much.
In some cases this primarily reduced the share of labour income and increased the share of capital income (and high level executives' incomes) in the market. It appears as if most cases went a different path, though: The reduced input costs coupled with fierce sales price competition reduced the price of the final product very much (also relative to GDP/capita). Monetary means of measuring output reflect this as a huge drop in produced value, which it isn't if we understand value as 'utility' or 'valuation by customers'. Consumer rents were increased, but the loss of income among workers considerably reduced this improvement on the national level.

Such market dynamics - especially the widely neglected factor of power asymmetries between agents in a market - coin the global economy. We think of Bangladesh's economy as low output because power asymmetries diminished the prices (not really 'value') of its outputs.

We should keep this in mind when we think about the capabilities of low GDP countries. Purchasing power parity exchange rates don't even come close to compensate for this issue.

We underestimate the value of economic output of low wage countries.


edit: It took me a while to notice, but now I noticed that I edited all the actually wonkish stuff out while it was sill in draft stage. Everything should be generally understandable now.


  1. Your point applies to more than just sweat-shop workers. It can also be seen in skilled services such as computer programming, design and legal research - areas where western companies are establishing branches or links in Asia to benefit not only from continuous 24-hour work through time zone shifts but also lower Asian wages for the same work. The end result is cheaper, faster production for western companies while simultaneously putting downwards pressure on western wages.

    To take this off on a tangent, do you see a loose connection between relative bargaining power and your previous post about porters? First-world porters would demand first-world wages, while (presumably local) third-world porters would work for the local going rate, which likely isn't very high. Consequently, why would anyone even consider trying to bring over dedicated western porters?

  2. To assign a Vietnamese man to the porter job is probably not much less of a workforce sacrifice to Vietnam than a German porter would be to Germans. One man's GDP/worker is lost.
    The difference is likely rather in the opportunity costs. We would immediately think of how much more he could transport as a truck driver instead, since we have can easily afford a 20 ton truck for him.

    The problem of our infantry-centric formations is that they are saturated with this kind of capital-intensive approach and probably too weak on approaches with a low capital intensity.

    About programmers; they were extremely scarce in Germany for a long time, and very well-paid. The industry associations whined loudly for years and the state governments responded by multiplying the universities' output of information tech graduates. The programmer wages crashed by 40% relative to the general wage development in a few years (IIRC).

    Every time an industry association is whining about a lack of skilled labour we should remember that this may be a feature, not a bug: Industry associations ought to whine loudly about a lack of skilled labour and labour in general during times of full employment, for example. One should always question their motives when they demand more graduates or more immigration.

  3. One should always question their motives when they demand more graduates or more immigration.

    Last time I checked, people were an asset, not a liability.

    If you don't like foreigners, just say so. Don't try to disguise it behind pseudo-economics.

    And do you actually think less programmers (for example) would be a good thing (for society that is) ?

    Also, the reason why they 'earn' so much more here than there is ... PRODUCTIVITY. While factory productivity may not be much lower than in Germany, infrastructure in the Third World is much worse - making total productivity low.

    1. How did you make the leap towards thinking that I dislike foreigners after me basically writing a lengthy post about how we underestimate workers of poor countries?

      A German and a Bangladeshi working in a factory may or may not have different output (it depends), but for sure the relative difference is nowhere near the GDP/worker ratio difference. There aren't going to be enough power blackouts in Bangladesh to make up for the difference either.

      Programmers, engineers - there are plenty. The economy has an insatiable hunger for more of them, but it doesn't utilise them well. I've seen a job offer for engineers (master in engineering) for the job of buying screws. Most engineers migrate to management positions because their employers make excessive use of engineers in management and because said employers suck at keeping their engineers satisfied in engineering jobs. It's similar with IT folks; there are plenty, but much talent is being wasted. More supply didn't and won't end the shortage.

      About foreigners, immigrants offer little to their host country other than more food choices and some foreign language talent (trade).
      Many people believe they contribute to society through taxes and payments into the pension system etc, but this only works if you assume that you take more from them than you give back. I call this an expectation of exploitation.
      It is better to let them work in their countries (and to let businesses set up facilities there).
      The most anti-social thing are the repeated demands for more skilled labour immigration. This demand is an attempt to have a free ride on the education system of poorer countries.
      Engineers trained in Bulgaria shall help build Bulgaria's industry.

    2. When you say "immigrants offer little to their host country", do you mean it relative to the domestically produced citizens?

    3. I meant it ceteris paribus. The enrich the culture, but also import cultural incompatibilities. They add goods and services, but they also deserve to get their fair large share of them (which is about 2/3, with the final third going to capital owners as usual). The pay into social safety net, but they deserve to get this back (and often they get back more).

      Immigration to Germany is first and foremost an opportunity for some people to exploit immigrants (or hope for it) and an opportunity for others to cover up long-term problems which we should address instead.